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Understanding the dry bulk market
http://www.allbusiness.com/operations/shipping/387530-1.html
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Anyone applying their crystal ball in the wet and dry freight markets--whether they be shippers, traders or brokers--need to keep several fundamental factors in mind when trying to analyse how the market will behave.
The freight market is subject to a wide range of external variables including politics, weather, catastrophes and war. But it is fundamentally driven by commodities--and an understanding of the major commodities being shipped around the world and their markets is vital in analysing the freight market.
The three major factors which determine the freight market are:
Fleet supply--How many different types of ships are available? How many vessels are being delivered by shipyards and how many are being scrapped? Which routes are ships taking? For instance, an Australia to Rotterdam route has a longer sailing time than Poland to Rotterdam and differences in distance affect the quantity of shipping available.
Secondly, there is trade demand for freight. Is this growing or declining? In looking at demand drivers, it is important to note that it is not whether a country's economy is booming or in recession which is the key factor. With the freight market, there is a far closer correlation with industrial production. If coal is needed for power stations, then coal will be imported. If the grain harvest is big, the country is likely to export more grain.
Thirdly, there is market sentiment. Because only 40-50% of the demand side is known in a timely fashion, market opinion will affect things just as much as actual underlying supply and demand.
Dry bulk market
So much for general market drivers, how about the dry bulk market in particular?
The dry bulk freight market generally has been bumping along the bottom for most of this year. By sector, Panamaxes have been weakest followed by Capesizes and Handymaxs. Handysize vessels, which constitute the largest sector by number of ships, have had a year of mixed fortunes with limited overall change. For most size ranges, average hire rates this year have typically been some 10-20% lower than last year.
Dry bulk demand
Last year was a record one for dry bulk demand. Average distances for some commodities fell as China, in particular, expanded its exports, including a 45M tonne increase in coal exports. This had the effect of displacing long-haul suppliers; South Africa and Australia were hit very badly.
This year, dry bulk demand has fallen by 2% (as at the end of May).
Total seaborne dry bulk trade is around 1.8bn tonne (see Table 1, opposite page) but, due to numerous problems of comprehensiveness and reliability, perhaps only 60% of this total is actively monitored. In addition, around 50% or less of this information is available in a timely fashion. It should be noted, too, that many of the trades that are lacking in coverage are those at the smaller end of the bulk shipping market, ie vessels below 40,000 dwt--the sector of major interest to shippers of oilseeds. Unfortunately, this is a sizeable chunk of the bulk carrier fleet, accounting for nearly 2,900 vessels. In terms of carrying capacity, these vessels account for roughly one-quarter of the total dry bulk fleet.
Although traders and shippers of oils and fats may feel they have no interest in the steel market, this would be a fundamental mistake. In fact, steel-related trades (iron ore, coking coal, steel, scrap etc) collectively account for almost exactly half of all seaborne bulk cargoes, and the owners of vessels employed in oilseeds (and other bulk trades) will almost certainly be casting one eye over their shoulder towards the steel industry whatever cargo they happen to be carrying today.
Iron Ore: Steel production continues to grow, albeit supported largely by China, the world's largest producer. Up to the end of May, global crude steel production was ahead of the same period last year by 3.1%. However, if China were taken out of the equation, then total production in all other countries would have fallen by 1.5%. As China only has low grade iron ore reserves, it has to import the bulk of its needs. Just 10 years ago China's imports of iron ore amounted to 18M tonne while Japan's imports were 127M tonne. Today, Japan's imports are unchanged but China's requirements have rocketed to more than 100M tonne. The impact on shipping demand has been tremendous, especially when combined with the imports of the other big importers in the region--South Korea and Taiwan. This is in the context of stagnant European demand.
A feature of bulk trade over the past 10 years has been the shift of cargoes towards the Asia/Pacific region and away from Europe and the rest of the world. In 1980, for example, dry bulk trade (five major bulks only) into Europe amounted to 369M tonne while Japan and other Asian countries together took 280M tonne. However, by the year 2000, Europe's imports were almost unchanged at 385M tonne (+4%) while Japan and the other Asian countries took 657M tonne (+135%). In percentage terms, Europe took 46% of these trades in 1980 and now takes 30%, while Japan plus other Asian countries took 35% in 1980 but 51% of all cargoes in 2000.
Grain trade is currently flat in overall terms albeit with the usual seasonal variations. The outlook for the year remains much the same, according to the International Grains Council (IGC). As at the end of June, the IGC expected wheat trade to fall by 2M tonne to 104M tonne in the year July 2002-June 2003 and coarse grain trade to decline by 1M tonne to 105M tonne. Total seaborne grain trade (including soyabeans and meal) is around 260M tonne. It is expected that Brazil will be the largest wheat importer this year taking around 6.6M tonne. Coarse grain trade remains dominated by Japan with its annual requirement of around 19M.
Coal trade is expanding at the moment--mainly due to steam coal and power station requirements--but a full recover, in coal trade requires the participation of the steel industry. Currently, with the exception of China, there are no imminent signs of this happening. Coal is, however, the largest single dry bulk trade, accounting for some 550M tonne/year, and remains highly influential in determining the overall demand-side outlook. The fact that coal trade growth is expected to slow down (although the trade will continue to expand) over the next few years--in the context of ever expanding new sources of oil supply--is not surprising given emissions legislation. But much of coal trade growth over the past 25 years has been about restructuring entire industries and setting up alternative, mostly overseas, sources. This, in turn, was driven by a combination of simple economics (cheaper, albeit more distant, supplies) and growing environmental concerns which perversely led to an expansion in coal trade at the expense, in many cases, of domestic industries.
Steel trade is currently mired in the US imposition of tariffs on certain steel imports and the threat of retaliation from European and other exporters. Currently, it seems the overall effect on steel trade will be to mute trade volumes rather than lead to further escalation of the dispute into other commodities.
As global dry bulk trade continues to expand, so the fleet supply will gradually come back into balance (from the oversupply position, which currently is causing the low freight rates). The key question is when will this balance (or at least shift towards balance) occur? For this part of the analysis, we need to consider the supply side of the equation in relation to fleet developments.
Fleet supply
The dry bulk fleet continues to expand both in terms of numbers of ships and in carrying capacity. Vessels are, on average, becoming larger as shipyards optimise cargo space to fit the dimensions of the Panama Canal.
The average size of Panamaxes used to be 55,000-65,000 dwt and this has risen to 75,000 dwt. Capesizes are now around 170,000 dwt compared with 120,000 dwt.
Compared to a year ago, the fleet is some 4% larger in terms of its earning capacity, Of this expansion (amounting to some 11M dwt), there was a net reduction of 1.7M dwt in Handysize, an expansion of 4.1M dwt in Handymax, an expansion of 5.5M dwt in Panamax and an expansion of 3.1M dwt in Capesize. So the impact on each size varies according to the existing size of that sector.
Daily Capesize hire rates fell to US$9,500/day in June; for comparison, aver. age rates in June last year were typically US$9,750/day, so superficially there is little difference in absolute levels, However, this is to forget that owners have had to live with these rates--which are well below running and financing costs--over the past 12 months. Some flurry of activity was seen in Cape rates at the end of the first quarter of this year but in the absence of clear-cut demand conditions, most of this rise was attributed to the manoeuvrings of one or two major players including Cape International. Since then, rates have languished at these cut-throat levels.
Panamaxes currently find themselves at the back of the queue when it comes to profits. But how could it be otherwise? With record deliveries last year amounting to some 110 new ships and a net increase in this fleet of 82 ships--after scrappings had been removed--it was no surprise that freight rates declined. The legacy of these new vessels will be with us for some time. As scrapping of older vessels counteracts the effects of this steep increase in supply and trade growth slowly absorbs the surplus capacity, so too, will the balance come back into the market.
Super-Handymax (50-54,000 dwt) rates have typically averaged around US$8,700/day this year. Conventional Handymax rates (45,500 dwt) have typically only managed around US$7,600/day. The Handysize group comprises the largest sector in terms of numbers of ships--around half of the entire fleet--but contributes only a quarter of its carrying capacity due to the smaller size of the units. At the same time, it is a sector that has been in slow decline for many years. Handysize rates this year have averaged around US$6,400/day and seem unlikely to vary much for the remainder of this year.
This year should see the bottom of the dry bulk freight market in terms of its current cycle. However, this does not alter the key question, which is not how much lower the market will go but how long freight rates will stay at this level.
If market fundamentals are in a corrective phase, then some signs of a recovery should be detected later this year. The low level of newbuildings to be delivered next year, coupled with the limited opportunity to place orders for delivery within next year, are setting the tone of the market over the next 18 months.
Demand recovery will generally be slow, steady and positive. The fleet continues to expand for this year and 2003 but at a much more modest pace than the 8% expansion of last year. The expansion in demand continues to be led by steam coal, and recovery will be in the sectors which carry most coal--Capesize and Panamax. However the surplus of Panamax vessels means that recovery in this sector is still fragile and will lag behind other types. For sub-Panamax sizes, the continuing weakness in the global economy and the time lag inherent in translating from economic conditions to bulk freight means that any recover will be muted.
[GRAPHIC OMITTED]
TABLE 2: DRY BULK FLEET DEVELOPMENTS
1996 +8.1
1997 +10.5
1998 -0.3
1999 +3.5
2000 +8.8
2001 +11.8
2002 +7.6
2002 +0.3
2003 -0.9
Note: Table made from bar graph.
Seven Investment Themes For 2011
http://www.financialsense.com/contributors/joseph-dancy/seven-investment-themes-for-2011
AstroCycle Analysis for 2011
http://www.safehaven.com/article/19755/astrocycle-analysis-for-2011
Global Stock Market Cycle Forecast 2011
http://www.safehaven.com/article/19583/global-stock-market-cycle-forecast-2011
The job of a stock market cycle tracker and forecaster is far more difficult with trillions of dollars in government intervention and global central bank quantitative easing sloshing around global markets. The liquidity is bidding up everything from oil to coffee to corn, but the cyclical stock market picture is clearing up. There is both good news and bad news regarding global stock market cycles for 2011. It is always better to get the bad news off your chest first, so let's dispense with the bad news, and move on to the good news.
The bad news is that the global Kondratieff long wave and winter season could have ended in 2009. If it had, a global long wave spring season would now be underway. An orderly unwinding of bad debt, the closing of the overproduction lines, and the deflationary implications of the regular long wave global economic forces is as natural as the turning of the annual seasons from fall to winter. The fall season is beautiful and the air is crisp and fresh, but government has no business trying to make it last forever. A free market economy would unwind the excesses of the long wave cycle in a far more orderly fashion than the job the Keynesians are doing.
In The K Wave (1995), published by McGraw-Hill, I predicted a global banking crisis, real estate collapse, interest rate plunge and a deflationary unwinding of global long wave excesses, ending in 2009. The forecast was for the long wave to run its natural course and put in a long wave bottom, making the natural long wave turn from the winter season into a robust global economic spring. That call from almost 15 years out was looking interesting in early 2009, as global markets were in free fall. That call is actually even more interesting now, with the powerful global market rallies out of that low. The case presented was that emerging markets would lead the global economy out of the long wave winter season and into a new long wave spring season and global boom. The updated and expanded edition of the book is Jubilee on Wall Street (2009), and is available at Amazon, in the event you are interested in learning more about the long wave.
Unfortunately, something tragic happened on way to the long wave spring season. Government came to the rescue. Around the world, governments have run up trillions of dollars in debt, trying to stop the natural turn of the long wave seasons. They have created the greatest amounts of debt in human history trying to counter the Kondratieff long wave cycle, which they do not understand.
Beginning as far back as the 1980s and 1990s, aggressive government response to financial crisis, beginning with the Latin America debt crisis in the 1980s and then the savings and loan debacle in the early 1990s, has expanded the cycles. Debt was piled on top of debt; all in an effort to try to stop the natural long wave decline and letting bad debt fail. Japan was caught in a liquidity trap after their market top in 1989, due to the great debt pyramid created in the 1980s; they have been caught in the forces of a long wave decline every since, but have continued to pile debt on top of debt.
Bad credit risks, overproduction, ill-conceived ideas, and inefficient producers and suppliers going out of business and transferring capital from weak hand to strong hands should occur regularly in a market-based system. It is as natural as a winter snowstorm. It removes overproduction and restores pricing power so the deflation ends. Unfortunately, governments and central banks began stepping in with a massive effort to prop up the economy by ensuring and forcing the supply of credit to weaker and weaker hands, with taxpayer backstopped money. The final act should have been the government (taxpayer) insured and bailed out liar loans for 120% of value on delusional appraisals, but now we know that $9 trillion in loans to global enterprises have kept all the weak hands in the game. The last business cycle 2002-2009 was a monster, which is still haunting the global economy, a result of fiscal and monetary intervention.
There are those who believe the long wave crisis is behind the global economy and that a long wave spring has sprung. Unfortunately, when you pump money into the economy you expand the cycles and make them longer. All the effort by governments and central banks around the world have only served to lengthen the regular business cycles and the long wave. The global economy is now in the final business cycle of the long wave and the long wave is now on track to top in 2011 and then end with a bottom in late 2012. This will be in the wake of a global debt collapse, since all the debt has finally gotten too big for governments to manage.
The take away here is global stock market Kitchin cycle top coming in 2011, and a final business cycle and long wave descent into late 2012, and possible into 2013 if governments go overboard to try and delay the inevitable day of Kondratieff long wave reckoning. If this updated call is wrong, and the call in The K Wave (1995) was correct, it will become evident on the chart below, as interest rates rally above the declining trend line and U.S. GDP booms, as it did at the start of the last long wave spring in the early 1950s. If this updated call is correct, the GDP recovery will top out shortly and interest rates will not break out over that declining trend line, but end their rise in 2011 and resume their decline into 2012. That ends the bad news.
Now for the good news that is central to the LWD 2011 stock market cycle forecast. The late great market timer PQ Wall was the first to recognize that every business "Kitchin" cycle subdivides into nine smaller cycles, known historically as the 20-week cycle. In The K Wave (1995) this cycle was rechristened the "Wall" cycle in honor of PQ Wall, since he also recognized that a Wall cycle is a miniature long wave, but that is another subject.
Those familiar with PQ Wall's work will recall that he proposed that the nine Wall cycles in a regular business cycle come in three sets of three. These three sets of three Wall cycles often clearly appear on a market index chart. The rule of third last and weakest makes the third Wall cycle decline harder than the other two in the three sets and tends to show up clearly on a chart, which was what occurred on July 1, 2010. That outsized decline in the S&P 500 into July 1 clearly stands out as a third last and weakest Wall cycle.
Coming out of the Wall cycle bottom on July 1, 2010, Wall #4 has managed to make a new cycle high. The fact that global markets were able to make a new high, facing the undertoe of a global long wave debt collapse, is a very positive stock market cycle development. Sure, it was the most government sponsored and supported Wall cycle in human history. Government's and central banks spent billions if not trillions in your money, your children's money and your grandchildren's money pumping and propping it up. It is running long. A large portion of the market rally is real. How much chaff and how much wheat are hard to determine, but the market did print a new high and took out the important 1228 target in the S&P 500.
Here in early 2011, global stock markets are now sitting atop the great rally from the Kitchin cycle lows in March 2009 and at the top of Wall cycle #4 from the July 1 low. This is good news from a cycle perspective, because it means that the U.S. S&P and most global markets got to new highs not just in the Wall cycle but in the second set of three Wall cycles (the 2nd Kitchin 3rd) in this final Kitchin cycle of this long wave. That is no small feat. This new high suggests the upcoming winter cycle bottom will be milder than it otherwise would be. If the final years of this long wave cycle were going to be a worse case long wave scenario, markets would not likely have been able to rally to a new high in this second set of three Wall cycles.
There is no doubt that the rising economic force of emerging markets are allowing global markets to rally to new highs this far into the final business cycle of a long wave winter season. Many of the S&P 500 companies and other developed countries major companies have a large and significant presence in emerging markets and are major exporters to the emerging markets. Emerging markets are real and powerful long wave spring forces. The end of the long wave winter was delayed, but the coming long wave spring that will be driven by emerging markets is itching to get going.
Most developed global markets will follow the direction and cycle trends of the S&P 500. The emerging market will stay one-step ahead of developed markets. It appears as if key emerging markets entered new Wall cycles between mid-November and mid-December, while developed markets have yet to bottom.
It would be wise for all investors and traders to ponder the rise of emerging markets. Just in the BRICs, a large majority of the 2.5 billion citizens are hardworking, capital forming, and aspiring global middle-class participants. The implications are truly staggering; they are and will radically change the world.
The smaller stock market cycles, specifically the Quarter Wall and Wall #4, is overbought and topping out. A sizeable correction is in store, likely into late January to mid-February, which will produce the bottom of Wall cycle #4. Out of this low Wall #5 has a chance to rally to new highs, because it is the second Wall cycle in the unfolding set of three. The second Wall cycle in a set typically rallies to a new high. The high of Wall #5 is expected around the May target, whether it is a new price high or not. That will likely be the final high in this final business cycle of the long wave. A rally to a new high in Wall #6 will be a run against the clock of the ticking global long wave debt bomb. When it goes off, it will drive the global stock market cycles down sharply into late 2012.
They are more than a few shoes that could drop and wipe out the rally of Wall #5, so stay tuned to the important price supports. The exact price and date targets of the cycles are reserved for subscribers to The Long Wave Dynamics Letter. One subscriber said the Fibonacci grid price targets, from the Level 1 grids down to intraday grids, are like reading sheet music. If interested, you can read What LWD Subscribers are Saying.
I would be remiss in not pointing out that the S&P 500 price target of 1278.95 is the inverse golden price target in the current Level 2 Fibonacci Dynamic Web price grid. These are the sort of targets used to indentify precise entry, exit and stop loss targets. Note that the top tick on Thursday the 6th was 1278.16, in Quarter Wall and Wall cycles that are overbought and topping.
In conclusion, the good news is that the rally in global markets in this final business cycle of the long wave is a gift from the hard working citizens of the emerging markets, who will lead the next long wave spring season advance. And of course the hard working central bankers of the world. Take this cycle topping opportunity to prepare your finances. Consider yourself warned. The long wave spring is coming, but a late long wave winter blizzard lies on the other side of this false spring season.
Stock Market to Fall AT LEAST Another 40%!
http://www.marketoracle.co.uk/Article8772.html
BARRON'S COVER Part 2
Rocky Road
By LAUREN R. RUBLIN
In our second installment, Bill Gross, Felix Zulauf, Archie MacAllaster and Abby Cohen take center stage to promote their investment picks and pans for 2008. (Video)
ARE WE THERE YET? ARE WE THERE YET? "There," in case you're wondering, is a genuine stock-market bottom, not a temporary low before the next tsunami of selling. It's the point (and price) at which it's safe to jump back in the market, with plans to stick around for a while. And no, we're not there yet, not by a long shot after the unprecedented events of the past year, say the wise men and women of Barron's 2009 Roundtable.
Yet, attractive investments -- and trading ideas -- surface even in grizzly bear markets, and our panelists have found quite a few. As usual, they were eager to share them, along with their typically trenchant views about the economy and financial markets, when the Roundtable convened Jan. 5. In this week's installment, the second of three, we're pleased to pass along the picks, pans and prophecies of Bill Gross, Archie MacAllaster, Felix Zulauf and Abby Cohen, along with observations from the rest of the crew.
Brad Trent
This week, Roundtable members (from left) Bill Gross, Felix Zulauf, Archie MacAllaster and Abby Cohen share their investment picks and pans for 2009. Some themes: Treasuries are finished, gold rocks and dividends are hot.
Bill, founder and co-chief investment officer of Pimco, needs no introduction, but here goes: He is only one of the most influential guys in the bond market, give or take a Fed chairman or two. So, when he says something is the most "incredible" or "remarkable" thing he's seen in all his years in the business, as he does several times in the pages ahead, you'd best sit up and take notice. Bill hopes to exploit today's stranger-than-fiction anomalies by investing alongside Uncle Sam in bank preferred shares. He's also a fan of TIPS.
Archie, head of MacAllaster, Pitfield, McKay, should be classified as an endangered species. After all, the man says he's an optimist about stocks. Archie, who knows his way around financials like no one, and around bear markets, too, sees dirt-cheap bargains everywhere. He's especially keen on the prospects for Hartford Financial , Franklin Resources and Delta Air Lines .
When Felix talks, everything should sit up and listen. His 2008 Roundtable picks, showcased in last week's Barron's, made him and all who took his advice a bundle. For better or worse, his bearish macro forecast also came to pass. As founder and head of Zulauf Asset Management in Switzerland, Felix sees the forest and the trees. What he doesn't see is a quick resolution to the problems bedeviling the global economy and financial markets, which is why he's sticking with gold.
Abby changed hats about a year ago at Goldman Sachs, but it's what's under the hat that matters. No change there -- just the usual triple-A-rated mind (in this case, the rating means something), and an enviable eye for financial facts and figures. This year Abby's got a keen interest in interest, which leads her to a trio of high-yielding corporate bonds and a utility, among other stocks culled from the list of those recommended by Goldman's analysts.
So, buckle up, and read on.
Barron's: What grabs you in the bond market, Bill?
Gross: The government has issued hundreds of billions of dollars of Treasuries, but with yields of 2.5% on 10-year bonds and 0.8% on two-years, who wants to buy them? The market is beginning to address that question. Treasuries don't make sense at these levels. It will be at least 2010 before we see a hint of the Fed moving interest rates higher, simply because they are aware of the Japanese experience. They know the Japanese raised rates prematurely [after Japan's economy went into a tailspin in the 1990s].
Because of their low yields, government bonds are a trap. First the government lowers interest rates to the point where the investor receives a negative real return. That's where we are now. Second, the principal is depreciated through inflation. That's a hidden tax. The combination takes away any advantage Treasury bonds have, except under a deflationary scenario.
Chris Casaburi
Bill Gross (center): "Perhaps the biggest question is whether the dollar can hang onto its reserve-currency status."
This crowd seems a lot more worried about inflation.
Gross: There is a 10% possibility that government policy won't work and the U.S. will experience deflation à la the 1930s. That's not our prediction but it's more than a thin tail [low probability]. In that circumstance, long-term Treasuries yielding 3%-plus might make some sense.
Schafer: Doesn't a little inflation help us out of the current mess?
Gross: The entire capitalist system is based on a little inflation. A little, but not a lot.
Zulauf: How do German government bonds compare with Treasuries?
Gross: They are monitored by the ECB [European Central Bank], and inflation in Euro-land looks to be lower. If you had to buy government bonds, you'd want German bunds over U.S. Treasuries.
Bill Gross' Picks
1/2/09 1/2/09
Investment Price Yield
Preferred stock issued by banks
AIG 8.25%,due Aug. 15, 2018 $75.91 12.6%
iShares Barclays TIPS Bond ETF (TIP) $97.38 6.3%
Pimco High Income Fund (PHK) $6.16 23.4%
Source: Bloomberg
The cost of insuring the U.S. Treasury against default has been rising. Is this just a hedge-fund game, or does it mean we're a worse credit than, say, Germany?
Gross: We're a worse credit than Germany, and at least a few other countries. That said, the CDS [credit-default-swap] market in Treasuries is relatively illiquid, and an anomaly. Countries default in a number of ways. They default by inflation. They default by devaluation, and, yes, sometimes they default and don't pay their coupons. But to go the third route through actual default would be a "black swan" [extremely rare and unpredictable]. It won't happen in my generation.
Faber: From whom would you buy such credit-default swaps? If the U.S. government goes bust, the sellers of such swaps would go bust, too.
Black: Bill, it's one thing when the Treasury prints money and issues bonds. It's another when the Federal Reserve expands its balance sheet from $750 billion to $2.2 trillion. Is this a ticking time bomb?
Gross: The Fed is expanding its balance sheet because the private sector is contracting its balance sheet. If it's one for one, it's not a problem. The Fed is trying to gauge how much is disappearing, versus how much should be put into the system, which is difficult.
Zulauf: How far can they go? Ireland has guaranteed its whole banking system, which is five times GDP [gross domestic product], and in a currency [the euro] over which it doesn't even have sovereignty.
Gross: Ireland and Iceland are examples of economies that have gone too far. The U.S. has had the benefit of being the world's reserve currency. How much longer can we abuse it? Probably not too much longer. If asset reflation works and the real U.S economy kicks back into gear, the dollar can hang on. If it doesn't work, it's a new ballgame. Perhaps the biggest question for the next few years is whether the dollar can hang onto its reserve-currency status.
Cohen: This is a function not just of the dollar but of the currencies that might be able to step in. One thing that has disappointed but not surprised many people is how long it has taken for the euro to assume a larger role as a reserve currency.
Gross: In Asia the yen can't take the mantle because China eventually will be the dominant economy. But it's not ready financially.
Zulauf: The euro has problems. The eurozone is not a homogenous economic bloc. There are weak economies and structurally strong ones, and stress in the system. It is questionable whether the euro can survive in its current form long term. There may need to be a euro A and a euro B.
Cohen: We talked this morning about the state of the U.S. banking system. The European banking system by many measures started out in a much more levered state, and still is much more levered than the U.S.
Zulauf: European banks have approximately one-third less equity capital than U.S. banks. In general, the banking system in the industrialized world is still fragile, and not equipped to handle what's ahead in corporate defaults and loan write-offs.
Goldman Sachs Senior Investment Strategist Abby Joseph Cohen says that the economy/market is on its way to recovering a sense of equilibrium and stability, but is not out of the woods yet. Mike Santoli reports from the Barron's Roundtable.
MacAllaster: Bill, what is your view of the quality of the assets the Fed is taking on? A lot depends on whether the government will get anything back when it tries to sell these assets.
Gross: Up until this point the government has been buying primarily triple-A-rated paper. Its plan to start financing asset-backed securities such as student loans and credit-card receivables theoretically and technically will involve triple-A assets. I am skeptical that every triple-A-rated assets is in fact triple-A in quality. The Fed, though, is very careful and not likely to make mistakes in this area.
Zulauf: The Fed may go down the ladder and buy lower-quality assets.
Gross: [Federal Reserve Chairman Ben] Bernanke made that clear in 2002 with his helicopter speech, in which he said the Fed would be willing to buy almost anything in order to prevent deflation and support the economy.
Hickey: Has Pimco detected any reticence among governments in the Middle East and Asia about continuing to buy U.S. Treasury bonds at these low rates?
Gross: No. There is a reticence to take risks, including an unwillingness to buy even mortgages backed by U.S. government agencies like Fannie Mae and Freddie Mac. There is an anathema toward corporate bonds. Foreign central banks and others don't want any part of risk.
Hickey: Are they losing faith in the U.S.?
Gross: They recognize markets here are illiquid, and there is a possibility, be it 5% or 10%, that not just the U.S. but the global economy will enter a mini-depression. Isn't that what you see, Abby?
Cohen: Between January and October 2008, total foreign holdings of U.S. Treasury securities rose from $2.4 trillion to more than $3 trillion. The most significant change by country had to do with the U.K., where Treasury ownership rose to almost 12% of the total from 6.7%. The additional purchases came from two types of buyers: petroleum-producing nations whose investment offices are based in London, and global asset allocators who manage money for pension plans and others whose security of choice in recent months has been U.S. Treasuries.
Zulauf: The $600 billion increase is just about equal to the U.S. external-account deficit for that period, so it means foreigners recycled those dollars into the U.S. Treasury market.
Didn't risk-aversion peak in late November?
Gross: It did, as evidenced by stocks, credit spreads, oil and currencies. But that's not to say it peaked for foreign central banks and foreign investors. They continued to buy Treasuries and forced them to overvalued levels.
The bond strategy we have followed for the past 12 to 18 months is to go where the government goes in terms of its purchasing power. The government is going to buy $500 billion in the next six months of the $3 trillion in agency mortgages outstanding. We have been buying agency mortgages. Through the TARP [Troubled Assets Relief Program], the government has bought several hundred billion dollars of preferred stocks and attached equity warrants. The Treasury has accepted a 5% coupon on the preferred. Treasury Secretary Hank Paulson has decided 5% is a decent compensation for bank preferred, but the private market affords 11%, 12%, 13% yields on the same bank preferred stocks, which is remarkable. We are buying bank preferreds.
As for specific names, the best example of partnering with the government in the bond market is the case of AIG [ticker: AIG]. Some of us might agree it was a mistake for the government to bail them out, but it happened. The Treasury basically has taken $60 billion of troubled assets off AIG's books and extended it a $50 billion credit line. It has extended a commercial-paper program to one of its major subsidiaries, International Lease Finance, worth another $2.5 billion. The government has given or guaranteed AIG close to $200 billion. The outstanding debt of the United States is $10 trillion, so 2% of everything the U.S. government has issued has gone to AIG. But here's the most incredible thing.
You mean, that wasn't it?
Gross: In the past three months, AIG bonds that are senior to the Treasury's $40 billion in preferred could be bought at 14%, 15%, 16% yields. You can buy them now at 11% and 12%, under the cover of nearly $200 billion of guarantees, or 2% of the outstanding debt of the U.S. Normally you can't have a bond yielding 14% without significant potential to default. It is the most incredible example of value I have ever seen in the bond market. AIG has a 10-year bond that can still be bought at 12.5%. Technically it's A-rated, but realistically it's close to triple-A. We own a lot of them.
My next pick is Treasury Inflation-Protected Securities, or TIPS. Here's an example of deleveraging at work. Theoretically TIPS should have performed like Treasury bonds. Instead they went down in price while Treasuries have been going up. TIPS now sport real yields of 2.5% in an economy that is growing nowhere close to that. And that's before you tack on the inflation kicker. [The principal of a TIPS increases with inflation and decreases with deflation, as defined by the consumer-price index. TIPS also pay interest twice a year, at a fixed rate applied to the adjusted principal.] When an economy deleverages, almost every asset goes down. As Abby discussed this morning, hedge funds, levered institutions, sold what they could when they had to raise funds. TIPS were the most liquid thing in many levered portfolios, and the hedge funds have been spitting them out billions of dollars at a time. Yet, the potential for inflation five to 10 years from now is high. You can buy TIPS via the iShares Barclays TIPS Bond ETF [exchange-traded fund].
Maybe the problem with TIPS was marketing. They were sold as an inflation hedge. If inflation no longer is a problem, people feel they don't need them.
Gross: But they are getting the inflation insurance for free. That's the opportunity. Nothing is totally safe from the ravages of inflation or deflation. In a deflationary environment TIPS aren't going to work. Pimco will be a substantial buyer of TIPS in the next few months. There are few more attractive investment alternatives, except for municipal bonds. You can get a double-A-rated muni bond these days that yields almost twice as much as Treasuries.
Schafer: TIPS won't pay off for a number of years under your scenario.
Gross: That's not true. The big payoff comes in the next six months if this deleveraging cycle is halted and asset managers are reliquefied. TIPS bottomed in November. They are a risk asset without much risk. They can go up 10% or 20% in price simply on the basis of optimism that deflation has been averted.
Barron's Mike Santoli speaks with Chairman Archie MacAllaster of MacAllaster, Pitfield, and MacKay at the Barron's Roundtable, who says to look for markets where things get to be really cheap. The opportunity is there. Just start slowly.
Cohen: TIPS don't have the issuer risk associated with municipal securities. So, while municipals look appealing, there are concerns related to the budget problems of specific state and local governments.
Gross: Pimco is not a fan of the high-yield market. It is a little early to be buying high-yield bonds. Defaults are on the rise, but in recent months our closed-end funds, and others', have been subject to selling and to regulations that force such funds to delever. If assets fall by 20% or 30%, closed-end funds that typically are levered by 50% have to delever. Several Pimco funds, including Pimco High Income, were forced to suspend dividends for a month, which sent a confusing signal to the market that something was wrong. We had to reduce leverage somewhat by paying off adjustable-rate preferreds. The dividend suspension was a temporary regulatory fix.
Gabelli: You didn't need to build up capital. You had to reduce leverage.
Gross: Exactly. No one should have a favorite child, but this fund was my, and our high-yield desk's, focus every morning. It isn't a high-yield fund any more; 40% of its assets are high-yield, but 60% are investment-grade. Yet, while junk-bond funds in general yield 14%, the Pimco High Income Fund yields 23%.
Schafer: When it pays the dividend.
Gross: The fund sells for about net asset value. It has doubled in the past month, so somebody sees something. It has about $1 billion in assets. It's about as good a deal as any in the bond market today.
Chris Casaburi
Archie MacAllaster: "If you're a long-term investor in airlines, you're bankrupt, so you have to buy Delta carefully."
What is the status of Pimco's closed-end municipal-bond funds that ran afoul of regulations? Have dividend payments been restored?
Gross: We hope to restore them quickly. It's a matter of ensuring leverage is in line with the rules. The muni market is doing better since late November. Munis are another non-risky asset that investors sold because they had to. Given the fiscal problems state and local governments face, there may be a bailout for munis. When you see a single-A or double-A-rated California muni yielding 6% to 7%, you should anticipate Uncle Sam will bail out Dear Arnold [Schwarzenegger, governor of California]. We might not support bailouts philosophically, but as Bob Dylan said, you have to know which way the wind is blowing. We have been buying munis for several months.
Archie MacAllaster's Picks
1/2/09
Company Ticker Price
Franklin Resources BEN $66.60
Supervalu SVU 14.88
Williams Cos. WMB 15.23
Hartford Financial Services HIG 17.09
Delta Air Lines DAL 12.13
MetLife MET 35.97
Prudential Financial PRU 30.77
Source: Bloomberg
As an aside, the size of government programs to date is staggering. The FDIC [Federal Deposit Insurance Corp.] will now insure bank deposits up to $250,000 [through Dec. 31], versus a previous $100,000. People assume that's where it stops, but it doesn't. The FDIC has guaranteed many more liabilities of the banking system through a program called TLGP, which extends the insurance temporarily, at least to checking accounts. In addition, there's the TARP, which guarantees a significant portion of the equity capital of banks. The banking system in effect has been nationalized. If you can buy a corporate bond issued by a bank at a 5% or 6% yield, as opposed to a Treasury bond that yields 1% or 2%, you've got a good deal. If you can buy bank preferred shares that yield 11%, 12%, 13%, you've got an even better deal. Hopefully, the government will have an exit strategy.
Agreed, and thanks.... Archie, your turn.
MacAllaster: I am an optimist about the stock market. There aren't many of us. It's going to be slow going, but bargains are out there. If you can find them, you may do well. I have a few, starting with Franklin Resources, another California money manager. The stock is 66, about 50% below its high for the past year, 133. The low was 45.50. The company pays a dividend of 84 cents a share, and yields 1.3%. It has about $4 billion of net cash, equal to $15 to $17 a share. Total book value is $30 a share; cash is half of that, or more. Franklin, which manages mutual funds, bought up Templeton and Mutual Shares, and seems ready to buy other assets, which are cheap right now. Over the years the company has bought in a lot of stock. They have indicated they won't be buying in so many shares in the future, which tells me they are going to use their money to buy assets.
Templeton invests mostly in foreign equities. Mutual Shares invests in U.S. equities, and the original business was primarily tax-exempt investments in the U.S. In the fiscal year ended September, it earned $6.68 a share. Like other fund companies, it has had redemptions. It has $450 billion or $460 billion of assets under management, down $50 billion or $60 billion on the year. Therefore, earnings could be lower this year, at perhaps $4.75 to $5 a share.
With people exiting mutual funds in droves, isn't this a bit like buying straw hats in winter?
MacAllaster: My view is long-term. Franklin's success goes back a long way. This year the company will earn less than last year, and it may earn less next year, too. But it is going to end up a much bigger company because it will use its cash to buy assets. In two years it will be making more money than ever before. And remember, the stock was as high as 133 last year.
That doesn't mean anything. Everything was higher last year. The important thing is where it's going.
MacAllaster: It's going higher. My second stock is Supervalu . It closed Friday [Jan. 2] at 14.88. The 12-month range has been 35.91 to 8.59. The company runs both wholesale and retail grocery operations. They've got the third-largest grocery chain in the U.S., after Wal-Mart Stores [WMT] and Kroger [KR]. Supervalu pays a dividend of 69 cents and yields 4%-plus. Book value per share is $29, just about double the stock price. [The company wrote down goodwill and intangible assets when it reported earnings Jan. 7. Book value is now around $16 a share.] Sales are flat to down in retail and positive in wholesale. Earnings were $2.76 a share in fiscal 2008, ended February, and should be about $2.75 for fiscal '09. The stock sells for five times earnings. Debt is high due to the purchase of the Albertsons grocery chain in 2006, but the company has been paying down between $400 million and $500 million a year. [It announced Jan. 7 that it would pay down $600 million in fiscal 2010.] Sales are about $45 billion.
My third stock is Williams Cos. , which produces and transports natural gas. The stock sells for 15.23. Once again, the range is 40.75 to 11.69. The dividend is 44 cents a year for a yield of 3%. They have raised the dividend in each of the past four or five years. Book value is about $15 a share, so the stock sells right around book. The company earned $1.40 a share in 2007. Last year's earnings haven't been announced yet but should be around $2.25 a share. This year they'll earn somewhat less -- $2 a share -- in view of the lower price of gas. But Williams has hedged a lot of its gas production, so its average selling price will be more than $7 per thousand cubic feet. Gas sells now for $5.50.
Where is their natural gas?
MacAllaster: All through the West. Natural gas is the place to be in energy production. It's clean. It's domestic. It's cheaper than oil, and it looks like we'll use all the natural gas we can find in this country. Williams sells for about seven times earnings. The company raises its dividend every year. I suspect they'll raise it by a penny a share this year. In the past two or three years Williams has increased reserves by 20% to 22%. The balance sheet is strong, with debt down from $12 billion to about $7 billion, a 40% drop over five years. They have about $1.1 billion of cash and equivalents.
Next, Hartford Financial Services . It was trading for 17.09 Friday [Jan. 2]. The range has been 85.11 to 4.16. How about that? The yield is a little under 8%. Book value is $41 a share. Earnings in 2007 were $8.25 a share. Recently Hartford raised its 2008 earnings estimate to $4.70 to $4.90 from about $4.30 to $4.50. I think they'll make better than $5 and maybe $6 a share in 2009. The company has given itself all kinds of flexibility.
How so?
MacAllaster: They raised a couple of billion dollars in Europe. They bought a savings bank in Florida. They got some money from the TARP. They won't have any financing problems. Hartford will be 200 years old in 2010. It has $350 billion of assets, and in five or 10 years will have a much bigger net worth than today. Meanwhile, you're buying it around four times earnings.
Delta Air Lines, my next pick, trades for 12.13. The range is 18.99 to 4. After merging with Northwest in 2008, it became the largest U.S. carrier. It is fresh out of bankruptcy court with a relatively clean balance sheet and about $35 billion of revenue. It is a speculation on continued low fuel prices. Delta should produce earnings of as much as $2-plus in 2009. Some energy hedges are working against it now, and in the last quarter of 2008, but that will end. In the next two or three years Delta could earn much more than $2 a share. Cash flow next year could be about $4 billion. The only thing is, if you're a long-term investor in airlines, you're bankrupt, so you have to buy this carefully.
Chris Casaburi
Zulauf: "Gold functions as a protection against your central bank doing stupid things."
Black: As Warren Buffett said, the Wright Brothers destroyed more capital than communism.
MacAllaster: Here are some one-liners: MetLife and Prudential Financial . MetLife is 36 a share; the range is 65 to 15. It yields a bit over 2%. Book value is $42 a share. The company raises the dividend every year. Any time you can buy MetLife under book value, you should.
Prudential is somewhat more speculative. It sells for 30.77. The range on the stock has been 92 to 13. Book is about $44 a share. Earnings for 2008 are estimated to be $3.50 a share. In '09 they could earn as much as $7. The dividend yield is 2%. In a few years this company, too, will be worth more.
Thank you, Archie. Felix?
Zulauf: Last year saw the most severe bear-market decline since 1931. The instant reaction is to be bullish after such a decline, but the situation is more complex. The watershed events of 2007 and '08 lead to a different world in many ways. The household sector is traumatized by a 20% drop in net worth, as the worst year prior to this saw a loss of just 5%. The corporate sector is traumatized by a slump in earnings, and refinancing problems. Thus, everyone will turn more cautious, not just for 12 months but several years. Deleveraging is a structural process, not a short-term process.
Fiscal policy and other interventions may stabilize the economy later in the year and into 2010, but economic growth will be anemic and disappointingly low once things start to improve. Less leverage means lower growth, lower profit margins, a lower return on equity, lower valuations and such. But the market is slow at pricing that in. During the energy crisis of the 1970s, it took the market six years to stop extrapolating 6% annual growth and get in line with reality.
We are still in a secular bear market that started in 2000 in the industrialized economies. It has several more years to run. This is a transition year after the first slump, and we will see some corrections to the upside.
Felix Zulauf's Picks
Investment 1/2/09 Price
Medium-term government paper blended with five-year investment-grade corporate bonds issued by companies in defensive industries, such as telecom, food and oil.
German government bonds
Gold* $875.40/ounce
Short the Hungarian forint against the euro €1=266.10 HUF
TRADING IDEAS (Ticker)**
Crude Oil $46.34/bbl
Energy Select Sector SPDR (XLE) 50.15
iShares MSCI Hong Kong Index (EWH) 10.79
iShares MSCI Singapore Index (EWS) 7.25
*Buy after price drops back to $600-$700 range.
**Buy after selloff to new lows.
Source: Bloomberg
We've just seen one.
Zulauf: The current rally will peter out sometime in the first quarter. It's the Obama hope rally. Obama is dangerous for the market in the sense that expectations that he can change the world are too high. He is a charismatic person, but a charismatic person with no track record. Eventually the market will grow disappointed that he can't change things as quickly and to the degree people hope.
The market will have a setback after this rally ends, with the next rally starting sometime in the second quarter. It will be more powerful and a bit more sustainable because some of the economic numbers will show positive momentum, and it will start from a new low. But you can't buy and hold equities for the long term. Investors will turn away from equities. They are fed up with negative returns over 10 years. In that period, as I said earlier today, risk was high and perceived risk was low. Now risk will be low, due in part to support from the world's central banks. But investors will perceive risk as high, and price financial assets accordingly.
Witmer: They already have.
Zulauf: In a few years' time there will be some fantastic long-term buying opportunities, but we aren't there yet. The Standard & Poor's 500 easily could fall into the 400 to 600 range over 2010-'11, after a bounce that takes it to 1,050 or so. But the upside is limited because the fundamentals aren't there.
Gabelli: So it's up 10% and down 50%.
Falling oil prices are central to what has happened in the markets, if not the economy. You're a commodities man in some ways. Where do you think oil is headed?
Zulauf: The price of oil has tumbled much more than I expected. I thought it might be cut in half in this cycle, which would have meant a price of around $75 a barrel, not $35-$40. Oil will bump along around $40 for a while, with rallies up to $70 or so. It will build a range for some years, until demand and supply get back into balance. So far, producers are behind in adjusting production to weak demand. Buy oil for a trade but not for an investment. Lower oil prices are one of the big pluses in the economic equation, because consumers will pay less for gasoline and fuel.
Is OPEC pretty much out of the picture?
Zulauf: It is cutting back. There was a struggle within OPEC [the Organization of Petroleum Exporting Countries]. The Russians didn't behave as the Saudis wanted. The Iranians didn't behave as the Saudis wanted. Now the Saudis are playing hardball with other OPEC members. But OPEC, as announced, will cut production. It isn't interested in having oil prices get too low or too high. It thinks a price of $60 a barrel or so is reasonable.
Gross: We always root for lower oil prices because they restore consumer purchasing power. But cheap oil also impacts oil-producing nations and the global economy.
Zulauf: It plays havoc with their budgets. The boom in the Middle East is over. Government finances in the region will go into deficit. These are not politically stable countries. A large part of the population in the region is dependent on government finances. A drop in oil prices could further destabilize the Middle East.
Cohen: Is there a policing mechanism to make sure OPEC members cut production? So far, it hasn't worked.
Zulauf: Swing producers like the Saudis can cut back as they bring other OPEC producers in line. But it takes time to cut production by three million or four million barrels.
Faber: Some people say they have to cut by seven million barrels.
Gabelli: Either way you have a demand problem, even as oil companies have invested in new production. Petrobras [ Petroleo Brasileiro ] has spent hugely on its new field off Brazil.
Zulauf: At current oil prices, you can forget it. A lot of projects around the world have been postponed or canceled altogether, and that's true in all commodities markets, including metals.
Gross: Does extracting oil from tar sands make economic sense, with oil at $45?
Zulauf: You need a price of $60. Getting back to equities, dividends will be cut in the next few years, but dividend yields will be higher than today, despite the cuts.
Zulauf: Investors should keep their powder dry. Sit in fixed income. Buy five-year investment-grade corporate bonds in less-risky industries that service daily necessities, such as telecoms, oil and food, and blend them with medium-term government bonds. Check company balance sheets. I wouldn't buy long-term government bonds, except maybe German bonds. My one recommendation for the longer term is physical gold. Consider the basic set-up: World economies are so weak that we are seeing government stimulation of historic proportions. At first this is deflationary, but it will become inflationary. Gold is the only currency that won't get devalued. It will be revalued.
Felix Zulauf, Founder and President of Zulauf Asset Management says that consumers have been traumatized by the huge loss in net worth, and can be expected to act conservatively even after the economy recovers. Mike Santoli reports at the Barron's Roundtable.
If the Fed's liabilities had to be covered in gold, it would sell for more than $6,000 an ounce. We aren't going back to the gold standard, but the markets won't trust the central banks anymore. Gold is in a very slow bull market. The year-end price has been higher each year since 2001. The gold market could have a shakeout in the next six months, and the price could fall back to $700 an ounce or below from today's $850. But two years from now it will be a lot higher. It is one of the few commodities that held up during the forced liquidation of almost everything else. We have talked about the risk of currency devaluation. If you were a citizen of Iceland and your currency went down by 50%, consider how gold performed in your currency. Gold functions as a protection against your central bank doing stupid things.
Schafer: Did gold hold up because it wasn't a part of leveraged structures?
Zulauf: To some degree. You don't own it in a leveraged way. It was helped by the forced liquidation of other things. There was some forced liquidation of Comex futures contracts, but at the same time there was a massive move into physical gold. Gold will stay in a bull market. It can't be manipulated like a currency you can keep printing.
What about central-bank sales of gold?
Zulauf: You can sell it, but unlike a currency, you can't make it out of thin air. You have to dig hard to get it out of the ground, and there is a limited quantity available. Historically, jewelry accounted for about 70% of the demand for gold. That will decline as hoarding increases.
Gross: How many years will it take for gold to double?
Zulauf: Two, but don't blame me if it takes three. If you're a little more adventurous, you can buy gold stocks, but put the core of your holding in physical gold. Gold-mining stocks have underperformed physical gold for more than a year, due to rising production costs. Production costs should decline slightly because of lower energy prices.
Fred recommended the Market Vectors Gold Miners ETF. Do you like it, too?
Zulauf: Yes. It is a diversified portfolio of major mining stocks. The total market capitalization of the industry is only $150 billion.
Last year I recommended shorting both sterling and the Swiss franc against the U.S. dollar. These trades worked well. Now short the Hungarian forint against the euro. All the Eastern European countries, excluding Russia, are running large current-account deficits. A current-account deficit is basically a loan from the outside world. In a credit crisis, credit gets pulled and the economy and currency adjust downward. Because all these countries want to join the European Union, they are all trying to defend their currencies.
Why pick on Hungary?
Zulauf: Among European countries, it has the largest percentage of public and private credit -- 57% -- denominated in foreign currencies, largely Swiss francs. That's public and private credit. Probably 70% of mortgages in Hungary are Swiss-franc denominated because of the interest-rate advantage. The Hungarian central bank is trying to defend the currency and doesn't want to devalue it, which would create more pain. They raised interest rates from 8% to 12% in the fall in the midst of the worst economic recession in modern times; rates are now down to 10%. When the pain eventually becomes too great, they will cut rates and the currency will decline.
The forint isn't in the worst shape, but it is the most liquid among Eastern European currencies. The currencies of the Baltic states and Romania are much worse fundamentally, but more difficult to trade. Hungary has made good progress since the Berlin Wall came down. Per capita income is about 70% of the average income in the European Union. The Hungarian economy was stabilized in the late 1990s and inflation brought under control. Short-term interest rates declined from 35% in the mid-1990s to a low of 6% by 2005. It has risen since, due to inflation. The currency has been stable since 2000 in a trading range against the euro.
What is the current exchange rate?
Zulauf: The forint has traded between HUF235 and HUF275 to the euro. The current price is HUF266. The forint could move out of its trading range in 2009. I would have recommended shorting the forint against the Swiss franc, but I have some concerns about the franc due to the banking situation in Switzerland.
Here are some trading ideas for '09: Trade beaten-down commodities like oil, which has a shot at rebounding to $70 or so, after which it will retreat. You can trade energy stocks, the big integrated oil companies, via the Energy Select Sector SPDR , or XLE. It sells for 50, and my expected 12-month range is 40 to 60. Oil has come down 75% from its high, and the XLE is down 60%.
Another good trade is Asian equities. Asia is in a severe recession that won't end for a while. But Asian stocks are cheap. They offer good dividend yields and are a good way to have a foot in these markets. Buy the iShares MSCI Hong Kong Index, or EWH. It is selling at 10.79, and I expect a range of 9 to 13-14. The iShares MSCI Singapore Index, or EWS, trades for 7.25.
What do you think of housing?
Zulauf: House prices in the U.S. will reach a low in 2010, some 10% to 15% below today's level. Housing in other nations, particularly in Europe, has much more downside. Prices in Spain or the U.K. could fall 30% from here. The housing bubble has been a global phenomenon, and it has involved leverage and low homeowners' equity not only in the U.S. Countries like Germany that didn't have a housing bubble are in better shape.
Pimco Founder and Co-Chief Investment Officer Bill Gross says the market shift from the familiar to a phenomenon of consumers rapidly switching gears from "Shop 'til You Drop" to "Save to the Grave." Mike Santoli reports from the Barron's Roundtable.
About 45% of U.S. home owners don't have a mortgage, which means 55% do. Almost half of those have no equity or negative equity in their homes. The National Association of Realtors' Affordability Index is a theoretical number, because the appetite to buy a house is so different now, even if you could afford it.
Gross: I agree but offer a counter-argument. To the extent that the 30-year mortgage rate acts as a discount-pricing mechanism, if you can bring it down to 4.5% to 4% to 3.5%, you have a theoretical basis for supporting housing.
The ITB, or iShares Dow Jones U.S. Home Construction index, is up 50% from the lows. What do you make of that?
Cohen: In the U.S., we are three years into the housing correction. The home-building stocks got very cheap.
Zulauf: When you go down 95%, it is easy to have a 50% bounce.
Thank you, Felix. Abby, let's hear more of your views.
Cohen: With regard to the economy, chances are we're seeing the worst numbers now on production and consumer demand. The official recession may be over before the end of 2009, but growth rates afterward will be sluggish. A good deal of this ugly scenario already has been priced into stocks. Using a dividend-discount model or a price-to-book-value basis, our sense is fair value for the S&P 500 may be 1,100 or 1,200 in 2009. There is notable upside, but that doesn't mean the market goes back to its highs. Because consensus earnings expectations are too high, the market may come under some pressure again. But in the next several months we expect share prices to be higher, not lower.
Chris Casaburi
Abby Cohen: "The official recession may be over before the end of 2010, but growth rates afterward will be sluggish."
What is your S&P earnings estimate?
Cohen: About $55. The '08 number was about the same. The consensus is about $10 higher than we are for 2009. S&P earnings could see some recovery in 2010.
Valuation isn't a timing device. Also, even though the market offers value, valuations across the market are uneven. In the past six months, better-quality names often went down more than lesser-quality names because they were easier to sell. As a consequence, we are looking primarily at larger-capitalization stocks for 2009. In addition, we're looking for companies with a domestic orientation. The U.S. moved into recession earlier than other countries, and we may move out of it earlier. The incoming Obama administration will provide greater detail shortly on plans that may be viewed as positive in terms of economic growth. These may focus in the short term not just on job creation but the prevention of additional job losses. The administration also will be working on things that have an impact two to three years out.
One peculiar thing in the markets last year was very high correlations. Everything was correlated to everything else. The single exception was U.S. Treasuries. Correlations will move lower this year, and differences in fundamental performance and valuation will come to the fore. That creates opportunities for security selection both in the equity and fixed-income markets. Finally, the public markets really took it on the chin in 2008 because they were open for business and that's where the liquidity was. There could be some big snap-backs.
Will there be more consolidation in banking and financial services?
Cohen: We are going to see consolidation in many industries. Companies with strong balance sheets will be in a much better position, regardless of industry. Even though the credit situation will be improving, there is still a lot of operating duress. Companies under duress could be involved in strategic mergers and acquisitions.
Abby Cohen's Picks
1/2/09 1/2/09
Corporate Bonds* Price Yield
BofA, 5.65% due 2018 $99.50 5.7%
JPMorgan 6%, due 2018 105.50 5.2
Travelers 5.75% due 2017 98.75 5.9
1/2/09
Company Ticker Price
Bank of America BAC $14.33
Duke Energy DUK 15.40
Wyeth WYE 38.39
ITT ITT 48.79
Applied Materials AMAT 10.67
Hess HES 57.25
*Prices/yields as of 1/5
Source: Bloomberg
Regarding specific ideas, I'll pick up where Bill left off in talking about distorted valuations in the fixed-income markets. There is general agreement around this table that U.S. Treasuries don't offer good value now. We would rather look at corporate bonds. I have three, all single-A-rated, all trading at significant spreads over Treasuries, all in financial services. Investors should stick with the senior securities within the capital structure. The Bank of America 5.65s of 2018 are trading at a [yield] spread of 325 basis points [3.25 percentage points] above Treasuries. The JPMorgan 6s of 2018 are selling at spread of 275 points over Treasuries. The Travelers' 5.75s of 2017 are selling at spread of 345 points.
Schafer: Treasuries have a negligible yield because they've become a safe haven. An analysis of yield spreads is less relevant than usual.
Cohen: My next comment was going to be that spreads are expected to narrow. That could occur as Treasury yields rise, and as the absolute yield on these securities falls. Not just the coupon but the potential of price appreciation is available here.
Bank of America common equity is interesting, as well, from a valuation perspective. It yields in excess of 15% because investors are nervous about it. The stock is down 65%. We all know about the banking sector's problems, and credit-cycle issues will take a while to play out. In Bank of America's case, there are three phases to the credit cycle. The first was problems related to mortgages and home equity. The bank had 43% of its loans in the housing sector. The next phase of concern will relate to construction and commercial lending, and the third phase to losses related to consumer loan books, such as credit cards. The bank has material consumer exposure and delinquencies are increasing, but it becomes a question of what is priced in.
Zulauf: Does it yield 15% after they cut the dividend?
Cohen: Yes, and they may cut it more. This is a controversial stock, and it is priced as one. [Note: According to government and company announcements Friday morning, Bank of America, which already has received $25 billion in TARP money, will get additional funding and a loss-sharing agreement on impaired assets because of problems at Merrill Lynch, which are worse than had been expected when BofA struck a deal last fall to acquire Merrill. As a result, BofA's capital position has been significantly weakened. Bank of America also is cutting its dividend to a penny a share. According to Abby, Goldman Sachs analysts say BofA may have other capital options available as it seeks to reduce leverage. It could reduce stakes it holds in other financial institutions, such as CCB, BlackRock or Itau. Pro forma tangible book value is about $10. Extensive government involvement likely will mean current shareholders aren't a top priority.]
Duke Energy , an electric utility, offers good income potential. It yields about 6%. We're not expecting much if any earnings growth because of the weakness in the economy. We're forecasting GDP will fall 1.6% in 2009. On the other hand, with a 6% yield and long-term earnings growth of about 5%, Duke isn't a bad place to be. Along with some other utilities, Duke has been proactive about energy efficiency, sustainability and such. It may get some attention as a consequence, with a new administration coming to Washington and talking about the need for infrastructure spending, and a new national grid.
Roundtable Members:
FELIX ZULAUF, founder and president, Zulauf Asset Management, Zug, Switzerland;
MARIO GABELLI, chairman, Gamco Investors, Rye, N.Y.;
ARCHIE MACALLASTER, chairman, MacAllaster, Pitfield, MacKay, New York;
MERYL WITMER, general partner, Eagle Capital Partners, New York;
MARC FABER, managing director, Marc Faber Ltd., Hong Kong;
OSCAR SCHAFER, managing partner, O.S.S. Capital Management, New York;
FRED HICKEY, editor, The High-Tech Strategist, Nashua, N.H.;
SCOTT BLACK, founder and president, Delphi Management, Boston;
BILL GROSS, founder and co-chief investment officer, Pimco, Newport Beach, Calif.;
ABBY JOSEPH COHEN, senior investment strategist and president, Global Markets Institute, Goldman Sachs, New York.
What else looks good this year?
Cohen: Pharmaceutical companies are facing significant concerns about a lack of innovation and, at the same time, major patent expirations. There are also concerns about health-care reform and what it might mean for these companies. Wyeth is a good place to be in this industry. It has less exposure to patent expirations than other large U.S. pharma companies. It has a significant biotech initiative. The company's vaccine and biological division is growing at about a 20% annualized rate and generating strong cash flow. There is a potential for a dividend increase; the current yield is about 3%. The P/E is 10.3. The pharma industry could see consolidation. Given its biotechnology endeavors and strong cash flow, Wyeth might be an appealing candidate for some other companies.
Next, I've got some stocks that could benefit from a better economy. I began by saying we're in a recession, but the equity market is a discounting mechanism. At what point do we feel comfortable looking at these names? ITT looks appealing over a 12-month horizon because of its special products. It has a strong defense business, which will account for more than 50% of earnings. It is involved in aircraft avionics and such.
The water business is attractive. Longer term, the Obama administration may focus on the water and waste-water infrastructure in the U.S., and ITT is a leader in the category. Earnings could grow 10% to 12% long-term. The P/E is about 12 times earnings.
On this year's or next year's earnings?
Cohen: This year's. The yield is about 1.4%. To the extent that there is increased spending on defense and water infrastructure, ITT fits these themes. I'm sitting next to Fred, so I'd love to hear his comments on my next pick, Applied Materials . You have to believe in this case that the economy will turn up in 12 months. This is an early cyclical. The semiconductor-equipment industry doesn't look attractive right now. However, orders are likely to trough in the first half of 2009 and things will look better in the second half. The company has a backlog of $4.85 billion, including $1.5 billion in solar thin-film used on solar panels. The solar area was hyped a few years ago, and it could become more important now. With this backlog, there could be some cancellations.
Chris Casaburi
Stocks haven't hit a true bottom yet, say many Roundtable members, From left, Archie MacAllaster, Marc Faber, Abby Cohen, Scott Black and Fred Hickey.
Hickey: There will be a lot of cancellations.
Cohen: Applied has $4.2 billion of net cash, equal to 25% of its market cap of $13.7 billion. The yield is 2.4%.
Black: Even though Applied Materials is the big Kahuna in semi equipment, estimated earnings of 20 to 25 cents a share for this year aren't enough to justify an $8 or $9 stock in the short term.
Schafer: If you take out the cash, $9 is $7.
Cohen: This is a transition year. You have to look at 2010.
Hickey: It's too early. This is the biggest disaster we've seen, and we've seen a lot of disasters in the semiconductor market, particularly in the companies driving that backlog. Taiwanese DRAM and flash-memory makers are near-bankrupt. There is no cash available. Everyone is canceling everything. The turnaround might take well into 2010, and then you could lose market share.
Black: Applied Materials is a great company with great technology. There's just no customer demand to drive the stock.
Cohen: My final name is intended to be controversial. Assuming oil averages $45 a barrel this year and $70 next year, companies like Petrobras and Hess could benefit. Hess has demonstrated significant leverage in earnings and share-price performance to rising energy prices. At $45 a barrel there isn't much earnings growth. If crude goes higher, earnings growth could be significant. There isn't much of a yield -- 0.7% -- so it's really a play on higher oil. The stock has jumped to 57 from 50 in the past few days. Maybe the move is over and I should have pulled it from my picks folder, but if you see some light at the end of the tunnel in terms of economic activity and energy prices move up, Hess could do well.
Zulauf: Some European energy stocks offer fantastic yields, even if earnings go down. Italy's ENI [ENI.Italy] yields 8.5%, and the payout ratio is probably 30% or so. Royal Dutch Shell [RDS] is yielding 5.2%.
Cohen: The U.S. equivalents would be ExxonMobil [XOM] and some others. They performed well from the end of October through the middle of December. But if the economy starts looking better in the second half of this year, you want something more leveraged to the price of oil.
Thank you, Abby.
BARRON'S COVER - Part 1
Hang on Tight!
By LAUREN R. RUBLIN
Our go-to group of investment experts sees tough times for the economy -- but good fortune for stockpickers. (2008 Roundtable Report Card and 2008 Mid-Year Roundtable Report Card)
ONCE UPON A TIME, WE LIVED IN A WORLD where asset-price inflation begat leverage, which begat more asset inflation, in a virtuous circle known as the great bull market. We bought bad art, good wine and vacation homes (many), and stocks "on the dips," which made us rich. And geniuses, of course.
Then the big, bad wolves -- greed and excess -- came and popped our bubble, and the markets', and all the pretty assets fell to earth. The fairy god-mother -- bearing a strange name for a godmother, Uncle Sam -- tried to clean up the mess with great gobs of money, but little success. The pain, suffering and deleveraging continued, inflation went bananas, everyone shopped at Wal-Mart and the Hamptons returned to scrub and sand. And no one lived happily ever after -- except for incredibly savvy stockpickers -- at least for a good five years. And that, kids, was the story they told at this year's Barron's Roundtable.
Oh, yes, the details: "They" are the 10 investment experts depicted here, who sat down with the editors of Barron's in New York on Jan. 5 to make sense of the epochal events in the economy and financial markets in 2008, predict what will happen in 2009 and share their investment ideas for the new year, which so far looks much like the old. The day was rife with history lessons and warnings -- and optimism, too, that those who find bargains amid the rubble will reap rich rewards. Or, as Meryl Witmer nicely put it, "It is an exciting time to be a stockpicker."
In the first installment of the 2009 Roundtable, you'll find the unabridged version of our little tale, as well as some first-rate stock picks from Meryl and Fred Hickey. The rest of this illustrious crew will share their wit and wisdom in Installments 2 and 3.
Meryl, general partner at New York's Eagle Capital Management and a value investor in the Buffett mold, brought four names to the 'Table -- an aluminum producer, a utility and two financials, as if she needed to burnish her credentials as a thoughtful contrarian. Fred, who edits the High-Tech Strategist newsletter in Nashua, N.H., made a compelling case for Microsoft and gold.
Want the details? Please read on.
Barron's: Let's forget about 2008 -- and that includes most of your stock picks. With the market down 36% from its highs, the government bailing out everything in sight and a new president coming to town, what is the outlook for 2009? Fred, tell us, please.
Hickey: The government can't cure a disease that has been more than a decade in the making. The U.S has built up gigantic financial imbalances, and debt levels the world has never seen. Massive increases in public debt and spending can't replace the lost private-sector debt and cutbacks in consumer spending, allowing us to go on our merry way. The stock market is experiencing a snap-back rally, similar to what we saw in 1930, after the Crash of 1929.
You don't look that old.
Hickey: I wasn't around. They had a name for it, the "little bull market." It came about after the Federal Reserve slashed interest rates to 3.5% from 6%, and later to 1.5%. President Hoover had ordered federal departments to speed up construction projects, and the state governments to expand public works projects. He went to Congress asking for a huge tax cut and a doubling of spending on public buildings, dams, highways and harbors. That sounds familiar. Hoover predicted the crisis would end in 60 days. He received widespread praise for his intervention.
We see where you're going, but what about today?
Hickey: The market has had its worst crash since the Great Depression, and a new president is promising to pull out all the stops. We'll have massive infrastructure spending on roads and bridges. We'll have more tax rebates, and the government has made bailout commitments of more than $8 billion to support various markets. It has bailed out almost the entire banking system.
The stock market has rallied about 20%, and could go up 40% or 50%, as the little bull market did. Then reality is going to set in -- the reality that the economy is terrible, the unemployment rate is going to rise, the Fed's policies are imprecise. The dollar could get killed sometime this year, causing all kinds of problems. We have a more protectionist Congress. Deficit spending is unlikely to work. In sum, we have a date with more traditional bear-market levels. You'll see the single-digit P/Es [price/earnings multiples] that were typical in 1982, '74 even 1930 and '32. The market will go down significantly, and then make a bottom.
Black: A lot of the stock market's performance will be contingent on public policy. The consumer is dead. There has been a paradigm shift. The savings rate is going up. People are terrified. It's like my parents' generation after the Depression. Gross private domestic investment won't go up, even if you give corporations tax incentives. There is too much idle capacity already. We can't meaningfully reduce the trade deficit because we don't manufacture enough goods that the rest of the world wants. That leaves government spending to create final demand for U.S. goods and services. Giving a tax cut to people who spend the money at Wal-Mart on products made in China isn't going to do it. Infrastructure and defense spending are the best way out of this mess because by law, defense goods must be made in the U.S. and we have depleted our conventional forces, whether it is tanks or helicopters. Also, cement, concrete and structural steel all are made in the U.S.
As for the market, the current 2009 earnings estimate for the Standard & Poor's 500 stock index is about $60. The market is trading for 15.5 times earnings. If Congress passes an infrastructure-spending bill and we spend between $750 billion to $1 trillion, that could provide enough boost for the economy to turn up by year end. We could be looking at $70 in S&P earnings for 2010, which suggests the S&P, now in the low-900s, could rally to between 980 and 1,050. But again, it is all contingent on good public policy. That's the only thing that will kick-start the economy in 2009.
Faber: There is no such thing as good public policy, certainly not in the U.S. The current crisis was produced largely by policy measures that led to the formation of Fannie Mae and Freddie Mac, and later the repeal of the Glass-Steagall Act, which had prohibited banks from owning brokers. It all led to increased leverage. Fed policy has been a disaster. Instead of smoothing markets, it has increased volatility. By cutting interest rates the Fed created bubbles -- in housing, in commodities. Now that the federal-funds rate has been slashed just about to zero, you're not getting anything for your money when you deposit it in the banking system and buy Treasury bills. There is no such thing as investment; everybody becomes a trader.
With a few exceptions, the U.S. doesn't produce anything. It is a consumption-led economy. When the economy expands, the U.S. imports from other countries, such as China, which increase industrial production and capital spending. From 2002 to 2007 the markets of emerging economies outperformed the U.S. But when the economy slowed in 2008, it was a catastrophe for these economies. They immediately cut spending and production, which affected demand for commodities. Last year, emerging markets were hit much harder than the U.S.
Cohen: The P/E ratio of the Chinese market was more than 50 times earnings at the end of 2007, so the issue isn't only fundamental demand but relative valuation.
Faber: I'm aware of that. I recommended shorting Chinese stocks last year. It would be best at this point for the U.S. to have 10% less consumption. It would make people save again and follow Christian principles of frugality and humility. I doubt it will happen, but it would be good for the U.S.
We've had history lessons, and now, religion lessons. What does any of this mean for 2009?
Faber: The U.S. economy fell off a cliff between October and December, and will stabilize at a lower level of activity. Some indicators may look better than expected, which will justify the present rally. Stocks already are up 25%. If they go up 50% from the Nov. 21 low of 741 on the S&P, you'll have the S&P at around 1,100. Afterward, reality will set in and in real terms the market will go much lower for much longer.
Around the world, governments are throwing money at the system to revitalize debt growth. When an economy is credit-addicted and debt growth slows, it is a catastrophe. With the Fed buying up everything and boosting the federal deficit, hyperinflation will be the result down the line. I am pleased that Barron's just wrote a cover story about the inflation in Treasury bonds ["Get Out Now!" Jan. 5]. This was the last bubble the Fed was able to inflate, aside from their egos.
[Laughter]
So, Marc, you're not too bullish this year.
Faber: Let's put it this way. A true market low will be lower, but in a hyperinflating economy, you can have nominal price gains while going lower in real, or inflation-adjusted, terms. Between the start of 2008 and November, almost every asset market collapsed, but the dollar was strong. After November the asset markets rebounded but the dollar went down again. There's an inverse correlation. Dollar weakness is a signal that the Fed has succeeded in pushing liquidity into the system. Some say the dollar will collapse this year, but collapse against what? The euro? The Russian ruble? These currencies are even weaker. In the very long run, each citizen must become his own central bank. Every responsible citizen must hold some physical gold, platinum and silver -- physically, not through derivatives.
Bill, what do you think?
Gross: For several years we have said we're in the midst of a generational change in the global economy and the financial complex. About two months ago Barton Biggs [a hedge-fund manager and former Roundtable member] said, "I'm a child of the bull market." He went on to explain that he'd been trained to buy the dips, because assets always eventually went up in price.
For the past 50 years asset inflation has been the context, the foundation of much of the economic growth in the United States and around the world. It led to additional leverage, which led to additional asset inflation. In the past 12 months the global economy and financial complex experienced a forced deleveraging. Assets deflated by $20 trillion to $30 trillion. We were all children of the bull market, but the bull market is over. Deleveraging will become the context for the next five to 10 years. It will lead to lower profit margins and higher interest rates.
And this year?
Gross: It depends in part on the extent to which governments can fill the hole left by deleveraging. Can they take us out of an illiquidity trap that is damaging not only to asset prices but the real economy? If so, there is hope for 2009. More likely, policy will come up short and we'll have a global recession, perhaps into 2010.
The important thing for investors is what happens in 2010, 2011 and 2012. We're setting up for a low equity returns, low economic growth, high real interest rates and 5% to 6% to 7% returns, at most, on all asset classes. The double-digit rebound typical after selloffs isn't going to happen.
Oscar, do you agree?
Schafer: I agree with a lot of what Bill says. The economy is experiencing a rain delay. Nothing is going to happen for a while. Although the government's spending efforts will help, they won't be enough to cure the two biggest problems. The first is housing. Unsold inventory of houses is more than a year's worth, and prices could go down another 10%-plus. Mortgages have been reduced and prices are down, but 68% of the public still owns a home, versus 64%, the historical trend. The mortgage-equity withdrawals of recent years are over. Consumers spend 14% of their after-tax income on housing, more than they pay for food. No matter what the government does, it may not help housing, and in turn, the consumer.
A stimulus package also wouldn't speak to the consumer's need to reduce debt. Just as "plastics" was the operative word in The Graduate, "leverage" will be the operative word for the next two to three years in the economy. The world is experiencing a giant margin call. The consumer is deleveraging and increasing his savings. The banks are deleveraging. Stories are rife that banks aren't lending, because they don't have sufficient capital. Further write-downs will continue to impair their capital. This credit contraction leads to a vicious cycle of companies doing poorly, layoffs increasing and foreclosures rising. The economy will be pretty punk into 2010.
Will the market follow the economy?
Schafer: The market may go up a little. Then it will test the November lows. The big story is 2010 and 2011. The averages won't do much, almost like in 1968-82.
How does that help the investor who wants to know what to do with his money in 2009? He can't wait until 2011.
Schafer: I can't help him. [Laughter] I don't know what the market is going to do in the next six to 12 months. It will be a stock-picker's market, but the averages won't rise more than 6% to 8% a year, dividends included. For the first time since 1941, the 10-year return on the S&P 500 is negative.
Hickey: It's hard to predict the market when you don't know what the Fed will do. The Fed has tripled the size of its balance sheet and is plowing ground we have never seen before. Here are my facsimiles of deutsche marks from Weimar Germany [holds up sheaf of papers]. They collapsed in value when Germany started printing money after World War I. It happened very quickly and it can happen again.
The Germans were successful at reflating. But they weren't successful in saving their economy. [Federal Reserve Chairman Ben] Bernanke is on record saying, "I will not make the mistakes of the 1930s. I will not make the mistakes of Japan in the 1990s." He is pushing the limit right now.
Gabelli: So you're saying he's going to make the mistake of the Weimar Republic?
Hickey: There is a possibility of that. Every month that there is a horrible employment, report the government prints more money.
Gabelli: It took Weimar Germany a brief time.
Faber: The worse the economy, the more they will print. It is like in Zimbabwe now, and Latin America in the 1980s. They had large deficits and printed money, and in local currency everything went up. But the currency collapsed.
Schafer: Isn't the federal government increasing its balance sheet to offset the private sector?
Gross: Exactly. The situation isn't similar. The Weimar Republic basically reflated to get out from under its wartime debts. Zimbabwe is a situation unto itself. In the U.S. there has been asset destruction in the trillions of dollars that has to be repaired. To say the Fed's balance sheet has expanded by a few trillion dollars and that this will create hyperinflation is a miscalculation.
Faber: I'm prepared to bet Bill that in 10 years the U.S. has very high inflation. With growing fiscal deficits that may reach as high as $2 trillion next year, it will be hard for the Fed to lift interest rates in real terms. Once they push up rates again, there will be another disaster.
Gross: Marc, you're smarter than that. You know that credit creation is at the heart of economic growth, and to the extent that credit creation has been thwarted, stultified, basically cut by 10% or 20%, economies can't grow.
Faber: The U.S. economy is credit-addicted. In a sound economy, debt growth doesn't exceed nominal GDP growth. Would you agree with that, or do you think debt should always grow at a faster pace than nominal GDP?
Gross: I'm with you there.
Faber: We come at this from different perspectives. You run a company that manages money, and I'm an outside observer of the U.S. financial scene, though I have to admit I bought some U.S. stocks for the first time in 30 years.
Abby, what do you think?
Cohen: First, it is important to recognize that we are not starting from a point of equilibrium, where the economy and the credit markets are working properly. Instead, the Federal Reserve is acting aggressively to provide liquidity not just to the U.S. economy but the global economy. I'm always amused when people, especially those based outside the United States, talk about the terrible U.S. consumer. I recognize the U.S. consumer is over his head in debt. But the impact is seen throughout the world because the U.S. is the world's largest importer. There will be significant consequences when U.S. consumers increase their savings rates rapidly, as they have done in recent months. This impacts other nations that have failed to do a good job of stimulating domestic demand. In many ways, the Fed is acting as the central bank to the global economy.
In 2010 the situation may move back to something more normal. Also, investors helped contribute to the situation we're now in. During several years of below-normal volatility in stock and fixed-income markets around the world, risk appetites reached extraordinary levels. Investors grew willing to take on risk without demanding appropriate levels of return. Some markets have now seen the inverse. There is a fear of illiquidity and risky assets. Thus, some valuation opportunities have been created, though I am not saying the entire market goes up, or goes up dramatically.
In other words, some stocks and bonds are cheap.
Cohen: In recent months, in addition to the rise in risk premiums in stocks and bonds, there has been a high correlation between different types of assets, and within asset classes. The one exception was U.S. Treasuries. Many investors were selling things largely on the basis of liquidity. If you needed to raise cash you sold what you could, including some securities that perhaps offer reasonably good value. Consequently, we enter 2009 with a real disequilibrium within individual asset categories. It gives careful investors an opportunity.
Gross: In a deleveraging process, investors are forced to sell almost everything. The asset of ultimate quality and liquidity -- Treasury bills -- becomes the recipient of demand. On the way down, the most risky and illiquid assets fall most. But even the most liquid, high-quality assets go down for awhile, until the government's checkbook can compensate.
Table: 2008 Roundtable Report Card
Cohen: I agree generally, but our work indicates some unusual things occurred in 2008. We put together a basket of securities heavily owned by hedge funds, and another of securities that weren't. The stocks owned by hedge funds went down 20 to 25 percentage points more than the others.
Schafer: Goldman Sachs did a great disservice to the hedge-fund business. People were shorting the basket of hedge-fund stocks. This caused heavily owned hedge-fund stocks to go down, creating bad performance for the funds, leading to redemptions and forced selling, a vicious cycle. In the past six months the fundamentals of many stocks have taken a back seat to who owned them. Long term, that isn't good.
Gabelli: That is her point. There are bargains around. Stocks fell below intrinsic value.
Cohen: In the search for liquidity, the funds sold simple assets traded in public markets, because the markets were open. The more liquid securities were the hardest hit. In 2009, investment vehicles that are more complex, highly structured and less liquid may not recover as quickly as those that are publicly traded.
How do you look at valuation, Abby?
Cohen: We use seven different models to evaluate the S&P 500, based on earnings, book value, cash flow and such. We also do detailed return-on-equity analysis. Using a composite of those models, we think fair value for the S&P 500 is somewhat above where the market stands now -- and we have one of the lowest earnings forecasts on Wall Street. We estimate the S&P will earn about $55 this year.
With all these models, why was your '08 forecast so far off?
Cohen: We anticipated a sluggish economy at the time of last year's Roundtable, but changed our forecast to a recession a few weeks later. We adjusted our S&P targets downward. We didn't see the liquidity crisis that developed in the summer.
Is anyone worried about deflation?
Zulauf: The whole process of deleveraging is deflationary. It will last several years. Where most economists will probably err is in how the corporate and household sectors react to this. They probably have built into their models expectations that private households and corporations react to fiscal stimulus as they always did. That is wrong. In previous deep recessions the household sector lost about 5% of its net worth. This time around, it has lost about 20%. Households will become much more cautious for years. Instead of spending, they will save.
There will be changes in the corporate sector, too. S&P earnings peaked at about $100 or so. This year they could slump to $20 or $40. The consensus estimates are way too optimistic. Much depends on whether the problems in the real economy hit the financial industry, causing it to relapse. The behavior and thinking of corporate executives will change dramatically. Companies will repair their balance sheets instead of spending and expanding, and that's why the deleveraging process will take years and years and years. Government and central-bank stimulus won't have the multiplier effects we used to see. Economic growth will be much lower in the next five or six years.
Table: 2008 Roundtable Midyear
And this year?
Zulauf: We are in a synchronized global slump. Peak to trough, U.S. GDP probably goes down by five percentage points.
Could it be worse than Japan?
Zulauf: It could be worse. Deleveraging usually means return on equity drops below previous cyclical lows. Return on equity for the corporate sector peaked around 15%-16%, and previous cyclical lows were about 8%-9%. ROE probably drops below that in this cycle, which will lead to much lower earnings. That feeds into valuations, which means stocks eventually will go much lower, to single-digit-type P/Es and high dividend yields.
In the past 10 or 20 years risk was high, but perceived risk was low. That is why everyone bought the dips and took on leverage. Now we are moving into a world where perceived risk is high but real risk will eventually turn out to be much lower. This will lead to a different valuation of equities and bonds. In two or three years there will be tremendous bargains in the market. But we are not there yet. We are in a structural bear market. This is a transitional year. We'll have bear-market rallies, and then go down more.
Gross: Typically we think of financial leverage, but corporations have been levered in two additional ways. The lower tax rates of the past 10 to 20 years have to [go] back up. Then there is operational leverage, which is no more obvious than in the auto industry. Corporations have been geared to a high level of global consumption, and now they must eliminate plant, labor and such. Based on tax, financial and operational leverage, the outlook for corporate profitability and profit margins isn't good.
Gabelli: Right after Christmas, layoffs will go up sharply.
Archie, you're usually optimistic.
MacAllaster: I can't believe you people can't find one good thing to say about the market, and at its low last year the market was down more than 50%. The bad news is in the market. Earnings are going to come down hard, but the market has come down even harder. Some bargains are out there, though they are hard to find because P/Es are difficult to determine. Still, a lot of companies are selling for well under book value, and some have high yields. The stock market is probably the place to be, particularly financials. Leverage is coming out of companies, and that will continue. But the process has created bargains.
The corporate bond market also is cheap. There are good bonds yielding 9% and 10%. That compares with 10-year government bonds, which yield 2% or 2.25%.
What do you think about bonds, Bill?
Gross: When we talk about the bond market we typically focus on Treasuries. At today's yields, don't touch them.
MacAllaster: And play the stock market in a conservative way. Don't buy stocks on margin. Keep some cash around, as I have. The Treasury secretary was right to bail out the banks first, though. They should go back to the old way of doing things -- lending money to people who are going to pay it back.
The old story in banking was three, six and three: Pay 3% on deposits, charge 6% on loans and hit the golf course at 3 p.m. Now it should be three, six and 20. Don't let anybody with a handicap under 20 get to be head of a bank.
Meryl, how does the market look to you?
Witmer: I agree that this is a stockpicker's market. There are some incredible values, and some incredibly overvalued shares.
Faber: What is overvalued?
Witmer: I have stocks at five times earnings, and then there is Amazon.com [ticker: AMZN] at around 40 times earnings. Amazon has an attractive business, but not that attractive. There is a real divergence in value. There are opportunities, as well, in the corporate-bond market -- first-mortgage bonds on baseload electric-utility companies, for instance, that were priced recently at 8%-8.5%. And this is five-year paper. That's a lot more than you can get in the government-bond market. Down the quality spectrum you'll find bonds yielding 14% and 15%. Let's say the underlying company goes into bankruptcy; you would be creating it at 30 cents on the dollar of replacement value. There are a lot of opportunities out there. It is an exciting time to be a stockpicker.
Mario, care to say something?
Gabelli: In 15 days we will have a new leader who is going to re-brand America. His first priority as CEO of the country is to create jobs and insure that no adult is left behind in this economic system.
The consumer is getting an enormous cash-flow benefit from lower oil prices. There are 240 million cars in the U.S. and 800 million in the world that are saving around $2.50 a gallon on gasoline. People with high credit scores and equity in their homes are saving money. The missing element is confidence. New tax laws are going to help with that. The working person is going to get a financial stimulus, and even under the most bearish scenarios 91% of those who can will be working in December 2009. You're going to see an investment-tax credit and a change in depreciation, encouraging small businesses to make capital investments. On Sept. 15 somebody shut off the lights for the business person. It has been hell since. We need to go from this hell for businesses to a kind of purgatory. More spending on investments and the possibility of a lower tax rate for corporations would send an interesting message to the business world.
That's nice, but what happens now?
Gabelli: Come April or May, the numbers will be a lot better than in the fourth quarter. Car dealers tell us they are starting to sell cars, but the buyers still need financing. Yes, unemployment is going to rise. But once a new president comes in and enacts fiscal stimulus and promises tax cuts, things will start changing. Once businesses see some stability, they can start planning and looking at cost efficiencies.
As far as corporate earnings go, an enormous tsunami hit the economic world. It is no different than labor strikes in the 1960s. When the steelworkers struck, did you base stock multiples on the absence of earnings, or step back and ask what normalized earnings would be over an economic cycle. And shouldn't the P/E multiple expand to account for depressed earnings?
Is this a good year to buy stocks?
Gabelli: I'm going back to what I think will work: POSP. Plain old stock-picking. It will be a good trading market. The markets won't do much more than 5% up or 5% down, but there are plenty of opportunities for financial engineering and value enhancement -- buying and selling, spinning off companies, selling divisions.
Cohen: This will be an interesting year for consolidation in a number of industries. Some companies are under distress because of balance sheets. Others in the same industry have had more financial success.
Gabelli: The natural-gas industry is one example.
Cohen: To the extent there are good opportunities from a valuation perspective, M&A [mergers and acquisitions] could perk up.
Gabelli: Contrary to the conventional thinking that companies don't have liquidity and won't do deals, there will be substantial activity by corporate buyers. But private-equity is handcuffed. Buying and selling businesses and spinning off of divisions will allow capital to flow to where returns are highest, even with an administration that will take a different approach [than the Bush administration] to antitrust issues.
It is going to be harder to borrow money to buy businesses.
Gabelli: It won't be harder for Johnson & Johnson [JNJ], but it will be harder for Steve Schwarzman [CEO of the private-equity firm Blackstone Group (BX).]
Now that we've solved the problems of the economy and the market, let's move on to your picks for '09. Meryl?
Witmer: I have four. Two are asset-heavy, and two are financials. Kaiser Aluminum sells for 23.50 a share. It has 20 million shares. Kaiser's main business is rolling high-quality, heat-treated plate and sheet aluminum used in the aerospace and defense industries and in general engineering. It also produces forged aluminum products for industrial and automotive uses.
How big is the automotive business?
Witmer: It represents about 8% of revenue. Auto-related profits will be down this year, but that will be manageable. The company has gained market share. Except for an insignificant subsidiary, Kaiser doesn't take on price risk in aluminum. It converts aluminum into usable form for customers and hedges out the metal-price risk. Demand for aluminum plate in the aerospace industry is driven partly by airplane growth, but more by the new monolithic construction of aircraft parts.
Monolithic construction involves carving shapes from steel plate. This has created a sea change in demand for Kaiser's product. The benefit for the airlines is lighter, stronger aircraft. Kaiser is paid by the pound, and producing monolithic parts often requires multiples of the actual weight because as much as 90% of the plate ends up on the machine-shop floor as waste. Kaiser has the only mill with excess capacity, so it will be the major beneficiary of the trend. An expansion project started a few months ago.
Kaiser spent some time in bankruptcy court. How is the balance sheet today?
Witmer: It's strong. Kaiser has $50 million of debt. Book value is $950 million, or $47 a share, twice the stock price. About $16 of book is a tax asset allowing the company to pay no tax on earnings for many years. I put a multiple on taxable earnings and add back the value of the NOLs [net operating losses on which tax credits are based]. The company probably earned about $3.50 a share in 2008, similar to 2007. This year is tricky because they are moving around some plant, and spending a little money to make the forged-aluminum business more efficient. They think they'll be able to put some competitors out of business by becoming the low-cost producer. This business makes no money. If they shut it down there will be a cost. If they lower their costs, it will add significantly to earnings.
How much of their defense business is vulnerable to changes in Pentagon priorities? There is talk of shutting or replacing programs.
Witmer: A major product for them is the plate to protect people in military transport vehicles. That's a growing business as vehicles are sent to Afghanistan. It has made up for some weaknesses in other areas. The airplane build that is ramping up will take up almost all their capacity in monolithic construction.
Schafer: Despite the oil-price decline, have there been any cancellations of aircraft?
Witmer: There are cancellations, but there are fill-ins from the large waiting list. In 2010, earnings could grow from around $3.50 to as high as $6 a share.
Do they supply parts for corporate jets?
Witmer: They do, although this business is small. There are a lot of orders outstanding from airlines, and a lot of planes getting built are using a lot more product from Kaiser. The company will be in the sweet spot for years to come. Let's say they make $5 a share and trade for 10 times earnings. Add back the value of the tax assets and you get a target price of more than $60. Kaiser has a market capitalization of $500 million. Their rolling mill alone, not including other assets, would cost $1.5 billion to replace. The company is selling at a huge discount to replacement value.
My next pick is an electric utility, Allegheny Energy . It trades for $34 a share. Allegheny operates in Pennsylvania, West Virginia, Virginia and Maryland. Its terrific CEO, Paul Evanson, took Allegheny from the brink of bankruptcy in 2003 to investment grade as of May 2007. The company's generation capacity consists of 48 million megawatt hours, sold to 1.6 million customers. Its plants are mainly coal-fired, and its new scrubbers should be in service by the end of 2009, giving it relatively clean electricity production. It is worth owning some electric-utility assets, especially with the focus on electric-powered cars.
Allegheny could earn about $2.20 to $2.30 a share in 2008, so on the face of it, it's not cheap. But a series of events should take place in the next three years that have earnings progressing to $2.90 in '09, $3.60 in 2010 and $5 to $6 in 2011. The events are largely locked in: agreed-to rate increases in Pennsylvania and Virginia and a guaranteed return on its investment in a transmission line that links its western Pennsylvania capacity to power-deficient suburban Washington, D.C.
Gabelli: The grid system Obama is planning will help all the utilities.
Witmer: And create jobs. Allegheny had a lot of trouble getting this transmission line through. In the end, the unions talked to the governors of the states involved about the jobs it would create. In 2011 the electricity Allegheny generates in Pennsylvania will start selling at market rates, which accounts for the large range of my earnings estimates for that year. The stock could trade for a minimum of 10 to 11 times earnings at that point, giving us a two-year target of 50 to 60 a share. The dividend yield is a relatively modest 1.7%, but the company should be able to increase it.
Most of Allegheny's production will move to market rate, except in West Virginia. In Pennsylvania they get 7 cents per kilowatt hour, which is very low. In New York utilities get 13 to 14 cents. They cut a deal years ago to bring rates up to market over time, and the benefits are finally kicking in. They are installing the scrubbers this year. After that, in 2010, the cash starts coming in.
And your financial picks?
Witmer: Assurant is a diversified insurance company. It trades for 30 a share and has 118 million shares outstanding. Its premier business is creditor-placed insurance policies. It is hired by mortgage-servicing companies to monitor homeowner compliance with home-insurance payments. If those payments stop, Assurant places a policy that is billed to the home owner, but whose payment is guaranteed by the mortgage servicer. The rate is about the same as what the homeowner was paying, but the policy insures only the home, not its contents. It is a relatively lucrative contract.
Its home-insurance business has benefited from the current environment. If people aren't making their mortgage payments, they likely aren't making their insurance payments, either. This business has a combined expense ratio of 70%. In other words, it has 30% margins, due to surging business from the housing crisis. Assurant is implementing a similar program with auto insurers, which has good growth potential.
What are the other business lines?
Witmer: It issues warranty-service contracts on appliances, consumer electronics and the like, another attractive business. It also has a nice employee-benefit business, which focuses on helping small and mid-sized businesses provide insurance for employees. It has a health-insurance business for individuals and small businesses.
Trailing earnings per share is more than $6, so the stock trades for less than five times earnings. Even if you take out what may be excess earnings from the home-insurance business, which we estimate would bring earnings down to $4.25, the stock trades for seven times earnings. But the high level of earnings could persist for many years. Plus, Assurant has other growth initiatives, such as the auto business, and some international opportunities. Book value was more than $31 a share as of Sept. 30, after taking write-downs on the portfolio. Assurant traded above 70 per share in the past, but 50 is a reasonable target in the next year or so.
Archie, do you know this company?
MacAllaster: Not well. There are a lot of low P/Es among insurance companies. Some even sell for under book.
Witmer: Assurant's book value is solid. It owns high-quality corporate bonds. My final pick is Discover Financial, the credit- and debit-card company spun out of Morgan Stanley [MS] in June 2007. It trades for 9.50.
It has a lot of things going against it.
Witmer: That's why the price is low. The company has about the most conservative management in the industry, and has managed its capital well. Discover wisely stopped adding cardholders aggressively in California and Florida years ago, unlike other card issuers. Another lender really should buy this for its ability to assess risk.
Discover has its own credit-card network, like Visa [V] and American Express [AXP]. It has made great strides in getting more acceptance at retailers. It also has a consumer-credit-card lending portfolio and a nice debit-card network. It has a solid balance sheet, with equity to managed assets of 11%. Managed assets include credit-card debt both on the books and securitized.
How has the loss experience been?
Witmer: Better than competitors. Tangible book value at the end of the Nov. 30 quarter was $11 per share. The company also won a large antitrust settlement from Visa and MasterCard [MA] that will add about $2 to book value. The stock is trading for 75% of adjusted tangible book. It's not news to anyone that they will have some credit losses. But with a loan portfolio of about $50 billion and net interest income of $4.4 billion, there is room to fund write-offs. We adjust the quarterly provision for loan losses on the income statement to the amount that Discover actually charges off. The company has been building its loan- loss reserve and taking reserves well in excess of its charge-offs. You need to make this adjustment to get apples to apples comparisons over the quarters.
Adjusting for all one-time items, we get annualized earning power of $1.80 to $2 a share consistently over the past eight quarters. The stock is trading at about five times our view of earnings and at a significant discount to book value.
What are they going to report this year?
Witmer: There is noise in the numbers, and they are building reserves. They could earn $1.70 to $2 a share, excluding one-time stuff. As the U.S. consumer continues righting his balance sheet, Discover will trade closer to 15 to 20 a share.
Black: What is the growth in receivables year to year, and what is the delinquency rate as a percentage of the portfolio?
Witmer: Receivables growth is about 5% to 6%, and the delinquency rate is 4.56% of managed loans. Next year delinquencies could rise toward 6%, but their net yield spread is about 8.5%, so they'll still have income.
No short-sale recommendations? Amazon.com sounds tempting.
Witmer: No shorts. The irrational can get more irrational still, though Amazon is a good company.
Fred, you must be shorting something.
Hickey: I'm not, for the first time in years. I've been riding the gold bull market, which has gone up for eight years, and staying out of technology. Tech has been killed. Nine years later, the Nasdaq is 70% below its March 2000 peak. Many top tech com- panies -- Microsoft , Dell [DELL], Intel [INTC] -- are at 1998 levels. Most of the damage has been done. My put options on Research In Motion [RIMM] and Amazon.com worked fabulously last year. I got rid of my puts in the fall and started buying tech stocks, though I plan to sell them after the Obama inauguration. But some names you could hold through the end of the year. Microsoft is one. At 20, it is lower than 10 years ago, when the company did $12 billion in revenue. Now it does $60 billion.
Witmer: Same market cap?
Hickey: The market cap is similar because they have been buying back shares to offset the dilution due to stock options. The dividend yield is 2.7%. The trailing P/E is 10, something you've never seen for Microsoft. Operating cash flow is $19 billion a year. Gross margins are 81%, which gives them a lot of flexibility to offset any weakness in the top line. As the economy weakens, Microsoft is able to cut costs.
The market misperceives Microsoft. Its most visible part -- PC [personal computer] operating systems -- is shrinking. Windows is just 28% of sales. Less visible, and growing rapidly, is the server and tools business, at 23% of its revenue, up 17% in the latest quarter. The SQL server database business is gaining market share, and a new virtualization product, Hyper-V, is one of the hottest technologies in the market. The real jewel is the business division, which now contributes a third of revenue. It grew 20% in the quarter. This is Office and SharePoint, a content-management product, and Unified Communications. Information Week called SharePoint a juggernaut. Companies like Pfizer use it to develop wikis and blogs. Microsoft is making a lot of money as a pick and shovel provider to the industry.
Gabelli: Why was the case made that they needed Yahoo! [YHOO]?
Hickey: They want to be in the search business. Luckily they didn't get it at the price they first offered, but [CEO Steve] Ballmer is on record saying he'd like to buy Yahoo!'s search-advertising business.
MacAllaster: How would you compare Google [GOOG] to Microsoft?
Hickey: Google's stock went from 700 to 300. Even so, I would rather own Microsoft. The stock could go back up to 30 within a year, though it depends if the market makes a bottom in the fall.
Schafer: What about technology generally?
Hickey: It's a cyclical business, and today it is a part of everyone's life. It is very much exposed to the decline in consumer and business spending. Lots of hardware companies are in trouble. Too many semiconductor companies are still being propped up. There will be a lot of consolidation, and bankruptcies.That's why you want to buy cash-flow-generating businesses.
My second pick is Cadence Design Systems . It fell 80% last year. The company has been around a long time. It is No. 2 in software used to design and develop semiconductors and electronic systems. Competitors are Mentor Graphics [MENT] and Synopsys [SNPS]. Cadence sells for under 4 a share. The company had a revenue-recognition problem and several top executives left, including the CEO. There was a failed attempt to take over Mentor. The company looks to be in disarray, but as with Microsoft, it has lots of flexibility. Gross margins are 78%. Cadence recently announced a significant cost-reduction program, including a 12% cut in its workforce. Up until 2008 it was profitable. Now it's a matter of right-sizing the company, reducing expenses. The stock hasn't been this low since 1994. Five officers and directors bought stock in December, including the interim CEO and CFO, who bought 100,000 shares each.The market cap is around $1 billion. Conservatively, revenue will be about $850 million this year, including $500 million in recurring maintenance and service revenue. The forecast for product revenue is small. There is more cash than debt: $560 million, versus $500 million in convertible notes that aren't due until 2011 and 2013. The stock could double.
MacAllaster: How could they lose money when gross margins are 78%?
Hickey: That's why the CEO is gone.
Gabelli: Why did they go after Mentor?
Hickey: I suspect they were trying to mask revenue deterioration. When things get desperate, companies typically do things like try to buy other companies.
On to gold. You have to protect yourself against potential hyperinflation. All the central banks are printing money now. The bull market in gold was rather orderly for the first eight years. We haven't seen the blow-off phase you get in all bull markets. That's coming. In dollar terms, gold was up 5% or so last year. In Indian rupees it was up nearly 30%. The price of almost all other commodities collapsed. I own bullion, the gold ETF [ SPDR Gold Shares (GLD)], some gold stocks and coins. I couldn't get them as the year progressed because demand was so great. But my first pick today is Market Vectors Gold Miners, an ETF. It sells for 32 and mirrors the NYSE Arca Gold Miners Index, a modified market-capitalization-weighted index of publicly traded gold companies. The top five components are Barrick Gold [ABX], Goldcorp [GG], Newmont Mining [NEM], Kinross Gold [KGC] and Agnico-Eagle Mines [AEM].
How has it performed?
Hickey: The ETF dropped 26% last year, so while gold held up, the stocks didn't do as well. One reason is that oil prices were so high; oil is a key component in production costs. Now crude is falling, which will be a help to gold miners in 2009. The fund has $2 billion in assets. It has been around since 2006, and the expense ratio is 0.55%. It gives you broad exposure to the gold-stock business.
My second gold pick is Agnico-Eagle Mines . It fell about 6% last year, so it did relatively well. It trades for 51. Not every stock fell in the 1930s, either. Homestake Mining went from 65 a share in 1929 to 500 in 1935. It had two things going for it: rising production and an increase in the price of gold, against a devalued dollar.
Zulauf: The U.S. was on the gold standard. It devalued the dollar and revalued gold relative to the dollar, and the price went up to 35 an ounce from 28.
Hickey: Gold could go to $2,000 an ounce this year, or next. The Fed is going to pump all kinds of money into the economy and it won't help. It won't get to corporations or the consumer. But it might get to gold and cause yet another bubble. Gold is one of the few assets that has performed well. And, there is a tremendous shortage of physical gold. In times of turmoil it is a classic hedge against inflation.
Gabelli: People withdraw their cash from banks and buy safes and guns and gold.
Zulauf: You can't get a safe at a Swiss bank anymore because they are all rented out.
MacAllaster: Agnico-Eagle doesn't make much money and pays almost no dividend. It earned more than a dollar a share in 2006 and '07. Earnings were cut in half in 2008 because one mine produces zinc and the price of zinc collapsed. The real kicker is that Agnico will quadruple production, from 300,000 ounces in 2008 to 1.2 million ounces in 2010. Capital expenditures will decline to $146 million by 2010 from $900 million in 2008. They have five new mines, in Canada, Mexico and Finland, countries with low political risk. Production costs are around $300 an ounce.
Zuluaf: The industry's break-even is about $430 an ounce. There is a limited amount of gold in the earth's crust, and most of it is in politically unstable places. It is cheaper to buy mining stocks than build new mines.Hickey: Very few gold miners will grow production or earnings this year and next. Agnico's earnings are going up by orders of magnitude. They'll do 40 or 50 cents this year, and $2 to $5 when the new mines come on. Because there is excitement about this company, they were able to do a stock offering in December. There are still a lot of momentum investors. This stock will have momentum.
I also own PowerShares DB Agriculture Fund, an ETF and another play on inflation protection. Assets are equal-weighted among four commodities: wheat, corn, soybeans and sugar. The index is rebalanced every November to maintain the weighting. The management fee is 0.75 basis points [three-fourths of a percentage point].
Gross: It's not worth 75 basis points.
Hickey: It is hard for retail investors to buy futures. It is worth it to them to pay professional managers. The DBA sells for 26 a share. It was down 21% last year.
If you buy this now, when do you sell?
Hickey: After commodities double. Farmers in Brazil and Argentina are having credit problems. They can't buy fertilizer and tractors. Argentina's wheat output may be down 37% this year. There are issues of supply and demand.
My last pick is the iShares FTSE/Xinhua China 25 ETF, which Marc shorted last year. Chinese stocks plummeted 65% in 2008. The bubble burst and they are in a major bear market. This index holds 25 of the largest-cap stocks in China. The fund's top holdings are China Mobile [CHL], China Life Insurance [LFC], Industrial and Commercial Bank of China [349.Hong Kong] and PetroChina [PTR]. This is the most liquid China ETF, with $6 billion of assets. The current price is $31. The average P/E ratio of the stocks is 11.9, and price to book value is 1.7 times. The management fee is 0.74 basis points and the dividend yield is about 2%. As the world emerges from recession, I want to be invested in China. Unlike the West, it isn't burdened by massive debts.
Zulauf: You don't know that yet. There is a dramatic real-estate overhang, and it was all financed by Chinese banks.
Hickey: There may be more problems coming, but the Chinese pay cash for cars. They have $2 trillion of reserves. There is more opportunity there for growth.
Faber: The Chinese economy is in a recession. Emerging markets will have bad economies for some time. But they are reasonably attractive on the basis of valuation.
Zulauf: The Chinese have this mix of a command economy and a capitalist system. It has advantages over our system of free markets and socialism. They are much better at setting long-term goals.
Faber: Asian and Arab countries also have a different concept of time and endurance. Nobody has talked about today's horrendous geopolitical situation. There is a huge mess in Afghanistan, Pakistan, India. The Chinese and Russians won't send divisions with tanks to attack U.S. troops in Afghanistan, but they are very good at channeling weapons into the area.
Hickey: Good reasons to own gold and food.
Faber: I would also consider owning defense-related stocks. There is a transition of power in the world, and countries like China and India are becoming more important. This will lead to tremendous tensions.
Zulauf: China's big mistake was gearing almost all of its manufacturing base to the industrialized economy. In the next 10 years it will try and probably succeed at developing more domestic demand. Many countries that have been dependent on the U.S. consumer are realizing they have to change and go their own way. In the next decade you will see different blocs building. This isn't good for the world.
Faber: The U.S. had a credit bubble. China had an oversupply bubble and an investment bubble. Suddenly the exports aren't there, so there's a double whammy.
Cohen: China's stimulus plan looks a lot like what we expect the Obama administration to put forward. The Chinese are worried about unemployment because thousands of factories have been closed in the Pearl River Delta. They have a shortage of infrastructure. There is a green orientation -- a focus on being more energy-efficient. One big difference is that the long-term focus of government policy here will be raising the savings rate. In China it will be pushing the savings rate down.
Hickey: Here's another difference: They can afford the stimulus plan, and we can't.
Thanks, Fred.
America's Coming Financial Vortex;6 Predictions For 2009-2012
It has been an incredible year loaded with surprises but I think that the next few years will surprise even more. Whenever I feel certain about something coming, I 'm glad to put it in print. In 2004, I had successfully forecast many economic events such as the housing bubble popping and the credit crisis among other events. Current economic conditions and political outcomes have laid the groundwork for more events that we should be prepared for. All of these events combine to create a "Financial Vortex" that will hit us in the coming years.
First of all, be aware of what current conditions will help lay the groundwork for this financial vortex. They are:
America's debt load. The U.S. government has now $12 trillion in debt. Consumers and businesses are drowning in debt. America's gross domestic product (GDP) is about $13 trillion yet its total debt is over $44 trillion.
Derivatives. Derivatives are complicated, arcane and risky securities that now total about $500 trillion. That makes this market ten times greater than the dollar value of the world economy which is just under $50 trillion.
Unfunded Liabilities. The current future tally of the unfunded liabilities of Social Security, Medicare and Medicaid is nearly $99 trillion.
Growth of government. The expansion of the government's involvement in the economy is (and will be) massive. Taxes, regulations, controls, spending, etc. at all levels of government (both domestic and international) will be problematic by an order of magnitude that the private sector will not be able to tolerate.
Think about it for a moment. The past few months have shown us what a few trillion in bad debt and derivatives can do to the market. The Dow is down several thousand points in the past few months and is down nearly 40% since hitting its all-time high in October 2007 of 14,164.53. What will happen to the stock market when many multi-trillions of debt, derivatives and unfunded liabilities start hitting us like a powerful vortex in the coming years? The economy is extraordinarily weak right now and it would not take much to see millions of hard-working folks get devastated. It is time to prepare. America needs to know what is coming. Some of these events are now unavoidable so being fore-warned and getting prepared is crucial.
Here are my forecasts for what I believe is coming during the next few years:
1. You will see an inflationary depression that will be evident by 2010.
Maybe I'll be off a few months either way but an inflationary depression is almost guaranteed. Why? The latest batch of elected officials see government intervention as either a moral good or a necessary evil. The most likely policy initiatives that we will see in the coming months will be government controls, increased taxes and extraordinary "money" creation (inflating the money supply). In fact we have (and will) see trillions of new dollars will flood the economy in the coming months. This will probably cause the stock market and some economic indicators to rise and give the illusion of economic health during early 2009. This will cause many commentators to proclaim that we are coming out of the current recession. People will think that government intervention worked. Typically, government intervention only alleviates some of the symptoms in the short-term while postponing the problem(s) toward the long-term. Right now many commentators are calling the current economic environment "deflationary" but it is massive de-leveraging by huge financial entities that are selling off everything from stocks to commodities to accrue cash and stave off bankruptcy. As trillions of dollars flood into the economy, that condition will change. If they report the statistics properly, then we will see a contracting economy (measured by GDP) coupled with rising prices. A good example of this is Venezuela where that economy is struggling while their inflation rate is currently over 36% (as of October 2008). The government, in an attempt to revive consumption and job creation will increase the money supply by an order of magnitude never seen before in this country. Seeing the inflation rate soar to 20% and beyond during 2010 (or 2011) is a solid bet.
2. Unemployment in the private sector will soar into double-digits by 2010.
As the recession morphs into a depression and as the government grows partly as a "solution" to economic difficulties, the increased burdens of government (taxes, controls, spending, etc.) will grow to burdensome levels for both consumers and businesses. Government spending on unemployment benefits and "make work" projects will soar to address the large job losses in the private sector. Right now you should re-assess your job, your company and your industry to see if you are at risk.
3. More state and municipal governments will be federal bailout candidates.
I forecast this condition many months ago in my national seminars but recently this became headline news so it's not such a great forecast new.. California and New York State are already seeking taxpayer money from the Federal government. However, we will see much more of this. During 1995-2008, many state and local governments over-extended themselves. Because they thought that good times (and housing booms) would last indefinitely, they took on more spending and more borrowing. Many of these jurisdictions will be forced into either spending cuts, higher taxes or both. Some will be forced into bankruptcy. Because of these events, there will be some areas that will experience social unrest due to difficult financial conditions.
4. Commodities will be in the next leg of their long-term bull market starting in 2009.
Commodities such as oil, grains, precious metals, etc. had a great upleg in early 2008 and then had a brutal correction during the second half. Although much of it is attributed to deflation and "demand destruction", these conditions are short-lived. Why? Two basic reasons; shortages (supply destruction) and rising inflation. Since government policy makers will make every effort to avert an economic contraction, they will flood the economy with inflation and renewed government spending. Economic policy decision-makers at the federal level think that "increased consumption" is the key to economic growth because they are influenced by the Keynesian school of economics. The world hasn't figured out yet that John Maynard Keynes' policies are flawed and dangerous. The bottom line is that conditions are ripe for commodities to resume their bull market and reach new highs during 2009-2010. As an offshoot of this, you will also see conflicts across the globe tied to natural resources as countries with growing populations need more food, water, etc.
5. We will see oil hit $200 as Peak oil becomes obvious to all during 2009-2012.
Don't be fooled by the recent drop in oil from $147 in the summer of 2008 to $50 during November 2008. the recent data from the world energy market indicates that oil depletion ("supply destruction") is far more severe than the recent headlines blaring the misleading condition of "demand destruction". The most severe energy crisis in history is in my mind an unavoidable certainty during the next few years. America needs to go full-bore toward energy independence since we will have no choice. This energy crisis will be very difficult to get through and will cause tremendous social and economic difficulty.
6. International conflicts over natural resources will hit the headlines during 2009-12.
As governments across the globe seek to address the wants needs of their growing populations, there will be aggressive competition for the world's limited resources. Natural resources will be seen as strategic as well as economic. National and economic security for America will be a vital concern.
Now you can see why I refer to it as a "Financial Vortex". We pray for our country and we hope to get through this with a minimum of suffering but it behooves all of us to be ready. It is better to prepare for problems that may occur than to ignore reality and be set up for pain. Although the Financial Vortex conference will be held in New Jersey on December 6, 2008, let me share with you a few of the strategies that will be covered that day:
Buy gold and silver bullion. Yes…there have been physical shortages reported but that shouldn't stop you from getting some for your portfolio. Precious metals retain their value during a period of economic uncertainty and rising inflation.
Keep a cash cushion. Have money set aside in a safe venue such as a treasury money market fund. This is not for long-term purposes since inflation will be a major issue; it is there for an emergency fund for day-to-day needs.
Shift your retirement portfolio into stocks and ETFs tied to "human need" such as food, water, energy, etc. These companies and sectors will have a better time surviving the coming years than other sectors that are problematic such as real estate, financials and cyclicals (such as autos and other "big ticket" items). I believe that much of the conventional stock market will get slammed.
The Financial Vortex is coming. Millions will be blindsided but those that prepare will survive and even thrive. I am doing my conference primarily because I want people to be safe and do those things that will ensure greater financial security. It is also why experts such as David Morgan, Jay Taylor and Roger Wiegand will join me that day so that people can get specifics on what to expect and how to prosper. The bottom line is that it is better to be safe than sorry.
Sector Rotation for Recession - Lessons from the Business Cycle
http://www.marketoracle.co.uk/Article3618.html
In their never ending pursuit to uncover the next undervalued company, portfolio managers and investors often forget how equities, as a whole, fit into the stock market and business cycles. Though it is important to focus on the individual issues, it is never wise to forget about the surrounding environment and its positive or negative influences.
The basic pattern of the business or economic cycle has four steps. These steps, though never exactly unfold the same during each cycle, the basic structure remains firm and should be remembered.
1. Recession. A decline in the real GDP that occurs for at least two or more quarters. Recessions feed on themselves. During a recession, business people spend less than they once did. Because sales are failing, businesses do what they can to reduce their spending. They lay off workers, buy less merchandise, and postpone plans to expand. When this happens, business suppliers do what they can to protect themselves. They too lay off workers and reduce spending. Unemployment starts to rise (Chart 2).
As workers earn less, they spend less, and business income and profits decline still more. Businesses spend even less than before and lay off still more workers. The economy continues to slide.
2. Low Point, or Depression. State of the economy where there are large unemployment rates, a decline in annual income, and overproduction. The time at which the real GDP stops its decline and starts expanding; the lowest point. Sooner or later, the recession will reach the bottom of the business cycle. How long the cycle will remain at this low point varies from a matter of weeks to many months. During some depressions, such as the one in the 1930s, the low point has lasted for years.
3. Expansion and Recovery. A period in which the real GDP grows; recovery from a recession. When business begins to improve a bit, firms will hire a few more workers and increase their orders of materials from their suppliers. Increased orders lead other firms to increase production and rehire workers. More employment leads to more consumer spending, further business activity, and still more jobs. Economists describe this upturn in the business cycle as a period of expansion and recovery.
4. Peak. The point at which the real GDP stops increasing and begins its decline; the highest point. At the top, or peak, of the business cycle, business expansion ends its upward climb. Employment, consumer spending, and production hit their highest levels. A peak, like a depression, can last for a short or long period of time. When the peak lasts for a long time, we are in a period of prosperity.
The stock market (Chart 3) is a well proven leading indicated on the business cycle and normally leads by 6-9 months. The rise and fall of sectors within the equity markets provides ample clues to the investor of the correct phase of the business cycle.
For example, if a time slice from the last 2-3 months were examined closely, the following economic and stock sector evidence would be found. Interest rates are now falling (Chart 1). Gold and oil are making all-time highs. Defensive groups such as health care and staples are some of the top performing groups. Financials and discretionaries have started declining months ago (both are leading indicators on the stock market). Basic materials and consumer goods are trading flat. All of this data would suggest a peak in the economy has developed and that the stock market (usually 6-9 months behind the economy) has already topped. Technical models indicate the crest for global markets was in October.
Bottom line: The current fundamentals of a company can be greatly influenced by the surrounding economy. By understanding the basic structure of the business cycle, investors can determine the present position of the cycle and anticipate a weaker or stronger economy in the near future. The business cycle has one of the strongest influences on the present and future earnings of a organization.
Investment approach: Portfolios should be weighted toward sectors that have proven strength in economic contraction periods. This includes defensive groups, utilities and pharmaceuticals. Investors should also consider under weighting transportation, technology, basic industry and capital goods. These last groups usually perform poorly during economic slowdowns.
Additional information about the economy, global equity markets and commodities can be found in the February newsletter.
Your comments are alway welcomed.
By Donald W. Dony, FCSI, MFTA
www.technicalspeculator.com
6 predictions for 2009-2012
America’s Coming Financial Vortex
6 predictions for 2009-2012
by Paul Mladjenovic | November 26, 2008
It has been an incredible year loaded with surprises but I think that the next few years will surprise even more. Whenever I feel certain about something coming, I ‘m glad to put it in print. In 2004, I had successfully forecast many economic events such as the housing bubble popping and the credit crisis among other events. Current economic conditions and political outcomes have laid the groundwork for more events that we should be prepared for. All of these events combine to create a “Financial Vortex” that will hit us in the coming years.
First of all, be aware of what current conditions will help lay the groundwork for this financial vortex. They are:
America’s debt load. The U.S. government has now $12 trillion in debt. Consumers and businesses are drowning in debt. America’s gross domestic product (GDP) is about $13 trillion yet its total debt is over $44 trillion.
Derivatives. Derivatives are complicated, arcane and risky securities that now total about $500 trillion. That makes this market ten times greater than the dollar value of the world economy which is just under $50 trillion.
Unfunded Liabilities. The current future tally of the unfunded liabilities of Social Security, Medicare and Medicaid is nearly $99 trillion.
Growth of government. The expansion of the government’s involvement in the economy is (and will be) massive. Taxes, regulations, controls, spending, etc. at all levels of government (both domestic and international) will be problematic by an order of magnitude that the private sector will not be able to tolerate.
Think about it for a moment. The past few months have shown us what a few trillion in bad debt and derivatives can do to the market. The Dow is down several thousand points in the past few months and is down nearly 40% since hitting its all-time high in October 2007 of 14,164.53. What will happen to the stock market when many multi-trillions of debt, derivatives and unfunded liabilities start hitting us like a powerful vortex in the coming years? The economy is extraordinarily weak right now and it would not take much to see millions of hard-working folks get devastated. It is time to prepare. America needs to know what is coming. Some of these events are now unavoidable so being fore-warned and getting prepared is crucial.
Here are my forecasts for what I believe is coming during the next few years:
1. You will see an inflationary depression that will be evident by 2010. Maybe I’ll be off a few months either way but an inflationary depression is almost guaranteed. Why? The latest batch of elected officials see government intervention as either a moral good or a necessary evil. The most likely policy initiatives that we will see in the coming months will be government controls, increased taxes and extraordinary “money” creation (inflating the money supply). In fact we have (and will) see trillions of new dollars will flood the economy in the coming months. This will probably cause the stock market and some economic indicators to rise and give the illusion of economic health during early 2009. This will cause many commentators to proclaim that we are coming out of the current recession. People will think that government intervention worked. Typically, government intervention only alleviates some of the symptoms in the short-term while postponing the problem(s) toward the long-term. Right now many commentators are calling the current economic environment “deflationary” but it is massive de-leveraging by huge financial entities that are selling off everything from stocks to commodities to accrue cash and stave off bankruptcy. As trillions of dollars flood into the economy, that condition will change. If they report the statistics properly, then we will see a contracting economy (measured by GDP) coupled with rising prices. A good example of this is Venezuela where that economy is struggling while their inflation rate is currently over 36% (as of October 2008). The government, in an attempt to revive consumption and job creation will increase the money supply by an order of magnitude never seen before in this country. Seeing the inflation rate soar to 20% and beyond during 2010 (or 2011) is a solid bet.
2. Unemployment in the private sector will soar into double-digits by 2010. As the recession morphs into a depression and as the government grows partly as a “solution” to economic difficulties, the increased burdens of government (taxes, controls, spending, etc.) will grow to burdensome levels for both consumers and businesses. Government spending on unemployment benefits and “make work” projects will soar to address the large job losses in the private sector. Right now you should re-assess your job, your company and your industry to see if you are at risk.
3. More state and municipal governments will be federal bailout candidates. I forecast this condition many months ago in my national seminars but recently this became headline news so it’s not such a great forecast new.. California and New York State are already seeking taxpayer money from the Federal government. However, we will see much more of this. During 1995-2008, many state and local governments over-extended themselves. Because they thought that good times (and housing booms) would last indefinitely, they took on more spending and more borrowing. Many of these jurisdictions will be forced into either spending cuts, higher taxes or both. Some will be forced into bankruptcy. Because of these events, there will be some areas that will experience social unrest due to difficult financial conditions.
4. Commodities will be in the next leg of their long-term bull market starting in 2009. Commodities such as oil, grains, precious metals, etc. had a great upleg in early 2008 and then had a brutal correction during the second half. Although much of it is attributed to deflation and “demand destruction”, these conditions are short-lived. Why? Two basic reasons; shortages (supply destruction) and rising inflation. Since government policy makers will make every effort to avert an economic contraction, they will flood the economy with inflation and renewed government spending. Economic policy decision-makers at the federal level think that “increased consumption” is the key to economic growth because they are influenced by the Keynesian school of economics. The world hasn’t figured out yet that John Maynard Keynes’ policies are flawed and dangerous. The bottom line is that conditions are ripe for commodities to resume their bull market and reach new highs during 2009-2010. As an offshoot of this, you will also see conflicts across the globe tied to natural resources as countries with growing populations need more food, water, etc.
5. We will see oil hit $200 as Peak oil becomes obvious to all during 2009-2012. Don’t be fooled by the recent drop in oil from $147 in the summer of 2008 to $50 during November 2008. the recent data from the world energy market indicates that oil depletion (“supply destruction”) is far more severe than the recent headlines blaring the misleading condition of “demand destruction”. The most severe energy crisis in history is in my mind an unavoidable certainty during the next few years. America needs to go full-bore toward energy independence since we will have no choice. This energy crisis will be very difficult to get through and will cause tremendous social and economic difficulty.
6. International conflicts over natural resources will hit the headlines during 2009-12. As governments across the globe seek to address the wants needs of their growing populations, there will be aggressive competition for the world’s limited resources. Natural resources will be seen as strategic as well as economic. National and economic security for America will be a vital concern.
Now you can see why I refer to it as a “Financial Vortex”. We pray for our country and we hope to get through this with a minimum of suffering but it behooves all of us to be ready. It is better to prepare for problems that may occur than to ignore reality and be set up for pain. Although the Financial Vortex conference will be held in New Jersey on December 6, 2008, let me share with you a few of the strategies that will be covered that day:
1- Buy gold and silver bullion. Yes…there have been physical shortages reported but that shouldn’t stop you from getting some for your portfolio. Precious metals retain their value during a period of economic uncertainty and rising inflation.
2- Keep a cash cushion. Have money set aside in a safe venue such as a treasury money market fund. This is not for long-term purposes since inflation will be a major issue; it is there for an emergency fund for day-to-day needs.
3-Shift your retirement portfolio into stocks and ETFs tied to “human need” such as food, water, energy, etc. These companies and sectors will have a better time surviving the coming years than other sectors that are problematic such as real estate, financials and cyclicals (such as autos and other “big ticket” items). I believe that much of the conventional stock market will get slammed.
The Financial Vortex is coming. Millions will be blindsided but those that prepare will survive and even thrive. I am doing my conference primarily because I want people to be safe and do those things that will ensure greater financial security. It is also why experts such as David Morgan, Jay Taylor and Roger Wiegand will join me that day so that people can get specifics on what to expect and how to prosper. The bottom line is that it is better to be safe than sorry.
http://www.financialsense.com/fsu/editorials/2008/1126.html
How Does One Invest For "Muddle Through"?
http://globaleconomicanalysis.blogspot.com/2008/01/how-does-one-invest-for-muddle-through.html
A Whole Lotta Flation
Before we address specific ideas, let's tackle a common misconception that somehow we are going to have both inflation and deflation at the same time. The idea behind this faulty premise is that prices of things we need (food and energy) are going to rise and prices of things we want but do not need (manufactured goods from China) are going to fall.
While that is possible in regards to prices, the idea that we can have inflation and deflation at the same time is impossible. Inflation is an expansion of money and credit and deflation is the opposite. It is fundamentally impossible in the context of a correct definition to have inflation and deflation at the same time.
What about the prices of necessities?
Wendy, you may claim that all you care about is the prices of the goods and services you use, but I don't think you really mean it, at least from an investment standpoint.
In an investment context, it is important to understand why prices are rising. For example, if gasoline and food prices are both rising because of a misguided ethanol policy helped along by peak oil and failed administration policy in the Mideast (I believe that to be the case), the treasury market is going to respond in a far different manner than if energy prices are going wild because the Fed is printing money.
The average person at the pump may not care, but the investor better care because it matters. Certainly there is nothing the Fed can do about misguided administration policies but the Fed can address some money supply concerns.
Base Money Supply
click on chart to see a sharper image
Those who claim the Fed is currently printing like mad simply have no solid evidence to support it. What the printing like mad crowd is talking about is M3 (credit) which indeed has been soaring. Unfortunately these "printing" claims keep making the rounds but repeating a false claim 200 times does not make it the truth.
Printing claims are typically made by people who do not understand the difference between money and credit. While credit acts like money in most circumstances, when debt can no longer be serviced, the difference is enormous.
Right now we are seeing huge warning signs that debt can no longer be serviced. Those signs are soaring foreclosures, soaring bankruptcies, soaring defaults in credit cards, and a slowdown in consumer spending.
In spite of what one thinks about the CPI and how manipulated it might be, one can expect treasuries to rally in this environment. Indeed they have.
IEF Lehman 7-10 Year Treasury Fund
click on chart to see a sharper image
Many have emailed me with thought on the CPI rising a seasonally adjusted 0.8 percent in November, a whopping 4.6% increase from a year ago and screaming "Where are the bond vigilantes?"
My response was the treasury market is acting quite rationally in the face of rising defaults across the board in all kinds of financials. This leads us to a key idea.
Not All Muddle Throughs Are Created Equal
If one expects some sort of muddle through in which banks are impaired because of writeoffs, where foreclosures and credit card defaults are rising, and unemployment is about to increase dramatically, the correct answer is to continue to hold treasuries regardless of what one feels about the CPI and prices.
If one thinks the Fed will print its way out of deflation, then one certainly does not want to be in treasuries other than perhaps shorter term duration TIPS.
The nature of the "muddle through" will dictate investment strategy.
Not Your Father's Stagflation
The term stagflation is certainly being bandied about recently. I do not like the term stagflation because it is generally used in reference to prices while proper use of the terms inflation and deflation pertain to the expansion/contraction of money and credit.
In addition, this stagflation has a peculiar twist: falling interest rates. Typically, falling interest rates are associated with disinflation or deflation, not stagflation. Thus, stagflation proponents perhaps need to consider the possibility that "This is not your father's stagflation".
That last comment is in reference to Not Your Father's Deflation: Rebuttal and Peter Schiff Replies to Deflation Rebuttal.
Searching For Yield & Searching For Guarantees
I have received many emails recently in regards to yield and inflation adjusted returns. The most common complaint goes something like this: "Prices are rising at x%, the CPI is a crock, so if I get less return than x% then I am losing money." Yes, that is likely true. It has also fueled bubbles in many equity markets (and perhaps even commodity markets) by those looking to do something about it.
However, no one is entitled to positive returns. It is entirely possible that for a period of time the best thing one can do is minimize "real" (CPI adjusted) losses.
Just a bit ago someone replied to one of my posts "As long as banks can borrow short-term with negative real-rates and lend long-term banks effectively have a license to print money."
That is incorrect. Rising prices of goods and services does not guarantee rising price of any investment, including commodities.
In a muddle through environment, pension plan assumptions for 10% returns are going to be hard pressed to make. Those taking excessive risks to make them might find themselves with hugely negative returns instead.
An Asymmetrical Unwind of the Credit Bubble
Assuming we do muddle through, there is still a strong likelihood for a continued asymmetrical unwind of the credit bubble.
Muddle Through Assumptions
•Housing is going to continue to be weak
•Commercial real estate is going to be weak
•Capital impairments at banks will be an issue
•Unemployment is going to rise
•Consumer spending will be weak
•Credit card defaults will rise
•Foreclosures will rise
•Corporate earnings will be weak
•The Yen carry trade will unwind
Implications of that last point are particularly ominous. A carry trade unwind has the potential to affect nearly every equity class. In addition, there are obvious implications on emerging markets and China if US consumer spending is weak.
In the muddle through scenario, returns will be poor, and CPI adjusted returns might even be negative, assuming the prices of essential goods like food and energy continue to rise as stated in Wendy's email.
However, before anyone writes off the deflation thesis, please consider Things That "Can't" Happen.
Muddle Through Assumptions Discussion
It is no secret that massive amounts of mortgage resets for both Alt-A and Pay Option AMS will take place over the next few years with the Pay Option Arm problem peaking in 2011 as described in Housing: The Worst Is Yet To Come.
It was just six short months ago where corporate profits were expected to rise dramatically. Many claimed forward looking PEs were 16 or so and thus the stock market was "cheap". Some of us challenged that notion. We were correct.
Much of those earnings were based on financial engineering that is now producing writeoffs. Another portion of those earnings estimates were based on deal making profits at the brokerages like Bear Stearns (BSC), Morgan Stanley (MS), Merrill Lynch (MER), and Goldman Sachs (GS). These earnings were a complete mirage at best and unsustainable at worst.
Think earnings of homebuilders like Toll Brothers (TOLL), Lennar (LEN), or Pulte (PHM) are going to return? What about earnings at retail stores like Target (TGT) or Wal-Mart (WMT) now that cash out refinancing to support consumption is dead and overbuilding has increased competition?
The environment is different now. Leverage Buyout and commercial real estate deals on absurd terms are no longer getting done, the appetite for securitized junk has fallen off the cliff, and SIVs that may cost Citigroup (C) its financial life are now a thing of the past.
The credit conditions that fostered those so called "profits" are not returning no matter what the Fed does. S&P earnings are now estimated at 23 not 16. A PE of 23 is not cheap. In fact it is more closely associated with market peaks. If more writedowns than expected come, even 23 will be too low an estimate.
With sinking corporate profits, will corporate expansion and jobs be strong? Hardly. To muddle through, the Fed is going to have to cut interest rates. So will Europe and the UK. Japan on the other hand may have to start raising interest rates. This set of circumstance will lead to a forced unwind of the carry trade.
It's fine if you have a different set of assumptions about muddle through, just be prepared to defend them. But please remember that for the last few years nearly every investment class rose in union. It is entirely possible if indeed not likely, that the reverse happens for a few years. What was correlated on the way up can certainly remain correlated on the way down, even if there is an asymmetrical skew to the unwind.
In a muddle through economy with weak corporate earnings, mistakes will be punished quickly and severely. Thus safety should be the primary concern. Furthermore, risk in equities and risk in the economy are both heavily skewed to the downside.
Return of capital rather than return on capital cannot be overstressed. This idea and other means of "investing safely" regardless of what scenario one believes was discussed in How does one invest for inflation and deflation?
The key idea added here is to expect a continued asymmetrical unwind of the credit bubble and to take advantage of that as one can. In the muddle through economy, the Fed will fight deflation tooth and nail, and on again off again win and lose some battles.
Long-short strategies that can play relative strength within sectors and or stronger sectors vs. weaker sectors may be the best equity strategy going forward. Otherwise there is simply nothing wrong with building a CD or treasury ladder while one waits for better opportunities down the road.
Click Here To Contact Me about Investing For Muddle Through
How does one invest for inflation and deflation?
http://globaleconomicanalysis.blogspot.com/2007/12/how-does-one-invest-for-inflation-and.html
Rather than looking at things just from a deflationary viewpoint let's consider investment themes for various scenarios.
Investment Themes For Hyperinflation
•In hyperinflation the last place one wants to be is in cash.
•Commodities in general are a standout.
•Gold is a standout.
•Precious metals are a standout.
•Property is a winner.
•Equities are a winner.
•Treasuries are distinct losers if not an outright short.
•Foreign currencies
•Energy
The single best asset for a hyperinflation scenario is actually property. With housing or commercial real estate one can borrow with next to nothing down. No other asset class offers as much leverage. With no skin in the game one might amass $1 million dollars worth of property that might sell for an unbelievable amount in a few short years if not sooner.
Is there a catch? Why yes there is. One needs to be able to make mortgage payments on the loan. That means the timing of the hyperinflation better be spot on. It also means that property values better keep on rising from the moment the leverage is taken or income must rise enough to afford the mortgage if it does not.
Should ever one get in a position via excess leverage to not be able to sell the asset for more than one paid while not being to afford the mortgage payment, foreclosure or bankruptcy occurs. Losing a job ad being underwater on leveraged property is an instant enormous headache.
Leverage is obviously the biggest pitfall for the hyperinflationary investor. But even without excessive leverage, housing has been getting clobbered for two years, longer in Florida. Commodities, however have been on a tear. Commodities also benefit from what appears to be near insatiable demand from China.
Can anything go wrong with commodities? Actually yes. China and emerging markets could put on the brakes regardless of what happens to the US dollar. Furthermore, with the US headed into a recession, demand for base metals could collapse. Also note that treasury bears (except for nimble traders) have not exactly fared well to say the least.
Regardless of what happens to base metals or treasuries, peak oil just might keep energy prices high. Thus there are additional reasons to be bullish on energy regardless of the inflation/deflation debate.
Hyperinflation involves a complete collapse in confidence of a currency but with currencies there are always relative values. Commodity producing countries have strong currencies that hyperinflationists think have more room to run.
Is there a completely safe way to invest for hyperinflation? I think so but the ideas might seem rather boring to many. For example: Everbank has MarketSafe® Gold and Silver CDs. I talked about those products in A Safe Way to Own Gold and Silver.
The Everbank MarketSafe® products are principal protected CDs whose return is tied to the performance of gold and silver. Even if gold and silver collapsed, one's principal is protected as long as one does not exceed the FDIC limit. The products are suitable for investors with a safety first attitude, yet wanting a hyperinflation hedge.
A second safe way to play for hyperinflation is in Treasury Inflation Protected Securities. Here is a second article about TIPS.
Where are we now?
Collapsing property values simply are not synonymous with hyperinflation. So inquiring minds might be asking: Did we already have a hyperinflation (of credit) and is a hyperinflation by monetary printing going to follow? The articles above might help resolve those questions.
Regardless of what one thinks is coming, one look at millions of foreclosures happening right now suggests there is plenty of reason to be cautious here.
Investment Themes For Deflation
•In deflation, debt is the enemy.
•Risk is to be avoided.
•Cash is raised.
•Treasuries are sought out as a safe haven.
•CD ladders offer a good investment structure.
•Gold, acting as money does well.
•Select equity shorts or PUTs are a standout.
•Renting as opposed to owning a house should be considered.
•Currency plays
One can see the effect of excessive risk with the housing implosion regardless of what one thinks is going to happen down the line. Rising unemployment and/or falling income with no way to pay the bills is the chief concern. Before even thinking of investing in a deflationary environment, one should pay off all credit card debt, live below ones means, and have a cash cushion equal to one year's salary to pay the bills.
After decades of inflation the overall deflation theme may be hard to take, but it is what it is. The single best performing asset in this environment might be equity puts. However, just like those overleveraged in housing found out, timing must be precise. Anyone shorting or buying puts on strong stocks have gotten killed. Even index PUTs and index shorts have fared miserably for all but nimble traders. On the other hand, those in housing related shorts have done well. Those in gold have also done well.
Inquiring minds will note that gold is in the hyperinflation category and the deflationary category as well. That is because of gold's unique property with a dual role as a money and a commodity. Gold is money. The case was made in Misconceptions about Gold. Money is hoarded in deflation so gold should act well in deflation.
Do not make the mistake of thinking that gold always does well. It does not. It fell from over $800 to $250 in a decade's long crash. There was positive inflation all the way. Thus gold is not an inflation hedge no matter what anyone says, except perhaps in the very longest of timeframes. The key here is that gold does well at extremes. Those extremes are severe inflation and deflation.
When it comes to housing, a huge case can be made for renting vs. owning. The bigger the bubble, the better the case. California is in a tremendous bubble. I would not be buying in California any time soon. Florida has already crashed but further declines are likely. Another factor is availability of rental houses. The area where I live has few rental choices. I own but do so with open eyes. I also expect to have the house paid off within 5 years or so. My current leverage is small.
One possible currency play is the Yen. Leverage will be unwound in deflation and right now there is a massive leveraged carry trade in the Yen. The unwinding of that carry trade is likely to be very good for the Yen vs. the US dollar. I like the Yen here very much as a long term play.
A second possible currency play is related to the unwinding of leveraged dollar short positions as well as extreme anti-dollar sentiment, that fueled a mad dash into the Euro. I like the dollar vs. the Euro here.
Is there a completely safe way to invest for deflation? Yes, but once again the ideas are going to sound boring. CDs are still paying around 5%. One can build a CD ladder by buying 1, 2, 3, 4, and 5 year CDs and rolling over the proceeds into more 5 years CDs as each matures. The ladder can be for as long as one wants. It can be 3 years or 10 years, not just 5. The longer the duration the more risk there is but at least the principal is protected.
Once again, the super cautious wanting to protect against anything can try the MarketSafe® products mentioned earlier, or even TIPS.
There are other possibilities as well for those wanting more risk. If one accepts the peak oil argument, then energy should be a relative standout, at least compared to other commodities. And unlike homebuilders or banks, oil is not headed to zero and will eventually recover in a long enough timeframe.
Still another possibility are long/short funds that take on market risk when warranted and off when not. Sitka Pacific Hedged Growth strategy is one such option.
Sitka Pacific Hedged Growth was up about 10% after fees a few weeks back when the S&P 500 went flat for the year. It is still up about 10% on the year, even after this December rally. Volatility is low compared with the S&P. Currently the strategy is 33% cash, and market neutral (equal weighted longs and shorts) in the remaining portion. Bear in mind I have a vested interest in this idea given that I am a registered investment advisor representative for Sitka Pacific.
Hussman Funds are another possibility. John Hussman decides to put on or take off risk based on his perception of valuation and market action. I am an avid reader of his weekly columns.
To some, 10% returns simply do not cut it. For others 10% returns with low volatility are fantastic. It all depends on one's risk tolerances. While, strategies can be debated all day long but there is never any guarantee. Risk takers often act as if there is. Certainly there seems to be an amazing belief in the Fed's ability here in spite of the horrendous and obvious mistakes the Fed has made. That faith is unwarranted in my opinion, but we shall eventually see.
Furthermore, it is one thing to take risks with one's own capital, and it is another to take excessive risks with OPM (Other People's Money). Bear Stearns (BSC) had two hedge funds go to zero. I am quite sure more hedge funds are headed the same way regardless of what happens.
The key now is survival. Opportunities are easier to make up than lost capital no matter which way you are betting. Look at Citigroup (C), Morgan Stanley (MS), Ambac (ABK), MBIA (MBI), E*Trade (ETFC), Merrill Lynch (MER), Countrywide (CFC) and all of the homebuilders for proof.
Counter Trend Stock Index Futures Position Trading
http://marketoracle.co.uk/Article6145.html
Stock Market VIX Volatility and the 6 Year Cycle
http://marketoracle.co.uk/Article5959.html
An Interview With the Kress Stock Market Cycle Master
During my 10 year acquaintance with Mr. Kress, I've been privileged to learn of his discovery of a remarkable series of weekly and yearly cycles. These cycles (Kress Cycles as I've taken to calling them) have an amazing correlation to each other and are based on the Fibonacci sequence. More importantly, they have accurately identified the major turning points in the financial markets and the economy over the last several years. The Kress Cycles are predicting a major period of change ahead for the U.S. stock market and economy, particularly between the years 2010-2014.
Using his cycle system, Mr. Kress correctly identified the 1999/2000 stock market top and also the 2002/2003 end to the bear market. More recently, Kress identified the stock market top in 2007 and is looking for the start of a new cyclical bull market to begin soon. Kress recently published a “Special Edition” to his SineScope publication, the fifth one of the past 10 years. Each previous Special Edition has been eye-opening in its predictions for equities and thus far has proven to be accurate. The latest Special Edition is perhaps his most important one yet, and with that in mind I decided to pursue an interview with the author. Kress was kind enough recently grant me an interview concerning his cycle work and investment/economic outlook for the U.S. in the foreseeable future. He also shared his longer-term outlook for gold and commodities.
Q: How did you get your start in the business and what brokerage firms did you work for?
Kress: I started in the business right after graduating from college in the mid 1960s. I joined Smith, Barney & Co. which at that time was the premier fundamental research and investment banking and institutional research firm. More innovative firms were becoming more competitive with the advent of the smaller “boutique” firms. Prior to 1970, I joined Faulkner, Hawkins & Sullivan as an institutional rep. This time I shared the position with Donaldson, Lufkin & Jenrette at the premier “special situations” firms. I later became available to institutional buyers relegated as an institutional rep to nothing more than a link in the party line, so I decided to enter the retail (individual) side of the business and joined Kidder, Peabody & Co. I found this disconcerting for, in actuality, a rep was paid for the volume of business done rather than for the amount of money made for a customer.
Q: In the introduction to your latest publication, you make reference to the superiority of market analysis compared to fundamental analysis. At what point in your career did you discover the technical approach to the stock market worked best?
Kress: My gut told me that fundamental analysis was a reactionary, loss prone approach to value whereas sound market analysis is anticipatory and can provide a value added for the investor or trader. I became associated with an individual who did market analysis. This sparked my interest in doing my own work. In the earlier 1980s, I left the brokerage industry and joined a computer leasing firm wholesaling tax advantaged partnerships. While at the firm, I began developing a specialized methodology to market analysis. With the change in tax regulation, I left the leasing company in the early 1990s and became involved exclusively to developing SineScope [Kress's proprietary cycle method for stock market trading]. After years of trial and error, I finally achieved the desired level of competitive excellence last year.
Q: What about p/e ratios? Many fundamental analysts swear by them. Do you attach any importance to them?
A: Earnings are a lagging indicator. Prices are a leading indicator of earnings reversal, consequently they can have predictive value. The whole key is to identify price reversals using the Fibonacci-based mathematical identifications of the cycles. Mathematics being the most precise language allows the market to convey what it's doing.
Q: What is the philosophy behind your cycle method and how do you apply it to the stock market?
Kress: I believe that natural forces overpower those created by man and that everything goes in cycles. The market isn't exempt [from this principle]. Cycles are a natural phenomenon and represent the natural law of physics which states that what goes up must come down. In effect, this is a cycle in rudimentary form. The cycles' derivation are quantified by a basic mathematical sequence which identifies the natural order of universal events.
Q: What is the basis for the market's cycles?
A: Mathematics has been defined as the most precise language. Consequently, the mathematically based cycles are an orderly conduit though which the market conveys its directional behavior. In effect, my methodology tracks the least common denominator, which is time. I believe the market itself is the ultimate authoritative opinion. With an understanding of the cycles, the sequential series can be applied to both yearly for investment purposes, or weekly for interim-oriented traders.
Q: You place a lot of weight on the Fibonacci numerical sequence in your cycle work, don't you?
A: Yes. Let me give you just one example of how important the Fibinoacci sequence is. A deck of cards is constituted similar to a year: 52 cards (weeks), four suits (seasons), 13 cards in a suit (weeks in a season). The numbered cards begin with two, the basic prime number, and end in 10, a decade. The width of a conventional deck is 5/8 of the length (two Fibonacci numbers), the beginning of the 62% odd infinitum ratio. Fibonacci numerology is clearly evident in various aspects of life. Whenever a bear market or contracting economy occurs, the blame game begins. However, this is a futile exercise for “it's all in the cards.”
Q: Through the years I've noticed that you're a big believer in using the rate of change (momentum) in the new 52-week highs and lows to confirm your cycles in timing market reversals. You've even developed a tool you call “HILDEX” to quantify these reversals. Why are the new highs and lows so important?
A: The new highs and new lows are important because they represent the incremental money changing the supply/demand equilibrium of equities. I developed this indicator to confirm the cycles' reversals. HILDEX includes two components to track each cycle. The first is called the reversal component and is used to confirm the day of a cyclical top, plus or minus 1-2 days standard deviation. The second series has a directional component, which tracks the interim trend. It also includes a longer term, or bias component. As the name implies, the bias component tracks the market's underlying bias [longer term]. When the directional component reverses and penetrates the bias, a bull or bear market is confirmed as the case may be. These components are all based on the difference between the number of the NYSE new 52-week highs minus the lows. The indicator is constructed using daily moving averages based on the Fibonacci sequence and corresponding to the cycles that are being tracked.
Q: Earlier this month you published a special edition to your SineScope publication entitled, “The Grand Bull's Terminal Years: 2009-2011.” It contained an ominous warning for the years 2012-2014. Please elaborate.
A: The term “Grand” was included since it refers to the composite of all the cycles. Its duration is 120 years and I refer to it as the revolutionary cycle. A revolution occurs with each cycle bottom which changes the three basic institutions that govern our lives: political, economic and social. The first revolution in this country was political since it involved war in the 1770s when America was freed from an occupied to an independent territory. The second occurred in the mid 1890s when America transcended from an agricultural-based to a manufacturing-based economy. This was an economic revolution. The third 120-year revolutionary cycle is scheduled to bottom in 2014. To complete the third institution, the upcoming Grand cycle bottom should be a social revolution. The final three years prior to the bottom are ominous, historically, for they include a depression and a devastating war. Since “history always repeats itself” and there is yet to be a precedent to violate this, the years 2012, '13 and '14 have grave, broad-based implications. The various potential is too lengthy to discuss now but they are discussed in the Special Edition.
Q: If an investor shares your conclusions based on the 120-year revolutionary cycle, what is the best strategy for the years ahead?
A: The answer is very simple and straightforward. Liquidate all conventional equities on strength in 2011. Notwithstanding the negative potential that exists during 2012-2014, funds can be 100% committed and produce gainful returns. However, the old generals who have fought the old wars during the past half century with the “buy and hold for the long term” philosophy will have to change their mindset. I have difficulty with this approach, for long term we're all dead. It appears that this is a rationalistic euphemism for the inability to manage and avoid interim risk, thereby awaiting the market to recover the investor's loss.
Q: What about income investors?
A: If current income is required, AAA rated quality must be employed but maximum maturity can be considered? The equity segment need include only three vehicles in the 2012-2014 time period: S&P index inverse dynamic funds, gold exchange traded funds (ETFs), and S&P index options. The percentage weighting between debt and equity and within equity can be determined by individual risk/return positions.
Q: Is the latest Special Edition we've been discussing available for individual evaluations?
A: Yes. You can request a copy by writing to the following address: Samuel J. Kress, 15 Phoenix Avenue, Morristown, NJ 07960.
By Clif Droke
www.clifdroke.com
The 5 C's of Trading Consistency
1. Clarity
The first C of trading consistency is clarity. This is one of the most important elements.
When we are not clear about why we are trading and our trading plan, we jump from one thing to another. Our actions are not focused. As a result, things take longer and we do not produce consistent profits.
With clarity comes focus. When we have focus, we have more profitable trades.
A good test to see how much clarity you have in your trading is to ask yourself:
• Why you are trading?
• What markets you are trading?
• What hours are you trading?
• What is your trading methodology?
• What systems are you using?
• What data are you using?
• What news sources are you using?
• How are you managing your environments, both physically and emotionally?
2. Commitment
The second C of trading consistency is commitment. I know this is stating the obvious. Find out how committed you are by answering the following questions.
When you are trading:
• What are you willing to do?
• What are you willing to give up?
• What do you do when things are not comfortable?
• What do you do when things are not convenient?
• What boundaries are you willing to set?
3. Courage
The third C of trading consistency is courage. Let me ask you a question. Have you had occasions that you know what you need to do and yet you don't do it?
The action might not be comfortable for you, or it might not be at the right time. Do you have the courage to take the action anyway?
This is where clarity comes into place. Knowing why you are doing something allows you to handle challenges that come in your way.
When I talk to some traders, they tell me because of lack of capital, they do not follow all the signals that their system gives them. They start picking and choosing. Then they have more losses than they care to. Then they lose more capital and this vicious cycle continues.
If they had the courage to follow all of the signals, they probably would've been in a better place.
4. Confidence
The fourth C of trading consistency is confidence. You might know what to do and you don't have the confidence to take the action. You might not believe that you can do it.
This is where courage comes into place. There are times that you might not fully believe you can do it. At these times, when you have courage to take action, you are one step closer to getting the results that you want.
By not taking action, you are guaranteed of not getting any results, both positive and negative.
I remember meeting a person who wanted to trade. However, he was afraid of losing even a penny. In addition, his wife was scared of losing money. As a result, after studying trading for over a year and a half he had not pulled the trigger yet.
A lot of times, we do not want to fail. So we do not take any action!!!
5. Calmness
The fifth C of trading consistency is calmness.
How do you handle adversity? What do you do when the markets go against you? Do you get angry and defensive or do you stay calm and play offensive?
When the markets go against you, do you overtrade? Do you try to make all of your losses in one deal? Or do you stay calm, take a breather and reevaluate the market?
When our emotions go up, our intelligence comes down. We make bad decisions. We take it personally. Then we start doubting ourselves and we start losing confidence. Then we start losing more and more…
When we stay calm, we can evaluate the market from an objective place. We can see the market for what it is and not what we want it to be. Then we can take a calculated risk.
To be a profitable trader, you need to be consistent. To be consistent, you need to develop all the 5 C's.
To summarize, the 5 C's of trading consistency are:
• Clarity
• Commitment
• Courage
• Confidence
• Calmness
Consistency is most difficult and most readily proven during tough times. How someone weathers the storms demonstrates their skills.
Here is to making trading success your habit™,
http://www.marketoracle.co.uk/Article5329.html
Car Rental Discount Codes
National
Under 25 Drivers
If you are under 25 use the Big 10 contract code. If you are under 21 use this code code.
Update 10.16..07
Triple miles Double Upgrade US Air
ND2119071Q - $35 off weekly rental – must stay over Sat Night – exp 12.31
Double Upgrade
American Casino Guide 20% discount free day, upgrade
AMEX Double Upgrade
Free Weekend Day
$30 Off Weekly Rental
Visa - 20% OFF plus One FREE Day with the rental of a compact through midsize car in the United States, Canada, Latin America, Caribbean or Asia Pacific – 5 Day Minimum
Free Weekend Day, One Car Upgrade Worldwide
20% Off, 1 Class Upgrade, Unlimited Mileage World Wide - Use MC
$15 Off 3 Day Weekly Rental Exp. 12.15.07
$20 Off Weekly Rental
$34.75 a Day For Fullsize - $6 Less In FLA - 5004625
Free Emerald Club, $2 Discount For Online Booking (compact $36, Double Car Upgrade, $15 Off 5 Day Rental – No Expiration Contract
CDN Discounts on National Through CATA
AMEX Two CarUpgrade
Mastercard/National - 20% Discount + One Car Upgrade In Europe
Mastercard/National – 20% Discount + Two Car Upgrade In USA and Canada
$79 Per Day One-Way Rental
Two car upgrade, free weekend day, $25 off 5 day rental of SUV – EXP. 12.31.07
Free Emerald, 2 Car Upgrade, $15 Off Weekly Rental
Triple miles Double Upgrade Continental Airlines Exp 12.31.06– Page Still Active
University of Pennsylvania Rates – 21 OK
State of Nevada
Big 10 Rental Rates
Washington University – St. Louis Travel Rental Rates
State of CA Rental Rates – All Rental Car Companies
Double Car Upgrade and Free Weekend Day From Geico
State of CA Discounts
Bunch Of Deals – All Rental Companies – Double Upgrades, 2X & 3X Miles, $$ Off, Free Days
Free Emerald Club
Free Weekend Day - Minimum 3 Day Rental - Visa
2X Car Upgrade $15 Off Weekly Rental
Discounted Park and Fly Rates - All States
Free Emerald Club
Mastercard 20% Off Rental One Car Upgrade
One Car Class Upgrade - Expires 121.31.07
Two Car Upgrade + $15 Off Weekly Rental
Discout National
National Two Car Upgrade Expires 12.31.07
Triple Miles + Double Upgrade United - Exp. 12.31.07
$15 off Weekly + 2 car upgrade
Master Card 20% Off One Car Upgrade – No Expiration Date
Free Weekend Day
Get $50 a month off rentals
Vacation Outlet Rental Deals Freebies + discounts
52-4 4562 1 – IATA # for Link
Sato Travel - Great Deals
Best Deal on European Car Rental - 17days to 6 mos.
BJ's Promotion Check the 3 Printable Coupons (1) Free weekend day, (2) $20 Off Weekly rental,(3) 1 car upgrade.
UC Santa Cruz Discounts
---------------------------------------------------------------------------------
Suggestion:
Discount prices too high? Make a confirmed reservation using one of these links and then a couple days before your travel, go to Price-line and bid a lower price for your car than your confirmed reservation states. To find out what price you need to bid, go to Biddingfortravel.com and look it up. Use the Price-line link through Amazing-Bargains.com. Nationwide, the prices for full-sized cars run around $15-$20. For you Orlando, Florida visitors and if you are renting over a weekend, try $14 a day for a full size car and $19 a day for a minivan.
--------------------------------------------------------------------------------
It takes a little patience putting in playing around with the different combinations, but you will save $$ and get upgrades if you spend the time.
Here are the National Contract ID's:
TRAVEL AGENT CONTRACT ID 5063773 + IATA # For PRT Travel - 52431993
Leads To Some Incredible Pricing
6600330 - Priceless Vacations
5436624 – UC Santa Cruz 21 OK – All California Universities
5185011 – University of Chicago $2 discount for booking online
5299328 - Can get lower than Carlson sometimes with this one* -new 7.22
5005467 - United Transportation Union
5004461 - Univ of Iowa LDW included
5160502 – Rutgers – midsize rate - drive off the Emerald Aisle in vehicle of your choice
5002341 – Ithaca College – 21 OK – Insurance Included
5004143 - UNLV - under 25 OK
5420154 – University of New Mexico
5710068 – American Veterinary Medical Association
5282865 – National Association of Broadcasters
6100253 – AAA
5004625 - State of GA - $37.37 a day fullsize 4dr, LDW included, Florida rates $6 below standard rate
6100497 – Illinnois Bar Association
5766241 - University of Milwaukee $231 a week for full size -
1991867 - Duke - Select ay car from the Emerald Aisle, and pay at midsize rate - 25 and under no upcharge, Free CDW
5400322 – University of CA
5190257
5036929 – American Airlines
5282865 - Michigan Farm Bureau
5003447 - Caltech - CDW/LDW included at no cost - Can Rent at 18 - no upcharge Link
5300743 - Washington University St. Louis
3614638 - National Corporate ID - Government of British Columbia, CA
5001856 - UPenn LDW/CDW included - 21yr OK.
75796 - Alamo $37 a day for fullsize, 21yr OK, CDW/LDW included - from UCLA
5125601 - special American Express promotion code - low rates
5400321 - $33.90 a day set rate - state of CA
5001856 - UPenn rent at 21 LDW included $41 Midsize
5004463 - $40 full size, $36 Midsize if reservations are made online - State of WI
5760339 - Try this one first. It ususally gives the best rates. It is Carlson Travel. Here is a .zdl file which can be opened in Avery Design Pro.
5125601
5706352 - Illinois Farm Bureau 20% discount ...and more
524992 - MA Higher ED Consortium
5004462 - $2 discount for internet booking, free LDW, no under 25 surcharge - Univ MN
5066904
5000491 – Has been known to be great
5004463 – University of Wisconsin
5766241 - Premium $280 a week
5004143 - UNLV
5400322 - UC Berkeley School of Law - Under 25 Contract ID 54366245001856
5601333 - APA
5282921 – IEEE
5710540 - Contract ID for SIU - Free LDW and automobile liability of $100,000/$300,000/ $25,000 is included regardless of rate selected. Rate works for under 25 also.
5004463, 5766241 - Contract IDs for the State of and University of Wisconsin - Rates look good
5160279 - Contract ID for Penn State University. ID works in Canada, Australia, Austria also.
5004462 - Contract ID for University of Minnesota. $2 off per day if you reserve online
5400325 - UC National code good for under 25 drivers
5000491 - Ohio University Contract Code. No upcharge for under 25 drivers.
5037126 - Continental Airlines Contract ID
5004459 - Purdue University Contract ID additional $2 per day discount if you book online.
5001661 - University of VA pretty good pricing
6666666 - Contract ID for University of North Carolina
5004172 – State of Louisana - $240 a week for premium, $299 Lux
5400321 - State of CA
5006897 – Boston College
5282865 – Hawaii State Bar Assn. – 20% Discount
5904196 - UCSD
5001514 - MSU Free loss damage waiver coverage
5000491 - Underage code - use if you are under 25 for a good rate
5185011 – University of Chicago
5282905 - MasterCard 20% discount
5185011 – University of Chicago
5450173 – AMS Users Group (insurance software)
5004461 – University of Iowa - must be 25 [link=Link]http://www.uiowa.edu/~fustd/travel/Trav%20Pref%20Vendors/pref_vendors.htm[/L]
5001514
6100120 – AARPLink
5766241- $79 a day one way rental for all classesCheck it out
6600330
5004462, 5004458 - New 9/23/05Big 10 Contract IDLoss Damage Waiver is included in the rate.
Other Rental Cars
One Way Rentals Post – Scroll to Bottom of Page for Post
Coupon Bonanza All Car Rental Companies
Discounts, $$ Off, Upgrades, All Car Rentals
rentalcodesdotcom
Discount Car Rentals - All
Rent at 18 – Great Prices - No Surcharges
University of CA Irvine – All Rental Company Codes
Enterprise
Word of Warning on Enterprise – At Enterprise a Reservation Has a Different Meaning – We'll be glad to take your reservation. When you get here, we'll see if we have any cars left. Make sure they have your car on the lot before you go.
9 Confessions From A Former Enterprise Rental Agent – Thanks Canoer
Multiple Discounts + Upgrades
20% Off Local + One Car Upgrade
Enterprise Entertainment Book Code ETBX7B
Enterprise - UVA - Personal Rental OK - 21 OK
Enterprise - Secret Rates
State of CA Rates - $32.39 Per Day – Rent at 21 – No Charge LDW Contract - Travel Site
Enterprise - Hawaii State Bar - 36a7933
Enterprise – IEEE-EE - 36a7933
Enterprise - California Alumni Association - ucbalum CA Alum - Rent at 21 No Upcharges - Printable
Enterprise – San Diego State University - NASDSU
Enterprise – State of Illinois – ILGOVT1
Enterprise - Cornell University
Enterprise - University of Texas - no drop-off charges on one-way rentals between any two Texas locations
Enterprise - State of Louisana - NA1403
Enterprise - State of CO - Personal Rentals OK - 21 OK Link
Enterprise - ESCOD Industries
State of SC - 26A4456 - Limited to the State of SC - $200 a week for premium - 21 OK - Personal rentals OK -
Link
Enterprise - State of NC - Personal Rentals OK - 21 OK
Enterprise - Rutgers Alumni
Enterprise - Stanford for Over 21 Drivers
Enterprise – University of Utah – 21 OK
Enterprise – Princeton University – 18 OK
Enterprise - Yale University - 21 OK
State of Mississippi
State of New York - Contract – Best Prices of All In NY
Enterprise – Washington State University Link
State of Utah – Password “STA”
University of Kentucky Pricing
University of Chicago More
Enterprise – Washington University STL – Personal Use OK – 21 OK
Enterprise – State of CA – 21 OK
State of Nevada
University and State of Oregon
State of West Virginia
San Diego State Univ – In state rentals
San Diego State Univ – Out of state rentals
Universtiy of California – All Rental Car Companies
State of NC
Enterprise – University of Oregon – 18 OK – Students OK
Link
Enterprise - Brown University
Caltech
University of Arkansas
University of Pennsylvania
State of CO – All Departments Rent at 18
Enterprise - State of MI - 21 OK - Great Prices
Enterprise - State of Utah
Budget
Budget - Great Budget Pricing, Upgrade, $15 off Week, free weekend day
Budget - Under 25 Budget
Canada Discount with Budget - $44CDN per day – Full Size
Budget - BCD X201400 - 25% off Worldwide
Budget - BCD U030094 – May be the best Budget Number
Budget - T255400 - Harvard University
All Rental Codes and Free Hertz Gold – UCLA
Budget - 1X Upgrade, Free Weekend Day, $15 Off Week Rental
Budget - Cheap Rentals in Alaska
Budget - Free Fast Break, $15 Off, Free Weekend Day, Good BCD - Expires 12.31.07
Budget - 25% Off 250 Miles AA
Budget Truck Rental - 10% Off One Way and Local Rentals
Budget - BCD Number T356877 – Ctiy of Seattle – OK to rent at 18 – No drop off charges in Washington.
Budget BCD U030093 weekly intermediate SUV $179 before taxes
standard SUV $199 before taxes - YMMV
Budget Federal Gov BCD + Free One Car Upgrade
Avis
U405347 - generic event code - BEST AWD
C070127 - Very good discount, LDW included
D302003 – Sears
D005927 – Best AWD For European Rentals
UUGA043 – Double Upgrade
TUGB348 – Free Weekend day when rented for 3 consecutive days
Avis one car upgrade – coupon UCNA024
Avis - D453800 25% off Worldwide
Avis - A6791000 – Hawaii State Bar
D002807 (Amateur Sports Assistance Program (ASAP)
K774100
State of Florida AWD #A113400 – Midsize $28.95 - FS $32.95 – Link ContractPricing
K312601 (American Express)
B900000 (generic AAA code)
C070127 (car and driver)
B790000 (Entertainment Book)
V125600 – Ohio State University 18 OK Avis - Ohio State University Coupons
K197800 (Alaska Air)
A555500 – US Government – Free Upgrade Use Coupon UULA004 - Linky
K817200 (Starwood)
K860600 (Starwood - seems to be geared towards higher Hawaii discounts)
K851000 (Hilton HHonors)
A205700 (Inside Flyer)
K0205700 (Continental)
K817200 (American! )
U405347 (generic event code - good discount)
B335100 (British Airways)
K817700 (Hyatt)
K019300 (United)
A108325 or A108300 (Costco)
A415900 (BJs Wholesale)
K666403
C031529 – Good rates
A359800
D002807 – Great rates
A108325 - Costco
B270898
A699800
L149332
Avis - State of Texas - F999303
Avis - Free Weekend Day
Avis Preferred Select
Avis - 1X Upgrade
Avis - A113400 State of Florida – 200 free miles per day - $200 a week for Full Size – No drop off charges in Florida
Hertz
$30 Off Weekly Rental
Best Hertz CDP code 1757580 – its from Car and Driver
Hertz CDP discount code 1757580 – supposed to be very good
760900 - CDP Code Travel Partners Club
31570 – CDP Harvard University
0081555 – CDP Federal Government Rate from EANGUS (enlisted National Guard)
0083080 – CDP Unknown
224764 – CDP FEMA
472871 – CDP American Red Cross
1757580 - CDP Car & Driver
— Coupons —
One Car Class Upgrade - PC# 962161
$10 off a weekly rental - PC# 962220
Up to $15 off a weekend rental - PC# 962216
Free child seat on a weekly rental - PC# 934732
1 free weekend day - PC# 924932
Hertz Double Upgrade - PC # 102815 – Exp. Dec. 31. 2007 – Quantas
Free Hertz Gold
Free Hertz Gold
Discounts, $$ Off, Upgrades, All Car Rentals
Dollar and Thrifty Rental – Use Code – PHONE – for best rates or just go without any code. Seems to give better rates sometimes. Dollar really jacks up prices in FL during holidays. Example same car for the same length in September v. December (Xmas) is $600+ higher i.e. $100 v. $700
Alamo
I.D. #430710
Rate BY
Coupon AD1462JOO – Excellent rates. Not sure what the coupon is for though.
Alamo Rental Car - Code BY and ID #253173.
Coupons—One free day for a rental of at least 5 days - Coupon FD6B - or $15 off a rental of at least 4 days - Coupon DT3B. Up to 15% off weekends. Reqest ID number –
Alamo Free Day When Renting For 5 Days – Expires 6.30.08– Printable Coupon
Alamo: 20% Off + Another $10 Off
Alamo: Rent 5 get one day free
Thrifty
Use Thrifty with Discount # 1660228069 to waive underage fee.
-No underage driver surcharge for drivers aged 21-25
-No mid-week or one-day surcharges
-No additional driver fee
Parking
Discount Airport Parking - Many Airports
15% Discount Off Park and Fly in Canada
Hotels
Cheapest Entertainment Book is Binghampton, NY - $25 Link. You can get 50% off rack rate at Hilton Hotels in Hawaii most of the year.
Real Cheap Hotels. Attend a 90 minute timeshare presentation from Marrxiott, Hilton, Sheraton – absolutely no pressure and get super deals like - Grand Wailea in Maui for $699/5 nights, including 6 days rental car and $100 resort voucher. Schedule the presentation early in the AM and tell the presenter you have another appointment in 2 hours. They will not pressure you but lay out all the benefits and ask for you to sign up. Check It Out
LaQuinta code DUKUNI from Duke University is good for a 15% discount has expiration date but may renew – thanks diazfranco
Travel Website
Discount Hotels
Discount Hotel Rates
Discount Hotels Nationwide
Marriott Discount Codes
$58 a night Las Vegas Hotels - For UCCSN Volunteers - University and Community College System in Nevada - UNLV Vendor Code: F521481337
Discount Chicago and IL Hotels
Discount Hotel Corp ID.
Club Quarters - Password YALE
GovArmTravel
Discount Travel, Hotels, Car, etc.
#1 - VOTED BEST HERTZ CDP discount code 1757580
Hertz CDP discount code 1757580
Bookable on Hertz.com
-Best premium business class car rental agency
-Excellent Rates
-Outstanding fleet. Interesting Hertz Prestige/Fun/Green Collection.
-Unlimited miles (even for one way trips)
-Anyone can use this code, this belongs to Car and Driver Magazine
readers (go pick one up from a magazine stand?)
-Hertz has excellent area / branch coverage
-Most airport locations are 24 hours and will stay open late until your
flight arrive
Stack your saving with coupon. search for the Hertz coupon thread.
http://www.fatwallet.com/forums/travel-deals/521905
6 signs of an economic rebound
http://money.cnn.com/2008/05/09/pf/rebound_predictors.moneymag/index.htm?postversion=2008051309
Every cycle has its wild cards, but history shows there are some clues to a recovery that are pretty reliable.
(Money Magazine) -- By now you've had enough of the endless gloom in today's economic news: record oil prices, slower home sales, deepening loan losses, disappointing corporate earnings. What you're really looking for at this point are a few signs of hope.
It's a certainty that the economy, the housing markets and the stock market have to bounce back sooner or later. If you could see that rebound coming, not only could you rest easier about everything from your job to your retirement, you could move forward confidently on all those financial plans you've put on hold until the way seemed clear.
You could, maybe, take a chance in the job market. You could think about trading up to a bigger home or downsizing to a place that better suits your needs. And even though you've stood unwavering by your investment strategy as the stock market tumbled - and you have, haven't you? - you could feel good once again about putting your money in something besides a chickenhearted money-market fund.
So what are the surefire signs that we're bouncing back? The only honest answer, of course, is that there are no 100% surefire signs. In every cycle there are wild cards that can trump even the best predictions.
On the other hand, history shows that some hints of renewal are far more reliable than others. At least one of them is worth watching in every market that matters to you, from stocks to real estate to jobs. Read further to find out where you'll find these harbingers of economic spring, why they work and how you can make the best use of them.
When will the economy get out of a rut?
Watch: Business sentiment
Current read: Recession's still on
While we won't know for certain whether we are in a recession - defined as a decline in gross domestic product for at least two quarters in a row - until later this year, most economists believe we are.
For starters, GDP growth slumped to an anemic 0.6% in late 2007. What's more, the measure that has been eerily prescient in the past decisively flashed "recession" just as the housing market peaked.
We're talking about the yield curve - or the relationship between short- and long-term interest rates. Long-term bonds usually pay more than short-term ones to compensate investors for locking up their money. When that relationship flips and produces what's known as an inverted yield curve, you can be pretty sure a slump is coming.
Since 1960, every time the yield curve, as measured monthly, has inverted (except once), a recession has followed. The last time this happened was July 2006. Unfortunately, the yield curve can't help you see the recovery that's bound to be over the horizon. What can?
What to watch: The most important clue may lie in the minds of business leaders, says Nariman Behravesh, chief economist at Global Insight. The more upbeat companies feel about their prospects, the more likely they are to expand and hire, which in turn lifts consumer confidence, sparks spending and boosts economic growth.
To get a read on business sentiment, Behravesh suggests looking at the Institute for Supply Management's nonmanufacturing index, a monthly survey of conditions in the service sector, which accounts for 80% of jobs. A reading below 50 is typically regarded as a recession signal; the lower it goes and the longer it stays down, the more severe the slump. Once it returns to 50-plus territory, a rebound is likely.
During the brief recession of 2001, the index dropped below 50 just as the slowdown started and hovered between 45 and 50 for most of the next eight months. A month before the recession ended, the index rose sharply to just under 50 and soon stabilized in the low 50s.
For a second opinion: Look to the real estate market. "Housing is what got us into this recession," says Gus Faucher, director of macroeconomics at Moody's Economy.com. "In terms of what's going to get us out of it, we're going to be looking for a bottom in the housing market."
How do you spot that? Brush up on supply and demand. Historically, the inventory of homes on the market - particularly how many months it would take to sell it off - has soundly predicted home prices. Six months of inventory appears to be the sweet spot. In 1996 inventory fell below six months and dropped for much of the decade - and prices climbed steadily.
What they're saying now: A mixed outlook. For March the ISM nonmanufacturing index stood at 49.6 - up from the precipitous drop to 44.6 in January but still below 50 for the third straight month.
"If the index goes to 40 and stays there, we're looking at a much deeper recession," says Behravesh. "If the number goes back up to 50 and remains at those levels, that's definitely a signal that things are going to get better." Housing inventory, however, has recently hit nearly 10 months' worth - bad news for prices and growth.
To keep track: The ISM nonmanufacturing index is released on the third business day of every month. It's widely reported in the press; or you can find the releases in the ISM Report on Business section of the Institute for Supply Management's Web site.
As for the real estate inventory yardstick, the National Association of Realtors puts out the data monthly (usually between the 22nd and 25th). Look in the Research section on its Web site.
The wild cards: As Federal Reserve governor Kevin Warsh recently quipped: "If you've seen one financial crisis, you've seen one financial crisis." Indeed, this slowdown has seen a massive credit crunch, a free-falling dollar and record oil prices. At the same time, exports to China and India are helping U.S. businesses offset weakness at home. Any or all of these factors could cloud the rebound picture.
As you know all too well from the skyrocketing cost of the milk you put in your cereal and the gas you pump into your car, inflation is back. Consumer prices are rising at 4% a year - well above the 2.6% average annual increase of the past decade.
Predicting inflation is one of the most hotly debated areas in economics. Still, there's one signpost worth watching.
What to watch: Follow the money supply. When the Federal Reserve cuts rates, it often does so by buying Treasury bonds from banks, giving them more money to lend and thereby pumping more money into the economy. When the growing supply of greenbacks outstrips demand, each dollar is worth less and buys less.
Presto: inflation. Every major increase in inflation over the past century has been preceded by a spike in the money supply, and a dip in the growth of the money supply has usually led to a drop in the inflation rate.
In the early 1980s, when inflation topped 10%, then-Fed chairman Paul Volcker embarked on an aggressive campaign to slow money supply growth and tame inflation. He succeeded - by 1983, inflation was 3.2% - but at a price. Clamping down on the money supply helped trigger a severe recession - one reason today's Fed is under pressure to keep up money supply growth.
What it's saying now: Going by the money supply, odds are good that inflation will continue rising in coming months. Since last September, the Fed has been on a rate-cutting tear, slashing the federal funds rate by three percentage points in an effort to stave off recession.
As a result, the money supply measure known as M2 has grown by a compound annualized 14% rate over the past two months. To put that in perspective, M2 grew at an average annual rate of 6.1% from 2000 to 2008.
To keep track: You can look up M2 at the Web site of the Federal Reserve Bank of St. Louis.
The wild card: It's not just the Fed that has control over our money. The owners of U.S. dollars can increasingly be found outside the U.S. China holds an estimated $1 trillion, much of it in the form of Treasury bonds. A decision by China to liquidate even a modest portion would drive up the money supply.
Watch: Money supply
Current read: No cooldown yet
As you know all too well from the skyrocketing cost of the milk you put in your cereal and the gas you pump into your car, inflation is back. Consumer prices are rising at 4% a year - well above the 2.6% average annual increase of the past decade.
Predicting inflation is one of the most hotly debated areas in economics. Still, there's one signpost worth watching.
What to watch: Follow the money supply. When the Federal Reserve cuts rates, it often does so by buying Treasury bonds from banks, giving them more money to lend and thereby pumping more money into the economy. When the growing supply of greenbacks outstrips demand, each dollar is worth less and buys less.
Presto: inflation. Every major increase in inflation over the past century has been preceded by a spike in the money supply, and a dip in the growth of the money supply has usually led to a drop in the inflation rate.
In the early 1980s, when inflation topped 10%, then-Fed chairman Paul Volcker embarked on an aggressive campaign to slow money supply growth and tame inflation. He succeeded - by 1983, inflation was 3.2% - but at a price. Clamping down on the money supply helped trigger a severe recession - one reason today's Fed is under pressure to keep up money supply growth.
What it's saying now: Going by the money supply, odds are good that inflation will continue rising in coming months. Since last September, the Fed has been on a rate-cutting tear, slashing the federal funds rate by three percentage points in an effort to stave off recession.
As a result, the money supply measure known as M2 has grown by a compound annualized 14% rate over the past two months. To put that in perspective, M2 grew at an average annual rate of 6.1% from 2000 to 2008.
To keep track: You can look up M2 at the Web site of the Federal Reserve Bank of St. Louis.
The wild card: It's not just the Fed that has control over our money. The owners of U.S. dollars can increasingly be found outside the U.S. China holds an estimated $1 trillion, much of it in the form of Treasury bonds. A decision by China to liquidate even a modest portion would drive up the money supply.
Watch: The Fed
Current read: A summer rally
This spring the stock market has flirted with the 20% decline that would mark an official bear. Now what every investor wants to know is when stocks will start climbing back.
What to watch: Again, follow the Fed. "Interest rates are probably the one thing that you really want to pay attention to," says Sam Stovall, chief investment strategist for Standard & Poor's Equity Research. Of the dozen times the Fed has embarked on a series of rate cuts since 1954, the S&P 500 has only once failed to deliver a gain one year later.
Why are rate cuts such a reliable predictor? Over the long term, stock prices follow corporate earnings, and while analysts use all sorts of methods to place a value on future earnings, one principal remains constant: The lower rates are, the more valuable future earnings are to investors.
For a second opinion: Not convinced by the march of history? Check out stock valuations. When share prices are cheap relative to earnings, the market is poised to take off.
One way to judge cheapness, says Stuart Freeman, an equity strategist at Wachovia Securities, is to compare the earnings yield of the S&P 500 - the inverse of its price/earnings ratio - to the yield on government bonds. The more the S&P 500 is yielding vs. bonds, the more inexpensive it is - and the more likely a recovery is.
What they're saying now: Based on rate cuts, the stock market should be going on a tear any minute now. But since the Fed began to lower rates last September, the S&P 500 is down about 8%.
Stovall believes that the market's prognosis is still positive for the fall. The earnings yield backs up that forecast. The price/earnings ratio of the S&P 500 stands at 16, making the earnings yield 6.3% (1 divided by 16).
The yield on the 10-year Treasury bond is only 3.6%. In March 2000, right before the market collapsed, the earnings yield was 3.9%, while the 10-year Treasury was paying 6.3%. "That would suggest that stocks are as cheap today as they were expensive back in 2000," says Freeman.
To keep track: The Federal Reserve Bank of New York posts rate cuts in the Markets section of its Web site. For the earnings yield, look up the S&P 500 P/E ratio in the Numbers section of our magazine (page 130) and then divide 1 by that figure. Find the yield on the 10-year Treasury bond at our Bond Center.
The wild cards: A long, painful recession that hits corporate earnings hard or a spike in inflation that forces the Fed to start hiking interest rates again.
Watch: Inventory
Current read: No recovery soon
Nationally, high inventory levels are signaling a long slog for the housing market. But what you care about are prices in your town, where conditions may be dramatically different.
What to watch: Locally, inventory is also the strongest price predictor, says Patrick Newport, a housing economist at Global Insight. Falling inventory - that is, fewer homes for sale - bodes well for prices. Rising inventory is a sign of more price cuts to come. Inventory in Phoenix, for example, has been rising consistently for the past year, while median prices have steadily fallen.
For a second opinion: While inventory represents the supply side of the market, the demand side of the housing equation is important too. For that, keep an eye on employment in your area.
More jobs means more fresh buyers. Reading the business section of your local paper is the best way to get a handle on job conditions in your city. Be on the lookout for big employers that are hiring - or downsizing.
To keep track: The National Association of Realtors publishes national inventory only. Your local association of realtors tracks it in your specific market, where it matters most. So ask your broker. As an alternative, go online. HousingTracker.net posts the change in inventory for more than 50 big markets.
Watch: Credit spreads
Current read: Continued tight credit
Despite aggressive Fed rate cuts, interest rates on 30-year fixed-rate mortgages have dropped, on average, by only about half a percentage point since last September. Rates on auto loans and credit cards have fallen even less. And more lenders are now reducing or completely freezing homeowners' ability to tap into their home equity, even for people with good credit.
You can blame this state of affairs on the ongoing credit crisis. Burned by the bad loans they made during the housing bubble, lenders are now looking at mortgages and other loans as far riskier than they did just recently. As a result, they're less inclined to lend in the first place. When will this freeze thaw?
What to watch: Credit experts say to keep a close eye on the three-month "TED spread." This is the difference between the interest rate at which banks borrow from one another (known as Libor) and the rate on three-month Treasury bills.
Since T-bills are essentially risk-free, the higher the TED spread, the more fearful banks are about lending. And if they're skittish about lending to one another, they're certainly not going to fall over themselves to lend money to you.
What it's saying now: More tight credit. The TED spread stands at 1.68%, far above historic levels. Kathy Bostjancic, a senior economist at Merrill Lynch, says the TED spread needs to come down to about 0.40% "before we can say the coast is clear." to keep track.
You can calculate the TED spread at Bankrate.com. Search for the three-month Libor rate and the three-month T-bill rate. Subtract the T-bill rate from Libor and you've got it.
Watch: Stock prices
Current read: Depends where you work
The unemployment rate stands at 5.1%, low by historical standards. But unemployment lags in recessions - it costs money to lay people off, so companies generally don't go down that road unless they are relatively sure a slowdown is here to stay.
If we are indeed in a recession, history tells us that we can expect an additional 350,000 workers to lose their jobs every month until it's over. At some point the job losses will stabilize. How can you tell when your job is less at risk?
What to watch: Take a cue from the stock market, advises John Challenger, CEO of outplacement firm Challenger Gray & Christmas. The stock price is a forward-looking measure of a company's future earnings prospects. "You can't guarantee the market has it right, but it's a pretty good gauge to be looking at," he says.
Start with the performance of your industry against the market over the past few months. If it's been doing significantly better, that's a good sign that your field has already started to rebound (or never faltered).
Next, if your company is publicly traded, compare its stock price with the industry index. If the stock is up and if it has done better than the industry, the market is signaling that it believes management can grow in the coming months and years. That often translates into more hiring or at least no more layoffs.
For a second opinion: It's also worth your while to keep your antenna up at work. You may know more than outside investors do. Are you being asked to scale back the budget? Are you hearing about products being discontinued? These could be warning signals.
What they're saying now: Of the 10 major sectors in the S&P 500, six have outperformed the broader index over the past year. So if you're not working in the financial services industry or for a business that is heavily reliant on discretionary spending, odds are decent that your job outlook may be fairly optimistic.
To keep track You can retrieve your firm's stock price in the quote box at the top of this page. Once you do, click on the "Advanced Charts" tab for industry and market matchups.
Global Stock Market Forecasts and Outlook for 2008
http://www.marketoracle.co.uk/Article4126.html
Great Depression
http://www.marketoracle.co.uk/Article4876.html
Investment Process
1. Identify the U.S. Market Cycle
In order to determine an appropriate asset mix, we need to assess the stock market and determine where we are in the market cycle.
Top end of a rolling bull>>> The market is mature, with little potential for substantial growth. At that point, we favor large value stocks.
Sliding bull>>> The market is losing momentum, which means a bear market is probably just around the corner. We continue to own large cap stocks, but shift the asset allocation, with less emphasis on stocks.
Bear market>>> We ride out the bear market with a lighter position in stocks and more money allocated to fixed income and cash-based investments.
New bull, first phase>>> Since smaller stocks tend to lead the way in a bull market, we add to our stock position with stocks that align more closely with the small stock market, while maintaining our emphasis on a low standard deviation.
Second phase, bull market>>> Larger cap stocks tend to lead the second phase of a bull market, so we shift our portfolio emphasis to larger cap stocks.
2. Where in the World
We take a global approach in constructing our portfolio because it:
Reduces standard deviation (risk)
Provides additional return opportunities
To determine geographic asset allocation, we look at two primary areas:
1. Domestic market cycle analysis (where are we in the cycle?)
2. Foreign market cycle analysis (where are other markets in the cycle?)
(When possible, we prefer to use ADRs for our foreign investment component).
3. Style
We select individual stocks based on style, depending on the current state of the market:
We are large (and larger) cap stock investors (the weighed average capitalization of our holdings is $71 billion).
To maintain consistency and our standard deviation parameters, we attempt to capture small market cycle performance with large cap holdings that align closely with the small stock market.
Each phase of the market cycle suggests a dynamic bias (see Axiom #1) toward a particular style--growth, value or GARP (growth at a reasonable price).
Over the course of the market cycles, our styles may change to fit the point in the cycle.
4. Sector Weightings
How do we determine our our sector allocation mix? We do a thorough analysis of the strengths and weaknesses of each sector to determine the role they should play in our portfolio:
We utilize sector business cycle analysis to determine optimum sector weightings in any give market cycle.
Deviation from the composite of the index at the sector level creates a basis for our spread
We also employee maximum coefficient correlation analysis at the sector level.
Our point of emphasis is that the nature of capitalism supports a reversion to a means on each sector level.
5. Individual Stock Selection
Once we've determined position in the cycle, optimum geographical allocation, style preference and sector weightings, the final step is to select individual stocks for the portfolio. We select our portfolio from a universe of 1,200 stocks from throughout the U.S. and around the world. We look at several factors in determining the right stocks for the portfolio:
Fundamental analysis. We look at sales and earnings, financials and cash flow and we prefer stocks in the top tier market position.
Style analysis. Depending on market cycle relevance, we decide whether to go with large or larger cap stocks--either growth or value. We use a natural and manual portfolio adjustment depending on a variety of factors.
Technical analysis. We use technical analysis to determine entry point in the market and we monitor alerts to stay atuned to events or changes in the economy that could affect the performance of certain stocks.
When we add a stock to the portfoliio, it is because it fits one of our key criteria:
> Market cycle location
> Geography
> Sector weighting
> Fundamentals
> Pairing relationships
We may sell a stock from the portfolio for one of several reasons:
> The stock has reached our price target
> The stock's fundamentals have deteriorated
> The sector is out of balance with the rest of the portfolio and needs to be reduced
http://www.oxfordpcg.com/gpage11.html
ECONOMIC REALITIES
by Gary Shilling
What's ahead for stocks and the economy in 2007? Setting aside unknown elements like major terrorist attacks or natural disasters, I believe six phenomena are shaping the investment climate this year. The world is awash in financial liquidity mainly due to rising house values, the negative U.S. corporate financing gap and the American balance of payments deficit. Inflation remains low despite higher energy prices. As a result, investment returns are low. Speculation remains rampant despite the 2000-2002 bear market. So, investors are accepting more risks to achieve expected returns. And then there's the insatiable U.S. consumer, who, thanks to the booming housing market, continues to spend freely.
In this climate, I foresee 12 investment themes, seven of which are likely to unfold in 2007 while four will probably work but maybe not until next year:
1. Housing prices will collapse. The housing bubble is deflating as sales of new and existing homes slide, prices begin to drop and housing starts decline. A bigger price plummet may start soon as many speculators give up on appreciation dreams and throw their properties on the market, triggering a downward spiral. Alternatively, interest rates on the Adjustable Rate Mortgages of many subprime borrowers will adjust up dramatically this year and force them into defaults and house sales.
Cheaper energy costs will not offset losses in house appreciation nor will non-residential construction growth. The Fed is unlikely to slash interest rates soon enough and big enough to save the day. Washington will be politically forced to bail out hapless homeowners, but as with the late 1980s-1990s S&L crisis, will probably arrive too late to prevent major damage.
The boom has largely been driven by investors' zeal for high returns, ample cheap mortgage money and lax lending standards. Unlike earlier U.S. housing booms and busts that were driven by local business cycles-such as the rise and fall of the oil patch along with oil prices in the 1970s and 1980s-this one is national and, indeed, global. And since houses are much more widely owned than stocks, the bubble's likely demise will shake the economy more than the earlier bear market in stocks.
2. The Fed will ease when house prices collapse. Meanwhile, the yield curve will remain inverted. Once the Fed embarks on an interest rate-raising campaign, it almost always keeps going until something big happens, and that something is normally a recession. Such a campaign clearly started in June 2004. This time, we're betting that the bursting of the housing bubble beats the Fed to the punch, but if not, the central bank will, as usual, do the recessionary deed. Once housing is in a shambles, either falling from its own weight as we expect or due to central bank action, the Fed, of course, will patriotically ease as the economy hits the skids.
The yield curve inversion, the only meaningful effect of the Fed's current campaign that we can find, rightfully worry many because they have preceded every recession since 1950 with only two fake signals. Today's rationalizations as to why long Treasury yields are artificially depressed appears no more valid than those in early 2000 as the yield curve neared inversion. The federal surplus at the time resulted in few new Treasury bond issues. That, the optimists believed, was depressing Treasury yields and causing a false recession-forecasting signal. But the 2001 recession followed the inversion, as usual.
3. U.S. stock prices will fall, perhaps below the 2002 lows, in the midst of a major recession. A major decline in housing prices and activity will almost surely precipitate a full-blown U.S. recession. That, in turn, will send corporate profits down after a spectacular advance over the last five years. Without this robust growth, stocks are vulnerable.
4. China will suffer a hard landing due to domestic cooling measures and U.S. recession. China is attempting to cool her white-hot economy, which grew at an estimated 10.5% rate last year, but is having difficulty. Fundamentally, China is experiencing a capital investment bubble, which is very misleading even in open market economies since is sends the wrong signals to participants. Since it takes capacity to build more capacity, what looks like strains and shortages are really symptoms of mammoth excess capacity problems that are only revealed when the boom subsides. That's what happened in the U.S. new tech boom in the late 1990s, and now in China in less sophisticated industries. That excess capacity will, of course, drive even bigger exports.
A major U.S. recession will shrink Chinese exports dramatically as U.S. consumers buy less of everything, especially imports. Indeed, as U.S. manufacturing shifts to China, so does its inherent volatility and inventory cycles-and the long shipping time between China and the U.S. enhances those cycles' violence. So between domestic economic cooling measures and a U.S. recession, a Chinese business slump is in the cards for 2007.
That, of course, doesn't mean an actual decline in real GDP in China. A cut from the current 10% growth rates to 4% or 5% would be severe since more than that growth rate is needed to employ the hordes that continue to stream from the hinterland to the coastal cities in search of better jobs and lives.
5. Weakness in U.S. and China will spread globally, dragging down economies and stocks universally. The U.S. economy dominates the world, not only because of its size but also because America is the only major importer. Most other countries are running trade surpluses, and the U.S. is the buyer of first and last resort for their excess products. The Chinese economy is closely linked to America's, as just discussed, and a U.S. recession combined with Chinese domestic economic restraint measures insure a global downturn. Other major economies in Japan and Europe simply can't pick up the slack.
6. Treasury bonds will rally. Yields rose a bit over the last year, but surprisingly little in view of continued economic growth and further Fed tightening. This tells me that global deflationary forces are robust.
Downward pressure on Treasury yields will result when the Fed reverses gears and eases once housing is clearly in retreat and a recession is evident. I expect the current 4.7% yield on the 30-year bond to decline in 2007 and ultimately reach my long-held target of 3% when deflation becomes irrefutably established.
7. The dollar will rally, but only after the recession becomes global. The greenback last year remained string against the yen but not against the euro. Of course, the global recession that will make the buck a safe haven is yet to unfold. Meanwhile, with the U.S. likely to be the first major economy to slump and the Fed the first major central bank to cut rates, the dollar may be weak early this year. Strength would come later in the year as U.S. consumers curtail spending, imports fall and, as a result, foreign economies become weaker than the U.S.
Later this year, the dollar should gain against the euro and yen and also against the commodity currencies-the Canadian, Australian and New Zealand dollars-which will suffer as global recession slashes commodity demand and prices. Emerging countries' currencies will also suffer in global recession.
8. Commodity prices will nosedive. Commodity prices have shown unusual strength in recent years. And the robustness has not just been in the energy sector, but spread broadly. Industrial metals prices have skyrocketed. So has livestock and grains of late. Even precious metals have reached prices not seen since inflation was raging in the late 1970s.
In the long run, we don't see any constraints that will prevent the normal reaction to high commodity prices-increased supply that will depress prices. In energy, the Hubbert's Peak devotees believe the world is running out of crude oil so prices will skyrocket in the years ahead. But we're convinced that human ingenuity will, as in the past, prevent a Malthusian outcome. The ongoing fall in U.S. home sales and likely collapse in prices will have very negative effects on the prices of building materials such as gypsum and copper. Lumber prices have already nosedived. And copper prices are already at a nine-month low.
9. Maybe global and chronic deflation will commence in 2007. With a global recession collapsing commodity prices and the robust deflationary forces already at work, major goods and services price indices here and abroad, such as the CPI, will fall this year if a global recession unfolds. But that doesn't guarantee chronic deflation. Inflation usually recedes in recessions, so it's the action in the following recovery in 2008 that will tell the tale. If price indices continue to fall then, true deflation will have arrived.
10. Maybe U.S. consumers will start a saving spree, replacing their 25-year borrowing and spending binge. The money extracted from, first, stocks, and more recently, from houses are behind the drop in the U.S. consumer saving rate. Just like the falling saving rate, the rising debt and debt service rates can't continue forever. With stocks likely to again fall significantly, a significant fall in house prices seems almost certain to precipitate the monumental shift from a quarter century borrowing-and-spending binge to a saving spree-unless another source of money can bridge the gap between consumer incomes and outlays. But no other sources such as inheritances or pension fund withdrawals are likely to fill that gap.
With no remaining alternatives, and with baby boomers needing to save for retirement, American consumers will be forced to embark on a long-run saving spree, although clear evidence of a chronic saving binge may be postponed until after the forthcoming recession.
11. Maybe deflationary expectations will become widespread and robust. Deflationary expectations spread and intensified in 2006 as consumers waited for lower prices for cars, airline tickets and telecom fees before buying. Christmas 2006 sales depended heavily on slashed electronic gear prices.
When consumers wait to buy, producers are left with excess capacity and inventories that force them to cut prices. Those cuts only fulfill consumer expectations and encourage them to wait for even lower prices. "Maybe" those expectations will leap this year because "maybe" widespread and chronic deflation will be recognized. If so, then buyers will wait for lower prices, and vigorously so in many more product areas.
12. Speculative areas beyond housing may suffer in 2007. Housing is not the only area of heavy risk-taking. It just appears to be the most vulnerable. A Great Disconnect between the real economy and the speculative financial world has existed since the late 1990s. It's been fed by mountains of liquidity sloshing around the world, expectations of and demands for oversized investment returns, and low volatility, all of which have encouraged risk taking. Anticipated stock volatility remains at rock bottom. Spreads between yields on junk bonds and Treasurys are tiny as ample financing and loose lending keep corporate defaults at record lows.
The huge gap between speculative financial markets and economic reality has persisted for a decade. It will probably be closed with many tears in the next recession, only adding to its depth.
TO BEAT THE MARKET, BE IN THE RIGHT SECTOR, PART 3
http://www.financialsense.com/fsu/editorials/wagner/2007/1024.html
Picking Hot Industries
With the major averages down for the year, the market has been nothing to shout about recently.
But investors holding Health Care Plan stocks may not have noticed. When I checked last week, stocks in that industry were up 27 percent on average, over the past six months. What뭩 more, I counted at 13 other industries showing at least 20 percent returns over the same period.
Those returns show that investors in the right industry can make money, even if the market is going nowhere. That뭩 why many money managers advise that your chances of making money depend more on selecting the right industry than it does on picking the right stock.
An industry is a group of companies in the same or related business such as grocery stores, disk drive makers or hospitals. Stocks in the same industry tend to move together for a couple of reasons. For starters, all companies in an industry are affected in similar ways by market conditions. Secondly, mutual fund and other institutional managers track performance to determine which industries are cooling down and which are coming into favor. Once they identify a trend, the industry 뱑otates into favor? as the big players accumulate shares in the industry뭩 best prospects.
Here뭩 a rundown on my favorite resources for finding hot and cold industries.
Prophet.Net
Prophet.net (www.prophet.net) is a useful resource for tracking recent industry performance. Click on Explore and then Industry Rankings to see a list of the top performing industries over the past six months. In addition to showing the current rank, Prophet also shows the change in rank over the timeframe displayed. For instance, the top ranked industry, Beverages-Winery/Distillers, had moved up 12 notches, from number 13, over the last six-months. By contrast, Medical Practitioners soared from a lowly 124 rank to number three in the same period, so it may have stronger momentum.
Usually an industry stays in favor for, at most, six months to a year. You have to spot a hot industry early, and hop on it before it loses steam.
Consequently, it뭩 best to pay most attention to shorter timeframes, such as one- or two-months. Looking at the past month, the Biotechnology, Retail Real Estate Investment Trusts (REITs), and Specialty Eateries industries were the best performers.
You can see the charts of the stocks making up each industry by clicking on the Charts icon. If you do, use the Chart Controls to change the default chart timeframe from the one-day default to one-year to get a better perspective on each stock뭩 long-term performance.
Equity Trader
Equity Trader, founded by technical analysis guru John Bollinger, is another resource for spotting strong industries. Bollinger employs technical and fundamental factors to spot economic sectors (e.g. technology), industries within those sectors (e.g. software), and stocks within those industries likely to move up in price in the coming weeks.
Equity trader displays a set of six signals; two red, two yellow, and two green, for each sector, industry and stock. They look like traffic signals and interpretation is intuitive. Two green lights forecast the strongest expected performance, and two red lights the weakest.
On Equity Trader뭩 homepage (www.equitytrader.com), click where it says, ?a target="_blank" href="http://www.equitytrader.com/support/default.php">Click here to bypass registration?and select Structure (top menu) to see the indicators for the 13 major economic sectors. Then click on a sector name to see the industries within that sector. Finally, click on an industry to see stocks making up that industry.
Briefing.com
Briefing.com (www.briefing.com) takes a different approach to industry analysis. Instead of using computers to crunch the numbers, Briefing.com employs real people to analyze the future prospects of each industry.
Briefing.com is mostly a pay site, but its industry analysis is in the free (Silver) section. Get to the sector analysis by selecting Silver Index from Briefing뭩 homepage and then Sector View.
Briefing starts by rating each of 10 major economic sectors: healthcare, telecom, industrials, financial, basic materials, technology, utilities, consumer staples, energy, and consumer discretionary. Each sector is rated as 뱋verweight,?뱈arket weight,?or 뱔nderweight.?The ratings reflect Briefing뭩 view of each sector뭩 outlook of the next three months.
Then, Briefing gives you a detailed sector analysis, including its view of the prospects for the major industries within each sector.
Stovall뭩 Sector Watch
Sam Stovall literally wrote the book on sector investing. His 밪tandard & Poor뭩 Guide to Sector Investing?was the first in-depth guide on the subject. You can read his weekly commentary, 밪tovall뭩 Sector Watch, on the Business Week site.
Each week he reviews an industry sector in depth, or gives his take on sectors coming into-, or going out-of-favor. He also frequently lists S&P뭩 top-rated stocks in sectors of interest. Stovall뭩 column is frequently featured on Business Week뭩 homepage (www.businessweek.com). If not, find it by selecting Investing and then Investing Columns.
Sticking with strong sectors is a good start. Usually the best performing stocks within each sector are your best bet. But you still have to research each stock before you buy.
http://www.winninginvesting.com/hot_industries.htm
Sector Rotation: The Essentials
If you’ve spent any time at all following financial markets, you’ve probably heard of sector rotation. Certain sectors of business profit more in certain stages of an economic cycle. This simple arrangement of stages provides a useful road map to traders of most stripes. Here, we’ll look at the economic research to back it up and where to find it; the basic sectors of the economy; and the telltale signs of each economic stage.
Sector rotation is an investment strategy involving the movement of money from one industry sector to another in an attempt to beat the market. It sprouted as a theory from NBER (National Bureau of Economic Research) data on economic cycles, dating back to 1854. It’s thanks to this cadre of government and academic economists that we know the start, end and duration of each business cycle.
You may have heard of the NBER before, they’re the ones that announce that a recession has officially ended - three years after the fact. The data may be slow to develop, and a bit dry, but a little digging can provide insight into investment decisions. Sam Stovall, chief investment strategist at Standard & Poor’s, has done some digging. Here is a recent quote from his indispensable BusinessWeek column, “Sector Watch”:
“The National Bureau of Economic Research sets dates for peaks and troughs in economic activities, based on its assessment of such factors as gross domestic product and employment growth. Since 1945, the U.S. economy has experienced 11 recessions and 10 expansions (it's now in our 11th expansion). Growth periods have lasted an average of nearly five years (59 months, to be exact), with the shortest being 12 months from July, 1980, to July, 1981, and the longest at 120 months from March, 1991, to March, 2001.”
Stovall goes on to suggest that by dividing the NBER cycles into sub-stages, historically successful periods for stocks in certain business sectors become apparent:
“Breaking expansions into early, middle and late phases of equal durations, and recessions into early and late periods of similar lengths, and then analyzing the frequency of the market outperforming the industries in the S&P 500 during these periods, a pattern of sector rotation is apparent….”
He has also written “Sector Investing” (McGraw-Hill, 1996) and “Standard & Poor’s Guide to Sector Investing” (McGraw-Hill, 1995). The guide provides a general idea of how prosperity has historically moved through the economy. It’s important to remember that past performance in the stock market does not always mean future success, and a particular sector may, or may not, be in favor at any time, due to outlying factors. That said; let’s look at what has worked for stocks in the past. This model is partially borrowed from stockcharts.com.
Market Cycle in Four Stages
Markets move up and down just like the economy. For the purpose of this discussion, we will divide that cycle into four stages:
Market bottom - This is represented by diving prices, culminating in a long-term low.
Bull market - This begins as the market rallies from the market bottom.
Market top - Just as it sounds, this stage hits the top as the bull market starts to flatten out.
Bear market - Here we go down again. This is the precursor to the next market bottom.
Most of the time, financial markets attempt to predict the state of the economy, anywhere from three to six months into the future. That means the market cycle is usually well ahead of the economic cycle.This is crucial to remember because as the economy is in the pits of a recession, the market begins to look ahead to a recovery.
Economic Cycle in Four Stages
Here is a list, in the same order as above, of four basic stages of the economic cycle, and some associated telltale signs - again, keep in mind that these usually trail the market cycle by a few months.
Full Recession - Not a good time for businesses or the unemployed. GDP has been retracting, quarter-over-quarter, interest rates are falling, consumer expectations have bottomed and the yield curve is normal. Sectors that have historically profited most in this stage include:
-Cyclicals and transports (near the beginning).
-Technology.
-Industrials (near the end).
Early Recovery -Finally, things are starting to pick up. Consumer expectations are rising, industrial production is growing, interest rates have bottomed and the yield curve is beginning to get steeper. Historically successful sectors at this stage include:
-Industrials (near the beginning).
-Basic materials industry.
-Energy (near the end).
Late Recovery -In this stage, interest rates can be rising rapidly, with a flattening yield curve.Consumer expectations are beginning to decline, and industrial production is flat. Here are the historically profitable sectors in this stage:
-Energy (near the beginning).
-Staples.
-Services (near the end).
Early Recession -This is where things start to go bad for the overall economy. Consumer expectations are at their worst; industrial production is falling; interest rates are at their highest; and the yield curve is flat or even inverted.Historically, the following sectors have found favor during these rough times:
-Services (near the beginning).
-Utilities.
-Cyclicals and transports (near the end).
Summary
With this general outline in mind, traders can try to anticipate which companies will be successful in the coming stages of an economic cycle. Equally important can be the signs the market is exhibiting on future economic conditions. Watching for these telltale signs can give great insight into which stage traders believe the economy is in. For those looking to dig deeper into sector rotation, below are three great resources:
Stockchart.com’s interactive SPDR Sector Rotation Chart, is found at:
http://www.stockcharts.com/charts/performance/SPSectors.html
The NBER publishes most of its data online, and is found at:
http://www.nber.org/
Sam Stovall’s weekly column "Sector Watch" on BusinessWeek Online, is found at:
http://www.businessweek.com/investor/list/stovall_toc01.htm
http://www.investopedia.com/articles/trading/05/020305.asp
ISEE.OB -- Thought the board members might like this. Would love to hear some thoughts on this, thx
As one of America’s leading retail optical franchises, ISEE
is a leader in delivering optical and vision correction products
and services.
There are nearly 175 franchised and companyowned
retail locations under several brands, including 90-yr.
old Sterling Optical, Site for Sore Eyes, a growing West Coast
franchise for the past 30-yrs., Dueling Optical and Singer
Specs, although throughout most states (other than ISEE뭩
Site for Sore Eyes stores located in Northern California)
operates under the name Sterling Optical, the one-stop shop
for all eye care needs. In addition, ISEE operates Vision Care
of California, Inc. (VCC), a specialized healthcare maintenance
organization licensed by the State of California, Dept. of
Managed Health Care, which employs licensed optometrists
who render services in offices located immediately adjacent
to, or within, most Sterling Stores located in California.
ISEE operates and franchises retail locations in 20 states,
Canada, and the U.S. Virgin Islands. ISEE is also a pioneer in the
private labeling of optical products available to the consumer
through its retail outlets. Most Sterling Stores offer eye care
products and services such as prescription and non-prescription
eyeglasses, eyeglass frames, ophthalmic lenses, contact lenses,
sunglasses and a broad range of ancillary items. ISEE fills prescriptions
from these employed or affiliated optometrists, as
well as from unaffiliated optometrists and ophthalmologists.
Most of its stores have an inventory of ophthalmologic and
contact lenses, as well as on-site lab equipment for cutting and
edging ophthalmic lenses to fit into eyeglass frames, which, in
many cases, allows Sterling Stores to offer same-day service.
The strong and recognizable brand names, as well as the
company’s focus on franchise operations, provide competitive
advantages.
Revenues for FY?6 climbed 57% to $21.7 mil., with net
income of .02 per diluted share vs. .00 for the prior year.
Revenues for Q1?7 through acquisitions leaped 122% to $8.3
mil., with net income of $431,000, or .00 per diluted share vs.
.02 for the same period in the prior year. There are substantial
economics of scale?in the industry and the large chains get
the benefits and discounts.
ISEE remains aggressively on the acquisition trail. In
addition, Harvey Ross, past President of Viva Intl. Group (large
eye care firm major shareholder), sold the company for approx.
$138 mil. and is now a director of ISEE and for the past 3-yrs.
continues to purchase a significant amount of ISEE shares in
the open market. Of the 70.3 mil. shares outstanding, insiders
own approx. 75%.
The stock has been quietly trading in the .20-.25 area and
is starting to breakout to the upside where we would purchase
for a 1st target of .80-1.00, especially as ISEE itself is in a position
to be acquired and is repeatedly named by Crain뭩 Franchise
Buyer and Entrepreneur Magazine as one of the top franchise
operators in the U.S. Meanwhile, ISEE’s Combined Buying
Group is a leading national group purchasing organization and
the premier source of wholesale optical goods since ?1,
providing members with vendor discounts on wholesale optical
goods through both conventional ordering systems and via
the Internet. ISEE is accelerating growth through acquisition
(just announced to acquire The Optical Group with approx. $37
mil. of annual revenue) as the industry itself is currently in a
strong roll-up phase with several big players buying retail
chains. Ultimate target 1.50-2.00.
Key Facts
http://www.investor.reuters.com/business/BusCompanyOverview.aspx?ticker=ISEE&target=%2fbusiness%....
Check out the insider trading activities
http://finance.yahoo.com/q/it?s=ISEE.OB
http://stocks.us.reuters.com/stocks/insiderTrading.asp?symbol=ISEE.OB&WTmodLOC=L2-LeftNav-20-Ins....
Named as top 50 optical retailers
http://www.emergingvision.com/news_press/in_the_news.html?mode=view&AID=42&Year=2007
FORECAST 2007
Our conclusions on market direction in 2007 are clear. While the broad market could survive until March, we believe that will be either the high or a secondary high. Following that we will begin a five-year bear market with a big portion of the collapse occurring in 2007-08, very similar to the collapse of 1937-38. Gold and precious metals should resume their bull runs in 2007, with an outside chance of gold running to $1,000 an ounce. Other commodities should also rise. Oil should resume its bull market once again once we break out over $70. The US dollar should go into decline, but we expect it to be orderly, with periodic sharp corrections.
http://www.gold-eagle.com/editorials_05/chapmand122206.html
DJIA PARALLELS: THE 1930’s & THE 2000’s
The close similarities between the timing of the New York stock market in the 1930’s and 2000’s were first commented upon by David Chapman. There were remarkable parallels of about 70 years in the major shifts in investor sentiment between the two eras. The markets peaked after the two of the greatest stock market manias in US history, then crashed in October 1929 & April 2000. The market finally bottomed two years later in July 1932/October 2002, which was followed by a secondary low in March 1933/March 2003. Both markets recovered to record a ‘flat’ 1934/2004, in which the market tended to move sideways. The share markets experienced boom conditions in 1935-36/2005-06 with new highs being recorded. Corrections occurred in April 1936/May 2006, but the markets quickly resumed their upward momentum to set new highs. The 1930’s experienced a major peak in March 1937 and entered a protracted bear market, bottoming in March 1938. It remains to be seen whether this will be repeated with a peaking of the market in coming months followed by a serious market downturn.
Will there be a record peak in 2007? Will the panic of October 18, 1937 be repeated in October 2007? Will a low happen in March 2008, following trends as in March 1938. As always only time will tell.
http://www.davidmcminn.com/pages/19302000.pdf
Deflation (economics)
From Wikipedia, the free encyclopedia
Deflation is a decrease in the general price level, over a period of time. Deflation is the opposite of inflation. For economists especially, the term has been and is sometimes used to refer to a decrease in the size of the money supply (as a proximate cause of the decrease in the general price level). However, this latter is now more often referred to as a 'contraction' of the money supply. During deflation the demand for liquidity goes up, in preference to goods or interest. During deflation the purchasing power of money increases.
Contents [hide]
1 Definition
2 Effects of deflation
3 Causes of deflation
3.1 Alternative causes and effects
3.1.1 The neoclassical school of economics
3.1.2 The Austrian school of economics
3.1.3 Keynesian economics
4 Impacts of deflation
5 Counteracting deflation
6 Examples of deflation
6.1 United Kingdom
6.2 Deflation in the United States
6.2.1 Major deflations
6.2.2 Minor deflations
6.3 Deflation in Hong Kong
6.4 Deflation in Japan
7 References
8 See also
9 External links
[edit] Definition
The 'general price level' comprises the price of wages, consumption goods and services. As with inflation, there are economists who regard deflation as a purely monetary effect, when the monetary authority and the banks constrict the money supply, and there are those who believe that price deflation follows dramatic falls in business confidence, which reduces the velocity of money, i.e. the speed with which money is circulating. However, it is at least theoretically possible to have a falling money supply but stable or rising prices, if the rate of increase of the velocity of money is substantially greater than the rate at which the money supply is falling. Presumably, this is what happens in the early stages of a hyper-inflation as the monetary authorities lose control over the money supply (but are initially, at least, trying to put on the brakes by the usual remedy of restricting money supply).
In the recent years, economists have also started to use the term inflation and deflation in relation to assets (i.e. as a short-hand for price inflation or price deflation), such as stocks and housing (production goods). Indeed, policies designed to fight inflation in goods, services and wages, have seemed to spur stock and housing price inflation, or asset bubbles. During deflation, while consumers can buy more with the same amount of money, they also have less access to money (e.g., as wages, debt, or the return realized on sales of their products). Consumers and producers who are in debt, such as mortgagors, suffer because as their (money) income drops, their (money) payments remain constant. Central bankers worry about deflation, because many of the tools of monetary policy become ineffective as the real cost of money (the interest rate minus the inflation rate) begins to turn higher again once the inflation rate drops below zero (nominal interest rates cannot fall below zero; that would be equivalent to the banks paying customers to borrow money!). Deflation may set off a deflationary spiral, where businesses slow or stop investing, because the investment risk is perceived as higher than just letting the money appreciate due to deflation. (The deflationary spiral is the opposite of the hyper-inflationary spiral.)
Deflation is generally regarded as a negative in modern currency environments, because a deflationary spiral may cause large falls in GDP and purchasing power, and may take a very long time to correct.
However, a deflationary bias is the norm under specie or specie backed money economies, as population and production tend to increase faster than the stock of specie. (Conversely, an inflationary bias is the norm under credit money economies.) There are also episodes where there may be deflation in only a particular kind or type of goods, such as commodities during the Great commodities depression of 1982-1998.
Deflation should not be confused with disinflation which is a slowing in the rate of inflation, that is, where the general level of prices are still increasing, but slower than before.
In monetarists theory, deflation is defined in terms of a rise in the demand for money, based on the quantity of money available. The Quantity Theory of Money is founded on the Fisher equation (also called the equation of exchange),
MV = PT, [1]
where M is the money supply, V is the velocity of money, P is the average price level and T is the total number of transactions.
In this model of deflation, it is a contraction of the money supply which reduces the velocity of mone, and thus the number of transactions falls and therefore the general price level falls in response.
[edit] Effects of deflation
In mainstream economic theory deflation is a general reduction in the level of prices, or of the prices of an entire kind of asset or commodity. Deflation should not be confused with temporarily falling prices; instead, it is a sustained fall in general prices. In the IS-LM model this is caused by a shift in the supply and demand curve for goods and interest, particularly a fall in the aggregate level of demand. That is, there is a fall in how much the whole economy is willing to buy, and the going price for goods. Since this idles capacity, investment also falls, leading to further reductions in aggregate demand. This is the deflationary spiral. The solution to falling aggregate demand is stimulus either from the central bank, by expanding the money supply, or by the fiscal authority to increase demand, and borrow at interest rates which are below those available to private entities.
In more recent economic thinking, deflation is related to risk, where the risk adjusted return of assets drops to negative, investors and buyers will hoard currency rather than invest it, even in the most solid of securities. This can produce the theoretical condition, much debated as to its practical possibility, of a liquidity trap. A central bank cannot, normally, charge negative interest for money, and even charging zero interest often produces less stimulative effect than slightly higher rates of interest. In a closed economy, this is because charging zero interest also means having zero return on government securities, or even negative return on short maturities. In an open economy it creates a carry trade and devalues the currency producing higher prices for imports without necessarily stimulating exports to a like degree. The experience of Japan during its 1988-2004 depression is thought to illustrate both of these problems.
In monetarist theory deflation is related to a sustained reduction in the velocity of money or number of transacitons. This is attributed to a dramatic contraction of the money supply, perhaps in response to a falling exchange rate, or to adhere to a gold standard or other external monetary base requirement.
Deflation is generally regarded negatively, as it is a tax on borrowers and on holders of illiquid assets, which accrues to the benefit of savers and of holders of liquid assets and currency. In this sense it is the opposite of inflation (or in the extreme, hyperinflation), which is a tax on currency holders and lenders (savers) in favor of borrowers and short term consumption. In modern economies, deflation is caused by a collapse in demand (usually brought on by high interest rates), and is associated with recession and (more rarely) long term economic depressions.
In modern economies, as loan terms have grown in length and financing is integral to building and general business, the penalties associated with deflation have grown larger. Since deflation discourages investment and spending, because there is no reason to risk on future profits when the expectation of profits may be negative and the expectation of future prices is lower, it generally leads to, or is associated with a collapse in aggregate demand. Without the "hidden risk of inflation", it may become more prudent just to hold onto money, and not to spend or invest it.
Deflation is, however, the natural condition of hard currency economies when the rate of increase in the supply of money is not maintained at a rate commensurate to positive population (and general economic) growth. When this happens, the available amount of hard currency per person falls, in effect making money scarcer; and consequently, the purchasing power of each unit of currency increases. The late 19th century provides an example of sustained deflation combined with economic development under these conditions.
Deflation also occurs when improvements in production efficiency lowers the overall price of goods. Improvements in production efficiency generally happen because economic producers of goods and services are motivated by a promise of increased profit margins, resulting from the production improvements that they make. But despite their profit motive, competition in the marketplace often prompts those producers to apply at least some portion of these cost savings into reducing the asking price for their goods. When this happens, consumers pay less for those goods; and consequently deflation has occurred, since purchasing power has increased.
While an increase in the purchasing power of one's money sounds beneficial, it can actually cause hardship when the majority of one's net worth is held in illiquid assets such as homes, land, and other forms of private property. It also amplifies the sting of debt, since-- after some period of significant deflation-- the payments one is making in the service of a debt represent a larger amount of purchasing power than they did when the debt was first incurred. Consequently, deflation can be thought of as a phantom amplification of a loan's interest rate. (But, conversely, inflation may be thought of as a regressive, across the board general tax.)
This lesson about protracted deflationary cycles and their attendant hardships has been felt several times in modern history. During the 19th century, the Industrial Revolution brought about a huge increase in production efficiency, that happened to coincide with a relatively flat money-supply. These two deflationary catalysts led, simultaneously, not only to tremendous capital development, but also to tremendous deprivation for millions of people who were ill-equipped to deal with the dark side of deflation. Business owners-- on average, better educated in economic theory than their unfortunate cohorts (or just better able to withstand the economic stresses)-- recognized the deflation cycle as it unfolded, and positioned themselves to leverage its beneficial aspects.
Hard money advocates argue that if there were no "rigidities" in an economy, then deflation should be a welcome effect, as the lowering of prices would allow more of the economy's effort to be moved to other areas of activity, thus increasing the total output of the economy. However, while there have been periods of 'beneficial' deflation (especially in industry segments, such as computers), more often it has led to the more severe form with negative impact to large segments of the populace and economy.
Since deflationary periods favor those who hold currency over those who do not, they are often matched with periods of rising populist sentiment, as in the late 19th century, when populists in the United States wanted to move off hard money standards and back to a money standard based on the more inflationary (because more abundantly available) metal silver.
Most economists agree that the effects of modest long-term inflation are less damaging than deflation (which, even at best, is very hard to control). Deflation raises real wages which are both difficult and costly for management to lower. This frequently leads to layoffs and makes employers reluctant to hire new workers, increasing unemployment. However, in the last 5 years or so, real wages for the average worker has remained fixed or actually decreased, with little effect on unemployment.
[edit] Causes of deflation
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From a monetary perspective deflation is caused by a reduction in the velocity of money and/or the amount of money supply per person. In a hard money economy (with limited specie sources), deflation is the more natural state of the economy - people multiply and economies grow faster than hard money is created. Capitalism (when sufficient competition exists) is also an engine of deflation: as capital stocks improve, and there are more competitors, the supply of goods goes up, which means prices must fall until they balance demand. Capitalism also drives efficiency and innovation which has a downward pull on prices.
A distinction then, should be drawn between deflation in hard currency economies, such as those on the gold standard and economies which run on credit. In modern credit based economies, a deflationary spiral may be caused by the (central bank) initiating higher interest rates (e.g., to 'control' inflation), thereby possibly popping an asset bubble or the collapse of a command economy which has been run at a higher level of production than it could actually support. In a credit based economy, a fall in money supply leads to markedly less lending, with a further sharp fall in money supply (since debt is money), and a consequent sharp fall-off in demand for goods. Demand falls, and with the falling of demand, there is a fall in prices as a supply glut develops. This becomes a deflationary spiral when prices fall below the costs of financing production. Businesses, unable to make enough profit no matter how low they set prices, are then liquidated. Banks get assets which have fallen dramatically in value since the (mortgage) loan was made, and if they sell those assets, they further glut supply, which only exacerbates the situation. To slow or halt the deflationary spiral, banks will often withhold collecting on non-performing loans (as in Japan, most recently). This is often no more than a stop-gap measure, because they must then restrict credit, since they do not have money to lend, which further reduces demand, and so on.
In unstable currency economies, barter and other alternate currency arrangements are common, and therefore when the 'official' money becomes scarce (or unusually unreliable), commerce can still continue (e.g., most recently in Russia and Argentina). Since in such economies the central government is often unable, even if it were willing, to adequately control the internal economy, there is no pressing need for individuals to acquire official currency except to pay for imported goods. In effect, barter acts as protective tariff in such economies, encouraging local consumption of local production. It also acts as a spur to mining and exploration, since one easy way to make money in such an economy is to dig it out of the ground.
When the central bank has lowered nominal interest rates all the way to zero, it can no longer further stimulate demand by lowering interest rates - "deflation is when the central bank cannot give money away". This is the famous liquidity trap. When deflation takes hold, it requires "special arrangements" to "lend" money at a zero nominal rate of interest (which could still be a very high real rate of interest, due to the negative inflation rate) in order to (artificially) increase the money supply.
This cycle has been traced out on the broad scale during the Great Depression. Specifically when the collapse of the Viennese Credit-Anstalt bank led to the subsequent collapse of the entire global financial system.[2] International trade contracted sharply, severely reducing demand for goods, thereby idling a great deal of capacity, and setting off a string of bank failures. A similar situation in Japan, beginning with the stock and real estate market collapse in the early 1990s, was arrested by the Japanese government preventing the collapse of most banks and taking over direct control of several in the worst condition. These occurrences are the matter of intense debate. There are economists who argue that the post-2000 recession had a period where the US was at risk of severe deflation, and that therefore the Federal Reserve central bank was right in holding interest rates at an "accommodative" stance from 2001 on.
[edit] Alternative causes and effects
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Please see the discussion on the talk page.
[edit] The neoclassical school of economics
The neutrality and factual accuracy of this section are disputed.
Please see the relevant discussion on the talk page.
In the ideal perfect market world, no deflation can happen because monetary authorities control money creation and prices are allowed to fluctuate.[citation needed]
[edit] The Austrian school of economics
The Austrian school defines deflation and inflation solely in relation to the money supply. Deflation is therefore defined to be a contraction of the money supply. Under this definition, the Austrian school sees deflation as a cause of a general fall in prices, not a general fall in prices itself. They attribute the other main cause of a general fall in prices to be an increase of productivity relative to the money supply.
For instance if there is a fixed money supply of 400 kg of gold in an economy that produces 200 widgets, then one widget will cost 2 kg of gold. However, next year if output is 400 widgets with the same money supply of 400 kg of gold the price of each widget will drop to 1 kg of gold. In this case the general fall in price was caused by increased productivity.
The opposite of the above scenario has the same effect on prices, but a different cause. If there is a fixed money supply of 400 kg of gold in an economy that produces 200 widgets, then once again each widget will cost 2 kg of gold. However, if next year the money supply is cut in half to 200 kg of gold with the same output of 200 widgets, the price of each widget will now only be 1 kg of gold. When capital profits are dropping rapidly, there is no reason to invest gold, which breaks the savings identity, and thus the automatic tendency of the economy to move back to equilibrium.
Austrians view increased productivity to be a good cause of a general fall in prices, while credit/money supply contraction as being a bad cause of a general fall in prices. Austrians contend that in the first scenario wages will remain the same because of the unchanged money supply but that a general increase in wealth will be reflected in lower prices. Austrians also take the position that there are no negative distortions in the economy due to a general fall in prices in the first scenario. However, in the second scenario where a general fall in prices is caused by deflation, Austrians contend that this confers no benefit to society. For in this scenario wages will simply be cut in half and lower prices will not reflect a general increase in wealth. In addition, Austrians believe that deflation causes negative distortions in the economy with debtors and creditors as well as other areas.
[edit] Keynesian economics
Keynesians insist on the distinction between consuming goods and producing goods (assets), and between exogeneous (government based) and endogeneous (credit based) money supply. For a given money supply, if wages rise faster than productivity, profits will fall, and with them the price of producing goods (deflation), while consuming goods will rise (inflation). This happens in times when labor supply is tight and bargaining power is strong (prior to mid 1970s). When wages rise slower than productivity, profits rise as do the prices of assets relative to consuming goods. This can occur when labor supply is great and bargaining power is weak (mid 1970s to present).
Inflation and deflation occur when the economic policies allow wages to increase or decrease at differing rates than productivity. Wages rising faster than productivity lead to inflation. Wages failing to increase at the rate of productivity for protracted periods will cause deflation as it will lead to reduced consumption or debt accumulation as producers lend to wage earning consumers part of their profits, in order to sell their products. When debt payments exceed the borrower's ability to pay, debt accumulation and endogeneous money creation stops, demand and goods' prices fall (deflation), manufacturers reduce production, employment falls, and fewer borrowers are thus able to pay their debts, and the cycle exacerbates.
Keynesians advocate corrective action. While they realise the market often gets out of control and turns into booms, most believe it is hard to recognise booms from growth, and therefore the government should concentrate on fighting busts. In case of debt deflation, keynesians advocate "pump priming" or government creation of credit/money that has a cost interest rate below inflation or market rates. As witnessed since 1990 in Japan, and in the 1930's in the USA, this policy is not very effective unless government creates employment via public works projects or military manufacturing.
Austrians and keynesians agree on the idea that there are counterproductive cycles of booms and bust but while the former believe the government tends to be a cause of those cycles, the latter believe it is a means to resolve those cycles.
[edit] Impacts of deflation
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Please see the discussion on the talk page.
Nominal prices are always somewhat sticky due to institutional factors, therefore a monetary deflation can lead to widespread bankruptcy. Prices fall over a long period of time, as institutional barriers need be broken (ie contract commitments) before the downward price spiral can be fully transmitted to other sectors.
[edit] Counteracting deflation
The neutrality of this section is disputed.
Please see the discussion on the talk page.
Until the 1930s, it was commonly believed by economists that deflation would cure itself. As prices decreased, demand would naturally increase and the economic system would correct itself without outside intervention.
This view was challenged in the 1930s during the Great Depression. Keynesian economists argued that the economic system was not self correcting with respect to deflation and that governments and central banks had to take active measures to boost demand through tax cuts or increases in government spending. Reserve requirements from the central bank were high and the central bank could then have effectively increased money supply by simply reducing the reserve requirements and through "open" market operations (e.g., buying treasury bonds for cash) to offset the reduction of money supply in the private sectors due to the collapse of credit (credit is a form of money).
With the rise of monetarist ideas, the focus in fighting deflation was put on expanding demand by lowering interest rates (i.e., reducing the "cost" of money). This view has received a setback in light of the failure of accommodative policies in both Japan and the US to spur demand after stock market shocks in the early 1990s and in 2000 - 2002, respectively. Economists now worry about the (inflationary) impact of monetary policies on asset prices. Sustained low real rates can be the direct cause of higher asset prices and excessive debt accumulation. Therefore lowering rates may prove only a temporarily palliative, leading to the aggravation of a(n eventual) future debt deflation crisis.
[edit] Examples of deflation
[edit] United Kingdom
During World War I the British pound sterling was removed from the gold standard. The motivation for this policy change was to finance the First World War; one of the results was inflation, and a rise in the gold price, along with the corresponding drop in international exchange rates for the pound. When the pound was returned to the gold standard after the war it was done on the basis of the pre-war gold price, which, since it was higher than equivalent price in gold, required prices to fall to realign with the higher target value of the pound.
[edit] Deflation in the United States
[edit] Major deflations
There have been two significant periods of deflation in the United States. The first was after the Civil War, sometimes called The Great Deflation.
"The Great Sag of 1873-96 could be near the top of the list. Its scope was global. It featured cost-cutting and productivity-enhancing technologies. It flummoxed the experts with its persistence, and it resisted attempts by politicians to understand it, let alone reverse it. It delivered a generation’s worth of rising bond prices, as well as the usual losses to unwary creditors via defaults and early calls. Between 1875 and 1896, according to Milton Friedman, prices fell in the United States by 1.7% a year, and in Britain by 0.8% a year.[3]
The second was between 1930-1933 when the rate of deflation was approximately 10 percent/year. The first was possibly spurred by the deliberate policy in retiring paper money printed during the Civil War; the second was part of America's slide into the Great Depression, where banks failed and unemployment peaked at 25%. Both were world-wide phenomena.
The deflation of the Great Depression did not occur because of any sudden rise or surplus in output. It occurred because there was an enormous contraction of credit (money), bankruptcies created an environment where cash was in frantic demand, and the Federal Reserve did not adequately accommodate that demand, so even sound banks toppled one-by-one (because they were unable to meet the sudden demand for cash— see Fractional-reserve banking). From the standpoint of the Fisher equation (see above), there was a concommitant drop both in money supply (credit) and the velocity of money which was so profound that deflation took hold despite the increases in money supply spurred by the Federal Reserve.
[edit] Minor deflations
Throughout the history of the United States, inflation has approached zero and dipped below for short periods of time (negative inflation is deflation). This was quite common in the 19th century and in the 20th century before World War II.
[edit] Deflation in Hong Kong
Following the Asian financial crisis in late 1997, Hong Kong experienced a long period of deflation which did not end until the 4th quarter of 2004 [4]. Many East Asian currencies devalued following the crisis. The Hong Kong Dollar, however, was pegged to the US Dollar. The gap was filled by deflation of consumer prices. The situation is worsened with cheap commodity goods from Mainland China, and weak consumer confidence. According to Guinness World Records, Hong Kong was the economy with lowest inflation in 2003 [5].
[edit] Deflation in Japan
Deflation started in the early 1990s. The Bank of Japan and the government have tried to eliminate it by reducing interest rates (part of their 'quantitative easing' policy), but despite having them near zero for a long period of time, they have not succeeded. In July 2006, the zero-rate policy was ended.
Systemic reasons for deflation in Japan can be said to include:
Fallen asset prices. There was a rather large price bubble in both equities and real estate in Japan in the 1980s (peaking in late 1989). When assets decrease in value, the money supply shrinks, which is deflationary.
Insolvent companies: Banks lent to companies and individuals that invested in real estate. When real estate values dropped, these loans could not be paid. The banks could try to collect on the collateral (land), but this wouldn't pay off the loan. Banks have delayed that decision, hoping asset prices would improve. These delays were allowed by national banking regulators. Some banks make even more loans to these companies that are used to service the debt they already have. This continuing process is known as maintaining an "unrealized loss", and until the assets are completely revalued and/or sold off (and the loss realized), it will continue to be a deflationary force in the economy. Improving bankruptcy law, land transfer law, and tax law have been suggested (by The Economist) as methods to speed this process and thus end the deflation.
Insolvent banks: Banks with a larger percentage of their loans which are "non-performing", that is to say, they are not receiving payments on them, but have not yet written them off, cannot lend more money; they must increase their cash reserves to cover the bad loans.
Fear of insolvent banks: Japanese people are afraid that banks will collapse so they prefer to buy gold or (United States or Japanese) Treasury bonds instead of saving their money in a bank account. This likewise means the money is not available for lending and therefore economic growth. This decreases the supply of money available for lending and economic growth. This means that the savings rate depresses consumption, but does not appear in the economy in an efficient form to spur new investment. People also save by owning real estate, further slowing growth, since it inflates land prices.
Imported deflation: Japan imports Chinese and other countries' inexpensive consumable goods, raw materials (due to lower wages and fast growth in those countries). Thus, prices of imported products are decreasing. Domestic producers must match these prices in order to remain competitive. This decreases prices for many things in the economy, and thus is deflationary.
http://en.wikipedia.org/wiki/Deflation_(economics)
12 investment themes for 2007
Eight of them are likely to unfold this year while four will probably work but maybe not until later:
1. The housing bubble will burst. If so,
2. The Fed will ease; meanwhile, the yield curve will remain inverted
3. U.S. stock prices will fall, perhaps below the 2002 lows, in the midst of a major recession
4. China will suffer a hard landing due to domestic cooling measures and U.S. recession
5. Weakness in U.S. and China will spread globally, dragging down economies and stocks universally
6. Treasury bonds will rally
7. The dollar will rally, but not before the recession is global
8. Commodity prices will nosedive
9. Maybe global and chronic deflation will commence in 2007.
10. Maybe U.S. consumers will start a long-run saving spree, replacing their 25-year borrowing and spending binge
11. Maybe deflationary expectations will become widespread and robust
12. Speculative areas beyond housing may suffer in 2007
The Coming Stock Market Crash of 2007
http://chartingstocks.net/2007/01/01/the-coming-stock-market-crash-of-2007/
Four Reasons for Potential 2007 Stock Market Crash2006
was profitable for stock investing, but that may abruptly end says Commodity Futures Broker Tom Reavis.
According to expert futures trading broker Tom Reavis, 2006 was an exciting and profitable year for stock investing but there is good reason to believe that may soon come to an end in 2007. Reavis, president and CEO of Worldwide Futures Systems, a commodity futures trading firm that develops alternative investment strategies for clients, cites four key indicators that foretell a potential disaster for the stock market in 2007.
1. The S&P 500 has a very high correlation to the Housing Market Index (HMI) released by the National Association of Homebuilders. There is a lag time of 12-15 months. When the HMI index goes up, the next year the S&P Stock Index typically rallies. When the HMI falls, the next year the S&P 500 typically declines. The Building Index last peaked in October 2005 and reached its lowest level in 15 years in September 2006. If history repeats itself, the Stock Indexes are about ready to plunge.
2. Money managers generally spread their investments between stocks and bonds. One way of judging if stocks are too pricey is to compare them against the performance of bonds. The argument being that if the difference becomes too great investors will sell stocks and buy bonds. The surge in stocks of 2006 has not been matched by the increase in bond yields. In fact, stocks are rarely as overvalued to bonds as they are right now. The current gap has only been seen one percent of the time. This signal has indicated the two largest market corrections of the last decade.
3. Reavis said he was taught to "follow the guys driving the big cars." In other words, what are the big boys doing? Currently short positions held by large commercial traders are at a level so high that it has only been reached twice before. The first was in 2001 before the S&P 500 plunged 38 percent and again in late 2004 before prices fell in 2005.
4. Mutual fund managers are very short on cash. Funds are allowed to keep cash reserves instead of stocks and bonds. The percentage of cash that they have on hand is often a good indicator of what might happen in the stock markets. With present interest rate levels smart managers should be maintaining at least 7 percent cash position. Current cash position in stock mutual funds is running just over 4 percent. This means that there is very little cash left to drive prices higher, and if the market does head south, mutual fund managers would have to sell stock to cover redemptions. This would drive stocks even lower. The last two times that cash hit this low level the stock market plunged, first, in 1981 before a two year market slump and again in 2000 before the last big bear market.
To protect against a potentially substantial drop in the stock market, diversify with alternative investments with very low correlation to standard stock and bond portfolios
Analysis of October 1987 Crash
http://archive.gao.gov/d30t5/134907.pdf
The Impact Of An Inverted Yield Curve
http://finance.yahoo.com/bonds
The term yield curve refers to the relationship between the short- and long-term interest rates of fixed-income securities issued by the U.S. Treasury. An inverted yield curve occurs when short-term interest rates exceed long-term rates. From an economic perspective, an inverted yield curve is a noteworthy event. Here we explain this rare phenomenon, discuss its impact on consumers and investors, and tell you how to adjust your portfolio to account for it.
Typically, short-term interest rates are lower than long-term rates, so the yield curve slopes upwards, reflecting higher yields for longer-term investments. This is referred to as a normal yield curve. When the spread between short-term and long-term interest rates narrows, the yield curve begins to flatten. A flat yield curve is often seen during the transition from a normal yield curve to an inverted one.
Figure 1 - A normal yield curve
What Does an Inverted Yield Curve Suggest?
Historically, an inverted yield curve has been viewed as an indicator of a pending economic recession. When short-term interest rates exceed long-term rates, market sentiment suggests that the long-term outlook is poor and that the yields offered by long-term fixed income will continue to fall. More recently, this viewpoint has been called into question as foreign purchases of securities issued by the U.S. Treasury have created a high and sustained level of demand for products backed by U.S. government debt. When investors are aggressively seeking debt instruments, the debtor can offer lower interest rates. When this occurs, many argue that it is the laws of supply and demand, rather than impending economic doom and gloom, that enable lenders to attract buyers without having to pay higher interest rates. (To learn more, see Forces Behind Interest Rates and Trying To Predict Interest Rates.)
Figure 2 - An inverted yield curve: note the inverse relationship between yield and maturity
Impact on Consumers
In addition to its impact on investors, an inverted yield curve also has an impact on consumers. For example, homebuyers financing their properties with adjustable-rate mortgages (ARMs) have interest-rate schedules that are periodically updated based on short-term interest rates. When short-term rates are higher than long-term rates, payments on ARMs tend to rise. When this occurs, fixed-rate loans may be more attractive than adjustable-rate loans.
Lines of credit are affected in a similar manner. In both cases, consumers must dedicate a larger portion of their incomes toward servicing existing debt. This reduces expendable income and has a negative effect on the economy as a whole. (See ARMed And Dangerous, Mortgages: Fixed-Rate Versus Adjustable-Rate and APR vs APY: How The Distinction Affects You.)
Impact on Fixed-Income Investors
A yield curve inversion has the greatest impact on fixed-income investors. In normal circumstances, long-term investments have higher yields; because investors are risking their money for longer periods of time, they are rewarded with higher payouts. An inverted curve eliminates the risk premium for long-term investments, allowing investors to get better returns with short-term investments. When the spread between U.S. Treasuries (a risk-free investment) and higher-risk corporate alternatives is at historical lows, it is often an easy decision to invest in lower-risk vehicles. In such cases, purchasing a Treasury-backed security provides a yield similar to the yield on junk bonds, corporate bonds, real estate investment trusts and other debt instruments, but without the risk inherent in these vehicles. Money market funds and certificates of deposit (CDs) may also be attractive - particularly when a one-year CD is paying yields comparable to those on a 10-year Treasury bond. (For further reading, see Getting To Know The Money Market and Why do interest rates tend to have an inverse relationship with bond prices?)
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Impact on Equity Investors
When the yield curve becomes inverted, profit margins fall for companies that borrow cash at short-term rates and lend at long-term rates, such as community banks. Likewise, hedge funds are often forced to take on increased risk in order to achieve their desired level of returns. In fact, a bad bet on Russian interest rates is largely credited for the demise of Long-Term Capital Management, a well-known hedge fund run by bond trader John Meriwether. (For further reading, see Corporate Bonds: An Introduction To Credit Risk.)
Despite their consequences for some parties, yield curve inversions tend to have less impact on consumer staples and healthcare firms, which are not interest-rate dependent. This relationship becomes clear when an inverted yield curve precedes a recession. When this occurs, investors tend to turn to defensive stocks, such as those in the food, oil and tobacco industries, which are often less affected by downturns in the economy. (For further reading, see What are defensive stocks? and Recession: What Does It Mean To Investors?)
Conclusion
While experts question whether or not an inverted yield curve remains a strong indicator of pending economic recession, keep in mind that history is littered with portfolios that were devastated when investors blindly followed predictions about how "it's different this time". Most recently, short-sighted equity investors spouting this mantra participated in the "tech wreck", snapping up shares in tech companies at inflated prices even though these firms had no hope of ever making a profit.
If you want to be a smart investor, ignore the noise. Instead of spending time and effort trying to figure out what the future will bring, construct your portfolio based on long-term thinking and long-term convictions - not short-term market movements. For your short-term income needs, do the obvious: choose the investment with the highest yield, but keep in mind that inversions are an anomaly and they don't last forever. When the inversion ends, adjust your portfolio accordingly.
For further reading, see The Impact of Interest Rates On REITs.
http://www.investopedia.com/articles/basics/06/invertedyieldcurve.asp