With this kind of risk still out there, even though I expect the market to get stronger over the next few months, I am not about to throw caution to the wind. For this reason we are holding our growth strategies steady with only 50-60% exposure to the stock market and the balance in bonds and money market funds.
Flexible income keeps perking right along showing small, steady gains. We still hold 1/3 of that strategy in the money market because if the stock market continues to recover as I expect, investors may move out of bonds and into stocks, putting downward pressure on bonds. So, I am being cautious in this strategy as well.
Dodging Disaster in the Mortgage Market
My last newsletter mentioned my plan to move our managed accounts back into a traditional money market fund from the ultra-safe Treasury accounts we have used since November. The risk of money market funds losing money is back to being very remote after a period of great uncertainty.
Market risk occurs when the value of holdings fluctuates. This is what most of us think of when we think about risk. Anyone who has ever watched the stock market can respect its market risk. Values can change rapidly.
Bond resale values are primarily affected by changes in interest rates. By having bonds that mature at face value almost every day, money market funds eliminate the interest rate risk that other bond holders face. Money market funds rarely have to sell, they just wait for their holdings to mature at full face value.
“Ultrashort” bond funds are like money market funds on steroids. They hold bonds with an average maturity of about 2 years. This is still very short in a market with bonds up to 30 years to maturity. They are longer and therefore riskier than money market funds, but they also pay more interest to compensate for that risk. In the last few years, savers poured tons of money into Ultrashort bond funds looking for higher interest rates.
“Schwab Yield Plus, once the company’s most popular bond fund, had pitched itself as a safe alternative to cash. But it stuffed mortgage backed bonds into it’s portfolio to plump up performance, and they have turned toxic. Yield Plus is down 24% so far this year.” – Wall Street Journal, April 11, 2008.
All those investors, and their advisers, focusing solely on low interest rate risk overlooked the default risk which everyone finally became aware of late last year. But having maturities “only” 2 years away, doesn’t help if defaults are occurring right now.
The reason I mention this fund is to show the size of the risk that was just over the horizon back in November when I changed our money market fund to the safest possible choice. Admittedly I was fuzzy about the extent of the risk, but clearly things were not right and I don’t’ like to take chances with our “safe money”.
Many of these same mortgage-backed investments that were in Schwab Yield Plus ended up in money market funds all over the country. The risk was indeed enormous!
Due to the very short average maturities most of you have with me, 46 days for the money market fund, all the holdings from a year ago have matured and been replaced. Since the default risk has became well known that has been avoided in the new investments.
Don’t thank me. Just tell your friends about the work I do.
What is a Credit Score?
Real Estate Rebound?
I don’t think so.
Granted these are just estimates, but they are made by the wealthiest people in the country putting their money where their mouth is. Sure, they could be wrong, but they didn’t get all that money by being wrong too often.
My point is, if you like real estate prices now, you will really love them in a couple of more years. If you buy now, be prepared to be “under water” for a few years before a bottom is reached and prices begin to rise again.
We talk in my Yavapai College class about real estate’s big risk being illiquidity. If things don’t work out as planned you may not be able to sell without taking a big loss. The hedge for illiquidity is to have a lot of other highly liquid assets. You may have to hang on for a few years, putting more money into the property for taxes, upkeep and mortgage payments, while you wait for the market to improve. If you have the ability to raise cash you will have the staying power to hold onto your property. If not, you risk becoming another statistic as the real estate bear market unfolds.
I used to keep a quote taped to my computer that was from an early editor of the Wall Street Journal, whose name escapes me now. It goes “The graveyards of Wall Street are littered with the bodies of investors who were right too soon.” I think this pertains to real estate as well as stocks and bonds.