June 28, 2011

A Bernanke Bummer

The Investment View from Prescott, Arizona

When I heard Federal Reserve Bank Chairman Ben Bernanke, on his June 22nd news conference, hem and haw and stammer and basically say he did not know, when asked, why the U.S. economic weakness was continuing despite the Fed’s huge infusion of cash into the economy, I went “Uh-oh”.

The stock and bond markets run, in large part, on confidence that things will be OK when one wants to sell out.  It is usually not good for the markets when the folks running the show admit they don’t know what is really happening.

All big declines in the stock market come with a warning, a period of weakness that gets almost all investors at least thinking about selling.  Then all it takes is a spark to start the fire that makes investors all run for the exits at the same time.

In 2001, a year after the market had already peaked, the S&P 500** Index experienced a 9% decline during 3 months of steady deterioration in the summer of 2001. That was the warning prior to the post 9-11 market meltdown that took prices down another 18% in 4 weeks. 

In 2008 we again had ten months of market weakness with an 8% decline during the summer of 2008.  This was the warning before a 34% crash in just two months.

We have now had 8 weeks of declining market since the most recent peak at the end of April.  As of this writing on June 26th, the S&P 500** is down 6.98% from its April peak. Clearly a downtrend is in place.  Is that enough to constitute a warning of a big one coming?  I hope not, but hope is a four-letter word and a terrible thing on which to base investments.   I am concerned, for sure.

There are also reasons for the market to start going up, but the fact that Ben Bernanke is not all that positive any more just increases my concern.  Plus the facts are that the market is in a decline.  Big declines always start with small declines, so any decline deserves respect.

Me?  I’m going to follow what I refer to (tongue in cheek) as the “Hepocratic” Oath:  “First, protect your money”.  This is a time to minimize risk.

A Slice of Life

Our son Matt is home from school in Hollywood this week, just in time for his 21st birthday.  The day itself was a low key event as Matt is not a big partier (unlike his dad at that age, thankfully). 

Matt is in music school over there – he’s a pretty good drummer – and he has just hooked up with his first significant band.  Exciting times for the kid, er . . . young man.

Are They Experts or Shills?

Will’s Take on the Market

“What’s the difference between an ostrich and a Wall Street analyst?  An ostrich occasionally takes its head out of the sand.”   That quote and somecomments in a June 20th AP article by Bernard Condon reminded me that some things never seem to change.

The market appears to be in a spin, but you wouldn’t know it by following most Wall Street analysts.

I have been hearing a chorus of commentators recently talking about all the reasons the stock market should see a strong rebound, soon.  Reasons that include technical conditions (charts and graphs that show relationships between buying and selling forces) as well as fundamental reasons such as strong earnings projected from US companies, none of which made a lot of sense to me.

All of those predictions really conflict with what I am seeing in my analysis, so my antennae were twitching wildly, trying to pick up something that I was missing.

The part that I was overlooking was the track records of those analysts.

The tech bubble leading into the 2000-03 bear market was known for analysts touting stocks publically while privately calling them crap.  Some of those same folks did jail time for graft.

The financial collapse in 2007-09 was notable for analysts and bureaucrats all saying “Don’t worry.  Be Happy.”, even as giant financial firms were going bankrupt.

Right now, out of 9,015 analyst recommendations for stocks in the S&P 500** Index, only 300 are recommending sells according to the AP article.  That is 3% sells and 97% better ratings, meaning “buy”, and “hold” recommendations.  Uh-huh.

Other analyst predictions of note include record profits next quarter.  Really?  Despite a worldwide industrial slowdown that is becoming more evident every week? 

They predict that combined 3rd quarter earnings for the companies in the S&P 500** Index, will be the highest ever.  Even higher than in 2007 when the economy was growing twice as fast as today and the unemployment rate was half what it is today.

Really?  Maybe I am only imagining that housing prices are double dipping.  Or that Greek bonds have to pay 30% interest to find buyers, threatening European banks and governments that have loaned Greece money, with a domino effect of cascading defaults throughout Europe and perhaps even coming to a country near you soon.

Sometimes I think that the real financial problem we have is that despite spending a few trillion dollars nothing has really been done to fix the underlying causes of the problem.  A lot of this is caused by the incestuous relationship Wall Street has with Washington DC., where they focus the change on things like controlling ATM and debit card fees.

ATM fees were not part of the problem in 2008!

Have you noticed that no one has gone to jail for their part in the financial collapse of 2008?  No investment bankers or brokerage executives who pushed the derivative investment sales.  No Chief Financial Officers whose job it was to oversee and understand all those numbers. No one from the credit rating firms that were paid to churn out AAA ratings on junk bonds, and in doing so violated the trust that the rest of the industry placed in them.

So don’t expect stock analysts who are churning out really bad stuff right now to come under much scrutiny, either.

Sometimes I wonder how many voices in the chorus of “buy now because of all the rosy things we see” should be in jail instead of on Wall Street.

Time will tell.

Mental Floss

Q:  What happened in 1961 that will not happen again for over 4000 years?

A: The year’s date reads the same when turned upside down. That will not happen again until 6009.

What We Were Saying Back Then

From my June 30, 2008 Newsletter:

“For pro-active investors, recessions and stock market declines are not a time for despair because they provide the opportunity upon which outsized returns are built. At the end of a bear market environment there will be a chance to make strong gains without much risk.  The key is to come through the difficult times with your investment capital intact so that you are ready when the opportunity presents itself.”

If we get a nasty patch in the markets this summer, as some of my work suggests, I will look on it not as a problem, but as an opportunity to set us up for strong returns in the future. 

Actually, I am licking my chops since the periods immediately after declines are when I post my biggest gains for clients.

Please Call

Please do not email trading instructions or leave messages on our answering machine about trades or requesting a distribution from your account. 

It is important that we confirm your instructions personally to ensure that they are actually coming from you, and also to get your acknowledgement that we understand the instructions correctly.

So please call the office and talk to a live person when you want to give us instructions on your account.  (928) 778-4000.

What’s Going On In Your Portfolio?

Flexible Income* accounts are now positioned very conservatively, holding GNMAs (pools of FHA and VA mortgages with principal guaranteed by the government), gold and cash.  The current mix of holdings is designed to prepare us for just about anything, as the market reacts to the lack of liquidity when the Fed T-Bond buying dwindles over the next few weeks.

Looking back at the last two times the Fed took its checkbook and went home, it took weeks or months for the market to have problems, but at times like this it is better to be a little early protecting oneself than a little late.

Beginning on June 3rd I began using a new conservative growth strategy called Adaptive Balance within Careful Growth* and SRI* accounts. As I sold off stocks, I have increased the amount allocated to Adaptive Balance, which currently calls for owning GNMAs and a conservative growth fund.  That strategy accounts for about 60% of the portfolios as of June 26th, the rest being gold and cash. 

The stabilizing effect on accounts has been dramatic as you can see in the chart below, which shows the daily fluctuations during June in the Adaptive Balance segment of our portfolio vs. the stock market as a whole, represented by the S&P 500**.

Please note that this chart does not show actual account returns.  What it shows is the relative change between my managed investments and the S&P 500**, an unmanaged group of stocks.  When the S&P 500** makes 3% swings we move a half percent or so. 

Once the stock markets resume their long term up-trends, I will adjust the holdings to more closely follow the stock market to pursue growth.  With this method, we will strive to preserve principal on the way down and pursue growth on the way up. Right now we are preserving principal.

Since I never know when to retreat from the market until we begin having some loss, our growth accounts are down some this past month, but the important thing is that if there are any future losses they should be very mild compared to what is happening to the rest of the stock market.  And we are also positioned to take advantage of the inevitable rebound when it occurs.

Even if the market gets nasty going forward, you can relax since the big decisions required to preserve capital have already been made.

*    The model accounts mentioned in this article are hypothetical examples of how the strategy may work as designed.   Activity in client accounts may be different from that in the model in amount of each investment, specific timing of trades, and actual security used, which may vary from account to account.  Not all trades are profitable.  It should not be assumed that current or future holdings will be profitable.   A list of all trades in these accounts for the past 12 months will be provided upon written request.

**  The S&P 500 and Nasdaq Indexes are unmanaged lists of stocks considered representative of the broad stock market.  Investors cannot invest directly in the S&P 500 Index.

Balanced Strategy Description and Performance Information
Careful Growth Strategy Description and Performance Information
Flexible Income Strategy Description and Performance Information

This newsletter may contain forward-looking statements, including, but not limited to, statements as to future events that involve various risks and uncertainties. Forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause actual events or results to differ materially from those that were forecasted. Information in this newsletter may be derived from sources deemed to be reliable, however we cannot guarantee its accuracy.  Please discuss any legal or tax matters with your advisors in those areas.  Neither the information presented nor any opinions expressed herein constitute a solicitation for the purchase or sale of any security.