Mascio's Blog

Politics and The US Ecnomony

2011-08-31T12:06:00.000-07:00

The uncertainties of the last two weeks within the US political environment have been unnerving to stay the least. President Obama, two weeks ago, informed the nation that the US Congress has come up with a viable debt reduction program that would allow the debt ceiling to be increased. Less than one week later the President retracted his statement, and suggested there is still more compromise needed before he would sign any legislation into law. Needless to say, the financial markets reacted negatively in the final week of July, and to make matters worse, poor economic data for the month of July created an even more dramatic sell-off last week. Just as investors were starting to digest the new debt ceiling agreement Standard & Poors, a credit rating agency, downgraded United States Treasuries from the highest rating of AAA to AA+ with a negative outlook over the weekend for the first time in history (stock markets will not react well to this new development). Initially, we believed the positive employment situation reported on Friday would stabilize the financial markets, but the rating downgrade issued by S&P and the emergency meeting by the European Monetary Union has added to the market’s anxiety.

The New Debt Ceiling Bill (or lack there of)

After reading the executive summary of the new debt ceiling bill that President Obama approved last Tuesday, there is hardly anything to cheer about. The bill simply raised the debt ceiling through 2012 (after the election!), and in essence created a mandatory sub-committee that will debate a final bill for a vote no later than Thanksgiving. If a final resolution is not agreed upon by that date there will be mandatory cuts in defense and entitlement programs.

So, after months of debating, both Democrats and Republicans could not agree upon a long-term debt or budget solution, but they did agree to raise the debt ceiling by a couple of trillion dollars to avoid a default on our past obligations. Simply put, this was a terrible solution and the financial markets echoed this sentiment by the dramatic selling off last week.

ISM and Consumer Confidence

The Institute of Supply Management published their monthly report of business activity for the month of July, which was the worst report since June of 2009. The ISM manufacturing index came in at 50.9 (any reading below 50 is considered a contraction). The most worrisome component of this report was backlog orders which fell 4 points from June to 45, indicating that future manufacturing activity will get worse. In addition, future orders contracted to 49.3; its worst reading since December of 2009, and is the first reading below 50 since the recovery began three years ago Most economists and investors were completely surprised, forecasting the data would be unchanged or slightly higher after June’s positive reading. Overall, this report indicates the manufacturing sector is weak and suggests the future is going to get worse.

Consumer Confidence continues to be at depressed levels remaining well below 80; any reading above 80 indicates economic expansion. Currently, the Conference Board’s survey of consumer confidence for July was 59.5, slightly above the June reading of 58.5, and its worth noting that this number was published July 26^th before the US Congress came to a stalemate over the final debt ceiling bill. The most telling component of this report was that jobs were hard to get, increased from 43.2 to 44.1, and consumers described business conditions as getting worse not getting better. I must point out that this indicator has not been above 80 since the economic recovery began back in 2009.

Standard and Poors Downgrade of US Treasuries

Probably the biggest surprise occurred this weekend when Standard and Poors downgraded US Treasuries’ credit status to AA+ with a negative outlook. Most strategists and economists believed this might happen in the future, but for S&P to move so swiftly was unprecedented. The other two rating agencies, Moody’s and Fitch, both affirmed their AAA rating on US Treasuries’. More over S&P cited that the government’s inability to handle their fiscal situation in a timely and uniform matter gave credence for the rating agency to act swiftly. The company also cited that the US Government does not have a responsible approach to handling the country’s debt obligations and its grasp on its current budgetary constraints. This undoubtedly will have major stock market and fixed income ramifications, both short and long term.

Employment Situation

The July jobs report that was issued on Friday came in much better than expected. Consensus estimated that 75,000 new jobs would be created and 117,000 new jobs were actually created. The private sector created over 150,000 jobs, and public sector contracted by 37,000. The unemployment rate ticked lower to 9.1%. Given the current ISM report most economists believed this report was going to be very disappointing. Unfortunately, this is a lagging indicator and gives investors no real definitive direction of future hiring in the months to come.

Our Strategy

After being positive on the equity market over the past few months, the recent developments over the last two weeks have changed our overall outlook and strategy. After being completely disappointed with our government’s ability to handle the debt situation in an effective manner, poor forward looking economic data, and S&P’s lowering the rating of US Treasuries makes it hard to be positive in the near term on the global financial markets. Even though corporate earnings have been excellent, most of their profits have been generated from abroad, and with the increased uncertainty facing the global markets there are too many headwinds that may prevent any significant stock market rallies.

The silver lining in this carnage is that the US Government is coming into an election year, and there is a considerable amount of motivation to get this economy back on track and instill confidence to the financial markets. Our hope is that policy changes come out of Washington that entice corporations to spend the massive amounts of cash they have sitting in reserves. The main difference between the current situation and the financial crisis of 2008, is corporations all over the world are in much stronger financial positions, and one can easily argue that they are the best positioned than any other time in history. Corporate earnings are what drive the financial markets, and we are not seeing any evidence at this time that the recent market sell-off is justified based on market valuations. To the contrary, there are certainly potential buying opportunities that are emerging.

In conclusion, the financial markets are going to continue to be extremely volatile in the near term, if the governments of the world make the correct policy decisions the financial markets will resume their upward trend. If policy makers continue their partisan ways, the entire global economy will suffer greatly. Over the next couple of weeks these themes will become more evident and we will make appropriate changes in our investment strategy. We will not succumb to the panic and fear that is dominating the financial markets at this time.

Is the Current Economic Slowdown Temporary?

2011-05-03T09:12:00.000-07:00

The last week in April was packed with economic data; the FOMC meeting and the death of Osama Bin Laden. The Case-Shiller Home Price Index decreased once again by 2.6% over the last year and eased 1.1% last month. Consumer Confidence improved from 63.4 last month to 65.4 in April, and 1^st quarter Gross Domestic Product (GDP) slowed to 1.8%, lower than expectations. Ben Bernanke and the Federal Open Market Committee (FOMC) concluded their three-day meeting and, as expected, left rates unchanged and held their first-ever press conference. Finally after a 10-year saga to find the mastermind of the September 11^th massacre, a team of United States Navy Seals killed Osama Bin Laden at a compound near the Pakistani capital city.

Case-Shiller Home Price Index

The Case-Shiller HPI tracks the home prices of the 10 largest metropolitan areas in the United States. The report once again indicates the continued weakness in the housing sector, and confirms consumers’ decisions to delay their purchase fearing that home prices will continue to fall. As a result of the massive amount of existing homes for sale, new home construction continues to lag the rest of the economy. The consensus believes this trend will continue as long as the consumer believes home prices will continue on its downward trend.

Consumer Confidence in April

After a big decline from March to April of nearly 8 points, Consumer Confidence improved 2 points from 63.4 in March to 65.4 in April. The details of the report were somewhat encouraging, suggesting that consumers are becoming more optimistic about jobs, but inflation expectations are directly influencing consumers’ future purchasing behavior. The report also suggested jobs are becoming easier to find with its best reading in two years. Future inflation expectations eased from March, but are still above 6.0%. Moreover, consumers are increasingly becoming more concerned about the rise in fuel prices, and how it will ultimately effect their buying decisions in the months to come. I suspect that as oil inventories continue to climb gas prices should begin to ease later in the summer. Overall, the report suggests the consumer is well aware of the potential risk of higher fuel costs, and is basing their future purchasing decisions on their inflationary outlook.

Gross Domestic Product (GDP)

The first quarter GDP Report was less than stellar. Overall, growth in the United States was below the consensus estimates of 2.0%, which was continually revised lower throughout the quarter. Most of the weakness came from growth of imports, lower personal consumption, and (believe it or not) lower government spending. There was some strength in personal spending and investment in equipment and software, which rose nearly 11.6% from the fourth quarter of 2010. The most notable change in the headline number was the weakness in non-residential structures down 21.7%.

Most economist are discounting the weak quarter, blaming the poor results on harsh winter weather, and the slow-down in Japan because of the Tsunami and earthquake that took place in March. Others believe the drop-off in government spending, which has artificially propped up past GDP figures, has finally run its course. Whatever the case may be, this is a disappointing report and does cause concern for the remainder of the year.

The Federal Open Market Committee (FOMC)

After three days of meeting the Fed decided to keep short-term rates unchanged with a target range of 0.00% - 0.25%, and reiterated its stance that they will finish its $600 billion purchase of government treasuries ending in June. The committee also stated they will continue to keep rates at the current levels for an “extended period of time”.

With regards to the economy, the committee stated, “the recovery is progressing at a moderate pace, and overall economic conditions are improving at a gradual pace”. Bernanke commented in his press conference that “some prices have increased at a higher rate (food and energy), but inflation is subdued and future inflation expectations remain low”. The Fed is concerned about the rise of commodity prices, and how it is effecting overall consumption in the United States, and the continued rise in commodity prices are putting undue pressure on the consumer in the short-term causing slower economic activity. Hence the poor GDP report!

The Current Market Environment and Expectations

Given the condition of the economy in the first quarter of 2011 was less than stellar, and the fact the FOMC is going to complete QE2, I have some concern about the robustness of the US economy over the next 6-12 months. The recent Weekly Jobless Claims figure is back above 400,000, and the 4-week moving average is also above 400,000 indicates some overall economic weakness. On the other hand, corporations continue to report excellent profits and top line sales are starting to improve as well. So, is the recent slow down a cause for concern? Is the recent increase in unemployment claims a cause for concern?

The majority of economists believe the recent slowdown is short-lived, and will subside in the coming months. Let us not forget the current recovery is the worst on record, but with the US dollar valuation at its lowest level in years, multi-national companies are going to continue to profit from overseas consumption. This should continue to offset weakness in the United States, and continue to allow corporate profits to increase. If economists are correct in assessing that the recent slow-down in GDP growth is short lived, we should see more robust economic activity for the remainder of the year.

Finally, in my opinion, the most important risk for the stock market and the global economy is US government’s ability to create a successful long-term debt-reduction plan. If the Congress and President Obama deliver to the world a successful plan, world stock markets will set new highs soon after. If not, all bets are off.

The Economic Situation Continues to Improve

2011-04-12T08:16:00.000-07:00

Over the last several weeks we have seen much of the geopolitical risks somewhat recede and the financial markets have already priced in any potential risk that may be associated with portfolio valuation. Last week the EIA Petroleum Status Report showed that commercial crude oil inventories rose for the ninth month in a row. Three weeks ago we took a long position in an ETF that indexes United States Oil (USO). We have seen nice gains on the backs of the anticipation that the events in the middle east would cause oil prices to increase in the short-run. Considering the data, it seems that oil supplies are increasing and the run-up in prices is probably overdone. Moreover, gasoline demand has decreased by 1.2% year over year, signaling that higher gasoline prices may be reducing overall consumption.

The Federal Open Market Committee (FOMC) released the minutes of their last meeting that was held on March 15th. There is a disagreement among its members regarding the effectiveness of QE2, and how long short term interest rates should remain at their current levels (0 - 0.25%). This disagreement is mainly among the non-ranking members, who believe QE2 has not had a significant affect on the overall economic recovery, and an inflationary risk will be a longer term issue as a result. The committee has slightly reduced its overall GDP growth forecasts from their January meeting, citing higher commodity and food prices that have forced the consumer to spend less on discretionary items. On the inflation front, the committee is also split on its outlook. Fed Chair Bernanke along with the ranking members of the committee believe that the rise in commodity and food prices will be temporary, and the more important inflationary factors like wage growth and factory capacity utilization are still showing no real signs of excess inflationary pressure. Overall, the committee agreed to finish quantitative easing, which will end in June, and keep the “extended period” language in its interest policy for the indefinite future.

The employment situation in the United States is improving, and the trend should continue well into next year. The weekly jobless claims numbers have continued to improve each week with the 4-week moving average now at 389K for the week of April 2nd. It seems that businesses are slowly starting to hire new employees in anticipation of the growing demand of new orders originating both domestically and oversees. According to Bloomberg, the only real headwind or uncertainty in the labor markets at this time is the uncertainty about Japan, and potential supply constraints that may result from the catastrophe that occurred last month. Overall, this trend should continue forcing the unemployment rate to improve in the months to come.

Nearly 80% of the United States economy is driven by the non-manufacturing or service sector of the country. The Non-Manufacturing ISM Index last week fell by 2.5 points to 57.3 but is still well-above 50, which signals economic expansion. The trend since the beginning of the year has been slightly negative, off nearly 7 points from the highs recorded in February. Yet, there is a sizable backlog of unfilled orders that have probably been delayed because the situation in Japan. The service sector should pick up once again after the situation in Japan improves, but in the near term the slow down in the service sector will have an impact on GDP in the second quarter.

Our overall investment strategy has moderated over the last couple of weeks. The overall economy and the job situation in the US coupled with the FOMC continuing its easy-money policies give us confidence that corporate profits should continue to its upward trajectory well into next year. On the other hand, one of our main concerns is not with the equity markets but with the US government bond market. With the Fed’s plan to end QE2 in June, and the continued improvement in the US economy the risk of higher interest rates over the next 12-18 months does not bode well for government bonds. The rate on the US 10 year treasury is at a historic low, and we believe with an improving global economic situation, and international inflationary pressures will force bond prices to fall, causing a principal reduction that may not be recovered for sometime in the future. Therefore, we believe owning government bonds in ANY portfolio at this time adds an increased amount of interest rate risk, and therefore increases the likelihood of principal reduction. It may be more feasible to hold cash equivalents in low risk portfolios. Lastly, the oil markets seem to be pricing in a major oil supply shortage that just has not materialized. Admittedly, we anticipated an increase in oil prices in the short-term, because of the events that have taken place in the Middle East causing shortages in supply. In fact, oil reserves have continued to climb since last November, increasing to levels not seen since last May. Conversely, oil prices on average are up over 20% since late last Fall. At this time the oil markets are not reflecting the realities of current market demand. Therefore, we believe most of the possible price appreciation will be mostly driven by speculators and will be short-lived.

Graham vs Bernanke

2011-04-05T08:26:00.000-07:00

Graham vs Bernanke

Over this past weekend a close friend of mine that works for the Federal government asked me the following question referencing an article written in the Wall Street Journal last week titled, “Investment Strategy: All About the Benjamins.” to read the article go to this link

http://online.wsj.com/article/SB10001424052748704425804576220983131318962.html

“David” - What’s your take on the attached article recently published in the Wall Street Journal?

My response:

I am at Yale University at a conference, and this article came up yesterday at one of the breakout sessions.

I read the article prior to the conference, and the author makes some excellent points. In fairness to Bernanke, he was faced with one of the worst economic situations this country has ever faced since World War II. He is an expert on the Great Depression (read his PhD dissertation), and I believe his unwavering leadership during the financial crisis was absolutely necessary given the grave circumstances the nation was facing.

That being said, Bernanke believes that the way you emerge from a 'demand side' recession is through massive quantitative easing and near-zero interest rates, which in theory should force investors to take more risk driving up asset valuations. This is exactly what is happening with the current stock market (hence the 100% rise in the S&P 500 since the market low of March of 2009), but corporations and affluent investors are still not spending their discretionary cash. Instead they are hoarding it, because they believe the run up in asset appreciation is temporary. This is a problem.

Graham on the other hand, is the father of value investing. If he were alive today, he would not be a buyer of stocks based on the current market valuation. However, Graham has never been faced with dictating monetary policy like Bernanke. Therefore, it is not a fair comparison to compare and contrast 'Ben vs. Ben'.

If I had to choose who to ask for investment advise...it would be Graham.

Black Swans and Japan

2011-03-23T14:47:00.001-07:00

Black Swans and Japan

Nassim Nicholas Taleb, a New York University Professor, wrote a best selling book called The Black Swan, which illustrates that history is full of events that cannot be predicted by trends. This theory is based on a metaphor that if an event is a surprise (society does not expect), it will probably of have a major impact positive or negative on society. Conversely, after the event occurs, it is rationalized through hindsight, and there is no major affect on society, because the event has already occurred. Professor Taleb explains that history is hard to predict and unforeseen events are beyond the capabilities of normal statistical measures. As investors we can only implement risk management techniques to limit downside risks, but more importantly be opportunistic once a ‘black swans’ occurs.

Over the last two weeks the markets have been reeling with the unexpected earthquake (9.0, and the 5th worst in recorded history) resulting in massive physical destruction in Northern Japan and the failure of two Japanese nuclear reactors. To make matters worse the Middle East uprising in Libya has now escalated to involve the United States enforcing a no-fly zone over the Northern part of the country. Needless to say, the global stock markets sold off last week in anticipation of a global economic slowdown and the risk of higher energy prices.

Was the market sell off justified last week? Yes.

I have been suggesting that the financial markets have been overvalued, overbought, and over-bullish with extreme investor confidence in the sustainability of the global economic recovery. When financial markets are at their peaks or multiyear highs, any unforeseen or ‘Black Swan‘ event will cause richly valued securities to be sold in the short term. The market sell-off over the last 2 weeks was warranted, but as we have seen over the last couple of trading days, it seems that the all clear bell has rung and investors are piling back into the market. I must admit, the events of the last two weeks are definitely cause for concern, and the financial markets needed to correct, but have they corrected enough to justify investor’s renewed optimism?

First, lets examine the impact of the earthquake and the tsunami on Japan and its affect on the global economy. The Japanese stock market has been on a steady decline for nearly three decades with short-term rallies within its long-standing bear market. The Nikkei 225 peaked in 1989 at 38,916. The index is currently around 9,000, almost exactly at the same point is was in 1984 (its inception) more than 25 year ago. Japan has never been able to fully recover from its financial crisis of the 1990’s and its insatiable appetite for government borrowing has never really amounted to any meaningful, domestic, economic recovery. For the last two and half decades they have been hampered by a deflationary environment that has resulted in poor corporate profits.

However, since the global market stock market lows of 2009, Japan’s economic situation has improved. The Nikkei 225 (Japan’s version of the S&P 500) has forecasted a much better earnings outlook over the next several years. In fact, the companies within the index have recorded better overall annual earnings increase over the last three years. According to Bloomberg, since 1998 the Nikkei 225 has an average P/E ratio of 67.70 and a low P/E of 10.71 at the market low in October of 2008. Currently, the index has a P/E ratio of 17.14. So, one can conclude that Nikkei 225 is rather cheap relative to historical valuation.

This brings me to my final point. There is no doubt the devastation that has occurred in Japan will cause major economic set backs in the near term, but the overall long term outlook in Japan will improve drastically with the increased economic activity that will ensure once the overall damages have been assessed. Black Swan events usually create tremendous opportunity once society and investors assess that the end of the world is not going to occur. Also, empirical studies conclude that after Black Swan events occur prosperity and positive economic activity usually occur. For instance, after the terrorist attacks on September 11, 2001 in the United States, the stock markets around the world sold-off dramatically. The NYSE closed for a short period of time, which is an extremely rare event. After a grieving period and a reassessment of the ‘new’ era of terrorist risk, the US economy came roaring back and forced the financial markets to capitulate and ended the bear market that began in September of 2000.

The Japanese governments have already injected nearly $200 billion into the economy and the total damages and the estimated cost to rebuild the country’s infrastructure is estimated to be between $300 and $500 billion. Most economists believe that Japan’s overall GDP will only result in a loss of 0.5%, and future GDP growth should average closer to 2.0 - 2.5%, which will nearly double the economic activity over the past decade. With the Japanese stock market trading at the same level it was since its inception (1984), P/E ratios are near all-time lows, and the massive amount of potential foreign investment and rebuilding activity, this may be an excellent time to capitalize on the potential growth that may occur because the ‘Black Swan’ that flew over Japan.

The Federal Reserve and the Economy

2011-03-07T13:48:00.000-08:00

The Federal Reserve Bank (FED), led by Chairman Ben Bernanke, has orchestrated an economic recovery that has been highly controversial. Economists and investment strategists have debated the actions of the FED as being too loose or creating too much liquidity within the financial markets. If the FED has created too much stimulus through quantitative easing and an extremely low interest rate environment, many fear high inflation will soon follow in the near future. It is my belief that the recovery is extremely fragile, and the use of monetary policy, at least at this point, is necessary.

The main job of the FED is to control the level of inflation and to keep the unemployment rate low. Currently, inflation measured by the consumer price index (CPI) is between 1.0 and 1.5% on an annualized basis, and the current unemployment rate is at 8.9%. Historically, the US average inflation rate since 1965 has been around 3.2%, and the desirable unemployment has been between 5.0% and 6.0%. Since the financial crisis began back in the summer of 2008 the unemployment rate peaked at 10% last year, and inflation has been close to zero. There were even fears of a Japan-like deflationary cycle in 2009, which prompted the FED to act decisively by implementing its aggressive bond-buying program, and a near 0% overnight lending rate between financial institutions. Since that time, the FED has not changed course.

In Bernanke’s testimony to congress last week he continued to reiterate his stance regarding the stubbornly high unemployment rate, and the need to continue the $600 billion Treasury security bond buying program, and the FED’s commitment to keeping short-term interest rates at or near zero for an ‘extended period’ of time. The economy has in fact improved with very little inflation on the consumer, and the jobs situation in the US has began to make some notable improvements. However, commodity prices have soared, and producer prices have increased at a much higher rate than anticipated. The cost of food has increased by nearly 30% over the last year and gasoline prices are nearing the $4.00 level once again.

One of the biggest mistakes the FED made back in 2007-08, was the premature monetary tightening in the face of the unforeseen credit collapse that ensued in the second half of 2008. At that time, oil prices were nearing $140.00 a barrel, and the threat of inflation spooked the FED into making some decisions they would like to have back. Most strategists believe this indirectly exacerbated downturn. The economy is facing similar challenges in 2011, with the price of oil over $115.00 a barrel and commodity prices nearing all-time highs. Bernanke is going to be very reluctant to raise short-term rates and abandon QE2 prematurely based on past transgressions and the geopolitical risks threatening the world’s oil markets.

There is no doubt the US is experiencing an economic recovery, and the employment situation is improving. The FED is mainly concerned with the headwinds that could derail this fragile recovery. Manufacturing is only operating at about 75% capacity, and there is still plenty of slack in the economy to warrant high producer prices. Even if producers try to pass along higher input costs to the consumer, foreign and domestic competition would certainly pressure those producers to ‘go at it alone’ and risk loss of future business. Moreover, consumer demand will not allow prices to increase at a sizable amount due to the fierce overseas competition for complimentary products or substitutes. In the short term we should not worry that higher commodity prices will force producers to raise prices of final goods and services, but the high cost of oil will undoubtedly put a dent in overall global consumer demand. This in turn will allow the FED to continue their accommodative monetary policies at least until the geopolitical tensions in the Middle East subside. However, this does not mean the stock market is going to act favorably in the short term. Over the next several months, the financial markets will probably correct significantly to compensate for the risks of lower corporate profits. Consequently, higher input costs (commodity prices) and softening consumer demand resulting from higher oil and gasoline prices, will eventually lower overall corporate profits. These two factors alone should keep the FED from tightening and allow these other factors to put a lid on inflation in the short term. The only factor, in my opinion, the FED is going to have a hard time dealing with is its ability to encourage a meaningful and sustainable job recovery.

Middle East, Oil, and US Government Shutdown

2011-02-28T13:47:00.000-08:00

The events last week gave credence to the geopolitical risks that are facing the world. In Libya, the uprising caused financial markets all over the globe to sell off, and the price of oil to skyrocket. However, in the United States consumer confidence in February reached a three-year high, but no one really took notice. Will the turmoil in the Middles East cause enough disruption to derail the fragile economic recovery? Moreover, can the US government come to a fiscal budget comprise to avoid a government shutdown by March 4^th?

Over the last six months, the financial markets have not reacted negatively to any sort of bad news around the globe. Ireland, Spain, and Greece are nearly bankrupt. Moody’s and Standard and Poor’s have threatened to downgrade nearly every developed country’s debt rating. The state governments within the United States have substantially cut their spending budgets for the coming fiscal year, and there is the threat of a US government shutdown if congress does not agree to raise the debt ceiling from the current $14.7 trillion level. So, why all of the sudden does the stock market sell off nearly 4.0% in three days last week?

The answer is simple: OIL.

Anytime, there is a threat of higher oil prices the financial markets go into a panic. Higher oil prices are a direct tax on consumers and businesses. The higher the costs of inputs and the higher the cost of gasoline, consumption is directly affected and an economic strain is the result. The only country in the world that has any real excess oil production capacity is Saudi Arabia, which is at risk of its own civil uprising. The longer the Middle East continues its civil unrest; nearly 35% of the world’s oil production will inevitably be disrupted.

According to an energy analyst at Nomura, the price of a barrel of oil will exceed $220, if Saudi Arabia has to produce another 3 million barrels of oil a day. Most analysts believe the demand for energy from emerging markets like China, Brazil and India will not allow any let up in aggregate demand for oil. As a result, any supply shock will cause immediate price increases around the world over night. The International Energy Agency stated last week that the demand for oil has increased this year alone by 1.7 million barrels per day, which has caused nearly every oil producing nation to operate at full capacity. The risk is not that Libya has closed some of its ports, which is responsible for 3% of the world’s oil production; it is the risk of other nations in the Middle East doing the same.

In the United States, the economic picture was somewhat positive this week with consumer confidence reaching 70.7, the highest reading since the financial crisis began in 2008. The jobs component of the report was improved and fewer consumers expressed difficulty finding jobs. Moreover, consumers in the survey expressed interest in future buying plans for big ticket items like cars and appliances. On the housing front, existing home sales improved by 2.7% month over month with an annual improvement of 5.2%. Nevertheless, the median home price fell 5.9% this month to $158,000 and the average home price fell again by 5.1% to $206,700. Clearly most of the improvement in home buying is a direct result of lower overall prices. In addition, new homes sales contracted once again last month by 12.8% resulting in the supply of homes for sale to 7.9 months of excess inventory.

According to one of my favorite market strategist David Rosenberg, the main headwinds for the next 4-6 months for the equity markets are the following:

1. Declining Home Prices

2. Contracting Bank Credit

3. Listless Jobs Market

4. Soaring Oil Prices

5. Accelerating Spending Cuts (1936-37 all over again!!!!)

6. Policy tightening overseas (This will affect domestic demand and the US export picture)

Currently, the US government is poised again for another government shutdown (i.e. 1995-96) next week. Congress is currently arguing over $100 billion in spending cuts in the next fiscal year, which frankly is nothing considering we are projected to run up another $1.65 trillion in debt in the fiscal year 2011. The Democrats do not favor spending cuts, and believe any cuts will derail the current economic recovery. Conversely, the Republicans believe they have a mandate due to the results of the election last year to cut spending. Whatever the case may be, the current national debt will easily exceed $16.5 trillion at the next fiscal year, in which congress has to approve to lift the debt ceiling before March 4^th. The Republicans have vowed they will not approve any debt ceiling increases that do not include substantial government spending cuts.

Our investment strategy remains steadfast. We believe the doubling of equities over the last two years have more than rewarded investors for assuming risk. Due to the tension in the Middle East, the oil markets are going to be extremely volatile over the next several months. The risk of a US Federal government shutdown in the coming weeks and months will undoubtedly cause the equity markets to over react in either direction. However, probably the biggest drag on the economy will come at the expenses of the massive state and local government spending cuts that will take place in the next fiscal quarter starting in April. We believe it is prudent to take some profits and move to a modestly defensive strategy, while capitalizing on the possible oil spikes in the near term. The VIX, which measures investors’ fear, jumped nearly 25% last week after being dormant for the past several months. Investors are taking profits and adding protection to their portfolios. We believe the risks are too high to embrace an aggressive portfolio management strategy, until the geopolitical and domestic changes are more clearly defined.

Mix Economic signals and US Debt Strategy??

2011-02-07T15:28:00.000-08:00

News on the Economy

The economic data that was released last week on the surface is signaling that the economy is firing on all cylindars. Factory orders, the ISM report on US manufacturing, personal income and productivity as well as the Chicago PMI were at their best levels since the financial crisis began back in late 2007. On the other hand, construction spending and the employment situation were not consistent with the manufacturing sector or with what the financial markets were anticipating. Overall, its seems the US economy is steadily impoving, but because of the unstable geoplolitical conditions in Egypt and Middle Eastern countries,the United States budget and national debt conunderum, as well as a continued contraction in construction and housing, there remains substantial headwinds in the way of any meaningful long‐term economic expansion.

First, the good news. The Chicago PMI, which is a business barameter index in the Chicago area, came in stronger than expected in the month of January at 68.8. The consensus veiw was 65, and the index came in higher than any estimate given by the economic community. Any reading over 50 signals an economic expansion, and below 43 signals the economy is in a recession. Probably the most impressive aspect of the report was that new orders surged to 75.7 and manufacturing output was at its highest level since 2006. In addition, the employment component of the report increased 6.0 points to 64.1, recording its best results since 2007. Every aspect of this report was positive, and based on new orders surging to 75.7, its seems there is plenty of room for futher expansion in the months ahead.

On the heels of the Chicago PMI, the national ISM Manufacturing Index reached its highest level since May of 2010 at 60.8. The consensus view was 57.5; slightly above the November results of 57. Most economists last year thought the ISM topped out during May at 59. The January reading was above all estimates, and surprised even the most bullish forecasters. The employment component was consistent with the Chicago PMI improving to 61.7; the highest level in seven years. Of the 300 companies surveyed, there was an overwhelming consensus view that the latest rise in stock prices is fueling global demand for manufactured goods in the US.

Because of corporate cost cutting and more efficient means of creating goods and services, US employees continue to be more productive in the workforce. The reading on quarterly worker’s productivity exceeded the consensus view (2.0%) at 2.6%. Most companies continue to cut costs while keeping wages in check. In the final quarter of 2010 unit labor costs actually decreased 0.6%. In order for US firms to increase earnings on a consistent basis, wages paid are going to have to increase and more jobs need to be created. Earnings cannot continue to expand by merely cost cutting; overall sales need to increase. In order for this to occur, management needs to create new jobs and reinvest in infrastructure.

Now, the not so good news. The US employment situation continues to disappoint. The monthly jobs report came in much weaker than expected, with only 50,000 new jobs created in January, with the expectation of 150,000 new jobs. On the bright side, the unemployment rate fell to 9.0% from 9.4% in the latest survey of 5,000 households. Probably the most disappointing aspect of the report was the inconsistent nature of the Chicago PMI report and the ISM report on employment, which both suggested that a significant improvement in job creation would take place. Private sector jobs in manufacturing and retail continued to improve, but these gains were offset by job losses of 14,000 at the state and local government. The Chicago PMI report and the ISM report do not reflect the changes in government entities, hence the discrepancies.

The bad news. Construction spending continues on its downward trajectory, with December new construction decreasing by 2.5% from November and year over year decreasing 6.4%. The majority of analysts expected a rise of 0.2%, but the main negative factor was that private residential construction fell another 4.1%. Foreclosures are on the rise and the amount of existing homes for sale continues to increase. To make matters worse government spending on construction was down 11.6%. (Our taxpayer dollars at work?)

The Federal Debt Ceiling

For the better part of the last decade, we have heard the political rhetoric regarding the United States Federal Deficit, and what a problem it has become. I have yet to read a good explanation to why the US debt is such a problem, besides the moral issue that you should spend less than you earn. A couple of weeks ago, I had an interesting conversation with a colleague of my mine at the university, and he made an interesting observation regarding the national debt in the US. He said, “The debt itself does not matter.” I paused for a moment and looked at him puzzled wondering why he would make such a comment. I said to him, “Eventually the debt will be the demise of the United States.” He agreed, but he then asked the question, “Why?” Over the last week, I have been putting some thought into the problems associated with our national debt. In any basic level corporate finance course, you will learn that a borrowed dollar should increase overall assets or revenue in the future, if invested wisely. The proceeds of the borrowed funds should be invested in future revenue‐generating projects that will ultimately improve the overall wealth of the enterprise. On the contrary, the debt burden accumulated by the US over the past three decades has funded the operating expenses of the country (i.e. wars, entitlement programs, interest payments, etc.). Moreover, these borrowed funds have not created additional wealth. Instead, the federal government has created a fiscal nightmare that no politician is willing to sacrifice their office to correct.

The US debt burden is the equivalent to a limitless credit card, which enables poor spending habits, and lack of fiscal constraint. At the end of 2010, the United States government has accumulated nearly 14.3 trillion in debt, in which the CBO (Congressional Budget Office) is projecting another $1.43 trillion annual deficit for 2011. Each month the treasury department offers international and domestic investors the opportunity to buy on average between $70 and $120 billion in new treasury bills, notes, and bonds. For every dollar the federal government spends, nearly $0.40 comes from new debt creation. In addition, last year the estimated interested payments on our national debt exceeded $200 billion. One can only wonder how long this behavior can continue before the US goes bankrupt.

Portfolio Strategy

The overall financial markets remain overvalued, overbought, and extremely bullish. The yield on the S&P 500 remains at an all‐time low of 1.75% (average is 4.35%). The VIX, which measures investor’s fear of an overall market decline, is between 16.5 and 17.0, suggesting a significant market correction is highly unlikely in the near term. Price to earnings ratios are at levels not seen since early 2000, and the yield curve, the difference between the 10‐year Treasury note and the 3‐month Treasury bill is 3.5%. Morevoer, it seems that a good majority of investors believe that the recession is behind us, and good times are here to stay.

As most of you are well aware, I have been extremely cautious on this market over the past 6 months. Every historical instance of over‐confidence in the financial markets usually ends with a surprising major market decline. I will admit the economy is improving, the job situation is improving, and our current political leaders and the Federal Reserve are doing everything in their power to accommodate future growth and prosperity. However, this recovery has not been built on sound fiscal policy but rather through bailouts and transfer payments from our insatiable appetite for foreign borrowing. This has been the slowest and most insignificant recovery in the history of the United States after an economic recession. The significant gains experienced over the last 18 months have been impressive and could continue another 18 months, but as soon as the government stops printing money and the economy is off of life support (QE2), the markets will have to pay back the artificial gains they experienced over the last several months.

Of course, I do not have an exact date or time when the markets are going to sell‐ off, and we will continue to enjoy the gains we are experiencing in the market. On the other hand, we will continue to hedge the growth and income portfolios with Puts on the S&P 500 and Calls on the VIX in order to safe guard against unforeseen portfolio declines. In these types of markets with extreme bullishness and valuation metrics that do not deserve high stock prices, the best way to preserve wealth is to be a contrarian and not let greed get the best of you.

Why does Egypt matter to the Global Financial Markets?

2011-02-01T13:50:00.000-08:00

Towards the end of last week the global financial markets sold off for the largest one day decline since late fall. Most of the concern was the political unrest in the Middle East, particularly within Egypt. The Muslim Brotherhood's opposition, lead by Noble Prize winner ElBaradei, made demands that President Mubarak needs to resign immediately to make way for the new political future of the the country. In addition, US Secretary of State Hillary Clinton, in an attempt to distance the US government from the current regime, called for a transition to a real democracy. Needless to say, Egyptians of all denominations are rioting and causing havoc in most parts of the country.

The United States and Egypt have been political allies for the better part of three decades, in which Egypt has enabled the US to have a significant influence in the stability of the Middle East. With the anticipated departure of Egypt's President Mubarak, most political analysts are concerned the Egyptian Army may not follow suit and remain loyal to Mubarak.

The added turmoil in the Middle East gave way to a spike in crude oil prices across the globe causing more economic uncertainty and possibly derailing the current economic expansion. Over the past two months the oil futures markets have been climbing to levels that have not been seen since the financial crisis in 2007, just before the financial crisis. Many strategists are concerned that because the oil markets are trading at lofty levels, any geopolitical uncertainty in Middle East will create a supply shock and send prices back above the 100 dollar level. I believe if this occurs it will ultimately erode the current economic recovery, and send equity prices in a violent downward spiral.

In recent weeks I have stated that the US Equity markets have been trading at extreme levels, pricing in a near perfect economic recovery throughout the world. If the Egyptian power struggle continues, and the US loses its influence on the local Egyptian government, this will result in a shift of power towards the Muslim Brotherhood. This will certainly cause more political unrest and more problems for the United States and its quest for Middle East stability.

European Debt Crisis and The US Consumer

2011-01-11T08:21:00.000-08:00

Consensus View

As we embark on another year, the financial experts are predicting that 2011 will be an excellent year for GDP growth and global equity appreciation. After a surprising 10%+ return on the S&P 500 last year, of which more than half of its returns were in the month of December, most market strategist believe the overall market will exceed its highs of 2007, and corporate earnings will reach record levels. Hence the extreme optimism most portfolio managers are reporting. In addition, an overwhelming majority of market economists are forecasting over 4% GDP growth for the US. More importantly, the consensus of market forecasters believe that Gold has peaked, residential real estate still has more downside risk, bonds will continue to sell off, and the global equity markets will continue to rise to all-time highs.

Unfortunately, I do not entirely agree with the over-zealous market forecasts. Below are two reason why.

European Debt Crisis

Greece, Ireland, Spain, and now Portugal are all European nations that will need the EU to bail them out of the current fiscal disaster. Many other EU nations are faced with same financial problems, and the true extent of these problems are being ignored by most investors. Ireland and Greece are now paying over 80% of their export revenues toward external debt payments (See the article The Crisis That Isn't Going Away on B1 of the Saturday NYT for more detailsgluskinsheff- Rosenberg Jan 10, 2011 ). It is unbelievable that the financial markets have ignored the adverse affects of a developed country going bankrupt. Sure, the EU is stepping to avoid outright financial failure, but the ramifications are being ignored by investors. Probably, the most alarming is nearly 30% of US imports come from Europe. How can the US avoid a precipitous drop in consumption from Europe? The European debt crisis is not going away anytime soon, and the real problems are yet to be realized. Eventually, the effects of poor fiscal management will be realized and the financial markets will have to reduce equity asset values in order to account for a deterioration in the balance sheets of developed sovereign nations. This problem alone could sink the global equity markets below the levels of March of 2009.

The Consumer: Confidence, Jobs, Rising costs in Food and Energy

Consumer confidence remains well-below its normal expansion level at 52 (100 = expansion). The recent jobs reports showed that the US added only 103,000 jobs in the month of December, which normally at this time in a recovery we should be seeing between 350,000 - 500,000 new jobs being created each month. The consumer is facing adversity on many fronts. Housing prices continue to fall, nearly 20% of the workforce is employed part-time, and household fixed costs continue to increase. For example, oil prices are at nearing $90 a barrel, and gasoline prices are once again approaching $3.00 a gallon. Moreover, the latest reading on food prices have increased nearly 20% over the last year. Never has there been such a discrepancy between the health of the consumer and the stock market. Normally, the equity markets would be testing multi-year lows and PE multiples would be in the high single digits. Instead, equity prices continue to rise and PE ratios are at the highest levels since 2000. Unless these circumstances change for the consumer, the stock market will eventually sell-off significantly.

Why Are Stocks at Multi-Year Highs?

The Federal Reserve Bank has kept interests rates at records lows and intends to do this for the unforeseeable future. Corporate profits continue to rise and their balance sheets are impressive. Investors believe the future will be brighter, because of lower-taxes and the worst of the financial crisis is behind us. Most importantly, the US economy is improving. This is all positive for stocks.

So, why are we so cautious?

The equity markets are overvalued, investor and market optimism are at all-time highs, and yields continue to rise. In short, the market has gotten ahead of itself. There are far too many risks that could easily derail this fragile recovery. Moreover, history suggests that any negative or unexpected event will cause equity markets to sell-off quickly and sharply.

John P. Hussman provides the following instances when the market In the past has reached this type of optimism and market valuation:

December 1972 - January 1973 (followed by a 48% collapse over the next 21 months)
August - September 1987 (followed by a 34% plunge over the following 3 months)
July 1998 (followed abruptly by an 18% loss over the following 3 months)
July 1999 (followed by a 12% market loss over the next 3 months)
January 2000 (followed by a spike 10% loss over the next 6 weeks)
March 2000 (followed by a spike loss of 12% over 3 weeks, and a 49% loss into 2002)
July 2007 (followed by a 57% market plunge over the following 21 months)
January 2010 (followed by a 7% "air pocket" loss over the next 4 weeks)

This data is overwhelmingly significant. It is not a matter of IF the market is going to sell-off significantly, but WHEN.

Bullishness and Extreme Positive Sentiment

2010-12-13T12:17:00.000-08:00

Extreme bullishness, overbought stocks, overvalued equities, and rising yields have overtaken the US financial markets over the past two weeks. The VIX, which measures the overall fear of investor's sentiment is trading below 18, which indicates investors are becoming complacent and believe macro events are not of concern. In this type of market sentiment rarely do we see equity appreciation to be sustained in the short-run nor do we see asset price increases without a significant interim correction. I am becoming increasingly concerned with investor's lack of awareness concerning the potential macroeconomic and geo-political risks that are present within the global financial landscape. One of the most concerning aspects of market sentiment is the so-called Smart /Dumb Confidence Index, which currently indicates that 'Dumb" money is at an all-time high. This index was created by Russell, which tracks institutional buying vs. retail buying. Notice what happens when the spread between the Smart vs. Dumb money is at extreme levels. I anticipate we should see this index correct itself sometime over the next quarter, and would not be surprised if it happened sooner.

Since this summer I have been very concerned with the lack of risk management control measures being convey by the FOMC, Wall Street Banks, and the US Federal Government. Do not be fooled by the overzealous nature of buy side investment management firms that continue to promote overvalued, overbought and extreme bullishness within the equity markets. Eventually the speculative nature of the markets will correct significantly, and those who are not protected will once again get burned by buying too high and of course selling low. Upside returns in the short-run are possible and probably likely, but we will remain hedged until market valuation, overbought equity prices and over-bullishness subsides from the financial markets.

Final thought: The US economy seems to be on a modest upward trend, which is positive longer-term. Unfortunately, equities are being priced for extraordinary growth over the next 12 months. I am becoming more confident that over the next 18 months a double-dip recession is unlikely. Nevertheless, equity prices need to correct, before I will get excited about sustainable future equity price appreciation. The markets are extremely risky at the present level.

Korea, Housing, and Ireland: Investors are Locking in Profits

2010-11-29T09:35:00.000-08:00

With the shortened holiday week, one would expect the global investment and geoploitical environment would be somewhat calm and uneventful. As most of us were eating our turkey and enjoying time with our friends and family the rest of the world was dealing with artillery shells, bankrupt governments, a dismal housing environment, and the prospects of a slowing economy. The financial markets in the US were down nearly 1.5% last week, as tensions in Korea continued to worsen, and another round of European bailouts took center stage. To make matters worse the US housing market continues to decline and the Federal Reserve believes the US economy is at risk of future deflation. Just two short weeks ago the stock market was at its highest level since Lehman Brothers collapsed in the Summer of 2008, and corporate profits were at record levels. The financial markets, however, are only concerned with the future and how current geopolitical and financial events will affect corporate profits. Hence, the reason why equity markets are declining.

The financial situation in Europe remains one of the biggest uncertainties surrounding the equity markets. Ireland's banking and sovereign debt issues may only be the tip of the iceberg. With an increasing amount of uncertainty within the 27 countries of the EU, it is extremely difficult to isolate which countries are in fiscal duress. As a result, Europe's trading partners are becoming more reluctant to do business with them for fear of default and currency devaluation. This will undoubtably create an overall slowdown in domestic output and possibly create another global recession. The European Union may be in worse shape than the US mainly because each country does not have the power to manipulate its currency or the ability to print money in order to offset weak global demand.

The situation in North and South Korea only adds to investor's uneasiness. Needless to say the tension in the Yellow Sea should not be any surprise nor should it directly cause investors to worry of an all out global war. North and South Korea have been fighting since the 1950's, and their disagreements have only steadily gotten worse in the past decade. The issue investors should be concerned with is how China and United States defuse the current conflict with its respective allied countries. Both the US and China, have no desire for these two nations to elevate their conflict to a global scale. Therefore, diplomatic solutions should prevail.

The United States housing market continues to contract, with existing home sales down 8.8% last month putting more downward pressure on home valuations. The latest data from the US Federal Reserves states that 1 and 7 home owners have negative equity in their primary residence. Moreover, lenders are increasing the rate of foreclosures which is estimated to exceed 1.5 million in 2011. With the unemployment rate near 10%, and an earnings cycle that may have peaked last quarter, its no wonder the Fed is concerned about future deflation.

We remained defensive in our overall investment strategy, with varying maturities of our market hedge. The high overall valuations in stocks, commodities and foreign currency, lead us to believe the balance of risk in the short-term is once again characterized by a day to day risk on or risk off environment. Even though the bullish percent index has contracted from its lofty levels of just three weeks ago, investors optimism still remains stubbornly high. Again, It is important to note that because the financial markets are at such lofty levels relative to just a year ago, any negative surprise within the geopolitical environment will cause dramatic sell-offs with in risky assets. Therefore, we continue to remain cautious going into the end of the year.

Markets Correcting: Investors Become More Cautious

2010-11-22T11:17:00.000-08:00

As the nation prepares for the Thanksgiving holiday weekend, the financial markets are digesting yet another round of European financial instability. Ireland, Greece and Spain are on the cusp of requiring more monetary funds to prevent their respective governments and banking systems from failing. Without the financial assistance of the EU, each of these countries will be facing grave consequences for their lack of fiscal responsibility. Again, we see the EU signaling they will come to the rescue, and of course the global financial community will cheer with ebullition, and kick the can down the road once again.

Closer to home the California municipal bond market has given back nearly all of its principal gains in 2010, falling nearly 40% in the last two weeks. On the other hand, The financial markets yawn at the prospect of yet another bailout by the US Federal government for CA. Whatever the reason behind this complete meltdown of what is traditionally a safe bet for investors has yet again burned the average investor seeking safety. Moreover, the financial media has barely even mention the news.

On a brighter note, the Philly Fed Index reported an excellent month of manufacturing activity, registering 22.5 in October, well above expectation of 5.0. Each component of the report points to brighter economic activity in the months ahead. Unfortunately, offsetting this excellent report, the Empire State Index of economic activity disappointed with a -11.4 reading after surging in September to 15.7. Its seems everytime there is a positive regional economic report it is offset with weakness elsewhere. This begs the question, Will it be possible for the US economy to get on stable footing before this expansionary cycle is over?.

China has announced it will slowly apply the brakes to its current economic expainsion. Contrary to the US, China reported inflation growth at nearly 5.0% the last quarter, and its real estate market is once again booming. With serveral monetary and fiscal tools available, the Chinese should be able to contain growth and inflation without disrupting its normal business cycle. (Note: the Chinese are now increasing the velocity of selling yuan denominated government bonds to establish a yield curve that will compete directly with the US dollar as the world's currency).

Our main concern going into the first part of next year is not so much the US economy, but what is happening abroad. First, China is raising short-term interest rates to slow domestic economic activity. This should result in an overall contraction in global economic activity. Secondly, concerns over sovereign debt issue in Europe, will continue to put downward pressure on investors' confidence. These events will cause more uncertainty of future economic expansion, and could derail a fragile US economy. In addition, increasing corporate asset valuations and the current headwinds abroad, could cause a correction in the stock market through the end of the year.

The stock market was flat last week and overall bullishness subsided. The NYSE high/low index dropped nearly 20 points to 72 from a its highest recorded level of 98. As the overall market sentiment contracts, we should see asset prices come down resulting in more attractive buying opportunities. We remain cautious going into next year, but hopeful that the current headwinds will diminish.

The Election, FOMC, and the Economy

2010-11-08T08:01:00.000-08:00

After a dramatic week of a national US election, news from the FOMC, and somewhat positive data on the economy, the equity markets are back up to the April highs of the year. In order to fully understand the recent run-up in equity prices, we should look at the corresponding economic data points and market valuation indicators to determine if the market is poised for a correction or can we justify a continued sustainable rise in equity price through the end of the year.

First, consider the Conference Board's Index, "CEO's Confidence Survey". Back in April of this year the index was at 62, and the survey indicated that CEO's were becoming more confident in the outlook of business activity and believed future economic activity was improving. Though, they were still concerned with the uncertainty in the sales pipeline of their respective industries. In October the index dropped to 50 (any reading above 50 indicates more positive responses than negative). Below is a direct quote from the Conference Board's latest survey CEO survey results.

"CEOs’ appraisal of current economic conditions was much less favorable in the third quarter. Less than one-third say conditions have improved compared to six months ago, down from about two-thirds last quarter. In assessing their own industries, business leaders’ appraisal was also considerably less positive. Now, only 38 percent say conditions are better, compared with 61 percent last quarter.

CEOs are much more pessimistic about the short-term outlook. Only 22 percent of business leaders expect economic conditions to improve in the next six months, down from 48 percent last quarter. Expectations for their own industries are also downbeat, with about 28 percent of CEOs anticipating an improvement in the months ahead, down from 43 percent last quarter".

In the short-term, we are most concerned with the bullish sentiment within the current equity market. Currently, the NYSE High/Low index which measures investor's optimism is suggesting a potential market top. When the indicator is above 70% it demonstrates investors may becoming over-condident and it may be a time to take profits. A reading below 30% suggests investors are fearful and represent a good buying opportunity. Currently, the index reads 96, in which it has never been above 98. The last time this indicator was at 98 was May of 2010.

There is no doubt current equity valuations and investor's sentiment have soared since the recent market lows of late August. Shiller-PE ratios are almost 20% higher. The VIX, a measure of market volatility and fear, is at its lowest point since May. The ECRI leading index of economic activity stood at +12.5% in May now reads -6.5% (this index has improved from the August low reading of -10.2%). Lastly, the ISM Index of US manufacturing activity has drop 3.5 points from May's reading of 60.4 to 56.9. So, with the economy performing worse since the Spring, why is the stock market trading at 2010 highs.

The answer is simple.

investor's believe that the government and FOMC will do whatever it takes to artificially stimulate economic activity and growth, which may indeed stimulate growth. Just as the cash-for-clunkers artificially stimulated auto sales, and the new home purchase tax credit of $7,500 temporarily stimulated real estate activity.

Eventually, however, artificially induced markets usually revert back to their prior condition, and market speculators enter the scene. What we have seen in the recent past is this type of activity has not rejuvenated the consumer, which is why the economy continues to languish, and the real structural problems of the economy will continue to persist. Moreover, we continue to add more risk of rampant future inflation. Our hope is real sustainable job creation is just around the corner, which inevitably make the consumer feel more confident and the economic landscape will get back on stable footing. This in turn will discourage the Fed from its reckless course of action and create real organic economic activity.

Until this occurs, the stock market, bonds, and commodities will continue to be a speculator's game, and we will continue to buy insurance as protection of our assets.

Investors are Becoming Overly-Optimistic

2010-11-01T08:05:00.000-07:00

The financial markets can be easily characterized by a renewed optimism that the election will be bring an awaited change within the political landscape. However, this change may not bear much fruit due to the structural behavioral changes of the consumer and small businesses. There is no doubt the stock markets recent surge to new intermediate highs since April has been primarily on the anticipation the FOMC will initiate another round of quantitative easing (QE) as soon as next week. The problem is the Fed is signaling the economy is getting WORSE not better. The speculative nature of the stock market is troubling, and the instability of the US economy should not be taken lightly. This same complacency was present in 2007 before the real financial problems reared their ugly heads.

One of the most crucial aspects of the current downturn in the economy since last spring, is nearly 75% of GDP growth has come from inventory build-up. In the 3rd quarter, GDP was 2.0%, in which 1.45% came from inventories. The average consumer is currently dealing with foreclosures, decreasing property values, decreasing net incomes, and job uncertainty. Consumer savings rates have increased dramatically since 2009, and overall consumer spending is less than it is was prior to the economic meltdown of 2008. Consumer confidence, measured by the Conference Board, is currently at 50, which is well below the normal 105 reading during economic expansions. Moreover, consumer confidence averages 75 during the low-point of economic recessions. With an unemployment rate at nearly 10%, the consumer which traditionally makes up 75% of economic activity needs to be rejuvenated in order for future economic activity to be sustained.

Our main concern is the health of the consumer going forward. No one can deny that corporate profits have been impressive so far this year, but these percentage profit increases have come off of extremely low levels. Now that most companies have replenished their inventories, the consumer will have to come alive in order for future sales and profits to keep up with current market valuations. The market is pricing in perfection, which we see is unrealistic in the short-term.

To conclude, the election may bring some renewed hope that taxes will not increase, and consumers may become somewhat more confident. Though, with stock market valuations at five year highs and investor's confidence reading above 70%, we are cautious going into the end of the year. Our portfolio is up nearly 10% for the year, well within our target range of 8-12% annually. We still believe it is prudent to protect the portfolio from the present downside risks, and be in a position to secure positive gains for the remainder of the year. Once we see the outcome of the election, the overall performance of the economy after the holiday season, and the direction of the taxes, we will be in a much better position to take more calculated risk in 2011.

Where are the Markets Headed?

2010-07-13T07:13:00.000-07:00

We suggested three months ago the stock market was due for correction after a blistering recovery from the March 2009 lows. Since that time we have seen nearly 15% pullback from stock market highs back in May 2010. The lingering question that continues to be debated among market strategists and economist is the 'worst behind us'.

Most of us can concede that the financial markets as well as the economy is in a delicate period, and just the slightest shock (economic or geo-politcal) could send the market in either direction very quickly. No one can truly predict what is going to happen within the economy or corporate profits in the future. But, some leading indicators of economic activity are suggesting that a double dip recession 'could occur'.

We are concentrating our focus this week on two very important macro-economic data points. First is Industrial Production, which measures manufacturing activity, and second is Consumer Sentiment, which illustrate the consumers overall perspective on future prosperity. Each of the indicators have soften over the past couple of months, which is concerning because during a normal economic recovery these two indicators should be improving not turning negative.

The correction the markets have experienced over the last couple of months suggest that the economy is slowing. The uncertainty hanging over the financial markets revolves around the question "is the economy heading for a double-dip recession". Remember, the stock market is a leading indicator to future economic activity, and the pause to the downside we are currently experiencing within the stock market suggests the worst may be over in the short-term. But uncertainty continues to be the main investment theme.

In order to properly position our investment portfolios, we have taken a neutral stance by implementing a market hedge. The Consumer Sentiment and Industrial Production numbers that will be reported this week will give us better understanding of the direction of the economy. If the numbers improve we will remove our market hedge and become more bullish in the near term. As for now though, the gains we have seen over the last week within the stock market may be short lived.

by David A. Mascio

10 Reasons to be Cautious on the Stock Market According Rosenberg

2010-05-04T05:52:00.000-07:00

I thought it would be appropriate for investors to be aware of the possible pitfalls that loom in the financial markets over the next several weeks and months. The following cautionary perspective comes from David Rosenberg, a Market Strategist with Gluskin Sheff. Rosenberg has been warning that the financial markets and the global economy is unstable and investors should not be investing in risky assets, and be concentrating on income oriented investments.

Our take is simple: the economy is clearly recovering, and the financial markets are celebrating the end to the recession. The equities markets are up over 75% from the March 2009 lows. This is the most impressive stock market rally we have seen since 1932. That being said, we are cautious in the near term, but we feel the doom and gloom of 2 years ago and a complete global financial meltdown at least in the short term is highly unlikely. But, over the next several months the markets are due for a double-digit correction for some of the reasons cited by Rosenberg.

1. Markets were unimpressed with the size of the just-announced $145 billion rescue package or the ability of Greece to meet the terms. A bailout of all Club Med countries would, according to estimates I’ve seen, approach $800 billion. This is bigger than LEH.

2. China raised reserve ratio requirements 50bps for the third time this year (to 17%). A decisive slowing in China and the U.S.A. is a crimp in the near-term commodity price outlook.

3. Australia just unveiled a massive new mining tax. This is weighing on material stocks overnight.

4. Possible criminal probe on Goldman weighing massively on the stock price; financials being re-rated by rising spectre of financial re-regulation. Shades of Sarbanes-Oxley. There has never been a financial crisis that was not met afterwards with regulatory reform — it’s how the SEC was created in the first place.

5. ECRI leading economic index just slipped to a 38-week low. With the restocking phase complete and fiscal stimulus waning, prospects of a second half slowdown loom large. Buy the recovery story when ISM is at 30 and policy stimulus in full swing (13 months ago); fade it when ISM approaches 60 and stimulus subsides. Market Vane sentiment is pushing towards 60% too — yikes! Too much priced in. As for the macro scene, the U.S. economy is barely growing at all, net of all the federal stimulus (+0.7% SAAR in Q1). And net of housing impacts, neither is Canada ... should set us up for a fascinating second-half.

6. Attempted terrorist attack in Times Square a reminder that geopolitical risks have not gone away.

7. Treasury yields have collapsed nearly 35bps from the nearby highs and are not consistent with the recent move by equities to price in peak earnings in 2011. Junk bonds trading back to par for the first time in three years.

Please see important disclosures at the end of this document.

8. The U.S. implicit GDP price deflator receded to its slowest rate in 60 years in Q1 (+0.4% from +2% a year ago) in a sign that this profits recovery is still being underpinned by cost cuts, tax relief and accounting shifts than by anything exciting on the pricing front.

9. The latest Case-Shiller house price index confirmed that we are into a renewed leg down in home prices. Financials, retailers and homebuilders are not priced for this outcome.

10. Initial jobless claims, around 450k, are not consistent with sustained employment growth, notwithstanding what nonfarm payrolls tell us this Friday. A new peak in the unemployment rate and a new trough in home prices stand as the most pronounced downside surprises for the second half of the year.

Another Excellent Piece From Bob McTeer

2010-03-23T09:07:00.000-07:00

Over the past several months we have been contemplating the effects of the massive amounts of government stimulus and the historically low interest rate environment and impact the future level of inflation. Bob McTeer, former Dallas Fed President, recently published an excellent piece on this very topic. Please read below for his take on the future of inflation.

It’s taken for granted in some circles that a sharp acceleration of inflation is the inevitable result of the monetary and fiscal policies of the past year or so. I disagree for the following reasons.

*While budget deficits have grown dramatically, in absolute terms and as a percentage of GDP, for the most part they have not been financed with newly created money. Since late 2008 and early 2009, monetary expansion has been moderate, especially given the slack created by the recession. Money growth has been more moderate than many people assume, both M2 and M1.

As the economy recovers and the slack is taken up, if the money supply continues its recent slow growth, interest rates will be bid up to facilitate the absorption of the increased borrowing by the government without an acceleration of inflation. The government will be crowding out private spending via higher interest rates

Inflation, Bond Yields, and Consumer Confidence

2010-02-24T07:15:00.001-08:00

The latest reading on inflation at the consumer level signal no real threat of inflation. Excluding food and energy the CPI actually decreased by 0.01% in January. Hardly a threat to a drastic rise in prices at the consumer level. The real issue that is facing the global economy is not inflation. It is consumer demand. The Conference Board of leading indicators reported yesterday that consumer confidence in the US decreased by 10 points to a reading of 45 well below an expansion level of 100 not seen since 2007.

Most bond bears continue to pound the table expressing their concerns that interest rate are going to rise rapidly causing bond prices to crash and yields to explode. Sorry, the chance of this happening here in the US by our calculations is low. Instead we believe that the global turmoil primarily in Europe will create an environment that will increase bond prices in the US as a flight to quality. Say what you want about the US financial situation, the rest of the world, primarily Europe is in much worse shape.

We should as investors understand that the real risk to a stable financial recovery here in the US will be on the backs of the consumer. Most other aspects of the economy here in the US are well on their way to recovery. The consumer makes up nearly 70% of the overall economy. We are starting to see some signs that corporate hiring should pick up this spring and into the summer. If corporate earnings and top line revenues increase over the next few quarters, the consumer will begin to feel more confident with their overall financial situation, because new jobs will follow. Overall, things are improving globally, but before investors double down their bets in the equity markets, new hiring needs to increase.

Finally, two issues need to be addressed before we can rule another recession, Employment and Sovereign debts issue in Europe. If we start to see jobs being created, and confidence that the EU can deal with their debt issues in an orderly manor, expect a fruitful and measured recovery globally. We are still cautious and remain fully hedged with regards to risky assets.

by David A. Mascio

What the Experts Say about the Current US Deficit

2010-02-19T07:08:00.000-08:00

I thought most of you would enjoy hearing from this panel of experts, on what the Federal Government should be doing about the current US Fiscal Crisis.

Enjoy

Weekly Market Update for February 8th-12th

2010-02-13T07:09:00.000-08:00

It was another roller-coaster week for U.S. stocks, only this time the major indexes ended with weekly gains. The rise over five trading days ended a five-week losing streak for the Dow Jones Industrial Average and kept the blue chip index above 10,000.

More worries about Greece's high debt, and a nagging sense that Spain, Portugal, Ireland and even Italy may not be that much better off, hurt investor sentiment during the week.

On Friday, China tightened deposit ratios and spooked most stock markets, though some gains among technology shares helped keep U.S. indexes in positive territory for the week.

The Dow (.DJI) fell 45.05 points or 0.4% to close at 10,099.14 on Friday. For the week the index rose 0.9%. The Nasdaq Composite Index (.COMP) rose 6.12 points or 0.3% on the day to close at 2,183.53 and notched a 2% gain for the week. The benchmark Standard & Poor's 500 Index (.SPX) lost 2.96 points or 0.3% to close at 1,075.51 on Friday. For the week the index rose 0.9%.

by Marketwatch

Has The Economic Recovery Been Over Baked?

2010-02-12T07:27:00.000-08:00

This morning I saw this cartoon n Investment News, and thought to myself Hmmm, have we completely missed how a true economic recovery should look like. Every Macro-ecnomic indicator is suggests the so-called recovery we are currently experiencing is running out of steam. All one has to do is look at the current employment picture, and the fact that Europe just reported GDP growth of 0.01% for the latest quarter. The Shiller Price Earning Ratio index is currently at 25, which is nearly 20% above the long-term moving average, and the Fed is still leaving its 0 interest policy in tack. If we were truly in a "real' economic expansion the Fed would have already begun to raise rates. Investors do not be fooled, the global economic recovery still has some heavy lifting to do.

2010 Starts off with Modest Gains

2010-01-09T10:30:00.000-08:00

U.S. stocks ended the first week of the year with decent gains as investors appeared to shrug off the worst news contained in the December payrolls report. Looking ahead to earnings probably didn't hurt, either, since U.S. corporations are expected to show profit increases for the first time since the second quarter of 2007. Revenue is expected to rise, too, according to Thomson Reuters.

Profit at large U.S. companies is expected to rise 184% in the period and break a string of nine quarters of profit declines. A lot of that rise will be thanks to a big jump in financial profits. Without them, overall profit at Standard & Poor's 500 corporations is expected to increase by 8%. Revenue among S&P companies is forecast to climb 7%.

The Dow Jones Industrial Average (.DJI) rose 11.33 points or 0.1% to close at 10,618.19 on Friday. The Dow spent most of the day in the red, but its rise on the day gave the blue chip index a 1.8% gain for the week. The Standard & Poor's 500 Index (.SPX) rose 3.29 points or 0.3% to close at 1,144.98 on Friday. For the week the benchmark index was up 2.7%. The Nasdaq Composite Index (.COMP) rose 17.12 points or 0.7% on Friday to close at 2,317.17, a gain of 2.1% for the week.

By Marketwatch

House Scraps Commissioned Based Advisors Fiduciary Standard of Care

2009-12-18T07:52:00.000-08:00

Here is a direct quote from Barney Frank (D) Chair of the House Financial Committee, after approving the new financial regulation bill.

Barney Frank last week added a limitation to the extension of the fiduciary duty. In particular, the provision that would require the SEC to adopt rules applying a fiduciary standard of care to broker-dealers now states: "Nothing in this section shall require a broker or dealer or registered representative to have a continuing duty of care or loyalty to the customer after providing personalized investment advice about securities."

In essence, any stock broker, commissioned-based financial advisor, registered representative or dealer will not be required to the same duty of care as a independent Registered Investment Advisor (RIA). Therefore, once a financial product is sold or recommended these representatives are not required to uphold the same duty of care as the RIA.

In my humble option, why would any investor (unless its a discount broker and the investors is managing their own portfolio of investments) hirer an advisor that is not an independent RIA. The biggest problem I see with the decision is that the everyday investors has no idea the real difference between an independent Registered Investment Advisor and a commissioned-based broker dealer. If this provision would have passed the house financial committee it would have create an equal playing field that would benefit investors seeking investment advice.

I encourage anyone who is seeking professional investment advice to understand these important differences before they hire an investment professional.

By David A. Mascio

Signs May be Positive, Though We are still in a Bear Market Rally

2009-12-16T07:52:00.000-08:00

As we near the end of the year, many investors are breathing a sigh of relief after licking their wounds of 2008. I would have estimated the the financial markets to have a significant correction in 2009 after the March lows. Whether you believe the rally in equity prices is for real or not it, does not change the fact that investors confidence in 2010 in is question.

Markets Strategists and Global Economists are at polar opposite ends of the spectrum when predicting the directions of the global economy and the financial markets over the next couple of years. So who is right? Neither. Remember the financial markets perform badly when the investing public cannot foresee what is on the horizon. Currently, every bit of poor economic data that is reported is for the most part taken with a grain of salt, as EXPECTED. The current environment is discounting bad news and buying good news. With the massive amounts of liquidity in the market, and a lack of selling within the financial markets could move the markets higher on a shear investor's complacency.

We remain in the camp that the financial markets have extended themselves too far too fast since the March lows. Though, investor's sentiment is overwhelmingly positive regardless of the current global economic environment. Therefore, we feel investing in this market over the sort-run could prove profitable in several different asset classes, but derivative protection is an absolute necessity because of global economic uncertainties.

The Financial Sector has turned Negative

2009-12-02T08:14:00.000-08:00

Of the ten global economic sectors, the financial sector is the largest and arguably the most important sector in the world economy. Since the stock market low in early March the financial sector is up nearly 160%, while the overall market is up 61%. But, since mid-October the financial sector is down 6.7%, the rest of the market is up only 1.6%. This is the best overall performance of the stock market since 1933, and we all know what ensued over the next several years during the Great Depression.

Within the financial sector the banking industry is in trouble once again and if a major selloff occurs banks will lead the way down. A healthy financial sector is key to the overall growth of the economy, and unfortunately, the only reason the banks did not completely collapse last is year is because of government intervention and massive cash infusions. Moreover, the same government that gave all these institutions capital to wart off complete disaster are now proposing legislature to regulate or in some cases take the institutions over altogether. With interest rates at historic lows, unemployment rising (though at a moderated pace), and the fact that bank lending standards have become much more stringent diminishes the hopes for a flourishing financial sectors over the next 18 months.

Therefore, I conclude in saying once again, "be cautious and be very wary of what potentially awaits the market in the coming new year."

By David A. Mascio

Weekly Market Update for November 14th - 19th

2009-11-20T15:14:00.000-08:00

Most U.S. stocks ended the week with losses, but the Dow Jones Industrial Average notched a small rise for the period thanks to gains on Friday in health care stocks and consumer-related shares. Tech shares were the biggest losers on the week.

The Dow (.DJI) fell 14.28 points or 0.1% on Friday to close at 10,318.16. For the week the index rose 0.5%. The Nasdaq Composite (.COMP) fell 10.78 points or 0.5% to close at 2,146.04 on Friday for a weekly loss of 1%. The broader Standard & Poor's 500 Index (.SPX) dropped 3.52 points or 0.3% to close at 1,091.38. For the week the benchmark index fell 0.2%.

By Marketwatch

The 401k Plan: Why are Employers Trying to Manage the Investments without Assistance?

2009-11-11T08:06:00.000-08:00

I couldn't have explained the answer to this question better than Roger Wohler, CFP. Read below from his blog regarding a plan sponsor's responsibility as a fiduciary.

Smart Money recently ran an article depicting several small companies where either the owner or a group of senior managers were in charge of the firm’s 401(k) plan and who were largely making decisions regarding the plan on their own. The article pointed out that many of these folks do not have a background in either investments or qualified plans.

The focus of the article was to point out to plan participants that in many cases their plan was being run by folks who may or may not be qualified to make decisions as to investments offered, the custodial platform, or the plan record keeper.

My take on this article is to wonder why these small/mid-sized company owners and managers would want to take on this responsibility.

First of all, these individuals would be considered plan fiduciaries,which means that they can be held personally liable under certain circumstances for doing a poor job.

Effectively managing a 401(k) plan involves taking the time to select and monitor the investments, overall plan expenses, as well as the fees and performance of all plan vendors. Today it seems that business owners and their senior managers have more on their plates than ever.

Running a 401(k) plan is about more than the investments.Total plan cost has always been a key issue and is coming more into the limelight as the spotlight shines on the issue of Fiduciary roles and obligations.

Selection and monitoring of Target Date funds is receiving much attention in the press and in Congress in light of the losses suffered in 2008 by some of the shorter maturity date funds. Defaulting to the funds offered by a bundled provider is not always the right answer, this option will likely come under more and more scrutiny over the next few years.

Even if the business owner is a knowledgeable investor in his/her own right, does this knowledge translate into the ability or the time to select and monitor all aspects of a solid retirement plan that is a great option for the majority of the company’s employees?

I’ve seen instances of plans that will take the suggestions of their bundled provider (a fund company such as Vanguard, Fidelity, or T. Rowe, or an insurance company such as Prudential) and implement those suggestions as the plan’s investment lineup. The representatives of these companies are not plan fiduciaries, but company managers running the plan are. I doubt that these folks are trying to do the plan any harm, but at the end of the day their loyalty is to their employer not the plan participants.

If your company’s plan is via an insurance company, your agent or registered rep may be providing investment advice to the plan. Again, this person is likely not a fiduciary, they receive commissions paid by the provider and their loyalties are at best divided.

In the interest of full disclosure I am a fee-only consultant to 401(k) plans providing advice to small/mid-sized plans. If this post seems self-serving I apologize, but this is a key issue for both owners/managers of these companies and their employees. In my opinion, running the company’s 401(k) plan requires a level of diligence and expertise that the “do it your selfer” business owner often does not have. Pulling out a Morningstar report on the funds once or twice per year does not, in my opinion, constitute proper diligence and monitoring of the plan.

Weekly Market Update for November 1st - 6th

2009-11-06T19:52:00.000-08:00

U.S. stocks ended the week with solid gains. Stock investors seemed more interested in merger activity, better-than-expected retail sales and the Federal Reserve leaving rates unchanged than in the gloomy news on the jobs situation.

And even the unemployment report wasn't all bad. The number of payroll jobs lost in August and September was revised lower, offering a glimmer of hope to some.

The Dow Jones Industrial Average (.DJI) rose 17.46 points or 0.2% on Friday to close at 10,023.42. For the week the blue chip index gained 3.2%. The Standard & Poor's 500 Index (.SPX) was up 2.67 points or 0.3% to close at 1,069.30 and notch a 3.2% advance for the week. The Nasdaq Composite Index (.COMP) rose 7.12 points or 0.3% to close at 2,112.44. The technology heavy index rose 3.3% for the week.

By Marketwatch

The Current Economic Environment: US Consumers Are Still Reeling

2009-11-04T07:24:00.000-08:00

Currently, the United States is trying to recover from the worst financial crisis since the 1930's; though, at this time, I believe we will avoid the doom and gloom experienced by the Great Depression. But, we have a much bigger problem potentially looming in the shadows of economic despair.

Here are the major economic risks facing the United States:

1. According to the CBO, the US government's deficits will exceed 1 trillion dollars annually over the next 10 years.

2. 40% of the US annual spending deficits, are being financed by the sale of Treasuries to the Chinese.

3. The US government and the Federal Reserve are artificially stimulating the economy with a zero interest rate policy, government stimulus, and the printing billions of US dollars. All of which has the potential of creating massive inflation starting in 2011.

4. Unemployment continues to increase at nearly 10%. US corporations continue to cut jobs to increase profits, because top line revenue continues to be flat or down year over year.

5. US Consumer Confidence continues to slid at a reading of 47.5 (100 signals growth and expansion).

6. The Federal Reserve continues to buy massive amounts of Treasuries, which has kept government bonds prices at multi-year highs in order to artificially keep mortgages interest rates lower.

I can go on and on. I am not sounding the all panic alarm, BUT, IF WE DO NOT GET OUR FISCAL HOUSE IN ORDER IMMEDIATELY, THE UNITED STATES OF AMERICA COULD be setting itself up for the WORST FINANCIAL CALAMITY OF THIS CENTURY.

Our investment strategy will continue to be cautious, with derivatives strategy protection and cash hedging.

by David A. Mascio

Consumer Confidence Drops Unexpectedly

2009-10-27T08:45:00.000-07:00

Today the conference board reported that consumer confidence dropped unexpectedly to 47.7. When this reading is at or above 100 it signals stable growth within the economy. With nearly 70% of the overall growth of the economy dependent on the consumer, this report does not coincide with Wall Street's over-exuberant outlook for the next several months.

Final thought: the Consumer Confidence reading confirms our cautious economic and stock market outlook for the foreseeable future.

by David A. Mascio

Microsoft's Sales and Profit Sink: Stock Trades Up?!?

2009-10-23T07:03:00.000-07:00

I have always been amazed at the reliance that investors put in Wall Street's analyst expectations of companies reported financial results. The ridiculous measure that most investors follow. This quarter analyst's expectation again have been relied upon as the holy grail of predicting future company performance.

Lets take for example Microsoft's reported quarterly earnings for the 3rd quarter of 2009. The headlines read "Microsoft's Profit and Sales Fall, but beat expectations". What does that actually mean? Their business revenue and profits were lower than last year, but because a group of analyst thought they were going to be worse, investor celebrate and buy the stock aggressively.

First, 2008 was one of the worst years on record for corporate profits and revenue, which in fact was reflected in the crash of the stock market through March of 2009. If I were to tell you that one of the most successful corporations in the world was going to report worse results than in 2008 would be excited to buy that company's stock?

Microsoft reported an 18% decline in profits from the 3rd quarter, and a 14% decline in top line revenue. The company has been cutting costs for the better part of a year and still posted lower results. The most telling aspect of Microsoft's results are the huge declines in the consumer division of the company. Operating system sales fell 38%, and profits declined 52%. This is the first time the company has post multi-quarterly declines in profits and sales.

But, the analyst thought it would be worse, so the stock is trading up 8.5%. Frankly, I do not care what the consensus expectations were. Microsoft performed badly again, in what many are touting as a recovery period.

Lastly, According to Morningstar, Microsoft is trading at a forward PE of 17.34 (before the nearly 9% run-up in the stock price today) which is hardly a bargain. My point is simple, "What if analyst expectations were higher than what Microsoft reported? Would the stock be trading up today?

by David A. Mascio

Corporate Earnings: Are they For Real?

2009-10-20T08:28:00.000-07:00

The unemployment rate continues to rise (it is at the highest level since the 1980's). Producer prices fell again. Companies are reporting higher profits year over year, and beating dramatically lowered expectations. Though, companies are NOT increasing their sales. In fact top line revenue growth is flat to down just over the last quarter.

The reason why corporate profits are on the rise, is simply by cutting JOBS. Again, I must point out that the only way we will AVOID a double dip recession in the future is for consumer demand to increase for homes, cars and entertainment. Currently, this does not exist.

Bias money managers and the media are driving this market to levels that can not be sustained in the short run. Be prepared for a significant correction within the financial markets over the next several months. Non-retirement investors should not invest new cash or existing cash into this market until there is a significant pull-back.

By David A. Mascio

Market Summary October 16th

2009-10-16T14:50:00.000-07:00

U.S. investors wrestled with the first big bunch of corporate results this week and came out ahead, even if only by a little. But the jury is still out on how this earnings season will go. After all, corporate earnings are still shrinking and revenue performance is spotty across the Standard & Poor's 500.

Next week brings results from an even larger array of companies, including 12 in the Dow Jones Industrial Average. That deluge should, by this time next week, give us a much better idea how the health of corporate America is holding up during flu season.

The Dow (.DJI) fell 67.03 points or 0.7% on Friday to close at 9,995.91. For the week the index managed a gain of 1.3%. The Nasdaq Composite Index (.COMP) fell 16.49 points or 0.8% on the day to close at 2,156.80, but still rose 0.8% for the week. The S&P 500 (.SPX) fell 8.88 points or 0.8% to close at 1,087.68 on the day, for a 1.5% weekly gain.

by Marketwatch

Fiduciary Standards: What 401K Sponsors and Affluent Investors Need to Know

2009-10-15T08:05:00.000-07:00

Our friends over at Fi360 (www.fi360.com), wrote a column this week summing up perfectly what managers or stewards of wealth should be focusing when considering hiring an advisor.

Here are five principles that fiduciaries can adhere to:

1. Place investors best interests first

2. Provide advice with the skill, care, diligence and the judgment of a professional

3. Provide fair and full disclosure of all material facts

4. Avoid conflicts of interest

5. Manage unavoidable conflicts in the best interest of the client.

Lastly, Investment News came out today with the results of the Spectrum Group's annual survey regarding who affluent investors are hiring to manage their financial assets. The results showed that nearly 22% of the affluent fired their commissioned-based broker and hired an independent advisor in 2008. Moreover, congress is considering passing laws that will disallow brokers from giving investment advice to individuals altogether.

by David A. Mascio

We Remain Neutral on this Market

2009-10-14T09:10:00.000-07:00

This morning we had earnings from intel that suggest that companies and individuals are beginning to buy more goods and services within the global economy. Overall retail sales month over month were down 1.5%, excluding auto sales there was an increased of 0.5%. Consumer confidence still remains very low, and corporate revenues or top-line growth is flat to negative. Sure, companies bottom line profits have increased due to massive cost cutting and job layoffs, and the big question going forward is "when are companies gong to start hiring"?

In order for the economy to have sustained moderate growth, jobs need to increase and consumer spending needs to increase. Has that occurred? If we knew the answer to this question, we would not have such a correlation between traditional non-correlating assets classes.

Right now stocks, bonds and gold are all moving in the same direction. Stocks are at a 52 week high, bonds are at decade high levels, and gold is at an all-time high. This suggest extreme uncertainty with the future direction of inflation, and economic growth.

Therefore, we are neutral on this market. We are neither buying nor are we selling. We continue to advise our clients to dollar-cost average into their retirement portfolios, and to have cash on the sidelines waiting to invest when stocks, bonds and gold behave in a non-correlating fashion.

By David A. Mascio

Weekly Market Update for October 9th

2009-10-09T15:33:00.000-07:00

U.S. stocks recorded a week of gains, bouncing back after two weeks of losses. Earnings season got off to an acceptable, if not exactly positive, start. Retail sales were stronger than expected and economic indicators stopped flashing red.

The Dow Jones Industrial Average (.DJI) rose 78.07 points or 0.8% on Friday to close at 9,864.94. For the week, the index gained 4%. The Nasdaq Composite Index (.COMP) gained 15.35 points or 0.7% for the day to close at 2,139.28 and notched a 4.5% gain for the week. The broader Standard & Poor's 500 Index (.SPX) rose 6.01 points or 0.6% on Friday to close at 1,071.49, a 4.5% rise for the week.

By Marketwatch

Bob McTeer and Art Laffer: The Fed's Exit Strategy

2009-10-01T07:47:00.000-07:00

Two of my favorite economist were guests on CNBC's The Kudlow Report Tuesday night squared off to debate the Fed's exit strategy to remove excess monetary supply from the economy. Even though I agree with Bob McTeer 99% of the time, I believe Art Laffer's view on this issue is right on. Below is the clip.

http://taxesandbudget-blog.ncpa.org/cnbc-interview-2009929/

By David A. Mascio

Inflation and Gold.

2009-09-29T07:20:00.000-07:00

Most of us are aware of the direct correlation between the price of gold as a leading indicator of future inflation. Currently, gold prices are at or near an all-time high, which suggests that the global economy is poised for heavy dose of inflation in the near term. On the surface this seems like a very likely scenario.

Government spending, quantitative easing (the printing press is on at the federal reserve), and massive amounts of fiscal stimulus is flooding the US economy. Most economist believe that these actions are going to result in inflationary pressures in the near term. Hence the current price of gold.

BUT, the US unemployment rate is nearing 10%, the capacity utilization rate is at 65% (85% would suggest manufacturing activity is at full capacity), and the CPI rate is at about -.05%. More importantly, the consumer confidence survey out today actually decreased from August to September. Folks, the risk of inflation at this time or in the near future is extremely low and pricing pressures are non-existent.

Therefore, is the huge run-up in gold prices accurately predicting the threat of inflation? Based on the actions of the Fed and the US Government, probably. Though, if you observe what is actually going within the economy, inflation is not coming anytime soon, and gold prices are more than likely going decrease and correct to a more normal level over the next several months.

Ben Bernanke and the Federal Reserve see it the same way. Hopefully, job creation and capacity utilization increases more rapidly over the next several months, because some inflation is good for the economy. If consumer demand continues to falter, which makes up 70% of the overall economy, inflation will NOT be an issue. The bigger risk will be another recession and stock market plunging into another bear market.

By David A. Mascio

Plan Sponsors: You are a Fiduciary!

2009-09-24T07:39:00.000-07:00

One of the most misunderstood elements of the industry is identifying who is a fiduciary. According to most fi360, a fiduciary is identified within a company retirement plan the following way:

Those who are "named" in plan or trust documents
Those whose function equates to providing comprehensive and continuous investment advice
Those who have the discretion to buy and sell investable assets
Those who have the authority to appoint other fiduciaries

Moreover, The Pension Protection Act of 2006 expanded the roles of a fiduciary, and gave plan sponsors more options to protect themselves as fiduciaries of the their company retirement plan. These protections are called "Safe Harbors".

According to Blane Akins, a blogger for Investments News as The Fiduciary, states:

For the protection of the fiduciaries and investors alike, it is better to address this issue up front, by properly identifying the fiduciaries, documenting their status and role in the investment policy statement, and requiring the fiduciaries to acknowledge their status in writing. Not only will this help prevent misunderstandings, it ensures every step in the investment process is accounted for and that the fiduciaries are taking the proper steps to fulfill their role.

Heads of HR, small business owners, CEOs and CFO's that control the assets of their company retirement plan should not believe that the plan record keepers and custodians (i.e Fidelity, Schwab, Vanguard or The Principal, etc.) or their investment representative have taken the proper steps to protect you as a fiduciary. Any lawsuit that arises from any participants dissatisfaction with your company retirement plan puts you directly responsible and your personal assets.

Do not assume this responsibility is taken care of. Take the steps that are necessary to ensure that you are protected from potential lawsuits that might be looming. The best way to do this is to educate your investment committee or hire a professional fiduciary consultant. Resources like fi360.com is perfect place to start. Remember taking these crucial steps will only enhance the overall effectiveness of your company's retirement plan

By David A. Mascio

I am in Dismay!

2009-09-22T08:30:00.000-07:00

I have been complaining to my research analyst for the last two weeks, and this morning was no exception.

Gold is at an All-Time high. Bonds are at Multi-Year highs. Stocks are up over 50% since the March lows. The US dollar has been beaten down all year.

Something is not right. Which asset class is going to correct itself first.

My prediction is simple: The dollar will strengthen, and all the other asset classes will be lower by the end of the year. Do not listen to the media. Be cautious and be wary of chasing momentum in this low volume market.

By David A. Mascio

Bernanke Announces Recession is Probably Over

2009-09-16T08:32:00.000-07:00

I think most of us in the economic and financial community agree with Mr. Bernanke's assertion that this recession is behind us. What can we attribute to why we are out of the recession so quickly if this was deemed the worst financial crisis since the Great Depression?

One of the main reasons why we are starting to see a slight expansion in the US Economy is the massive amount of liquidity that the Federal Reserve has been pumping into the economy through quantitative easing (aka: printing new US dollar bills). We can all agree that if there is more money in financial system, growth should follow.

Industrial production is signaling a slight expansion and the Purchasing Managers survey is also indicating a rebuilding of inventories. Though the price of gold is at almost an all-time high and the US Stock indices are at 2009 highs. Both of these suggest striking different future outcomes for the US Economy. Gold prices suggest that massive inflation is just around the corner and stock prices suggest that Goldilocks economy is back and greener pastures are to come.

Which of these indicator is correct?

A survey conducted by Duke University revealed that 60% of the 657 CFO's surveyed are more optimistic about their company's future prospects over the next 12 months, which is consistence with how the US stock market has performed year-to-date. On the other hand, this same group of CFO's expect to cut more jobs over the next 12 months as a cost cutting measure. Most agree that their profits will be derived from more savings for overhead than actual top line revenue growth.

Don Luskin, a CNBC contributor and managing director of TrendMacro, suggests that the run-up in Gold prices is no fluke. He believes that this is the result of the massive amount of liquidity pumped into the financial system by the Fed, and will result in an inflationary environment that will be very difficult to control. As we know some inflation is good, a lot of inflation is bad.

My take: The US stock market clearly has gotten ahead of itself and thee is a need for a hefty correction in the short-term. Whether or not this occurs will remain to be seen. Job losses continue and I do not see a reversal of that trend anytime soon. With nearly 70% of the overall economy dependent on the US consumer, and the fact that the Federal Reserve is going to have to turn-off the liquidity dump soon for risk of out-of-control inflation; I fear two possible outcomes over the next 12 months.

1. It might be too late to control inflation, because the Fed is going to wait too long to shut of the printing presses.

2. The US consumer is riddled with debt, the saving rate continues to increase, and many workers fear losing their job or becoming employed once again.

Sure we could see decent economic growth through the end of the year, but by next spring the real test will come: Out-of-control inflationary pressure, nascent economic growth, or the most unlikely scenario the Goldilocks economy returns.

Final thought. Be cautious and wary of the recent Zeal the financial markets are suggesting, we have a long way to go restoring long-term prosperity. It is going to be a turbulent ride.

By David A. Mascio

Weekly Market Review - September 7th - 11th

2009-09-14T07:19:00.000-07:00

This week, children headed back to school, football players lumbered back onto the field and traders made their way back to their desks after what seemed like a fleeting summer. There always seems to be a little sadness as we return to the grind after Labor Day, especially given the somber Sept. 11 anniversary, but this year feels different somehow. It's like the overall mood has soured, and only the gold traders are feeling especially chipper.

For example, after weeks of often-heated town-hall meetings, President Barack Obama took to the podium and spoke to Congress and the country, outlining his plans for health-care reform. But even his formal address was interrupted by a brief outburst from Republican congressman Joe Wilson.

What was the fallout? Well, an apology was offered and accepted, but that surely will not mark the end of the rancor surrounding this debate. Am I the only one who thinks, on an issue as vital as health care, we'd likely benefit from less screaming and more listening? We could use a dose of simple civility .

Not even a better consumer-confidence reading than expected could cheer people up on Friday, snapping the recent winning streak for U.S. stocks. For the day, the Dow Jones Industrial Average ($INDU) fell 22 points to 9,605, while the S&P 500 Index ($SPX) lost a bit over a point to stand at 1,043 and the Nasdaq Composite Index (COMP) declined 3 points to 2,081.

Over the past week, however, the Dow gained 1.7%, the S&P 500 advanced 2.6% and the Nasdaq added 3.1%.

By MarketWatch

Stocks, Bonds and Gold all Reach Yearly Highs?

2009-09-09T07:01:00.000-07:00

What happened to asset class diversity and non-correlating asset types? Since the beginning of 2009 we have without doubt seen a market of extremes. From the Bear Market low in the beginning of March to the current high we are presently witnessing. Though, traditional wisdom suggests when stocks are flying high, bonds prices tend to lag, and gold prices are usually flat.

So why are stocks, bonds and gold all moving in the same direction?

One suggestion is uncertainty. I believe in the current market environment has created three different types of investors.

1. The Trendy Investor - This investor almost always will invest invest in stocks when the market has already made a significant move upward, and they tend to sell their assets at or near the bottom. These investor are emotional driven and rarely outperform the overall market.

2. The Cautious Investor - Since bond prices are significantly higher than one would think based on the economic recovery that is taking place, traditional wisdom would suggest that bonds should be on the cheap. But, there are many investors that believe the economic recovery will be short-lived, and without even taking into account that bonds are expensive continue to buy these relatively safe investments. This strategy will ultimately disappoint even if the economy is weaker.

3. The Gold Bugs - Gold has now reach near an all-time high. Most experts believe that the best to invest in gold is when the risk of future inflation is great. Though, this asset does not pay a yield nor does it offer any sort of dividends. Moreover, the latest reading on inflation suggests that the future risk in not inflationary by deflationary. So, if you are to by Gold, why not buy when its prices are low not at an all-time high.

So, which asset class should the average investor pour money into? If you are investing in your companies retirement plan, the best thing to do is dollar-cost average ever month and make sure your tactical asset allocation fits your risk type and do not worry about trying to time the market. Those of you that are investing outside your retirement account or are retired, I believe the best course of action is build up cash reserves and WAIT for stocks, bonds and commodities to sell-off to more reasonable price levels. Once this occurs, I would begin to buy more aggressively.

In short, I would be very cautious putting my cash to work in any of these assets classes at the current market prices.

By David A. Mascio

Weekly Market Review - August 30th - Sept 4th

2009-09-07T11:07:00.001-07:00

The week promised, and even delivered, plenty of compelling news, yet Wall Street was committed to maintaining its tight focus on Friday's U.S. nonfarm-payrolls report, paying transient heed to the wild gyrations of Shanghai stocks, the automobile manufacturers' August sales figures, freshly released minutes of the latest Fed policy meeting, gold's rapid ascent, BP's big discovery, and even a watchdog panel's report on how the SEC's failed to sniff out the Madoff scam.

When it finally arrived, the payrolls report didn't disappoint breath holders -- showing an unemployment rate at a 26-year high on the cusp of 10% and, moreover, confirming not merely that American jobs have been lost over the past month or the past year but over the entire past decade.

And yet stocks rallied Friday.

That advance, though, was not enough to salvage the week's performance. From last Friday's closing bell through the end of this week, the Dow industrials were down 1.1%, while the S&P 500 was off by 1.2%. The Nasdaq Composite, after gaining 1.8% Friday, was down 0.5% for the week.

by Marketwatch

Shiller PE Ratios: Can they Predict Future Returns?

2009-09-02T07:09:00.001-07:00

A Yale Professor, Dr. Robert Shiller, has for decades developed a model for predicting future stock market returns called the Shiller PE Model. His premise is very simple. Higher PE ratios above 17 will result in poor subsequent 10 year performance, compared to lower PE ratios below 17 will result in superior subsequent 10 year performance.

See chart below for results since 1929:

Shiller P/E's and Average Stock Returns

Date Range PE Annual Return

1929-1938 26.7 3.55%

1939-1948 16.2 7.70%

1949-1958 9.9 21.56%

1959-1968 18.0 10.63%

1969-1978 20.8 4.84%

1979-1988 9.2 16.65%

1989-1998 15.1 19.86%

1999-2008 40.4 0.65%

Average 17.4 11.09%

Currently, the Shiller PE stands ironically at 17. Dr. Shiller suggests that most investors do not have the patience or the fortitude to craft a long-term allocation that will benefit from the market's over and under valuations. At this point in time, Dr. Shiller suggests investors should be equally weighted between stocks and bonds.

On the other hand, the uncertainty of future corporate earnings, and the overzealous nature of investors could force the Shiller PE ratio to rise or fall substantially in the near term. Moreover, the "E" (earnings) is currently very unpredictable, in that, future earnings expectations for corporations could go in either direction.

By David A. Mascio

Yellow Light: Investors be Cautious

2009-08-31T07:04:00.000-07:00

The DJIA has risen nearly 48% since the market low in March 2009. According Jason Zweig, a well-know value investor, states that the Dow Jones Industrial Average in its 113 year history has only had six other rises that have been faster. In 1930, the DJIA rose nearly 46.5% and then lost over 50% of its value in 1931. Then in 1971, the market was up nearly 47% and then declined almost 40% over the next 18 months. In 1975, similar results. The only other market rise of similar magnitude that resulted in positive gains after a 40%+ rise was the bull market from 2002 to 2004.

Currently, market valuations measured by price to earnings ratios are 18.4, above the long term moving average of 16.3. Also, corporate CEOs and insiders are selling nearly 31 times more stock than they are buying. The normal ratio is 7 to 1. This suggests that corporate executives are not encouraged about future earnings prospects.

Investors have become overly-confident in their prospects for future gains. Indeed, the markets have had an impressive run over these summer months, but trading volume is well below average and corporate earnings have been lifted by massive cost cutting. In order for stocks to move higher from this point there needs to be a major shift from cost cutting to corporate revenue increases.

A hint of advice. 401(k) investors continue to dollar-cost average each month and avoid trying to time the market. Everyone else: the yellow light is flashing, proceed with caution.

by David A. Mascio

Weekly Market Review

2009-08-30T06:52:00.000-07:00

The week was marked by beginnings and endings, from the death of Democratic Party icon Ted Kennedy to the reappointment of Fed chief Ben Bernanke by President Obama, and punctuated by hope, from the latest hints that the housing market is ready to rebound to word that the "Dreamliner" nightmare is nearly finished.

So it was, too, on Wall Street, where the Dow industrials had an epic run snapped, ending lower Friday after gaining in eight straight sessions. It was the longest uninterrupted advance since the spring of 2007.

The blue-chip gauge posted a 0.4% increase for the week. The Nasdaq, alone in rising Friday (to its highest closing mark since Oct. 1), matched that weekly move. The S&P 500 rose 0.3% between last Friday and this week's close.

by MarketWatch

The National Debt: It Keeps on Ticking.

2009-08-27T06:18:00.000-07:00

Yesterday, I heard an interesting statistic about the current state of our rapidly increasing national debt.

The Heritage Foundation, a non-profit budget watchdog, stated that next year for every $1.00 the United States Government spends, $0.43 with be borrowed money. No other time in this nations history, not even during WW2, has this country spent so much money with borrowed funds.

I ask all of you this simple question, "What would happen to your personal financial situation if you handled your money the same way our Federal Government is?

Please send me your comments.

Are the Rich Really getting Richer?

2009-08-21T06:41:00.000-07:00

After reading an article in the New York times this morning, I pondered the question, "Can the economy flourish if the rich are becoming poorer?". Most of you are well aware that my political views slant more to the right as a fiscal conservative. I am a "supply sider" at heart.

Notice the chart above. Immediately, I thought of Reagan's controversial trickle down economics theory can only hold true if the top wage earners and the top wealth creators continue to become more wealthy. Moreover, without wealth creation at the top, money will dry up down river like the Colorado flowing to the gulf of California. (Hence it dries up before it ever reaches the people who need water the most). This becomes more evident in the current business cycle. Unemployment is higher than its been in 30 years and real wages are considerably lower. The "proof is in the pudding"

This begs the question. Can the US economy flourish if the top wage earners and accumulators of wealth STOP becoming more wealthy? Study France, Italy and Germany's economic climate since WW2, and there lies the answer.

Have a great weekend!

Jobs: Can the Economy Truly Recover Without Them?

2009-08-20T07:53:00.000-07:00

Today the weekly jobless claims number rose another 15,000 to a weekly moving average of around 550,000. Most economist believed that this number would be in the neighborhood of an 8,000 increase. This begs the question, "How can we be in a meaningful economic recovery if the nation continues to layoff it work force? It can't.

If we look at the current inflation data for July we can see the cost of goods and services continue to decline, which in essence reduces a companies profitability. If a company is not bringing in more revenue, how can they justify hiring new employees? I am baffled to continue hearing from the "over-zealous wall-street strategist" each and everyday that we are going to have a "jobless recovery".

I have two neighbors, a successful business owner and a top corporate executive at a large semi-conductor firm, that are both out-of-work. I have another neighbor who is a seasoned airline pilot that is scared to death that he is going to loose his job.

Folks, until we see an increase in consumer prices, new job creation, and an increase in consumer confidence. This "so-called" economic recovery will be short lived.

Welcome to my blog!

2009-08-19T20:30:00.000-07:00

Over the past several years I have wanted to have a forum where I could communicate on a regular basis to my colleagues, clients, students, friends and family. And yes, the age of blogging is now at my finger tips. So, I hope all of you are intrigued by my opinions, I hope from time to time I trigger an emotion or two that will motivate you to get more involved in the economics of life, and most of all, you will voice your opinions whether you agree or disagree with my premise.