'Twas the day before Christmas, when all through the land
Not a trader was stirring, and isn't that grand;
The markets were recovered from the depths of despair,
In hopes that we'd never revisit that scare;
Hedge fund managers were nestled all snug in their beds,
While visions of met high water marks danced in their heads;
And mutual funds in their performance, and I on the sell side
Had finally settled down after capital raises left us just fried.
In December in the markets there arose such a clatter,
I sprang to my Bloomberg to see what was the matter.
Away to Dubai the news flew like a flash,
Reporting debt extensions, investors feared the next crash.
The moon on the breast of the Palm Island sand
Gave the luster of guarantees from the other Emirates hand,
When, what to my wondering eyes should appear,
But a wine induced flashback of the events of last year,
The year had a poor start, with this deep deep recession,
I felt at that moment we were in a Great Depression.
But more rapid than eagles the Fed programs they came,
And Bernanke whistled, and shouted, and called them by name;
Now, TAF! Now TALF! Now CAP and low rates!
On, MMIF! On AMLF! On SCAP! There’s no time for debates!
To the stress test results! To the capital shortfall!
Now raise away! Raise away! Raise away all!
As dry dollars that before the wild hurricane fly,
When they meet with a bank stock, mount to the sky,
So up to "normalized earnings" the investors they flew,
With a sleigh full of funds for bonds and equities too.
And then in a twinkling I saw in the banks
The lifting and raising as buyers closed up their ranks.
As I drew in my bear claws and was turning around,
Down the stairs all the bankers came with a bound.
They were dressed all in suits from the heads to their feet,
And their clothes were all rumpled and they really looked beat;
Huge bundles of stock they had flung on their backs,
And they looked like peddlers opening their packs.
Investors eyes -- how they twinkled! Their demand it was strong!
Their appetites whetted! They craved to be long!
These droll great big deals were drawn up in great haste,
Since the window was open there was not a moment to waste;
The bulk of these deals were held tight by the street,
And the rally it encircled the globe like a wreath;
Hybrids and credit had a nice round rally,
That extended the move for those keeping a tally.
Things rapidly felt better, a right jolly move,
That shook out the bears who were caught in their groove;
A drop in the VIX and tightening spreads,
Soon gave me to know I had nothing to dread;
Data began to improve as liquidity went straight to work,
And sent markets yet higher, then we got a small jerk,
As Dubai meant sovereign debt widened out,
Markets had a twitched, having a moment of doubt;
The Fed sprang to its sleigh, to low rates have a bow,
And away the fears flew with new highs for the Dow
So with great joy after this year fraught with great fright
I say HAPPY CHRISTMAS TO ALL AND TO ALL A GOOD-NIGHT"
Monday, December 28, 2009
Thursday, December 17, 2009
Thoughts from Wayne Jett
FED PREDICAMENT EASES
Dollar Improves Slightly
By Wayne Jett © December 16, 2009
When America’s dominant elite began purging certain of Wall Street’s big players in 2008, Federal Reserve chairman Ben Bernanke stepped into the breach. He didn’t volunteer. He was taken there by the czar of purges, Treasury secretary and Goldman Sachs ex-CEO Henry Paulson. The experience must have changed his worldview, particularly his idea of the Fed’s place in the pecking order.
What Bernanke saw at the Bear Stearns tactical session was financial sausage-making. Securities & Exchange Commission chairman Christopher Cox was so shocked that he never came to another such session; something about concern on his part that he was supposed to be enforcing the securities laws.
The Purges of 2008
Bernanke was not expendable, as Cox was. Paulson needed the Federal Reserve to pump $25 billion in cash into Bear and guarantee another $29 billion or so of its financial assets before all of it was given to J. P. Morgan Chase, essentially for a big kiss. Did anyone mention that Morgan Chase is the giant international bank historically controlled by Rockefellers and Rothschilds?
Morgan Chase got fat on Bear, and Bear’s shareholders got skinned while Paulson held them upside down by their feet. Then the purge czar struck again, and again. Fannie Mae, Freddie Mac, Lehman Bros., AIG, National City (Ohio’s biggest bank), Merrill Lynch, Wachovia, Washington Mutual – each fell to his ax. The shareholders of these financial giants ate dirt as hundreds of billions of their invested capital poured into the pockets of fraudulent traders, thanks largely to “innovative” derivatives trading which counterfeited and “watered” their capital stock.
Chairman Bernanke dutifully waded from one slaughter to the next, doing as he was told, which meant providing financial backing for whatever terms the purge czar set for gifts to intended beneficiaries. Morgan Chase alone got both Bear Stearns and Washington Mutual, the Seattle-based national home mortgage lender. Morgan Chase’s CEO subsequently told his shareholders 2008 was the bank’s best year ever.
WaMu’s takedown emitted just as much stench of the purge czar as the other deals mentioned, even at the time. Recent reporting from Seattle investigators reveals FDIC’s Sheila Bair served as spearhead for the move against WaMu, which was seized when the firm had $29 billion in net liquidity, almost twice the five percent liquidity required. Subpoenas issued in bankruptcy proceedings are going after emails of others involved, including Morgan Chase and Goldman Sachs. Even without subpoena power applied by any criminal law enforcement agency, seizure of WaMu has all the earmarks of federal complicity in destruction of one private company for benefit of another.
The Fed’s Balance Sheet
As these financial purges were orchestrated, Chairman Bernanke found the Federal Reserve with a much enlarged balance sheet showing assets of an unprecedented nature. On his signature, the Fed advanced over $1.3 trillion for securities of varying nature, when the Fed’s total assets previously were $850 billion. Bernanke has been unwilling to say who sold him the securities, what prices were paid, or how prices were determined.
If the Fed were just another private bank, perhaps keeping confidences would seem acceptable. But the Fed, unlike other banks, prints the money it spends under license of the U. S. government. Every dollar issued by the Fed makes every other dollar held by Americans (not to mention people around the world) worth less than would be the case if the new dollar didn’t exist. This explains why some, even in Congress, want Bernanke to detail what he did with the $1.3 trillion before he is confirmed by the Senate for another term as Fed chairman.
When Bernanke was spending the money, he said he had no choice but to do it. Clearly someone made choices, because some banks were saved and some were slaughtered. As in Animal Farm, some banks are more equal than others, and the differences are not always apparent on their financial statements.
“De Plan, De Plan”
Bernanke also indicated he had a plan for extracting the new liquidity from the economy before the dollar’s value is swamped by it. But in a Senate hearing last week, Senator Jim Bunning revealed Bernanke told him by letter he has no such plan. Perhaps, again, the Fed chairman just doesn’t wish to talk about it.
In order to drain the $1.3 trillion in new liquidity, the Fed must dispose of the acquired assets at prices at least as high as were paid for them. If the assets were to prove worthless, the Fed simply could not drain the liquidity because it would have nothing to sell for it.
As previously reported here, the Fed bought those assets because their prices were being fraudulently manipulated lower by various maneuvers which created “toxic” images for them. The banks which owned the “toxic assets” were endangered by manipulation of their own share prices. The Fed bought in order to shield the assets and the banks from further attack, because the Fed itself was immune for naked short selling of its shares.
As previously warned, too, any sale of these “toxic assets” by the Fed might restart the bear attacks on their value and on the banks. In order for the Fed to proceed with confidence to market the assets and withdraw so much excess liquidity, fraudulent trading practices must be stopped. On this point a modicum of good news appears as a light in a tunnel.
Positive Developments
Bloomberg News reports leveraged loans rated below BBB- by S&P or below Baa3 by Moody’s have risen 49.3% in value this year, after falling 28.2% in 2008. BBB rated loans are said to be priced presently at about 55 cents on the dollar. Higher rated loans fell less, and have also recovered, rising from 69 cents to 89 cents on the dollar.
This is good news for Bernanke and the Fed, which might even sell the formerly toxic assets at a significant profit. If that were to happen, the Fed could actually strengthen the dollar by draining more dollars than it created to buy the assets. In reality, the Fed probably would not destroy those dollars, since its practice is to give excess “earnings” to the Treasury to spend. The markets noticed, of course, as the dollar recovered somewhat from above $1,200/oz gold.
The strong price recovery of collateralized debt obligations can be traced to incremental changes in market conditions which enabled their prices to be beaten down. By demand of Congress, the FASB modified or clarified its Rule 157, which had required “mark-to-market” accounting the value of these assets. The ABX.HE index was outed somewhat as an unreliable indicator of real market value of such assets. The SEC repealed its “Madoff exception” regulation which so importantly assisted bear attacks on financial shares, as it permitted market makers in credit default swaps and options to hedge by selling shares short without borrowing or delivering the shares sold within a definite time limit.
Reforms Left Undone
Each of these reforms was absolutely essential to achieve the meager amount of recovery, or slowing of the drop, seen in 2009. But so much more remains undone. Reform of oil price manipulation passed the House, but only in a larger bill containing more bad than good. By past performance of Wall Street and Congress, all of the good is likely to be stripped from the bill, assuming the Senate acts and legislation actually makes it to conference. Meanwhile, the SEC still has done nothing to stop High Frequency Trading (front-running all trades) or to restore the Uptick Rule, and is unlikely to act unless Congress requires it by statute.
Confirmation of Bernanke’s re-nomination as Fed chairman is due to be considered by the Senate on December 17, but may be delayed by request of an individual senator. A rumor is out that he may withdraw his name. Even with the positive development reported above, what he learned the past 22 months may lead him to think the predators are not finished. ~
Dollar Improves Slightly
By Wayne Jett © December 16, 2009
When America’s dominant elite began purging certain of Wall Street’s big players in 2008, Federal Reserve chairman Ben Bernanke stepped into the breach. He didn’t volunteer. He was taken there by the czar of purges, Treasury secretary and Goldman Sachs ex-CEO Henry Paulson. The experience must have changed his worldview, particularly his idea of the Fed’s place in the pecking order.
What Bernanke saw at the Bear Stearns tactical session was financial sausage-making. Securities & Exchange Commission chairman Christopher Cox was so shocked that he never came to another such session; something about concern on his part that he was supposed to be enforcing the securities laws.
The Purges of 2008
Bernanke was not expendable, as Cox was. Paulson needed the Federal Reserve to pump $25 billion in cash into Bear and guarantee another $29 billion or so of its financial assets before all of it was given to J. P. Morgan Chase, essentially for a big kiss. Did anyone mention that Morgan Chase is the giant international bank historically controlled by Rockefellers and Rothschilds?
Morgan Chase got fat on Bear, and Bear’s shareholders got skinned while Paulson held them upside down by their feet. Then the purge czar struck again, and again. Fannie Mae, Freddie Mac, Lehman Bros., AIG, National City (Ohio’s biggest bank), Merrill Lynch, Wachovia, Washington Mutual – each fell to his ax. The shareholders of these financial giants ate dirt as hundreds of billions of their invested capital poured into the pockets of fraudulent traders, thanks largely to “innovative” derivatives trading which counterfeited and “watered” their capital stock.
Chairman Bernanke dutifully waded from one slaughter to the next, doing as he was told, which meant providing financial backing for whatever terms the purge czar set for gifts to intended beneficiaries. Morgan Chase alone got both Bear Stearns and Washington Mutual, the Seattle-based national home mortgage lender. Morgan Chase’s CEO subsequently told his shareholders 2008 was the bank’s best year ever.
WaMu’s takedown emitted just as much stench of the purge czar as the other deals mentioned, even at the time. Recent reporting from Seattle investigators reveals FDIC’s Sheila Bair served as spearhead for the move against WaMu, which was seized when the firm had $29 billion in net liquidity, almost twice the five percent liquidity required. Subpoenas issued in bankruptcy proceedings are going after emails of others involved, including Morgan Chase and Goldman Sachs. Even without subpoena power applied by any criminal law enforcement agency, seizure of WaMu has all the earmarks of federal complicity in destruction of one private company for benefit of another.
The Fed’s Balance Sheet
As these financial purges were orchestrated, Chairman Bernanke found the Federal Reserve with a much enlarged balance sheet showing assets of an unprecedented nature. On his signature, the Fed advanced over $1.3 trillion for securities of varying nature, when the Fed’s total assets previously were $850 billion. Bernanke has been unwilling to say who sold him the securities, what prices were paid, or how prices were determined.
If the Fed were just another private bank, perhaps keeping confidences would seem acceptable. But the Fed, unlike other banks, prints the money it spends under license of the U. S. government. Every dollar issued by the Fed makes every other dollar held by Americans (not to mention people around the world) worth less than would be the case if the new dollar didn’t exist. This explains why some, even in Congress, want Bernanke to detail what he did with the $1.3 trillion before he is confirmed by the Senate for another term as Fed chairman.
When Bernanke was spending the money, he said he had no choice but to do it. Clearly someone made choices, because some banks were saved and some were slaughtered. As in Animal Farm, some banks are more equal than others, and the differences are not always apparent on their financial statements.
“De Plan, De Plan”
Bernanke also indicated he had a plan for extracting the new liquidity from the economy before the dollar’s value is swamped by it. But in a Senate hearing last week, Senator Jim Bunning revealed Bernanke told him by letter he has no such plan. Perhaps, again, the Fed chairman just doesn’t wish to talk about it.
In order to drain the $1.3 trillion in new liquidity, the Fed must dispose of the acquired assets at prices at least as high as were paid for them. If the assets were to prove worthless, the Fed simply could not drain the liquidity because it would have nothing to sell for it.
As previously reported here, the Fed bought those assets because their prices were being fraudulently manipulated lower by various maneuvers which created “toxic” images for them. The banks which owned the “toxic assets” were endangered by manipulation of their own share prices. The Fed bought in order to shield the assets and the banks from further attack, because the Fed itself was immune for naked short selling of its shares.
As previously warned, too, any sale of these “toxic assets” by the Fed might restart the bear attacks on their value and on the banks. In order for the Fed to proceed with confidence to market the assets and withdraw so much excess liquidity, fraudulent trading practices must be stopped. On this point a modicum of good news appears as a light in a tunnel.
Positive Developments
Bloomberg News reports leveraged loans rated below BBB- by S&P or below Baa3 by Moody’s have risen 49.3% in value this year, after falling 28.2% in 2008. BBB rated loans are said to be priced presently at about 55 cents on the dollar. Higher rated loans fell less, and have also recovered, rising from 69 cents to 89 cents on the dollar.
This is good news for Bernanke and the Fed, which might even sell the formerly toxic assets at a significant profit. If that were to happen, the Fed could actually strengthen the dollar by draining more dollars than it created to buy the assets. In reality, the Fed probably would not destroy those dollars, since its practice is to give excess “earnings” to the Treasury to spend. The markets noticed, of course, as the dollar recovered somewhat from above $1,200/oz gold.
The strong price recovery of collateralized debt obligations can be traced to incremental changes in market conditions which enabled their prices to be beaten down. By demand of Congress, the FASB modified or clarified its Rule 157, which had required “mark-to-market” accounting the value of these assets. The ABX.HE index was outed somewhat as an unreliable indicator of real market value of such assets. The SEC repealed its “Madoff exception” regulation which so importantly assisted bear attacks on financial shares, as it permitted market makers in credit default swaps and options to hedge by selling shares short without borrowing or delivering the shares sold within a definite time limit.
Reforms Left Undone
Each of these reforms was absolutely essential to achieve the meager amount of recovery, or slowing of the drop, seen in 2009. But so much more remains undone. Reform of oil price manipulation passed the House, but only in a larger bill containing more bad than good. By past performance of Wall Street and Congress, all of the good is likely to be stripped from the bill, assuming the Senate acts and legislation actually makes it to conference. Meanwhile, the SEC still has done nothing to stop High Frequency Trading (front-running all trades) or to restore the Uptick Rule, and is unlikely to act unless Congress requires it by statute.
Confirmation of Bernanke’s re-nomination as Fed chairman is due to be considered by the Senate on December 17, but may be delayed by request of an individual senator. A rumor is out that he may withdraw his name. Even with the positive development reported above, what he learned the past 22 months may lead him to think the predators are not finished. ~
Wednesday, December 9, 2009
Fidelity Comments
The Great Depression was actually two depressions. It started with World War One, which essentially bankrupted Europe in the 1920's. The
U.S.—via the Fed—lent a helping hand by extending easy money to Europe, around 1925-1927. However, in a classic example of the "laws
of unintended consequences," some of this easy money ended up in our own stock market, thus contributing to the massive bubble that burst
in 1929. This episode shows that the concept of "moral hazard" is not new. It existed as far back as the 1920's.
When the bubble burst in 1929, it unleashed a wave of deflationary debt deleveraging onto the U.S. economy, much like occurred in 2008
after the housing bubble burst. However, during the 1930's the Fed was on the gold standard, which made it impossible to just open up the
liquidity spigot like it did last year. In fact, the gold standard acted somewhat like a straight jacket and the Fed actually raised rates for a while,
which is obviously the last thing you one should be doing during an economic crisis. This "policy error" undoubtedly contributed to the 87%
blood bath in stocks from 1929 to 1932.
Bernanke knows this well, which is probably why he responded with such overwhelming force in the fall of 2008 following the collapse of
Lehman. Not only did the Fed lower rates to zero, but it expanded the monetary base. We call this "quantitative easing" or more simply
"printing money”.
The idea behind quantitative easing is that the Fed creates (out of thin air) excess banking reserves. Those reserves end up on the balance
sheet of the banks, who are then supposed to lend out these new reserves to consumers and businesses. That triggers what is known as the
money multiplier, which then expands the money supply and brings the economy back to life, and creates inflation (which under those
circumstances is a desired outcome).
The problem back then was that the Gold Standard prevented the Fed from doing this, until Franklin D. Roosevelt (FDR) came into power in
1933. FDR realized that the gold standard was limiting his ability to respond to the crisis, and in April of 1933 he changed it. He did this by
making it illegal to own gold. Holders of gold had to turn in their bullion and they received the stated conversion price of $20/oz. FDR then
changed the conversion price to $35/oz, and with the stroke of a pen he increased the money supply by 60% and devalued the dollar at the
same time. That was the catalyst for a 150% rally in the stock market and several years of very strong economic growth.
U.S.—via the Fed—lent a helping hand by extending easy money to Europe, around 1925-1927. However, in a classic example of the "laws
of unintended consequences," some of this easy money ended up in our own stock market, thus contributing to the massive bubble that burst
in 1929. This episode shows that the concept of "moral hazard" is not new. It existed as far back as the 1920's.
When the bubble burst in 1929, it unleashed a wave of deflationary debt deleveraging onto the U.S. economy, much like occurred in 2008
after the housing bubble burst. However, during the 1930's the Fed was on the gold standard, which made it impossible to just open up the
liquidity spigot like it did last year. In fact, the gold standard acted somewhat like a straight jacket and the Fed actually raised rates for a while,
which is obviously the last thing you one should be doing during an economic crisis. This "policy error" undoubtedly contributed to the 87%
blood bath in stocks from 1929 to 1932.
Bernanke knows this well, which is probably why he responded with such overwhelming force in the fall of 2008 following the collapse of
Lehman. Not only did the Fed lower rates to zero, but it expanded the monetary base. We call this "quantitative easing" or more simply
"printing money”.
The idea behind quantitative easing is that the Fed creates (out of thin air) excess banking reserves. Those reserves end up on the balance
sheet of the banks, who are then supposed to lend out these new reserves to consumers and businesses. That triggers what is known as the
money multiplier, which then expands the money supply and brings the economy back to life, and creates inflation (which under those
circumstances is a desired outcome).
The problem back then was that the Gold Standard prevented the Fed from doing this, until Franklin D. Roosevelt (FDR) came into power in
1933. FDR realized that the gold standard was limiting his ability to respond to the crisis, and in April of 1933 he changed it. He did this by
making it illegal to own gold. Holders of gold had to turn in their bullion and they received the stated conversion price of $20/oz. FDR then
changed the conversion price to $35/oz, and with the stroke of a pen he increased the money supply by 60% and devalued the dollar at the
same time. That was the catalyst for a 150% rally in the stock market and several years of very strong economic growth.
Friday, December 4, 2009
Marty Whitman & Joe Huber
Here’s a quick article from the great portfolio manager Marty Whitman. I sold most of the holdings I had in his fund last year because he held onto some stocks way too long. Whitman talks about the value one should pay when buying a stock. It’s not a bad way to buy stocks—provided the underlying assets don’t drop in value. They did last year. Whitman gave $25 million to my alma mater—Syracuse School of Management.
Also, I have a link to my friend Joe Huber’s mutual fund. Joe broke off from Hotchkiss & Wiley and put out his own shingle. One of his funds is up 81% year-to-date, number one according to the Wall Street Journal. If you want to talk to Joe, let me know.
http://online.wsj.com/fund/page/fund_scorecards.html?classification=106&returnTime=Daily_Tr_1Y~best&submit.x=1
StreetDogs: It will take more than a 45% loss to subdue this 85-year-old man
Published: 2009/12/03 06:47:47 AM
MARTIN Whitman, the 85-year-old chief investment officer of Third Avenue Fund, who once described it as “better than the toll booth on George Washington Bridge”, lost 45% of his fund last year.
Prior to 2007, Whitman, who is a legend at picking over the balance sheets of troubled companies in search of hidden treasures, had achieved a track record of approximately 17% a year going back to 1990.
Despite having lost 24% of the fund’s value during 1998 and 1999, Whitman — who calls himself the “safe and cheap” investor — only buys at a “big” discount to net asset value.
His definition of net asset value being what a company would sell for in a takeover or on auction.
So, how much of a discount? “Don’t pay more than 50%-60% of what a business is worth,” he advised in a 2006 interview.
“It is … crazy to pay more than 60c on a dollar for noncontrolling interests in businesses. Outsiders always face agency problems.”
Besides cheap, Whitman also wants a strong balance sheet; competent, shareholder-oriented management as well as “understandable and honest disclosure documents”. Balance sheets are much more important than the income statement, he says.
“Security analysis would be simpler if one focuses on the balance sheet while placing no emphasis on the income statement and earnings estimates.”
Whitman has developed the following rules of thumb for valuating various companies :
n Financial services: book value.
n Small banks: 80% of book value.
n Insurance: adjusted book value.
n Real estate: independent appraisal value.
n Operating companies: 10 times peak earnings or less than net asset value.
n Tech companies: twice book value, less than 10 times peak earnings, twice revenue and more cash than liabilities.
Whitman also doesn’t believe in traditional growth investing . “We are growth investors, too,” he says. “We buy into the kind of growth that is not generally recognis ed while most other growth investors buy into generally recognised growth and have to pay up for that.” The key is to figure out the value of future growth.
“Many people on Wall Street know the price of everything but the value of nothing.”
In a recent Shareholders Letter, Whitman says there are at least three lessons investors should have learned from the 2007- 08 debacle:
n Not to invest in the common stocks of companies that need continuous access to capital markets, especially credit markets. “The short sellers have become too powerful.”
n Not to borrow money to finance portfolio holdings. “Prices … are just too capricious to permit this activity to be undertaken safely.”
n Fund redemptions interfere with portfolio management, “forcing fund managers to sell precisely when they should be buying”.
Also, I have a link to my friend Joe Huber’s mutual fund. Joe broke off from Hotchkiss & Wiley and put out his own shingle. One of his funds is up 81% year-to-date, number one according to the Wall Street Journal. If you want to talk to Joe, let me know.
http://online.wsj.com/fund/page/fund_scorecards.html?classification=106&returnTime=Daily_Tr_1Y~best&submit.x=1
StreetDogs: It will take more than a 45% loss to subdue this 85-year-old man
Published: 2009/12/03 06:47:47 AM
MARTIN Whitman, the 85-year-old chief investment officer of Third Avenue Fund, who once described it as “better than the toll booth on George Washington Bridge”, lost 45% of his fund last year.
Prior to 2007, Whitman, who is a legend at picking over the balance sheets of troubled companies in search of hidden treasures, had achieved a track record of approximately 17% a year going back to 1990.
Despite having lost 24% of the fund’s value during 1998 and 1999, Whitman — who calls himself the “safe and cheap” investor — only buys at a “big” discount to net asset value.
His definition of net asset value being what a company would sell for in a takeover or on auction.
So, how much of a discount? “Don’t pay more than 50%-60% of what a business is worth,” he advised in a 2006 interview.
“It is … crazy to pay more than 60c on a dollar for noncontrolling interests in businesses. Outsiders always face agency problems.”
Besides cheap, Whitman also wants a strong balance sheet; competent, shareholder-oriented management as well as “understandable and honest disclosure documents”. Balance sheets are much more important than the income statement, he says.
“Security analysis would be simpler if one focuses on the balance sheet while placing no emphasis on the income statement and earnings estimates.”
Whitman has developed the following rules of thumb for valuating various companies :
n Financial services: book value.
n Small banks: 80% of book value.
n Insurance: adjusted book value.
n Real estate: independent appraisal value.
n Operating companies: 10 times peak earnings or less than net asset value.
n Tech companies: twice book value, less than 10 times peak earnings, twice revenue and more cash than liabilities.
Whitman also doesn’t believe in traditional growth investing . “We are growth investors, too,” he says. “We buy into the kind of growth that is not generally recognis ed while most other growth investors buy into generally recognised growth and have to pay up for that.” The key is to figure out the value of future growth.
“Many people on Wall Street know the price of everything but the value of nothing.”
In a recent Shareholders Letter, Whitman says there are at least three lessons investors should have learned from the 2007- 08 debacle:
n Not to invest in the common stocks of companies that need continuous access to capital markets, especially credit markets. “The short sellers have become too powerful.”
n Not to borrow money to finance portfolio holdings. “Prices … are just too capricious to permit this activity to be undertaken safely.”
n Fund redemptions interfere with portfolio management, “forcing fund managers to sell precisely when they should be buying”.
Sunday, November 15, 2009
Russell on Gold
ring to the surge in the gold price, the quote du jour this week comes from Richard Russell, 85-year-old author of the Dow Theory Letters. He said: “America’s Fed Chairman, Ben Bernanke, is convinced he knows the secret of avoiding hard times. The Fed can halt deflation and turn the picture into asset inflation. All it takes, thinks Bernanke, is zero interest rates and the creation of trillions of new dollars - and they will come, and they will spend. This is the path the Bernanke Fed has chosen. So far, it has not worked - they are not coming, and they are not spending. The Fed’s strategy has not even succeeded in bringing down unemployment. Bernanke’s solution - more of the same: ‘Whatever it takes, and as long as it takes.’
“Thus we have a strange and ironic situation. We have world deflation, and a Fed Chairman who believes he can manipulate the primary trend. Bernanke’s strategy is leading to a weakening dollar. The more dollars that are created, the weaker the dollar. As the dollar’s very status comes into question, wise and seasoned investors move to protect their wealth. They move to the time-honored ’safe haven’: the one unit of wealth that cannot be destroyed in that it is not a liability of any government. And, of course, I’m talking about the one unit of wealth that is never questioned - gold.
“So it’s the gold bull market that I trust and believe in. I think and I ponder - what can halt the gold bull market? The only thing that can halt the gold bull market is a complete reversal by the politicians and the Fed, and that would allow the US to sink into a state of deflation and depression. Unthinkable.”
“Thus we have a strange and ironic situation. We have world deflation, and a Fed Chairman who believes he can manipulate the primary trend. Bernanke’s strategy is leading to a weakening dollar. The more dollars that are created, the weaker the dollar. As the dollar’s very status comes into question, wise and seasoned investors move to protect their wealth. They move to the time-honored ’safe haven’: the one unit of wealth that cannot be destroyed in that it is not a liability of any government. And, of course, I’m talking about the one unit of wealth that is never questioned - gold.
“So it’s the gold bull market that I trust and believe in. I think and I ponder - what can halt the gold bull market? The only thing that can halt the gold bull market is a complete reversal by the politicians and the Fed, and that would allow the US to sink into a state of deflation and depression. Unthinkable.”
Tuesday, November 3, 2009
Great comments from Guild Investments
Guild Investment Global Market Commentary
Written: November 2, 2009
Last week, we had a short-lived rally in the U.S. dollar predicated on the unrealistic view that a weaker U.S. economy would send gold and oil down and the dollar up. Only algorithm writers who are completely ignorant about stock and commodity markets could believe that a poor U.S. economy is actually good for the U.S. dollar.
After a few days, the dollar’s rally reversed and began to decline again while gold and oil are once again rising. In our opinion, any declines in oil and gold prices over the next few months can be used as buying opportunities.
We expect oil to trade between $60 and $100 per barrel for the next two years. After that, we expect oil prices to rise much higher.
We favor gold bullion and gold shares, oil stocks, U.S. technology companies that are poised to serve the world market through exports, and companies in emerging countries with growth potential.
INTEREST RATES
Last week, interest rates were forced up by the market, with the yield for U.S. ten year paper rising as the Treasury tried to sell $140 billion of new bonds. Buyers are demanding higher rates, but the U.S. government is not going to raise short term rates until GDP growth increases substantially and remains good for a year or more. Although the market may continue to force up longer term interest rates, we do not expect the Federal Reserve to raise short term rates.
Indeed, the U.S. Federal Reserve wants interest rates to stay low. They realize that this is necessary to support asset values (even if they only move sideways). A U.S. asset deflation occurred in 2008 and 2009, and the government is trying desperately to reverse the trend. Although the stock market has succeeded in making a turnaround, real estate, cars, and many other asset prices remain deflated.
When it comes to keeping rates low and letting asset values rise, the U.S. Government clearly has a favorite method. They prefer to depreciate the unit of measurement: the U.S. Dollar.
Most commodities are valued in dollars, so if one weakens the dollar, prices rise in U.S. terms, but many are falling in terms of strong foreign currencies, gold, oil and other stores of values. While asset deflation continues in other currencies, asset prices have been rising in dollar terms.
CURRENCY CARRY TRADE
The currency carry trade occurs when investors borrow a given currency (let’s say the dollar) at very low interest rate and use the borrowed money to buy other currencies, stocks, and commodities. It also occurs when and investors sell dollars short and later buy them back with depreciated dollars. The carry trade is dependent on both interest rates and the value of the dollar. And it has been one of the biggest factors responsible for the stock market rally in recent weeks.
The dollar’s recent rally has some believing the carry trade is winding down. Perhaps fear of the big budget deficits and the low demand for U.S. Government bonds is causing investors to expect U.S. interest rates to rise sooner. When the fear of rising interest rates pervades the markets, this causes speculators to unwind their carry trade by buying dollars back and selling their stocks and commodities. In other words, the “carry trade” and the stock market rally are being endangered by potential higher interest rates caused by the big budget deficits.
We do not know if the market has reached its highs for 2009, but we do know that a small wave of fear is once again washing through investment markets. The big decline of 2008 and early 2009 was cathartic. The rally from this cathartic bottom has been normal, so any correction in global stocks and associated commodities will be short lived. Perhaps short-term fears of a technical market correction causes speculators to cut borrowing (on which the carry trade depends), and to sell stock positions.
U.S. DEBT
The Economist magazine echoes many of our arguments regarding U.S. debt and deficits. Last week’s Economist magazine had an important article entitled “Tomorrows Burden: Americas Debt Crisis will be Chronic Not Acute, and Long Lasting.” The article elucidates many of the points that we have repeatedly made in our commentaries over the last several years. It is well written, and I will take the liberty of paraphrasing the main points.
The author makes the point that there are three things that could lead to an acute crisis:
1.) A lender’s strike (no debt available)
2.) A crash in the dollar (possible not probable immediately)
3.) A rise in inflation (this seems remote to the Economist. It does not seem remote to us.)
The authors reason that the debt crisis will be long-lasting and chronic, but not acute. That is unless one of these three issues develops. We believe that we could experience all three of the above within a couple of years. For those who would like to read the entire article, please see this link:
http://www.economist.com/displayStory.cfm?story_id=14699754
THE NEXT U.S. FINANCIAL CRISIS IS ALREADY ON THE WAY.
It will be an inflationary crisis, and it will commence about 2012.
The U.S. Government has guaranteed banks and the housing market. It has borrowed hundreds of billions of dollars to strengthen the economy at the same time tax revenues are collapsing. Social Security and health care financing will add to the burdens. The banking crisis will probably turn into a long-term government debt crisis.
The United States has been living beyond its means, over-borrowing, and engaging in other irrational, unwise, and destructive behaviors. These behaviors have been encouraged and abetted by the Congress, former Federal Reserve Chairman Greenspan, and both Republican and Democratic administrations. A less powerful country, perhaps one which was not providing a military shield for much of the world, would have seen their currency and debt markets subjected to immense scrutiny and widespread suspicion and may have been forced to default long ago.
History has demonstrated two likely outcomes for the situation in which the U.S. currently finds itself. The first is that bond and currency market speculators make default the inevitable outcome. The second is that they devalue their currency substantially in order to pay back their debts in a diminished currency. The day approaches when the U.S. dollar will meet the fate that so many other currencies have faced over the millennia…it will suffer a substantial decline and inflation will resurge. This will probably occur no later than the end of 2012.
DEBT MARKETS
Contrary to the beliefs of some efficient market theorists, financial markets can remain highly irrational for extended periods of time. Few things prove this better than the behavior of the U.S. debt market.
The reality is that investors should be scared of the U.S. debt market. The U.S. continues to go to the markets with bond offerings, financing huge sums of borrowing to feed its ravenous appetite for spending that far exceeds the means of the taxpayers…or the logic of markets.
The markets continue to support the dollar beyond a reasonable level. This support can be partially explained by the many relationships and financial activities the U.S. Government currently undertakes. Over the years, the U.S. military’s largess and the dollar’s status as a world reserve currency have helped sustain the value of the dollar. For example, the U.S. still incurs a large percentage of the military protection costs of Germany and Japan 64 years after the end of World War II.
The value of the dollar has also been preserved because the major debt holders; Japan, China, Saudi Arabia, and Britain are large exporters to the U.S. and/or those that are allied with the U.S. militarily. Below is a chart from the U.S. Treasury Department:
ForeignHoldersofUSTBILLS-1.jpg picture by gimmarketing
LEVERAGE IN THE BANKING SYSTEM
Remember the terrible banking crisis of 2008-2009 that brought down Bear Sterns, Lehman, and Washington Mutual, and threatened others in the U.S. and Europe? You haven’t forgotten, and we haven’t forgotten, but it seems that Congress has. What’s more, they are squandering an opportunity to repair and revitalize the U.S banking system. Today, the U.S. banking system continues to be dangerously speculative and interconnected. Banks deny credit needed for small business, the major driver of employment, while engaging in unproductive speculation. And although this is clearly a serious defect in the system, Congress has failed to address it.
Even more disconcerting is that the banking lobby has Congress’ ears. Instead of listening to the proven, wise, and honest former Fed Chairman Paul Volcker, Congress is listening to the folks that brought us the last crisis. So when Volcker makes the reasonable suggestion that banks and speculative trading activities should be separated, and that only banks with no involvement in trading for their own account should get government guarantees and bail outs, Congress isn’t listening. Sadly, we fear that Congress’ unwillingness to face down the banking lobby guarantees that a new crisis is on the agenda for future years.
This is in sharp contrast to Holland, where the country’s largest bank is forced to sell its U.S. Internet banking operations and its insurance company in order to attain and maintain the use of government funds. In Britain, the trend toward breaking up large banks is being pushed by the top economists at the Bank of England, and in other countries there are demands that banks stop speculation for their own account. In our opinion, disallowing speculation by commercial banks is the only effective method to forestall the next system-wide financial crisis.
Written: November 2, 2009
Last week, we had a short-lived rally in the U.S. dollar predicated on the unrealistic view that a weaker U.S. economy would send gold and oil down and the dollar up. Only algorithm writers who are completely ignorant about stock and commodity markets could believe that a poor U.S. economy is actually good for the U.S. dollar.
After a few days, the dollar’s rally reversed and began to decline again while gold and oil are once again rising. In our opinion, any declines in oil and gold prices over the next few months can be used as buying opportunities.
We expect oil to trade between $60 and $100 per barrel for the next two years. After that, we expect oil prices to rise much higher.
We favor gold bullion and gold shares, oil stocks, U.S. technology companies that are poised to serve the world market through exports, and companies in emerging countries with growth potential.
INTEREST RATES
Last week, interest rates were forced up by the market, with the yield for U.S. ten year paper rising as the Treasury tried to sell $140 billion of new bonds. Buyers are demanding higher rates, but the U.S. government is not going to raise short term rates until GDP growth increases substantially and remains good for a year or more. Although the market may continue to force up longer term interest rates, we do not expect the Federal Reserve to raise short term rates.
Indeed, the U.S. Federal Reserve wants interest rates to stay low. They realize that this is necessary to support asset values (even if they only move sideways). A U.S. asset deflation occurred in 2008 and 2009, and the government is trying desperately to reverse the trend. Although the stock market has succeeded in making a turnaround, real estate, cars, and many other asset prices remain deflated.
When it comes to keeping rates low and letting asset values rise, the U.S. Government clearly has a favorite method. They prefer to depreciate the unit of measurement: the U.S. Dollar.
Most commodities are valued in dollars, so if one weakens the dollar, prices rise in U.S. terms, but many are falling in terms of strong foreign currencies, gold, oil and other stores of values. While asset deflation continues in other currencies, asset prices have been rising in dollar terms.
CURRENCY CARRY TRADE
The currency carry trade occurs when investors borrow a given currency (let’s say the dollar) at very low interest rate and use the borrowed money to buy other currencies, stocks, and commodities. It also occurs when and investors sell dollars short and later buy them back with depreciated dollars. The carry trade is dependent on both interest rates and the value of the dollar. And it has been one of the biggest factors responsible for the stock market rally in recent weeks.
The dollar’s recent rally has some believing the carry trade is winding down. Perhaps fear of the big budget deficits and the low demand for U.S. Government bonds is causing investors to expect U.S. interest rates to rise sooner. When the fear of rising interest rates pervades the markets, this causes speculators to unwind their carry trade by buying dollars back and selling their stocks and commodities. In other words, the “carry trade” and the stock market rally are being endangered by potential higher interest rates caused by the big budget deficits.
We do not know if the market has reached its highs for 2009, but we do know that a small wave of fear is once again washing through investment markets. The big decline of 2008 and early 2009 was cathartic. The rally from this cathartic bottom has been normal, so any correction in global stocks and associated commodities will be short lived. Perhaps short-term fears of a technical market correction causes speculators to cut borrowing (on which the carry trade depends), and to sell stock positions.
U.S. DEBT
The Economist magazine echoes many of our arguments regarding U.S. debt and deficits. Last week’s Economist magazine had an important article entitled “Tomorrows Burden: Americas Debt Crisis will be Chronic Not Acute, and Long Lasting.” The article elucidates many of the points that we have repeatedly made in our commentaries over the last several years. It is well written, and I will take the liberty of paraphrasing the main points.
The author makes the point that there are three things that could lead to an acute crisis:
1.) A lender’s strike (no debt available)
2.) A crash in the dollar (possible not probable immediately)
3.) A rise in inflation (this seems remote to the Economist. It does not seem remote to us.)
The authors reason that the debt crisis will be long-lasting and chronic, but not acute. That is unless one of these three issues develops. We believe that we could experience all three of the above within a couple of years. For those who would like to read the entire article, please see this link:
http://www.economist.com/displayStory.cfm?story_id=14699754
THE NEXT U.S. FINANCIAL CRISIS IS ALREADY ON THE WAY.
It will be an inflationary crisis, and it will commence about 2012.
The U.S. Government has guaranteed banks and the housing market. It has borrowed hundreds of billions of dollars to strengthen the economy at the same time tax revenues are collapsing. Social Security and health care financing will add to the burdens. The banking crisis will probably turn into a long-term government debt crisis.
The United States has been living beyond its means, over-borrowing, and engaging in other irrational, unwise, and destructive behaviors. These behaviors have been encouraged and abetted by the Congress, former Federal Reserve Chairman Greenspan, and both Republican and Democratic administrations. A less powerful country, perhaps one which was not providing a military shield for much of the world, would have seen their currency and debt markets subjected to immense scrutiny and widespread suspicion and may have been forced to default long ago.
History has demonstrated two likely outcomes for the situation in which the U.S. currently finds itself. The first is that bond and currency market speculators make default the inevitable outcome. The second is that they devalue their currency substantially in order to pay back their debts in a diminished currency. The day approaches when the U.S. dollar will meet the fate that so many other currencies have faced over the millennia…it will suffer a substantial decline and inflation will resurge. This will probably occur no later than the end of 2012.
DEBT MARKETS
Contrary to the beliefs of some efficient market theorists, financial markets can remain highly irrational for extended periods of time. Few things prove this better than the behavior of the U.S. debt market.
The reality is that investors should be scared of the U.S. debt market. The U.S. continues to go to the markets with bond offerings, financing huge sums of borrowing to feed its ravenous appetite for spending that far exceeds the means of the taxpayers…or the logic of markets.
The markets continue to support the dollar beyond a reasonable level. This support can be partially explained by the many relationships and financial activities the U.S. Government currently undertakes. Over the years, the U.S. military’s largess and the dollar’s status as a world reserve currency have helped sustain the value of the dollar. For example, the U.S. still incurs a large percentage of the military protection costs of Germany and Japan 64 years after the end of World War II.
The value of the dollar has also been preserved because the major debt holders; Japan, China, Saudi Arabia, and Britain are large exporters to the U.S. and/or those that are allied with the U.S. militarily. Below is a chart from the U.S. Treasury Department:
ForeignHoldersofUSTBILLS-1.jpg picture by gimmarketing
LEVERAGE IN THE BANKING SYSTEM
Remember the terrible banking crisis of 2008-2009 that brought down Bear Sterns, Lehman, and Washington Mutual, and threatened others in the U.S. and Europe? You haven’t forgotten, and we haven’t forgotten, but it seems that Congress has. What’s more, they are squandering an opportunity to repair and revitalize the U.S banking system. Today, the U.S. banking system continues to be dangerously speculative and interconnected. Banks deny credit needed for small business, the major driver of employment, while engaging in unproductive speculation. And although this is clearly a serious defect in the system, Congress has failed to address it.
Even more disconcerting is that the banking lobby has Congress’ ears. Instead of listening to the proven, wise, and honest former Fed Chairman Paul Volcker, Congress is listening to the folks that brought us the last crisis. So when Volcker makes the reasonable suggestion that banks and speculative trading activities should be separated, and that only banks with no involvement in trading for their own account should get government guarantees and bail outs, Congress isn’t listening. Sadly, we fear that Congress’ unwillingness to face down the banking lobby guarantees that a new crisis is on the agenda for future years.
This is in sharp contrast to Holland, where the country’s largest bank is forced to sell its U.S. Internet banking operations and its insurance company in order to attain and maintain the use of government funds. In Britain, the trend toward breaking up large banks is being pushed by the top economists at the Bank of England, and in other countries there are demands that banks stop speculation for their own account. In our opinion, disallowing speculation by commercial banks is the only effective method to forestall the next system-wide financial crisis.
Monday, November 2, 2009
Excellent Article on risk of ETFs
Ban swap-based ETFs, says ex-chief of Eurizon
By Chris Newlands
Published: November 1 2009 09:14 | Last updated: November 1 2009 09:14
Swap-based exchange traded funds that target retail investors should be banned, according to former Eurizon chief executive Francis Candylaftis.
Mr Candylaftis, whose departure from Italy’s Eurizon was announced last month, believes European regulators should outlaw synthetically structured ETFs that track an index. He says they do not comply with the transparency rules or expectations Ucits vehicles claim to have. Providers, he says, should instead buy the physical assets.
EDITOR’S CHOICE
Milestone auction for European CDS - Oct-22
CDS probe opens new ‘can of worms’ - Jul-15
US probe just what the CDS sector do not need - Jul-14
Insight: Effective rules require sound knowledge - Jul-07
Insight: SEC gets tough on Wall St tribalism - Jun-25
Exchange plan for derivatives welcomed - Jul-12
“The growth of ETFs in Europe is based on the myth that ETFs are transparent whereas most ETFs in Europe – with the exception of Barclays’ – are swap-based, something completely unknown to investors,” says the former head of Italy’s largest asset manager.
According to Manooj Mistry, UK head of db x-trackers, more than 50 per cent of ETF assets under management are held in synthetically-replicated index products – a trend db x-trackers is unconcerned by. Most new providers, he adds, now only adopt this structure.
This, however, angers Mr Candylaftis. “I do not understand the distinction between structured products and ETFs. Most of the time ETFs are indeed structured products that should not have Ucits status,” he says.
“ETFs are okay for institutional investors who are supposedly aware of all these features and can evaluate them, but they are much less suitable for retail clients.”
Mr Candylaftis wants European regulators to either ban ETFs that use swaps or strictly enforce the 10 per cent counterparty-risk rule.
“It is a paradox that ETFs are meant to be very transparent instruments compared to traditional funds when, in fact, they are the opposite,” he says, adding that he wants retail-focused providers that replicate an index to actually buy the physical stocks instead of using the swap markets.
Mr Mistry, whose firm only promotes synthetically-replicated index products, disagrees. “All ETFs in Europe comply with Ucits III regulations, whether they are swap-based or not,” he says. “The question really should be which method – traditional or synthetic – works and performs best for investors, and we think that is swap-based products.”
Proponents of fully synthetic replication say it offers the advantage of being able to replicate pretty much any asset class exposure. Some areas, such as various domestic emerging debt markets, are difficult to access using physical replication because of tax disadvantages that can exist for overseas investors.
Swap-based tracking also removes the settlement and tracking error risk from investors and passes them on to a third party on the date a trade is made. When working with a liquid benchmark index and a well-tested settlement system like the DTCC in the US these concerns may seem minor, but in less developed markets this can offer real benefits to investors, experts say.
Axel Lomholt, head of product development for iShares Europe, which leans heavily towards traditional replication, says he understands these advantages but adds that his firm will always purchase the physical stocks when it can.
“Our first approach is to always try and buy the underlying assets,” he says. “It’s not always easy but you’d be surprised how far you can go with that route.
“Others will tell you it is too difficult or too expensive to buy the physical stocks but a lot of exposures can be replicated traditionally if you have the platform and the scale to do so – and we have.”
He adds: “Clients prefer ETFs that are backed by the physical assets. Research shows this to be true and that is why we go down that route when we can.”
Mr Lomholt, however, does not go so far as to agree with Mr Candylaftis that swap-based ETFs should be outlawed from the retail market. “They are an extremely useful tool,” he says. “We don’t overly rely on them like some houses because of the counterparty risk that exists but I don’t agree that swaps should be banned from the world of ETFs.”
Under European Ucits rules any counterparty exposure is limited to 10 per cent of a fund’s net asset value but, in practice, many ETF issuers manage this exposure to a lower maximum percentage of 0-5 per cent.
Nevertheless, fears over possible bank failures, stemming from the Lehman collapse last year, were sufficient to drive many investors away from swap-based ETFs in favour of the more traditional ETF structure in which the fund owns all or a representative sample of the securities in the index.
“This was a big topic when Lehman collapsed, and rightly so,” says Mr Mistry. “But we fully collateralise the majority of our funds and over-collateralise on all our equity, commodity and hedge fund ETFs. We do this to remove any fears investors might have regarding counterparty risk.
“Almost 50 per cent of ETFs are fully synthetic and so it’s not true to say people now don’t want these products.”
All iShares’ fixed income ETFs use traditional index replication but Mr Lomholt concedes Mr Mistry’s point: “Counterparty risk has been a worry since the Lehman collapse but the ETF market has not itself experienced a problem up until now, even though we have been through some extreme times. That’s important to remember.”
By Chris Newlands
Published: November 1 2009 09:14 | Last updated: November 1 2009 09:14
Swap-based exchange traded funds that target retail investors should be banned, according to former Eurizon chief executive Francis Candylaftis.
Mr Candylaftis, whose departure from Italy’s Eurizon was announced last month, believes European regulators should outlaw synthetically structured ETFs that track an index. He says they do not comply with the transparency rules or expectations Ucits vehicles claim to have. Providers, he says, should instead buy the physical assets.
EDITOR’S CHOICE
Milestone auction for European CDS - Oct-22
CDS probe opens new ‘can of worms’ - Jul-15
US probe just what the CDS sector do not need - Jul-14
Insight: Effective rules require sound knowledge - Jul-07
Insight: SEC gets tough on Wall St tribalism - Jun-25
Exchange plan for derivatives welcomed - Jul-12
“The growth of ETFs in Europe is based on the myth that ETFs are transparent whereas most ETFs in Europe – with the exception of Barclays’ – are swap-based, something completely unknown to investors,” says the former head of Italy’s largest asset manager.
According to Manooj Mistry, UK head of db x-trackers, more than 50 per cent of ETF assets under management are held in synthetically-replicated index products – a trend db x-trackers is unconcerned by. Most new providers, he adds, now only adopt this structure.
This, however, angers Mr Candylaftis. “I do not understand the distinction between structured products and ETFs. Most of the time ETFs are indeed structured products that should not have Ucits status,” he says.
“ETFs are okay for institutional investors who are supposedly aware of all these features and can evaluate them, but they are much less suitable for retail clients.”
Mr Candylaftis wants European regulators to either ban ETFs that use swaps or strictly enforce the 10 per cent counterparty-risk rule.
“It is a paradox that ETFs are meant to be very transparent instruments compared to traditional funds when, in fact, they are the opposite,” he says, adding that he wants retail-focused providers that replicate an index to actually buy the physical stocks instead of using the swap markets.
Mr Mistry, whose firm only promotes synthetically-replicated index products, disagrees. “All ETFs in Europe comply with Ucits III regulations, whether they are swap-based or not,” he says. “The question really should be which method – traditional or synthetic – works and performs best for investors, and we think that is swap-based products.”
Proponents of fully synthetic replication say it offers the advantage of being able to replicate pretty much any asset class exposure. Some areas, such as various domestic emerging debt markets, are difficult to access using physical replication because of tax disadvantages that can exist for overseas investors.
Swap-based tracking also removes the settlement and tracking error risk from investors and passes them on to a third party on the date a trade is made. When working with a liquid benchmark index and a well-tested settlement system like the DTCC in the US these concerns may seem minor, but in less developed markets this can offer real benefits to investors, experts say.
Axel Lomholt, head of product development for iShares Europe, which leans heavily towards traditional replication, says he understands these advantages but adds that his firm will always purchase the physical stocks when it can.
“Our first approach is to always try and buy the underlying assets,” he says. “It’s not always easy but you’d be surprised how far you can go with that route.
“Others will tell you it is too difficult or too expensive to buy the physical stocks but a lot of exposures can be replicated traditionally if you have the platform and the scale to do so – and we have.”
He adds: “Clients prefer ETFs that are backed by the physical assets. Research shows this to be true and that is why we go down that route when we can.”
Mr Lomholt, however, does not go so far as to agree with Mr Candylaftis that swap-based ETFs should be outlawed from the retail market. “They are an extremely useful tool,” he says. “We don’t overly rely on them like some houses because of the counterparty risk that exists but I don’t agree that swaps should be banned from the world of ETFs.”
Under European Ucits rules any counterparty exposure is limited to 10 per cent of a fund’s net asset value but, in practice, many ETF issuers manage this exposure to a lower maximum percentage of 0-5 per cent.
Nevertheless, fears over possible bank failures, stemming from the Lehman collapse last year, were sufficient to drive many investors away from swap-based ETFs in favour of the more traditional ETF structure in which the fund owns all or a representative sample of the securities in the index.
“This was a big topic when Lehman collapsed, and rightly so,” says Mr Mistry. “But we fully collateralise the majority of our funds and over-collateralise on all our equity, commodity and hedge fund ETFs. We do this to remove any fears investors might have regarding counterparty risk.
“Almost 50 per cent of ETFs are fully synthetic and so it’s not true to say people now don’t want these products.”
All iShares’ fixed income ETFs use traditional index replication but Mr Lomholt concedes Mr Mistry’s point: “Counterparty risk has been a worry since the Lehman collapse but the ETF market has not itself experienced a problem up until now, even though we have been through some extreme times. That’s important to remember.”
The Economy is So Bad.....
The economy is so bad that Barack Obama changed his slogan to "Maybe We Can!"
The economy is so bad that Sarah Palin is only shooting moose for food, not for fun.
The economy is so bad that when Bill and Hillary travel together, they now have to share a room.
The economy is so bad that instead of a coin toss at the beginning of the Super Bowl in February, they will play "Rock, Paper, Scissors."
The economy is so bad that Angelina Jolie had to adopt a highway.
The economy is so bad that my niece told me she wants to dress up as a 401(k) for Halloween so that she can turn invisible.
The economy is so bad that I ordered a burger at McDonald's (MCD) and the kid behind the counter asked, "Can you afford fries with that?"
The economy is so bad that I saw four CEOs over the weekend playing miniature golf.
The economy is so bad I saw the CEO of Wal-Mart (WMT) shopping at Wal-Mart.
The economy is so bad that Bill Gates had to switch to dial up.
The economy is so bad that rapper 50 Cent had to change his name to 10 Cent.
The economy is so bad that they Pequot tribe built a reservation on the site of one of their casinos.
The economy is so bad that the Treasure Island casino in Las Vegas is now managed by Somali pirates.
The economy is so bad that if the bank returns your check marked "Insufficient Funds," you call them and ask if they meant you or them.
The economy is so bad that I bought a toaster oven and my free gift with the purchase was a bank.
The economy is so bad that the only company hiring this week is the one that sends people to scrape bankers off of Wall Street sidewalks.
The economy is so bad that I went to my bank to get a loan, and they said, "What a coincidence! That's just what we were going to ask you!"
The economy is so bad that a picture is now only worth 200 words.
The economy is so bad that Hot Wheels stock is trading higher than GM.
And the No. 1 sign how bad the economy is...
The economy is so bad that the guy who made $50 billion disappear (Madoff) is being investigated by the people who made over $1 trillion disappear (our policymakers)!
The economy is so bad that Sarah Palin is only shooting moose for food, not for fun.
The economy is so bad that when Bill and Hillary travel together, they now have to share a room.
The economy is so bad that instead of a coin toss at the beginning of the Super Bowl in February, they will play "Rock, Paper, Scissors."
The economy is so bad that Angelina Jolie had to adopt a highway.
The economy is so bad that my niece told me she wants to dress up as a 401(k) for Halloween so that she can turn invisible.
The economy is so bad that I ordered a burger at McDonald's (MCD) and the kid behind the counter asked, "Can you afford fries with that?"
The economy is so bad that I saw four CEOs over the weekend playing miniature golf.
The economy is so bad I saw the CEO of Wal-Mart (WMT) shopping at Wal-Mart.
The economy is so bad that Bill Gates had to switch to dial up.
The economy is so bad that rapper 50 Cent had to change his name to 10 Cent.
The economy is so bad that they Pequot tribe built a reservation on the site of one of their casinos.
The economy is so bad that the Treasure Island casino in Las Vegas is now managed by Somali pirates.
The economy is so bad that if the bank returns your check marked "Insufficient Funds," you call them and ask if they meant you or them.
The economy is so bad that I bought a toaster oven and my free gift with the purchase was a bank.
The economy is so bad that the only company hiring this week is the one that sends people to scrape bankers off of Wall Street sidewalks.
The economy is so bad that I went to my bank to get a loan, and they said, "What a coincidence! That's just what we were going to ask you!"
The economy is so bad that a picture is now only worth 200 words.
The economy is so bad that Hot Wheels stock is trading higher than GM.
And the No. 1 sign how bad the economy is...
The economy is so bad that the guy who made $50 billion disappear (Madoff) is being investigated by the people who made over $1 trillion disappear (our policymakers)!
Tuesday, October 13, 2009
Bill Gross of Pimco
The world is turning “green” – global warming or not. Electric cars, free-range chickens, and White House vegetable gardens are the wave of the future, but the defining badge of environmentalists may be none of those and might, in fact, be colored blue, as opposed to green. Dog owners would be the first to acknowledge it. Having converted reluctantly to felines nearly ten years ago, I myself am only forced to humble myself by emptying the litter box once or twice a year when Sue is visiting the relatives. But dogs? Well, Bowser has to be walked, and Bowser owners these days are being forced to subserviently follow in step, holding those little blue “doo-doo” bags at the ready that keep the neighbors’ grass green instead of brown and minimize the number of summer flies to a billion per square mile. No longer will the current generation be allowed to use pooper-scoopers; they must in fact be pooper “stoopers,” bending down, turning the bag inside out to form a glove, and then – EEECH – making the grass environmentally friendly again by picking it up, reversing the bag and hurriedly looking for the nearest neighbor’s garbage can who might conveniently be at church or shopping at the grocery store. One can only hope that Fido is mildly constipated, if you get my drift. I can recall the diaper days with my three kids. It wasn’t a pleasant experience, but those non-environmentally friendly Pampers at least afforded one-stop dropping – easy on, easy off – no touchy, no feely. In those days, a doggie bag was something you asked for in a fine restaurant to take home the steak bones. Now it’s a blue plastic reminder that the world is changing and in many respects our daily routine is becoming a dog’s life.
A similar metaphor could be applied to the 45 million citizens of the State of California. Once “golden” and the land of entrepreneurial opportunity, the state has turned from filet mignon to ground chuck and its residents are now on a short leash as opposed to masters of their own universe. Unemployment at 12.2% is near the nation’s highest and its Baa bond rating is the country’s lowest. Its schools are abysmal, competing with Louisiana and Mississippi for the lowest rating in the federal government’s National Assessment of Educational Progress. While the air is much cleaner than it was 20 years ago, the freeways are stereotypically jammed and increasingly less free – the age of the toll road serving the exasperated (or simply the Mercedes owners) is upon us.
Our canine existence has many fathers. Perhaps more than any other state, California has been affected by its perverted form of government, requiring a two-thirds vote by state legislators to effectively pass a budget. In addition, the state’s laws are almost tragically shaped by a form of direct democracy more resemblant of the Jacksonian era, where the White House furniture was constantly at risk due to unruly citizens, high on whisky, and low on morals and common sense. Propositions from conservatives and liberals alike have locked up much of the budget, with Proposition 13 in 1978 reducing property taxes by 57% and Prop. 98 in 1988 requiring 40% of the general fund to be spent on schools. Recently, much of any excess has been gobbled not only by teachers, but unbelievably by a prison lobby that would be the envy of any on Washington’s K Street.
The result has been a $26 billion deficit that was supposedly “closed” in recent weeks, but which largely was a “kick the can” accounting scheme that postponed the pain, or better yet, pled for a federal solution to self-inflicted wounds. State budgets of course are required to be balanced each year, but that has long been a fiction throughout most of the country. Still, California’s 2009 fix was perhaps the longest kick of the can in history, refusing effectively to raise taxes, superficially cutting expenses, and shaming its fading image by refusing to disburse required billions to local counties and communities, as well as using accounting tricks that couldn’t fool a grade-schooler. In the process, they managed to reinvent the IOU, paying bills in virtual scrip that then traded at substantial discounts on eBay of all places. They have issued tax anticipation notes of all sorts with a multitude of lettered configurations that anagram aficionados would revel in. Just last week the state extended its begging bowl for $8 billion of “RANs” (Revenue Anticipation Notes) at an onerous money market rate of 1 1⁄2%. Previously they had issued “RAWs” (Revenue Anticipation Warrants). “BAGs” might be next – blue BAGS, that is, full of the doo-doo that California citizens have grown used to picking up.
There are signs that California voters are ready to make some tough choices, having recently refused to pass five propositions that would have extended tax hikes and failed to address spending. Whether or not Governor Schwarzenegger and legislators will agree to a constitutional convention to address the poisonous proposition plebiscite itself is a larger question that will likely be affirmatively answered only if the state economy continues to remain in the tank, which it likely will. But California’s problems, while somewhat unique and self-inflicted, are really America’s problems, and not just because the California economy is 15% of national GDP. While California’s $26 billion deficit is not directly comparable to the federal gap of $1 trillion-plus, they both reflect a lack of discipline and indeed vision to perceive that the strong growth in revenues was driven by the same excess leverage and the same delusionary asset appreciation that was bound to approach cliff’s edge. California’s property taxes, income taxes, and sales taxes were all artificially elevated by national and indeed global imbalances as the U.S. manufactured paper, and Asia manufactured things in mercantilistic exchange. Total tax revenues have actually fallen 14% over the past 12 months in California and substantially more in other states. At some point, that Fantasyland merry-go-round had to stop and whether the defining moment was marked by Bear Stearns, Lehman Brothers, or the tumultuous week that followed in September of 2008 is really not the point.
What is critical to recognize is that both California and the U.S., as well as numerous global lookalikes such as the U.K., Spain, and Eastern European invalids, are in a poor position to compete in a global economy where capitalism is morphing from its decades-long emphasis on finance and levered risk taking to a more conservative, regulated, production-oriented system advantaged by countries focusing on thrift and deferred gratification. The term “capitalism” itself speaks to “capital” – the accumulation of it and the eventual efficient employment of it – for growth in profits and real wages alike.
What California once had and is losing rapidly is its “capital”: unquestionably in its ongoing double-digit billion dollar deficits, but also in its crown jewel educational system that led to Silicon Valley miracles such as Hewlett Packard, Apple, Google, and countless other new age innovators. In addition, its human capital is beginning to exit as more people move out of the state than in. While the United States as a whole has yet to suffer that emigration indignity, the same cannot be said for foreign-born and U.S.-educated scientists and engineers who now choose to return to their homelands to seek opportunity. Lady Liberty’s extended hand offering sanctuary to other nations’ “tired, poor and huddled masses” may be limited to just that. The invigorated wind up elsewhere.
Now that our financial system has been stabilized, one wonders whether California’s “Governator” and indeed the Obama Administration has the capital, the vision, and indeed the discipline of its citizenry to turn things around. Our future doggie bags can hold steak bones or doo-doo of an increasingly familiar smell. For now investors should be holding their noses, their risk orientation, as well as their blue bags, until proven otherwise. Specifically that continues to dictate a focus on high quality bonds and steady dividend paying stocks that can survive, if not thrive, in our journey to a “new normal” economy of slower growth, muted profit gains, and potential capital destruction via default, abrogation of property rights, and dollar devaluation.
William H. Gross
Managing Director
A similar metaphor could be applied to the 45 million citizens of the State of California. Once “golden” and the land of entrepreneurial opportunity, the state has turned from filet mignon to ground chuck and its residents are now on a short leash as opposed to masters of their own universe. Unemployment at 12.2% is near the nation’s highest and its Baa bond rating is the country’s lowest. Its schools are abysmal, competing with Louisiana and Mississippi for the lowest rating in the federal government’s National Assessment of Educational Progress. While the air is much cleaner than it was 20 years ago, the freeways are stereotypically jammed and increasingly less free – the age of the toll road serving the exasperated (or simply the Mercedes owners) is upon us.
Our canine existence has many fathers. Perhaps more than any other state, California has been affected by its perverted form of government, requiring a two-thirds vote by state legislators to effectively pass a budget. In addition, the state’s laws are almost tragically shaped by a form of direct democracy more resemblant of the Jacksonian era, where the White House furniture was constantly at risk due to unruly citizens, high on whisky, and low on morals and common sense. Propositions from conservatives and liberals alike have locked up much of the budget, with Proposition 13 in 1978 reducing property taxes by 57% and Prop. 98 in 1988 requiring 40% of the general fund to be spent on schools. Recently, much of any excess has been gobbled not only by teachers, but unbelievably by a prison lobby that would be the envy of any on Washington’s K Street.
The result has been a $26 billion deficit that was supposedly “closed” in recent weeks, but which largely was a “kick the can” accounting scheme that postponed the pain, or better yet, pled for a federal solution to self-inflicted wounds. State budgets of course are required to be balanced each year, but that has long been a fiction throughout most of the country. Still, California’s 2009 fix was perhaps the longest kick of the can in history, refusing effectively to raise taxes, superficially cutting expenses, and shaming its fading image by refusing to disburse required billions to local counties and communities, as well as using accounting tricks that couldn’t fool a grade-schooler. In the process, they managed to reinvent the IOU, paying bills in virtual scrip that then traded at substantial discounts on eBay of all places. They have issued tax anticipation notes of all sorts with a multitude of lettered configurations that anagram aficionados would revel in. Just last week the state extended its begging bowl for $8 billion of “RANs” (Revenue Anticipation Notes) at an onerous money market rate of 1 1⁄2%. Previously they had issued “RAWs” (Revenue Anticipation Warrants). “BAGs” might be next – blue BAGS, that is, full of the doo-doo that California citizens have grown used to picking up.
There are signs that California voters are ready to make some tough choices, having recently refused to pass five propositions that would have extended tax hikes and failed to address spending. Whether or not Governor Schwarzenegger and legislators will agree to a constitutional convention to address the poisonous proposition plebiscite itself is a larger question that will likely be affirmatively answered only if the state economy continues to remain in the tank, which it likely will. But California’s problems, while somewhat unique and self-inflicted, are really America’s problems, and not just because the California economy is 15% of national GDP. While California’s $26 billion deficit is not directly comparable to the federal gap of $1 trillion-plus, they both reflect a lack of discipline and indeed vision to perceive that the strong growth in revenues was driven by the same excess leverage and the same delusionary asset appreciation that was bound to approach cliff’s edge. California’s property taxes, income taxes, and sales taxes were all artificially elevated by national and indeed global imbalances as the U.S. manufactured paper, and Asia manufactured things in mercantilistic exchange. Total tax revenues have actually fallen 14% over the past 12 months in California and substantially more in other states. At some point, that Fantasyland merry-go-round had to stop and whether the defining moment was marked by Bear Stearns, Lehman Brothers, or the tumultuous week that followed in September of 2008 is really not the point.
What is critical to recognize is that both California and the U.S., as well as numerous global lookalikes such as the U.K., Spain, and Eastern European invalids, are in a poor position to compete in a global economy where capitalism is morphing from its decades-long emphasis on finance and levered risk taking to a more conservative, regulated, production-oriented system advantaged by countries focusing on thrift and deferred gratification. The term “capitalism” itself speaks to “capital” – the accumulation of it and the eventual efficient employment of it – for growth in profits and real wages alike.
What California once had and is losing rapidly is its “capital”: unquestionably in its ongoing double-digit billion dollar deficits, but also in its crown jewel educational system that led to Silicon Valley miracles such as Hewlett Packard, Apple, Google, and countless other new age innovators. In addition, its human capital is beginning to exit as more people move out of the state than in. While the United States as a whole has yet to suffer that emigration indignity, the same cannot be said for foreign-born and U.S.-educated scientists and engineers who now choose to return to their homelands to seek opportunity. Lady Liberty’s extended hand offering sanctuary to other nations’ “tired, poor and huddled masses” may be limited to just that. The invigorated wind up elsewhere.
Now that our financial system has been stabilized, one wonders whether California’s “Governator” and indeed the Obama Administration has the capital, the vision, and indeed the discipline of its citizenry to turn things around. Our future doggie bags can hold steak bones or doo-doo of an increasingly familiar smell. For now investors should be holding their noses, their risk orientation, as well as their blue bags, until proven otherwise. Specifically that continues to dictate a focus on high quality bonds and steady dividend paying stocks that can survive, if not thrive, in our journey to a “new normal” economy of slower growth, muted profit gains, and potential capital destruction via default, abrogation of property rights, and dollar devaluation.
William H. Gross
Managing Director
Monday, October 12, 2009
John Mauldin's latest email
+ Each year we allow almost 1 million immigrants into the US, mostly family of people already here. I suggest that for the next two years we stop that. Instead, let anyone who can buy a home, passes basic screening, and can demonstrate the ability to pay for health insurance immigrate to the US and get a temporary green card. If they behave, then the card becomes permanent after four years.
We almost immediately put a floor on the housing market, absorb the excess homes, and within a year the housing-construction market, along with the jobs that are now gone, will be back. That is stimulus that costs the taxpayers nothing.
+ While I can't believe I am writing this, taxes are going to have to rise, if for no other reason than this Congress is hell bent on raising taxes. But rescinding the entire Bush tax cuts, plus adding a 10% surcharge as Congress wants to do in one fell swoop, is an absolute guarantee of a recession. So do it gradually over (say) 4 years, and then reinstitute the cuts when the deficit is under 2% of GDP. Remember the negative tax-multiplier effect of raising taxes. And the definitive work on that was done by Obama's chairman of the Council of Economic Advisors, Christina Romer.
We should consider a VAT tax and a major cut/reorganization of the corporate tax. We need to encourage corporations to hire more, and you do that by taxing less. Let's make our corporations more competitive, not less. Our taxes are much higher than those of any of our major competitors. And please forget that insane carbon tax. If you want to cut emissions, do it straightforwardly by raising taxes significantly on gasoline. Don't back-door it on consumers. (And I am NOT advocating such a policy.)
+ An aggressive tax benefit for new venture-capital money that is invested in new technologies will result in new industries. The only way we can grow our way out of this mess is to create whole new industries, like we did in the late '70s and '80s. (Think computers and the internet and telecom.)
+ Unemployment is likely to continue to rise and last longer than ever before. We have to take care of the basic needs of those who want work but can't find it. Unemployment insurance should be extended to those who are still looking for work past the time for benefits to expire, and some program of local volunteer service should be instituted as the price for getting continued benefits after the primary benefits time period runs out. Not only will this help the community, but it will get the person out into the world where he is more likely to meet someone who can give him a job. But the costs of this program should be revenue-neutral. Something else has to be cut.
+ We have to re-hink our military costs (I can't believe I am writing this!). We now spend almost 50% of the world's total military budget. Maybe we need to understand that we can't fight two wars and support hundreds of bases around the world. If we kill the goose, our ability to fight even one medium-sized war will be diminished. The harsh reality is that everything has to be re-evaluated. As an example, do we really need to be in Korea? If so, why can't Korea pay for much of the cost? They are now a rich nation. There are budgetary fiscal limits to being the policeman for the world.
+ Glass-Steagall, or some form of it, should be brought back. Banks, which are subject to taxpayer bailouts, should not be in the investment banking and derivatives-creating business. Derivatives, especially credit default swaps, should be on an exchange, and too big to fail must go. Banks have enough risk just making loans. Leverage should be dialed down, and hedge funds selling what amounts to naked call options in any form, derivative or otherwise, should be regulated.
Let me see, is there any group I have not offended yet? But something like I am suggesting is going to have to be done at some point. There is no way we can continue forever on the current path. At some point, we will hit the wall. The fight between the bug and the windshield always ends in favor of the windshield. The bond market is going to have to see a credible effort to get back to a reasonable deficit, or we risk a very difficult economic environment. The longer we wait, the worse it will be.
It is not going to be easy to persuade a majority of Americans that we need to do something now. More realistically, we are going to probably have to begin to experience a crisis of some type to get politicians motivated to do something.
This last Tuesday, I spoke to the Financial Leadership Association at the University of Texas at Dallas. It was mostly undergraduates, and my assigned topic was how financial research impacts our investment decisions. In touched on the topic above, in less detail, but pointing out that at some point we are going to have to bring the deficit under reasonable control. I got some push-back, as some could not understand why we just couldn't keep running deficits, as we simply owe it to ourselves. I tried to explain, but for a few of them I was not getting through (though I think most got it). And these were the finance students! I shudder to think what the sociology department would be like.
We are not going back to normal, although it is likely we will see some form of Statistical Recovery. But we cannot get complacent. Somewhere out there is the real potential for another crisis, which will dwarf the last one. You will not want to be long much of anything when it happens, except hedged or liquid investments. Though admittedly, this could go on for a long time. I just don't know how long "long" is. Other than it will be too long and then not long enough.
We almost immediately put a floor on the housing market, absorb the excess homes, and within a year the housing-construction market, along with the jobs that are now gone, will be back. That is stimulus that costs the taxpayers nothing.
+ While I can't believe I am writing this, taxes are going to have to rise, if for no other reason than this Congress is hell bent on raising taxes. But rescinding the entire Bush tax cuts, plus adding a 10% surcharge as Congress wants to do in one fell swoop, is an absolute guarantee of a recession. So do it gradually over (say) 4 years, and then reinstitute the cuts when the deficit is under 2% of GDP. Remember the negative tax-multiplier effect of raising taxes. And the definitive work on that was done by Obama's chairman of the Council of Economic Advisors, Christina Romer.
We should consider a VAT tax and a major cut/reorganization of the corporate tax. We need to encourage corporations to hire more, and you do that by taxing less. Let's make our corporations more competitive, not less. Our taxes are much higher than those of any of our major competitors. And please forget that insane carbon tax. If you want to cut emissions, do it straightforwardly by raising taxes significantly on gasoline. Don't back-door it on consumers. (And I am NOT advocating such a policy.)
+ An aggressive tax benefit for new venture-capital money that is invested in new technologies will result in new industries. The only way we can grow our way out of this mess is to create whole new industries, like we did in the late '70s and '80s. (Think computers and the internet and telecom.)
+ Unemployment is likely to continue to rise and last longer than ever before. We have to take care of the basic needs of those who want work but can't find it. Unemployment insurance should be extended to those who are still looking for work past the time for benefits to expire, and some program of local volunteer service should be instituted as the price for getting continued benefits after the primary benefits time period runs out. Not only will this help the community, but it will get the person out into the world where he is more likely to meet someone who can give him a job. But the costs of this program should be revenue-neutral. Something else has to be cut.
+ We have to re-hink our military costs (I can't believe I am writing this!). We now spend almost 50% of the world's total military budget. Maybe we need to understand that we can't fight two wars and support hundreds of bases around the world. If we kill the goose, our ability to fight even one medium-sized war will be diminished. The harsh reality is that everything has to be re-evaluated. As an example, do we really need to be in Korea? If so, why can't Korea pay for much of the cost? They are now a rich nation. There are budgetary fiscal limits to being the policeman for the world.
+ Glass-Steagall, or some form of it, should be brought back. Banks, which are subject to taxpayer bailouts, should not be in the investment banking and derivatives-creating business. Derivatives, especially credit default swaps, should be on an exchange, and too big to fail must go. Banks have enough risk just making loans. Leverage should be dialed down, and hedge funds selling what amounts to naked call options in any form, derivative or otherwise, should be regulated.
Let me see, is there any group I have not offended yet? But something like I am suggesting is going to have to be done at some point. There is no way we can continue forever on the current path. At some point, we will hit the wall. The fight between the bug and the windshield always ends in favor of the windshield. The bond market is going to have to see a credible effort to get back to a reasonable deficit, or we risk a very difficult economic environment. The longer we wait, the worse it will be.
It is not going to be easy to persuade a majority of Americans that we need to do something now. More realistically, we are going to probably have to begin to experience a crisis of some type to get politicians motivated to do something.
This last Tuesday, I spoke to the Financial Leadership Association at the University of Texas at Dallas. It was mostly undergraduates, and my assigned topic was how financial research impacts our investment decisions. In touched on the topic above, in less detail, but pointing out that at some point we are going to have to bring the deficit under reasonable control. I got some push-back, as some could not understand why we just couldn't keep running deficits, as we simply owe it to ourselves. I tried to explain, but for a few of them I was not getting through (though I think most got it). And these were the finance students! I shudder to think what the sociology department would be like.
We are not going back to normal, although it is likely we will see some form of Statistical Recovery. But we cannot get complacent. Somewhere out there is the real potential for another crisis, which will dwarf the last one. You will not want to be long much of anything when it happens, except hedged or liquid investments. Though admittedly, this could go on for a long time. I just don't know how long "long" is. Other than it will be too long and then not long enough.
Monday, September 28, 2009
Monday, September 21, 2009
Cash for Clunkers and CPI
I read that the government is going to use the $4500 for the Cash for Clunkers as a price reduction for new autos. That means that the Consumer Price Index will be reduced, as autos make up part of the index. Social security and other programs use the CPI to compute payments.
Holmes
Holmes
Thursday, September 17, 2009
Health Savings Accounts
I keep reading about how Health Savings Accounts are going to solve health care so I did some (brief) studying. Basically, it's like an IRA. You put money in, before taxes and carry a high-deductible health insurance plan.
The problem is that most people don't save their money. This plan only works for diligent savers. As someone who is privy to people's finances, I can tell you that this would only work for a small percentage of the US population.
This plan would never work in a country where many folks have a negative net worth. You know exactly what I'm talking about.
Holmes
The problem is that most people don't save their money. This plan only works for diligent savers. As someone who is privy to people's finances, I can tell you that this would only work for a small percentage of the US population.
This plan would never work in a country where many folks have a negative net worth. You know exactly what I'm talking about.
Holmes
Tuesday, September 15, 2009
Friday, September 11, 2009
Faber Says ‘High’ U.S. Deficit Will Spur Inflation
By Elizabeth Campbell and Millie Munshi
Sept. 9 (Bloomberg) -- Investor Marc Faber said government spending and low interest rates will keep the U.S. deficit “very high” and will spur inflation.
Interest rates will be kept “artificially low” and remain “near zero for a long time” in the U.S., Faber, the publisher of the Gloom, Boom & Doom report, said today in a presentation broadcast on the Internet. “The deficit will stay very high and that will create some kind of more inflation down the road.”
The Federal Reserve is likely to continue to “print money” in an effort to boost the U.S. economy, and that, combined with low interest rates, will spur weakness in the dollar, Faber said. U.S. President Barack Obama has pumped up the nation’s marketable debt to an unprecedented $6.94 trillion as he borrows to spur the world’s largest economy.
“Money printing will be unprecedented because the deficit will need to be financed,” Faber said. “The weaker the economy, the more the stock market will go up because the money that is being printed will go into” speculative assets.
Faber, who recommended buying U.S. stocks in October, before the biggest rally in more than 70 years, said investors should buy equities instead of bonds or holding cash.
“If the dollar is weak, there is a very good chance that equity prices could rise quite substantially,” Faber said. A weaker dollar is “good for asset prices.”
Buying Commodities
Faber also recommends that investors buy precious metals and other raw materials to hedge against declines in the U.S. currency. Before today, the greenback slid 4.9 percent against a basket of six major currencies this year and the 19-commodity Reuters/Jefferies CRB Index climbed 10 percent.
“The dollar will continue to implode against commodities,” Faber said. “I don’t see why someone would hold dollars and not own gold. More and more people will come to the realization that they have to own some resources, some commodities, some mining companies and some physical precious metals.”
Global economic growth won’t recover to pre-recession levels, Faber said.
“I don’t think consumption will come back,” he said. “I don’t think there is much of a recovery. You have to differentiate between the stock market and economy activity.”
To contact the reporters on this story: Elizabeth Campbell in New York at ecampbell14@bloomberg.net; Millie Munshi in New York at mmunshi@bloomberg.net.
Sept. 9 (Bloomberg) -- Investor Marc Faber said government spending and low interest rates will keep the U.S. deficit “very high” and will spur inflation.
Interest rates will be kept “artificially low” and remain “near zero for a long time” in the U.S., Faber, the publisher of the Gloom, Boom & Doom report, said today in a presentation broadcast on the Internet. “The deficit will stay very high and that will create some kind of more inflation down the road.”
The Federal Reserve is likely to continue to “print money” in an effort to boost the U.S. economy, and that, combined with low interest rates, will spur weakness in the dollar, Faber said. U.S. President Barack Obama has pumped up the nation’s marketable debt to an unprecedented $6.94 trillion as he borrows to spur the world’s largest economy.
“Money printing will be unprecedented because the deficit will need to be financed,” Faber said. “The weaker the economy, the more the stock market will go up because the money that is being printed will go into” speculative assets.
Faber, who recommended buying U.S. stocks in October, before the biggest rally in more than 70 years, said investors should buy equities instead of bonds or holding cash.
“If the dollar is weak, there is a very good chance that equity prices could rise quite substantially,” Faber said. A weaker dollar is “good for asset prices.”
Buying Commodities
Faber also recommends that investors buy precious metals and other raw materials to hedge against declines in the U.S. currency. Before today, the greenback slid 4.9 percent against a basket of six major currencies this year and the 19-commodity Reuters/Jefferies CRB Index climbed 10 percent.
“The dollar will continue to implode against commodities,” Faber said. “I don’t see why someone would hold dollars and not own gold. More and more people will come to the realization that they have to own some resources, some commodities, some mining companies and some physical precious metals.”
Global economic growth won’t recover to pre-recession levels, Faber said.
“I don’t think consumption will come back,” he said. “I don’t think there is much of a recovery. You have to differentiate between the stock market and economy activity.”
To contact the reporters on this story: Elizabeth Campbell in New York at ecampbell14@bloomberg.net; Millie Munshi in New York at mmunshi@bloomberg.net.
Thursday, September 3, 2009
Richard Russell comments on gold
Why the rush into the monetary "safe haven." Oh, by the way, they don't want you to know it, but GOLD IS MONEY! And it has been for 5,000 years. Hmmm, what paper money has lasted for 5000 years?
Monday, August 31, 2009
Comments on debt
"The US national debt is now over $11 trillion dollars. The interest on our national debt is now $340 billion. This is about at 3.04% rate of interest. In ten years the Obama administration admits that they will add $9 trillion to the national debt. That would take it to $20 trillion. Let's say that by some miracle the interest on the national debt in 10 years will still be 3.09%. That would mean that the interest on the national debt would be $618 billion a year or over one billion a day. No nation can hold up in the face of those kinds of expenses. Either the dollar would collapse or interest rates would go through the roof."
From Richard Russell
From Richard Russell
Friday, August 28, 2009
Barron's article on Asia
AFTER THE RECENT JUDDER IN THE ASIAN MARKETS, WHO BETTER to ask about the region's prospects than Christopher Wood? The Hong Kong-based strategist for CLSA Asia-Pacific Markets, a unit of Crédit Agricole, pens the widely followed newsletter Greed & Fear.
He was early to spot the problems in the U.S. mortgage market and their global financial implications, writing about them back in 2005.
Even earlier, he espied the troubles brewing in Thailand, before the 1997 Asian crisis.
[qa]
Darrin Vanselow for Barron's
"When I say you want to be overweight Asia and emerging markets, I'm talking predominantly about investing in domestic themes such as financial services, real estate and infrastructure." --Christopher Wood
Midway through last week, the MSCI AC Asia ex-Japan index had risen by 79% in U.S. dollar terms since the October 27 bottom, while the Standard & Poor's 500 is up just 17% over the same period. Wood acknowledges a modest correction may be in order, but believes prospects are good for a long-term bull market in Asia. To learn why, keep reading.
Barron's: You sure got this crisis right. Where are we now?
Wood: This financial crisis in the Western world will lead to a long period of anemic growth. The data that is making people more optimistic on the U.S. right now is tending to be production-oriented data like the ISM [a survey of manufacturers] or car sales. But there is very little sign to me that U.S. consumer demand is recovering or that real releveraging is taking place.
In fact, all the evidence both in the U.S. and Euroland is that the consumer is going into long-term retrenchment. Even when the banks in America and Europe become healthier in coming quarters and years, I believe demand for credit will be much less than it was in the last five, ten years. So, we are going into a long-term period of deleveraging. We'll continue to see deflation backdrops in the Western world. The best case is a long period of subpar, anemic growth.
What does this mean for equities?
My formal target has been a 1050 on the S&P 500 [versus the current level around 1,000]. But that is just a technical view. Either in the fourth quarter of this year or definitely next year, the S&P is going to have a proper correction, by which I mean declines below the technical level of 875. There is no evidence that the U.S. or British consumer is really recovering. Actually, America and Europe remain at risk of Japanese-style liquidity traps despite all this fiscal monetary policy activism you have seen in the West.
From a global equity investor's standpoint, Asia and the emerging markets stand out as a place to invest. I haven't been surprised that Asia and emerging markets have outperformed since the autumn lows. It is a very positive sign that Asia and emerging markets did not make new lows when the S&P did in March. It's also positive that trading volumes have increased for most of the period since the start of the year in the Asian stock markets' recovery, whereas trading volumes were broadly static on the S&P. Those rising volumes I attribute to growing domestic investor participation within Asia.
The biggest beneficiaries of Western monetary easing aren't going to be indebted Western consumers. The biggest beneficiary of monetary easing in the West is going to be Asia...and emerging-market asset prices. That's primarily equities and real estate, because the money generated by all this excess liquidity from dramatic monetary easing in the past year or more, is going to flow to the best story.
Which one?
When I say you want to be overweight Asia and emerging markets, I'm talking predominantly about investing in domestic themes in [Asia and emerging] markets, such as financial services, real estate, domestic infrastructure. If I was advising a big global or domestic U.S. investor that didn't have emerging-market expertise that just wanted to concentrate on three big markets, I would advise them to invest in China, India and Brazil, because they are all good stories.
Different, though.
Well, China is a weird mix of command economy and private-sector capitalism. If you invest in the blue chips, you are predominantly investing in state-owned enterprises, be they China Mobile [ticker: CHL], Industrial & Commercial Bank of China [1398.Hong Kong], China Life Insurance [LFC], PetroChina [PTR].
The advantage is that these are dominant companies without competitive threat. You're not going to have huge corporate-governance abuse, because [people who do that in China] are at risk of being executed.
The negative is, they are not pure capitalist enterprises, and you have always got the regulatory risk if they decide to change the rules of the game. That's the China story. The China index is predominantly domestic demand.
India is very different. What's good about China tends to be bad about India. And what's bad about India tends to be good about China. India is much more the U.S. model of the stock market. You have a huge number of companies, a wide diversity of sectors. In India, the question of who wins and who loses in any sector is much more important than in China. You have more than 100 years of stock-market history, and a more Western-style legal system. In other words, a real element of due process, which is not the case in any other emerging market. India is great, India is my favorite emerging-market equity story. If I was only going to invest in one, I would invest in India because of the wide diversity of companies you could invest in. But it will always have a premium, good price/earnings rating.
The other virtue about India is that export is unimportant in terms of gross domestic product. China is more about exports than India, but it's not all about exports, either. That's why both China and India this year have confounded most economists' forecasts, growing much more than most people were predicting at the start of the year despite the fact that the U.S. is barely growing.
Then there's Brazil, which I don't follow closely, because CLSA is an Asia specialist. The big story there remains the ability for real interest rates to really collapse, because they finally cracked inflation. Inflation is very low. They can bring rates to single-digits, and that will encourage the development of a middle class. Obviously, it has the resources as well.
BRICs without Russia? Why not Russia?
Russia is okay, but less diversified than Brazil and more a pure oil play.
The decoupling story, once debunked, is being revived.
I wouldn't put it that strongly. I would look at it like this: At the beginning of 2008, the investment community had basically largely embraced the notion of decoupling. By the end of '08, the investment consensus had embraced the precisely opposite notion that China and Asian emerging markets would prove to be export train wrecks correlated with the U.S. consumer.
The reality is something in the middle, what I call macroeconomic, incremental decoupling -- a boring, middle-of-the-road view. China, India growth has slowed, but not to the extent of some of the more bearish forecasts. Many were correctly bearish on the U.S. and Euroland...[while] China will grow 8% to 9% this year. It has the help of a big command economy stimulus. The natural excuse for a breather is renewed tightening concerns in China, but I don't think China will be slamming on the brakes.
India will probably grow more than 6%. In India, there's no command-economy stimulus, because the government couldn't organize one. But it's not a train wreck correlated with the U.S. consumer. Today, the trend in bank-lending in India remains healthy.
Stock-market decoupling is a different story. As of today, we have zero evidence of the stock-market decoupling. We've had dramatic outperformance by Asia and emerging markets since the October low.
When stock markets correct, Asian and emerging markets normally underperform on the downside as much as they outperformed on the upside. We can't stress-test if Asia and emerging-market stock markets have started to decouple until the next time the S&P has a proper correction -- let's say below 875. The key issue for people involved in Asian emerging markets is how resilient they prove to be. Now, if they only go down as much as the S&P in the context of the dramatic outperformance we've seen to date, that would be incredibly positive. But they've demonstrated this year their macroeconomic resilience.
You've talked about an asset bubble in Asia. How far into it are we? Valuations have expanded quite dramatically.
No way I would call it an asset bubble yet. All we've had is outperformance. And Asian valuations collapsed late last year way beyond where common sense suggested they should stop, simply because hedge funds and funds-of-funds were liquidating the one investment they still had made some money on, and didn't face lockouts in Asian and emerging-market equities. If you were a fund-of-funds with a lot of hedge funds owning garbage credit, you just redeemed what you could sell. Asian valuations are not cheap today. But in a real bubble, Asia ends up trading two or three times the P/E of the S&P.
In the very short term, frankly, Asia has outperformed so much that there's a risk of the S&P outperforming Asia. On a three-month basis, if you had not invested anything in Asia up to now and had $100 to invest, I'd only invest a third of the amount today, and the rest after a correction.
What are some of the stresses in Asia?
The big stresses remain in the West, where monetary policy remains very easy for a long time. If Western policy remains very loose, that could trigger a speculative bubble in Asia. You know, that doesn't have to happen. The Asian policy makers can counter that by tightening aggressively. But there is a remarkable lack of stress in Asia and emerging markets, because there's a remarkable lack of consumer debt, corporate debt, and government debt. There are high savings rates. They are just in much better condition than the developed world.
What themes do you like and dislike?
I like financial services, real estate and domestic infrastructure -- the three broad domestic sectors linked to a domestic demand, asset-reflation theme. If you have got the ability to buy smaller stocks, then you can buy consumer stocks. [Wood's thematic model portfolio is shown on the nearby table.] Search-engine stocks are also domestic demand proxies. I would be less aggressive investing in exporters, but there's nothing I aggressively dislike in Asia, I'd say.
[woods]
I also think Asian currencies are long-term appreciation stories, another reason to own the equities. Asian currencies are going to be relatively safe havens compared with Western currencies, because they are not going to blow up their solvent balance sheets bailing out banks. And basically, on a five-year view, I'm expecting investors to lose confidence in Western paper currencies.
Tell us about Taiwan.
This is a specific story that has nothing to do with the general Asian theme, based on political developments. Sooner or later, you will see a formal end of hostilities or tensions between China and Taiwan, which will lead to a dramatic improvement in economic links. That will lead to a huge rerating in equity prices in Taiwan, and probably also an appreciation of the [New Taiwan] dollar. Over the past year you've already seen pretty significant developments, most importantly a growing number of direct flights. On a five year view, I'd expect more integration: Chinese banks would be able to function in Taiwan and vice versa, growing investments by big Chinese companies in Taiwan, and Taiwan companies integrating their China operations into reported results. This is a very good story and people should buy Taiwan on pullbacks if they don't already own it, and take a long-term bullish view of the NT$.
How about Japan, which votes in a parliamentary election on August 30?
It isn't an emerging market. But if the DPJ [Democratic Party of Japan] does win the election as expected, that can only be a potential positive. It creates the hope of change and [of] a more domestic-demand-driven policy.
If the equity-market rally keeps going, Japan is overdue some outperformance, particularly the exporters, which are actually doing some genuine cost-cutting. But it has all kinds of structural issues that the rest of Asia doesn't have. The most interesting domestic sector in Japan is the real-estate investment trusts, like Japan Prime Realty [8955.Japan] and the Japan Retail Fund [8953.Japan]. The REITs have distressed valuations and very high yields -- 6% to 9% -- relative to very low Japanese interest rates. And the government is now supporting the sector.
Thank you.
He was early to spot the problems in the U.S. mortgage market and their global financial implications, writing about them back in 2005.
Even earlier, he espied the troubles brewing in Thailand, before the 1997 Asian crisis.
[qa]
Darrin Vanselow for Barron's
"When I say you want to be overweight Asia and emerging markets, I'm talking predominantly about investing in domestic themes such as financial services, real estate and infrastructure." --Christopher Wood
Midway through last week, the MSCI AC Asia ex-Japan index had risen by 79% in U.S. dollar terms since the October 27 bottom, while the Standard & Poor's 500 is up just 17% over the same period. Wood acknowledges a modest correction may be in order, but believes prospects are good for a long-term bull market in Asia. To learn why, keep reading.
Barron's: You sure got this crisis right. Where are we now?
Wood: This financial crisis in the Western world will lead to a long period of anemic growth. The data that is making people more optimistic on the U.S. right now is tending to be production-oriented data like the ISM [a survey of manufacturers] or car sales. But there is very little sign to me that U.S. consumer demand is recovering or that real releveraging is taking place.
In fact, all the evidence both in the U.S. and Euroland is that the consumer is going into long-term retrenchment. Even when the banks in America and Europe become healthier in coming quarters and years, I believe demand for credit will be much less than it was in the last five, ten years. So, we are going into a long-term period of deleveraging. We'll continue to see deflation backdrops in the Western world. The best case is a long period of subpar, anemic growth.
What does this mean for equities?
My formal target has been a 1050 on the S&P 500 [versus the current level around 1,000]. But that is just a technical view. Either in the fourth quarter of this year or definitely next year, the S&P is going to have a proper correction, by which I mean declines below the technical level of 875. There is no evidence that the U.S. or British consumer is really recovering. Actually, America and Europe remain at risk of Japanese-style liquidity traps despite all this fiscal monetary policy activism you have seen in the West.
From a global equity investor's standpoint, Asia and the emerging markets stand out as a place to invest. I haven't been surprised that Asia and emerging markets have outperformed since the autumn lows. It is a very positive sign that Asia and emerging markets did not make new lows when the S&P did in March. It's also positive that trading volumes have increased for most of the period since the start of the year in the Asian stock markets' recovery, whereas trading volumes were broadly static on the S&P. Those rising volumes I attribute to growing domestic investor participation within Asia.
The biggest beneficiaries of Western monetary easing aren't going to be indebted Western consumers. The biggest beneficiary of monetary easing in the West is going to be Asia...and emerging-market asset prices. That's primarily equities and real estate, because the money generated by all this excess liquidity from dramatic monetary easing in the past year or more, is going to flow to the best story.
Which one?
When I say you want to be overweight Asia and emerging markets, I'm talking predominantly about investing in domestic themes in [Asia and emerging] markets, such as financial services, real estate, domestic infrastructure. If I was advising a big global or domestic U.S. investor that didn't have emerging-market expertise that just wanted to concentrate on three big markets, I would advise them to invest in China, India and Brazil, because they are all good stories.
Different, though.
Well, China is a weird mix of command economy and private-sector capitalism. If you invest in the blue chips, you are predominantly investing in state-owned enterprises, be they China Mobile [ticker: CHL], Industrial & Commercial Bank of China [1398.Hong Kong], China Life Insurance [LFC], PetroChina [PTR].
The advantage is that these are dominant companies without competitive threat. You're not going to have huge corporate-governance abuse, because [people who do that in China] are at risk of being executed.
The negative is, they are not pure capitalist enterprises, and you have always got the regulatory risk if they decide to change the rules of the game. That's the China story. The China index is predominantly domestic demand.
India is very different. What's good about China tends to be bad about India. And what's bad about India tends to be good about China. India is much more the U.S. model of the stock market. You have a huge number of companies, a wide diversity of sectors. In India, the question of who wins and who loses in any sector is much more important than in China. You have more than 100 years of stock-market history, and a more Western-style legal system. In other words, a real element of due process, which is not the case in any other emerging market. India is great, India is my favorite emerging-market equity story. If I was only going to invest in one, I would invest in India because of the wide diversity of companies you could invest in. But it will always have a premium, good price/earnings rating.
The other virtue about India is that export is unimportant in terms of gross domestic product. China is more about exports than India, but it's not all about exports, either. That's why both China and India this year have confounded most economists' forecasts, growing much more than most people were predicting at the start of the year despite the fact that the U.S. is barely growing.
Then there's Brazil, which I don't follow closely, because CLSA is an Asia specialist. The big story there remains the ability for real interest rates to really collapse, because they finally cracked inflation. Inflation is very low. They can bring rates to single-digits, and that will encourage the development of a middle class. Obviously, it has the resources as well.
BRICs without Russia? Why not Russia?
Russia is okay, but less diversified than Brazil and more a pure oil play.
The decoupling story, once debunked, is being revived.
I wouldn't put it that strongly. I would look at it like this: At the beginning of 2008, the investment community had basically largely embraced the notion of decoupling. By the end of '08, the investment consensus had embraced the precisely opposite notion that China and Asian emerging markets would prove to be export train wrecks correlated with the U.S. consumer.
The reality is something in the middle, what I call macroeconomic, incremental decoupling -- a boring, middle-of-the-road view. China, India growth has slowed, but not to the extent of some of the more bearish forecasts. Many were correctly bearish on the U.S. and Euroland...[while] China will grow 8% to 9% this year. It has the help of a big command economy stimulus. The natural excuse for a breather is renewed tightening concerns in China, but I don't think China will be slamming on the brakes.
India will probably grow more than 6%. In India, there's no command-economy stimulus, because the government couldn't organize one. But it's not a train wreck correlated with the U.S. consumer. Today, the trend in bank-lending in India remains healthy.
Stock-market decoupling is a different story. As of today, we have zero evidence of the stock-market decoupling. We've had dramatic outperformance by Asia and emerging markets since the October low.
When stock markets correct, Asian and emerging markets normally underperform on the downside as much as they outperformed on the upside. We can't stress-test if Asia and emerging-market stock markets have started to decouple until the next time the S&P has a proper correction -- let's say below 875. The key issue for people involved in Asian emerging markets is how resilient they prove to be. Now, if they only go down as much as the S&P in the context of the dramatic outperformance we've seen to date, that would be incredibly positive. But they've demonstrated this year their macroeconomic resilience.
You've talked about an asset bubble in Asia. How far into it are we? Valuations have expanded quite dramatically.
No way I would call it an asset bubble yet. All we've had is outperformance. And Asian valuations collapsed late last year way beyond where common sense suggested they should stop, simply because hedge funds and funds-of-funds were liquidating the one investment they still had made some money on, and didn't face lockouts in Asian and emerging-market equities. If you were a fund-of-funds with a lot of hedge funds owning garbage credit, you just redeemed what you could sell. Asian valuations are not cheap today. But in a real bubble, Asia ends up trading two or three times the P/E of the S&P.
In the very short term, frankly, Asia has outperformed so much that there's a risk of the S&P outperforming Asia. On a three-month basis, if you had not invested anything in Asia up to now and had $100 to invest, I'd only invest a third of the amount today, and the rest after a correction.
What are some of the stresses in Asia?
The big stresses remain in the West, where monetary policy remains very easy for a long time. If Western policy remains very loose, that could trigger a speculative bubble in Asia. You know, that doesn't have to happen. The Asian policy makers can counter that by tightening aggressively. But there is a remarkable lack of stress in Asia and emerging markets, because there's a remarkable lack of consumer debt, corporate debt, and government debt. There are high savings rates. They are just in much better condition than the developed world.
What themes do you like and dislike?
I like financial services, real estate and domestic infrastructure -- the three broad domestic sectors linked to a domestic demand, asset-reflation theme. If you have got the ability to buy smaller stocks, then you can buy consumer stocks. [Wood's thematic model portfolio is shown on the nearby table.] Search-engine stocks are also domestic demand proxies. I would be less aggressive investing in exporters, but there's nothing I aggressively dislike in Asia, I'd say.
[woods]
I also think Asian currencies are long-term appreciation stories, another reason to own the equities. Asian currencies are going to be relatively safe havens compared with Western currencies, because they are not going to blow up their solvent balance sheets bailing out banks. And basically, on a five-year view, I'm expecting investors to lose confidence in Western paper currencies.
Tell us about Taiwan.
This is a specific story that has nothing to do with the general Asian theme, based on political developments. Sooner or later, you will see a formal end of hostilities or tensions between China and Taiwan, which will lead to a dramatic improvement in economic links. That will lead to a huge rerating in equity prices in Taiwan, and probably also an appreciation of the [New Taiwan] dollar. Over the past year you've already seen pretty significant developments, most importantly a growing number of direct flights. On a five year view, I'd expect more integration: Chinese banks would be able to function in Taiwan and vice versa, growing investments by big Chinese companies in Taiwan, and Taiwan companies integrating their China operations into reported results. This is a very good story and people should buy Taiwan on pullbacks if they don't already own it, and take a long-term bullish view of the NT$.
How about Japan, which votes in a parliamentary election on August 30?
It isn't an emerging market. But if the DPJ [Democratic Party of Japan] does win the election as expected, that can only be a potential positive. It creates the hope of change and [of] a more domestic-demand-driven policy.
If the equity-market rally keeps going, Japan is overdue some outperformance, particularly the exporters, which are actually doing some genuine cost-cutting. But it has all kinds of structural issues that the rest of Asia doesn't have. The most interesting domestic sector in Japan is the real-estate investment trusts, like Japan Prime Realty [8955.Japan] and the Japan Retail Fund [8953.Japan]. The REITs have distressed valuations and very high yields -- 6% to 9% -- relative to very low Japanese interest rates. And the government is now supporting the sector.
Thank you.
Wednesday, August 19, 2009
Money Confidential
I will have Wayne Jett on my show on September 2. It shoots live at Santa Monica City Hall at 2:00 pm. Let me know if you'd like to attend.
Holmes
WAYNE JETT is managing principal and chief economist of Classical Capital LLC, a San Marino CA registered investment advisor engaged in economic analysis. Since 2005, he has spoken to chartered financial analysts across the U. S. and in Canada on topics of monetary policy reform and U. S. financial markets. He speaks in support of the Fair Tax Act reform of federal taxes with comments titled “The Trillion Dollar Sure Thing.” His 2000 book A General Theory of Acquisitivity buttresses free markets with theoretical, moral and ethical underpinnings. In private law practice 1970-1999, he argued cases in the Supreme Court of the United States, the U. S. Court of Appeals, and the federal and state trial and appellate courts. He has led seminars in supply-side economics for CFA Society of Los Angeles and for Security Analysts of San Francisco, and speaks and writes on constitutional and economic topics. Classical Capital LLC sponsors a website called The Fruits of GraftTM, which is the title of his recently completed book explaining the causes of the Crash of 1929, the Great Depression and the current economic collapse. Email: wjett@socal.rr.com
Holmes
WAYNE JETT is managing principal and chief economist of Classical Capital LLC, a San Marino CA registered investment advisor engaged in economic analysis. Since 2005, he has spoken to chartered financial analysts across the U. S. and in Canada on topics of monetary policy reform and U. S. financial markets. He speaks in support of the Fair Tax Act reform of federal taxes with comments titled “The Trillion Dollar Sure Thing.” His 2000 book A General Theory of Acquisitivity buttresses free markets with theoretical, moral and ethical underpinnings. In private law practice 1970-1999, he argued cases in the Supreme Court of the United States, the U. S. Court of Appeals, and the federal and state trial and appellate courts. He has led seminars in supply-side economics for CFA Society of Los Angeles and for Security Analysts of San Francisco, and speaks and writes on constitutional and economic topics. Classical Capital LLC sponsors a website called The Fruits of GraftTM, which is the title of his recently completed book explaining the causes of the Crash of 1929, the Great Depression and the current economic collapse. Email: wjett@socal.rr.com
Monday, July 27, 2009
Market Manipulation
Karl Denniger at the Market Ticker writes that Duhigg has “blown the cover off the dark art” but thinks that the traders’ computer speed isn’t most important advantage they have. Rather, he says, the “algos,” rather than providing liquidity as they are supposed to, intentionally probe “the market with tiny orders that were immediately canceled in a scheme to gain an illegal view into the other side’s willingness to pay.” He explains:
Let’s say that there is a buyer willing to buy 100,000 shares of BRCM with a limit price of $26.40. That is, the buyer will accept any price up to $26.40.
But the market at this particular moment in time is at $26.10, or thirty cents lower.
So the computers, having detected via their “flash orders” (which ought to be illegal) that there is a desire for Broadcom shares, start to issue tiny (typically 100 share lots) “immediate or cancel” orders - IOCs - to sell at $26.20. If that order is “eaten” the computer then issues an order at $26.25, then $26.30, then $26.35, then $26.40. When it tries $26.45 it gets no bite and the order is immediately canceled.
Now the flush of supply comes at, big coincidence, $26.39, and the claim is made that the market has become “more efficient.”
Nonsense; there was no “real seller” at any of these prices! This pattern of offering was intended to do one and only one thing - manipulate the market by discovering what is supposed to be a hidden piece of information - the other side’s limit price!
With normal order queues and flows the person with the limit order would see the offer at $26.20 and might drop his limit. But the computers are so fast that unless you own one of the same speed you have no chance to do this - your order is immediately “raped” at the full limit price … as the fill price is in fact 30 cents a share away from where the market actually is.
A couple of years ago if you entered a limit order for $26.40 with the market at $26.10 odds are excellent that most of your order would have filled down near where the market was when you entered the order - $26.10. Today, odds are excellent that most of your order will fill at $26.39, and the HFT firms will claim this is an “efficient market.” The truth is that you got screwed for 29 cents per share which was quite literally stolen by the HFT firms that probed your book before you could detect the activity, determined your maximum price, and then sold to you as close to your maximum price as was possible.
Even if such trading isn’t illegal or inherently vile, Brett Steenbarger of TraderFeed notes, it certainly makes life hard for day-traders and others with slower access to data.
Because the high-speed algos are buying and selling quickly as a rule, their effects on the markets longer-term are unclear. A stock may still travel from point A to point B, but the computers will affect the path from A to B. This may help explain why traders I work with who are more selective in their intraday trades and who tend to hold for longer intraday swings on average have been doing better than very active daytraders.
When up to half of all stock market volume consists of these algorithmic trades, one has to wonder about the edge of very active traders. Interestingly, those that are successful may be trading new patterns that have emerged since the onslaught of the high-frequency computers. My hunch is that these new patterns would involve a keen reading of order flow, catching the shift in the bidding/offering and the location (bid/offer) of transactions in real time.
Let’s say that there is a buyer willing to buy 100,000 shares of BRCM with a limit price of $26.40. That is, the buyer will accept any price up to $26.40.
But the market at this particular moment in time is at $26.10, or thirty cents lower.
So the computers, having detected via their “flash orders” (which ought to be illegal) that there is a desire for Broadcom shares, start to issue tiny (typically 100 share lots) “immediate or cancel” orders - IOCs - to sell at $26.20. If that order is “eaten” the computer then issues an order at $26.25, then $26.30, then $26.35, then $26.40. When it tries $26.45 it gets no bite and the order is immediately canceled.
Now the flush of supply comes at, big coincidence, $26.39, and the claim is made that the market has become “more efficient.”
Nonsense; there was no “real seller” at any of these prices! This pattern of offering was intended to do one and only one thing - manipulate the market by discovering what is supposed to be a hidden piece of information - the other side’s limit price!
With normal order queues and flows the person with the limit order would see the offer at $26.20 and might drop his limit. But the computers are so fast that unless you own one of the same speed you have no chance to do this - your order is immediately “raped” at the full limit price … as the fill price is in fact 30 cents a share away from where the market actually is.
A couple of years ago if you entered a limit order for $26.40 with the market at $26.10 odds are excellent that most of your order would have filled down near where the market was when you entered the order - $26.10. Today, odds are excellent that most of your order will fill at $26.39, and the HFT firms will claim this is an “efficient market.” The truth is that you got screwed for 29 cents per share which was quite literally stolen by the HFT firms that probed your book before you could detect the activity, determined your maximum price, and then sold to you as close to your maximum price as was possible.
Even if such trading isn’t illegal or inherently vile, Brett Steenbarger of TraderFeed notes, it certainly makes life hard for day-traders and others with slower access to data.
Because the high-speed algos are buying and selling quickly as a rule, their effects on the markets longer-term are unclear. A stock may still travel from point A to point B, but the computers will affect the path from A to B. This may help explain why traders I work with who are more selective in their intraday trades and who tend to hold for longer intraday swings on average have been doing better than very active daytraders.
When up to half of all stock market volume consists of these algorithmic trades, one has to wonder about the edge of very active traders. Interestingly, those that are successful may be trading new patterns that have emerged since the onslaught of the high-frequency computers. My hunch is that these new patterns would involve a keen reading of order flow, catching the shift in the bidding/offering and the location (bid/offer) of transactions in real time.
Thursday, July 16, 2009
Bob Rodriguez on WeathTrack
Consuelo Mack WealthTrack - July 10, 2009
CONSUELO MACK: This week on WealthTrack's "Great Investors" series: he races Porsches for fun and runs top performing stock and bond funds for his profession. What makes First Pacific Advisors' Robert Rodriguez step on the investment brakes or the accelerator? That's next on Consuelo Mack WealthTrack.
Hello and welcome to this "Great Investors" edition of WealthTrack. I'm Consuelo Mack. This week our great investor is Robert Rodriguez, a maverick money manager who has accomplished a feat no one else has. For the last 25 years, he has run not one but two top performing mutual funds, in not one but two asset classes, a stock fund and a bond fund. As widely followed personal finance columnist Jason Zweig put it, that is the investing equivalent of running two marathons at the same time, which is why Zweig calls him the best fund manager of our time.
Rodriguez is the CEO of Los Angeles-based First Pacific Advisors and co-portfolio manager of FPA Capital, a mid cap value fund, and FPA New Income, his bond fund, which just celebrated its 25th year in positive territory. Last year he and his co-manager Tom Atteberry were named Morningstar's fixed income managers of the year for their outstanding long-term stewardship. It is an honor Rodriguez has won two other times as well for both the stock and the bond fund, making him only the second fund manager to be honored three times. The first was last week's great investor, Bill Gross.
Rodriguez, who races Porsches as a hobby, has a high octane personality but a low tolerance for investment pain. He knows what it is like to lose. A first generation American, his paternal grandparents lost everything in the Mexican Civil War of 1910. His grandfather did not survive the war. His grandmother and six children nearly starved to death. It took them almost six years to come to the United States legally, a route his grandmother insisted on taking so her children could walk down the street with their heads held high.
Throughout his 39-year investment career, Rodriguez has taken the high integrity path, sometimes to his business detriment. He was one of the first to rail against the dot-com and credit bubbles, raising large defensive cash positions, early moves that lost him clients. He is an outspoken critic of the U.S. government's stimulus packages, burgeoning debt levels and business intervention. Four years ago he moved from California to Nevada to protest the golden state's budget excesses and income taxes, the highest in the nation. And he does not mince words in criticizing Wall Street and the mutual fund industry. In a wide ranging interview, I asked Rodriguez about his exceptional track record which he attributes to discipline and the ability to balance fear and greed.
ROBERT RODRIGUEZ: I think we have a healthy dose here of skepticism about our capabilities. When you've had some serious failures, it forces you to look inwardly, and I don't know of too many organizations where an investment professional puts his worst investment failure on his website. And it just tells you that no matter how skilled you are in this field, there are new ways to snatch defeat from the jaws of victory. So you have to balance these things. And we test ourselves daily on this, whether we're correct in our assumptions, but we don't want to let the day-to-day machinations in the marketplace disturb our long-term thinking.
CONSUELO MACK: You had in the Income Fund, you had your 25th straight up year, which is just unheard of. But in the FPA Capital Fund, in the stock fund, you had your worst year ever, down 35%, so what did you learn from last year?
ROBERT RODRIGUEZ: Well, we did as much as we could. I felt that by June of '08 there was nothing more we could do.
CONSUELO MACK: You had raised 45% cash?
ROBERT RODRIGUEZ: 45% cash, we're getting redeemed, you can't really take it any higher because the more higher you go, the faster the money goes out. So you have to strike a balance. And our largest exposure was to energy. We have a five and ten year horizon on, that we've been in the field for ten years after my being out of the sector for nearly 18 years. So there's the long-term view versus the short-term risk. And we did reduce our exposure in energy, prior to going into it. And we said now it's up to the gods. They went down with the market very hard and the first phase of an economic or stock market debacle, everything goes down. Then in the second phase they start to separate and in the third phase you start to see what really is going to work. Well, this year I would say what was taken away from us last year has been, a large part, has been given back to us this year for the right reasons. And so I have to think probably look at both years combined to say, all right, how did you go through this cycle, how did the others go through this? And then over the next five years, is your analysis correct? We happen to think it is, and if we are then our shareholders will be rewarded for that.
CONSUELO MACK: You've quoted in one of your speeches and one of your shareholder letters too that legendary economist John Maynard Keynes describing the long-term investor as eccentric, unconventional and rash in the eyes of the average opinion, which fits you to a tee, actually. So where does the eccentric and unconventional side of Bob Rodriguez come from? Where did you get this?
ROBERT RODRIGUEZ: I really don't like following the norm. If I follow the norm, I would never have been in this business. My last name is not a competitive advantage when I entered the field, and had to knock down a lot of doors, and you had to do things to separate yourself from the crowd, so that all started way back when I was very young. My first time I got anything to do with the investment field was writing a letter to the Federal Reserve chairman when I was ten. It was a school assignment.
CONSUELO MACK: And he wrote you back.
ROBERT RODRIGUEZ: And he wrote me back, and I said gee that's kind of neat, how many people would do that. What's the down side? So I started thinking differently about what the norm is, and then how can you turn that to your competitive advantage? So it's always been that way. I would say when I was in graduate school or just going into graduate school, I discovered Graham and Dodd during the summer before I was coming back to graduate school. And it really struck home, and I had the good fortune of meeting Charlie Munger in our investment course there.
CONSUELO MACK: Warren Buffett's kind of unknown partner.
ROBERT RODRIGUEZ: As Warren Buffett says, he's the smart one. And after the class I asked him, I said what can I do to make myself a better investor, beyond just what I'm doing here and researching, et cetera? And he said, read history. Read history. Read history. And if people had read history about the economic crises of before, not only the depression but even before then, they would have said this is an old friend, and so that helped. It's come from a number of different parts, but I think really not being afraid to fail and be different. That's what it took in order to differentiate in this business.
I had a friend of mine who was a growth stock manager who got just before the debacle of 2000, we were having lunch together in January of 2000 and he was buying all this dot com, and I said why are you buying this crap? And he says, because you have to, he says yes, if I don't buy it we won't be competitive. I said, but don't you realize, you are at the epicenter of a debacle that's going to occur? And when you get destroyed, you know, you could either have cash or you can buy these things. If you have cash, you get fired. If you buy the dot-com and it blows up, you get fired. So in both cases you're fired. What's the difference? Over here the one with the cash, where you held your investment discipline, you can rebuild your business. Over here, you've destroyed your credibility, you can never rebuild.
CONSUELO MACK: Let's talk about some of your unconventional current calls. You're describing the current economic state that we're in as a repression, which it's not as bad as the Great Depression, but it's also worse than a recession. Where is this repression taking us? What's it going to feel like?
ROBERT RODRIGUEZ: Here in the firm, we're using a new term for the economy. We're calling it the caterpillar economy. Where it goes up and goes down, goes up and goes down, but it doesn't move forward very fast, after this waterfall collapse that we had. And this is different from any other kind of economic environment that we've been in since the depression. You don't destroy the consumer's balance sheet, like what's gone on. You don't have the leverage in the system that we have and expect to come out of it the way we've come out of other periods. The president, I argue, that I think he's on the wrong road and when I compare him to let's say FDR. When he came into power, the debt to GDP was barely 17% when FDR came here, whereas now we're now at 65% going to 75, going to 90% this year.
CONSUELO MACK: IMF says 100 some odd percent?
ROBERT RODRIGUEZ: Right. And by the way, those numbers when FDR came into power did not include, because we didn't have any, entitlements. So if you add on the entitlements, it's even far larger. So as I've argued, we do not have the balance sheet flexibility today as we did in FDR's time. So if they want to go down, they being the Congress and the executive branch et cetera, and they want to build up these larger programs, they're going to come at a price. And in our opinion that price will be in the debt market, and in the Treasury market longer term. With higher interest rates.
CONSUELO MACK: Bob, you saw the credit crisis coming about five, at least five years ago. And at that time you predicted that there was a new financial system that was going to be created and a new era. So what's this new financial system that we can look forward to?
ROBERT RODRIGUEZ: I think, first of all, about four years ago we started talking about the breakdown in underwriting standards, et cetera. With the demise of Bear Stearns in March of last year, and what the response was by the federal government and the Fed, that's when we wrote "Crossing the Rubicon," that we had crossed over into a new financial era, a new system. And little did we know how far that was going to occur, within six months.
So we're still in this process of defining what this new system is. As a result, it is very difficult to define what appropriate valuation levels are going to be, because the goal posts keep getting moved. Look at Chrysler- we were extremely vehement against Chrysler and what happened there, where senior secured creditors were treated in such a shabby manner, it really ran over, you know, the sanctity of contract. So we're in a new system. That means the government is a larger percentage of GDP. The larger the percentage of GDP, the more likely GDP will grow at a substandard rate for an elongated period of time.
We're in the group, and I'm in the group, where the new world order that you were referring to, that I've referred to, is that the U.S. is going to have to change its economic system; that our foreign counterparts that have basically grown on the backs of U.S. consumer have got to turn inwardly for their growth. As a result, as they turn inwardly for their growth, such as China, the U.S. has to expand its exports. I don't see anything like that coming out of the administration or the incentives or anything else. As a result, the more the government takes a larger share of the economy, the likelihood we will be in a substandard period of growth and profit margins will also be substandard.
CONSUELO MACK: So how do you invest in an environment that is going to be substandard growth, that you don't know what the rules of the game are because you don't know what the government is going to do next, what do you do?
ROBERT RODRIGUEZ: It's going to be very hard. As a result, on the fixed income side, we're still maintaining our highest levels of quality. We haven't gone into the lower rungs of the high yield area, even though there's been big rungs there, because we think this is a head fake of what's going on in the economy and this rebound, the green shoots that people talk about. So we're going to stay high quality and let other people destroy themselves.
On the equity side, we think you have to be very focused in terms of the industries you go after. So we have a natural decline rate in, let's say energy, supplies of energy. So we think longer term- three, five, ten years. Energy prices are going to be considerably elevated from where they are today. So we have a heavy exposure there.
CONSUELO MACK: Heavy, like 55% of the FPA Capital Portfolio, is that right, is in energy?
ROBERT RODRIGUEZ: Well, about 41% of the total portfolio, about 55% of the equity. Okay. So we're looking for other areas to deploy capital that will both benefit from the international side but also from the commodities side.
So we see, you have to be rifle shooting over the course of the next five years or ten years, and that's why I gave a speech in Chicago at Morningstar that in my opinion, a highly diversified equity fund in this new order will be at a competitive disadvantage, especially if it carries management fees, et cetera, so you're going to have to do something different from the rest of the market in order to differentiate again, and that's what we're doing.
CONSUELO MACK: So let's talk about the investment industry, which you have been highly critical of, and the OPM attitude, "other people's money" attitude that you feel that the industry has been excessively greedy, not really paying attention to shareholders interests.
ROBERT RODRIGUEZ: Let's say abusive. I mean, how are mutual funds sold? They're brought out when the particular area is the hottest. So you sell what you can sell, and most of the time that is the absolute wrong time to be marketing that kind of product. So it's not investment oriented, it's marketing oriented. It's a marketing mindset, and as long as we have a marketing mindset in the industry and managers are fearful of under performing their bogey and having what we call tracking error where you deviate too far from your benchmark and god forbid you have too much volatility: all of these things will work to hit the industry. With this collapse, with the technology collapse and now with the credit collapse, the question I'm asking is: if active managers could not identify the two greatest speculative blowoffs in the last 75 years, when will they? And secondly, what are you buying from an active manager if they can't identify these things? You might as well go to an index.
CONSUELO MACK: Talk to me though about the shakeup that you think is going to happen in the mutual industry. Tell me what kind of a shakeout you expect.
ROBERT RODRIGUEZ: I just think that first of all, we have too many funds. When you sit there with 8,000 funds, and then you have 25 different share classes, it's quite complicated. And what is the investor getting for all of that? There's an expense to that, and the higher the expense in a lower return environment means you have less margin of safety for a total return.
CONSUELO MACK: So let's also talk about the fact that you are a long-term investor, but you told me that you look out-- some people say long term like a couple of years, you're really talking about five to nine years. And you made a decision about six years ago to take a sabbatical next year from your firm in 2010. And one of the reasons that you decided to take a sabbatical as well is because you looked out beyond the current crisis and you see something even bigger and scarier coming?
ROBERT RODRIGUEZ: I see another crisis coming.
CONSUELO MACK: What is that and like when?
ROBERT RODRIGUEZ: It's the explosion in the treasury debt, and the finances of this country. We still have time. But to, shall we say, become fiscally responsible. Am I optimistic about us doing that? No. You're residing in the state of California that I left here four years ago, because in my opinion, the system was fundamentally broken and the state was going to experience a devastating recession on the down side.
CONSUELO MACK: Which it is right now.
ROBERT RODRIGUEZ: Which it is right now. I believe the system in
Washington is fundamentally broken. And as a result, the explosion in dealt that I foresee in the next three years and if other programs are added on it will accelerate it, then I think we have a real problem brewing in our finances here. I'm estimating somewhere in the neighborhood of five to seven years from here.
CONSUELO MACK: Do you envision any time in FPA Income basically going out the risk curve a little bit? I mean, is there anything-- you've got about 90% in triple A rated securities in the portfolio?
ROBERT RODRIGUEZ: We are 22% in cash and we're barely over a one-year duration. We've had as much as 25% of the fund in high yield. We would love to go out on the risk curve. In the last six months, eight months, it's been highly profitable, just like the stock market has rallied. Is this sustainable? We don't think so. We think there's other dominos to fall that can disrupt this. So we don't like the odds. Plus in New Income, people come into the bond fund in New Income because they can trust it. It's when they couldn't trust virtually anything else in this country, other than Treasuries, our bond fund grew in the neighborhood of 60 to 80%. People came in because they could trust it. Well, here we are saying, how do we be good stewards going forward? Do we bet with other people's money or do we invest as if it's our money? That's what we're doing, we're waiting for that opportunity.
CONSUELO MACK: Bob, what's your advice to individual investors who have had severe wealth destruction in their investment portfolios over the last couple of years? How can they rebuild that kind of wealth loss?
ROBERT RODRIGUEZ: I wish there was an easy, nice comforting answer to it. Unfortunately, there isn't. In my opinion it will take probably upwards of eight or ten years for the S&P 500 to get back to where it was in October of '07. And thus there has been severe capital destruction, and for some it's permanent because of where they are in their life cycle. If you're in your 20s and 30s and 40s, you have the benefit of time. If you're in your 60s and you're part of the baby boom generation and you got destroyed, guess what, you better be working. You better find a job. Those things there. You move in, you may become a renter out there.
CONSUELO MACK: If can you sell your house.
ROBERT RODRIGUEZ: Well no, the house gets taken, at least if they would allow it to go. But there is no God given right to an easy retirement. It was a fool's paradise out there. My parents and grandparents did not have an easy retirement. The world is unsafe and unstable. We had in this country, I believe, a perverse view of what reality truly was, and now that veil is being lifted, and I'm sorry, but it's going to take a long time and that nice retirement home or continuous vacations may not be there.
CONSUELO MACK: You told me that you see things that other people don't see.
ROBERT RODRIGUEZ: Sometimes.
CONSUELO MACK: So what are you seeing now that other people aren't seeing?
ROBERT RODRIGUEZ: I think the difference is many of us see the buildup of federal liabilities. But there's this feeling, well, it'll be okay, we'll get through it. Well, that was the same not too long ago when the house prices were going through and people would raise the question, what happens if housing prices get hit? Don't worry about it, we'll get through it. There's always that element. So I think the question is, as you have to place the odds, what are the odds that we'll get through this with the least amount of pain? I think that's where the difference comes.
If you want to be on the optimistic side and say we'll get through it and you're wrong, your shareholders pay for it and your clients pay for it. If we're right and we've done our job correctly, we protect capital in the negative side, and if we're wrong, we just don't earn as much as our competition. I think that's a better combination than destroying your clients and saying, well, we'll go out and get some more new clients out there. I don't like that one.
CONSUELO MACK: That's a great way actually to end the interview. So Bob Rodriguez, thank you so much for giving us your time.
ROBERT RODRIGUEZ: Thank you.
CONSUELO MACK: Next week in our "Great Investors" series, we are devoting our program to the late Peter Bernstein, one of the giants of the financial world who died in June at the age of 90. Bernstein, an economist, historian and seminal financial thinker and prolific author, appeared on WealthTrack exclusively several times. Next week we share his timeless wisdom.
In the meantime, to access the collective wisdom of our other great investors, go to our website, weathtrack.com. Have a great weekend and make the week ahead a profitable and a productive one.
CONSUELO MACK: This week on WealthTrack's "Great Investors" series: he races Porsches for fun and runs top performing stock and bond funds for his profession. What makes First Pacific Advisors' Robert Rodriguez step on the investment brakes or the accelerator? That's next on Consuelo Mack WealthTrack.
Hello and welcome to this "Great Investors" edition of WealthTrack. I'm Consuelo Mack. This week our great investor is Robert Rodriguez, a maverick money manager who has accomplished a feat no one else has. For the last 25 years, he has run not one but two top performing mutual funds, in not one but two asset classes, a stock fund and a bond fund. As widely followed personal finance columnist Jason Zweig put it, that is the investing equivalent of running two marathons at the same time, which is why Zweig calls him the best fund manager of our time.
Rodriguez is the CEO of Los Angeles-based First Pacific Advisors and co-portfolio manager of FPA Capital, a mid cap value fund, and FPA New Income, his bond fund, which just celebrated its 25th year in positive territory. Last year he and his co-manager Tom Atteberry were named Morningstar's fixed income managers of the year for their outstanding long-term stewardship. It is an honor Rodriguez has won two other times as well for both the stock and the bond fund, making him only the second fund manager to be honored three times. The first was last week's great investor, Bill Gross.
Rodriguez, who races Porsches as a hobby, has a high octane personality but a low tolerance for investment pain. He knows what it is like to lose. A first generation American, his paternal grandparents lost everything in the Mexican Civil War of 1910. His grandfather did not survive the war. His grandmother and six children nearly starved to death. It took them almost six years to come to the United States legally, a route his grandmother insisted on taking so her children could walk down the street with their heads held high.
Throughout his 39-year investment career, Rodriguez has taken the high integrity path, sometimes to his business detriment. He was one of the first to rail against the dot-com and credit bubbles, raising large defensive cash positions, early moves that lost him clients. He is an outspoken critic of the U.S. government's stimulus packages, burgeoning debt levels and business intervention. Four years ago he moved from California to Nevada to protest the golden state's budget excesses and income taxes, the highest in the nation. And he does not mince words in criticizing Wall Street and the mutual fund industry. In a wide ranging interview, I asked Rodriguez about his exceptional track record which he attributes to discipline and the ability to balance fear and greed.
ROBERT RODRIGUEZ: I think we have a healthy dose here of skepticism about our capabilities. When you've had some serious failures, it forces you to look inwardly, and I don't know of too many organizations where an investment professional puts his worst investment failure on his website. And it just tells you that no matter how skilled you are in this field, there are new ways to snatch defeat from the jaws of victory. So you have to balance these things. And we test ourselves daily on this, whether we're correct in our assumptions, but we don't want to let the day-to-day machinations in the marketplace disturb our long-term thinking.
CONSUELO MACK: You had in the Income Fund, you had your 25th straight up year, which is just unheard of. But in the FPA Capital Fund, in the stock fund, you had your worst year ever, down 35%, so what did you learn from last year?
ROBERT RODRIGUEZ: Well, we did as much as we could. I felt that by June of '08 there was nothing more we could do.
CONSUELO MACK: You had raised 45% cash?
ROBERT RODRIGUEZ: 45% cash, we're getting redeemed, you can't really take it any higher because the more higher you go, the faster the money goes out. So you have to strike a balance. And our largest exposure was to energy. We have a five and ten year horizon on, that we've been in the field for ten years after my being out of the sector for nearly 18 years. So there's the long-term view versus the short-term risk. And we did reduce our exposure in energy, prior to going into it. And we said now it's up to the gods. They went down with the market very hard and the first phase of an economic or stock market debacle, everything goes down. Then in the second phase they start to separate and in the third phase you start to see what really is going to work. Well, this year I would say what was taken away from us last year has been, a large part, has been given back to us this year for the right reasons. And so I have to think probably look at both years combined to say, all right, how did you go through this cycle, how did the others go through this? And then over the next five years, is your analysis correct? We happen to think it is, and if we are then our shareholders will be rewarded for that.
CONSUELO MACK: You've quoted in one of your speeches and one of your shareholder letters too that legendary economist John Maynard Keynes describing the long-term investor as eccentric, unconventional and rash in the eyes of the average opinion, which fits you to a tee, actually. So where does the eccentric and unconventional side of Bob Rodriguez come from? Where did you get this?
ROBERT RODRIGUEZ: I really don't like following the norm. If I follow the norm, I would never have been in this business. My last name is not a competitive advantage when I entered the field, and had to knock down a lot of doors, and you had to do things to separate yourself from the crowd, so that all started way back when I was very young. My first time I got anything to do with the investment field was writing a letter to the Federal Reserve chairman when I was ten. It was a school assignment.
CONSUELO MACK: And he wrote you back.
ROBERT RODRIGUEZ: And he wrote me back, and I said gee that's kind of neat, how many people would do that. What's the down side? So I started thinking differently about what the norm is, and then how can you turn that to your competitive advantage? So it's always been that way. I would say when I was in graduate school or just going into graduate school, I discovered Graham and Dodd during the summer before I was coming back to graduate school. And it really struck home, and I had the good fortune of meeting Charlie Munger in our investment course there.
CONSUELO MACK: Warren Buffett's kind of unknown partner.
ROBERT RODRIGUEZ: As Warren Buffett says, he's the smart one. And after the class I asked him, I said what can I do to make myself a better investor, beyond just what I'm doing here and researching, et cetera? And he said, read history. Read history. Read history. And if people had read history about the economic crises of before, not only the depression but even before then, they would have said this is an old friend, and so that helped. It's come from a number of different parts, but I think really not being afraid to fail and be different. That's what it took in order to differentiate in this business.
I had a friend of mine who was a growth stock manager who got just before the debacle of 2000, we were having lunch together in January of 2000 and he was buying all this dot com, and I said why are you buying this crap? And he says, because you have to, he says yes, if I don't buy it we won't be competitive. I said, but don't you realize, you are at the epicenter of a debacle that's going to occur? And when you get destroyed, you know, you could either have cash or you can buy these things. If you have cash, you get fired. If you buy the dot-com and it blows up, you get fired. So in both cases you're fired. What's the difference? Over here the one with the cash, where you held your investment discipline, you can rebuild your business. Over here, you've destroyed your credibility, you can never rebuild.
CONSUELO MACK: Let's talk about some of your unconventional current calls. You're describing the current economic state that we're in as a repression, which it's not as bad as the Great Depression, but it's also worse than a recession. Where is this repression taking us? What's it going to feel like?
ROBERT RODRIGUEZ: Here in the firm, we're using a new term for the economy. We're calling it the caterpillar economy. Where it goes up and goes down, goes up and goes down, but it doesn't move forward very fast, after this waterfall collapse that we had. And this is different from any other kind of economic environment that we've been in since the depression. You don't destroy the consumer's balance sheet, like what's gone on. You don't have the leverage in the system that we have and expect to come out of it the way we've come out of other periods. The president, I argue, that I think he's on the wrong road and when I compare him to let's say FDR. When he came into power, the debt to GDP was barely 17% when FDR came here, whereas now we're now at 65% going to 75, going to 90% this year.
CONSUELO MACK: IMF says 100 some odd percent?
ROBERT RODRIGUEZ: Right. And by the way, those numbers when FDR came into power did not include, because we didn't have any, entitlements. So if you add on the entitlements, it's even far larger. So as I've argued, we do not have the balance sheet flexibility today as we did in FDR's time. So if they want to go down, they being the Congress and the executive branch et cetera, and they want to build up these larger programs, they're going to come at a price. And in our opinion that price will be in the debt market, and in the Treasury market longer term. With higher interest rates.
CONSUELO MACK: Bob, you saw the credit crisis coming about five, at least five years ago. And at that time you predicted that there was a new financial system that was going to be created and a new era. So what's this new financial system that we can look forward to?
ROBERT RODRIGUEZ: I think, first of all, about four years ago we started talking about the breakdown in underwriting standards, et cetera. With the demise of Bear Stearns in March of last year, and what the response was by the federal government and the Fed, that's when we wrote "Crossing the Rubicon," that we had crossed over into a new financial era, a new system. And little did we know how far that was going to occur, within six months.
So we're still in this process of defining what this new system is. As a result, it is very difficult to define what appropriate valuation levels are going to be, because the goal posts keep getting moved. Look at Chrysler- we were extremely vehement against Chrysler and what happened there, where senior secured creditors were treated in such a shabby manner, it really ran over, you know, the sanctity of contract. So we're in a new system. That means the government is a larger percentage of GDP. The larger the percentage of GDP, the more likely GDP will grow at a substandard rate for an elongated period of time.
We're in the group, and I'm in the group, where the new world order that you were referring to, that I've referred to, is that the U.S. is going to have to change its economic system; that our foreign counterparts that have basically grown on the backs of U.S. consumer have got to turn inwardly for their growth. As a result, as they turn inwardly for their growth, such as China, the U.S. has to expand its exports. I don't see anything like that coming out of the administration or the incentives or anything else. As a result, the more the government takes a larger share of the economy, the likelihood we will be in a substandard period of growth and profit margins will also be substandard.
CONSUELO MACK: So how do you invest in an environment that is going to be substandard growth, that you don't know what the rules of the game are because you don't know what the government is going to do next, what do you do?
ROBERT RODRIGUEZ: It's going to be very hard. As a result, on the fixed income side, we're still maintaining our highest levels of quality. We haven't gone into the lower rungs of the high yield area, even though there's been big rungs there, because we think this is a head fake of what's going on in the economy and this rebound, the green shoots that people talk about. So we're going to stay high quality and let other people destroy themselves.
On the equity side, we think you have to be very focused in terms of the industries you go after. So we have a natural decline rate in, let's say energy, supplies of energy. So we think longer term- three, five, ten years. Energy prices are going to be considerably elevated from where they are today. So we have a heavy exposure there.
CONSUELO MACK: Heavy, like 55% of the FPA Capital Portfolio, is that right, is in energy?
ROBERT RODRIGUEZ: Well, about 41% of the total portfolio, about 55% of the equity. Okay. So we're looking for other areas to deploy capital that will both benefit from the international side but also from the commodities side.
So we see, you have to be rifle shooting over the course of the next five years or ten years, and that's why I gave a speech in Chicago at Morningstar that in my opinion, a highly diversified equity fund in this new order will be at a competitive disadvantage, especially if it carries management fees, et cetera, so you're going to have to do something different from the rest of the market in order to differentiate again, and that's what we're doing.
CONSUELO MACK: So let's talk about the investment industry, which you have been highly critical of, and the OPM attitude, "other people's money" attitude that you feel that the industry has been excessively greedy, not really paying attention to shareholders interests.
ROBERT RODRIGUEZ: Let's say abusive. I mean, how are mutual funds sold? They're brought out when the particular area is the hottest. So you sell what you can sell, and most of the time that is the absolute wrong time to be marketing that kind of product. So it's not investment oriented, it's marketing oriented. It's a marketing mindset, and as long as we have a marketing mindset in the industry and managers are fearful of under performing their bogey and having what we call tracking error where you deviate too far from your benchmark and god forbid you have too much volatility: all of these things will work to hit the industry. With this collapse, with the technology collapse and now with the credit collapse, the question I'm asking is: if active managers could not identify the two greatest speculative blowoffs in the last 75 years, when will they? And secondly, what are you buying from an active manager if they can't identify these things? You might as well go to an index.
CONSUELO MACK: Talk to me though about the shakeup that you think is going to happen in the mutual industry. Tell me what kind of a shakeout you expect.
ROBERT RODRIGUEZ: I just think that first of all, we have too many funds. When you sit there with 8,000 funds, and then you have 25 different share classes, it's quite complicated. And what is the investor getting for all of that? There's an expense to that, and the higher the expense in a lower return environment means you have less margin of safety for a total return.
CONSUELO MACK: So let's also talk about the fact that you are a long-term investor, but you told me that you look out-- some people say long term like a couple of years, you're really talking about five to nine years. And you made a decision about six years ago to take a sabbatical next year from your firm in 2010. And one of the reasons that you decided to take a sabbatical as well is because you looked out beyond the current crisis and you see something even bigger and scarier coming?
ROBERT RODRIGUEZ: I see another crisis coming.
CONSUELO MACK: What is that and like when?
ROBERT RODRIGUEZ: It's the explosion in the treasury debt, and the finances of this country. We still have time. But to, shall we say, become fiscally responsible. Am I optimistic about us doing that? No. You're residing in the state of California that I left here four years ago, because in my opinion, the system was fundamentally broken and the state was going to experience a devastating recession on the down side.
CONSUELO MACK: Which it is right now.
ROBERT RODRIGUEZ: Which it is right now. I believe the system in
Washington is fundamentally broken. And as a result, the explosion in dealt that I foresee in the next three years and if other programs are added on it will accelerate it, then I think we have a real problem brewing in our finances here. I'm estimating somewhere in the neighborhood of five to seven years from here.
CONSUELO MACK: Do you envision any time in FPA Income basically going out the risk curve a little bit? I mean, is there anything-- you've got about 90% in triple A rated securities in the portfolio?
ROBERT RODRIGUEZ: We are 22% in cash and we're barely over a one-year duration. We've had as much as 25% of the fund in high yield. We would love to go out on the risk curve. In the last six months, eight months, it's been highly profitable, just like the stock market has rallied. Is this sustainable? We don't think so. We think there's other dominos to fall that can disrupt this. So we don't like the odds. Plus in New Income, people come into the bond fund in New Income because they can trust it. It's when they couldn't trust virtually anything else in this country, other than Treasuries, our bond fund grew in the neighborhood of 60 to 80%. People came in because they could trust it. Well, here we are saying, how do we be good stewards going forward? Do we bet with other people's money or do we invest as if it's our money? That's what we're doing, we're waiting for that opportunity.
CONSUELO MACK: Bob, what's your advice to individual investors who have had severe wealth destruction in their investment portfolios over the last couple of years? How can they rebuild that kind of wealth loss?
ROBERT RODRIGUEZ: I wish there was an easy, nice comforting answer to it. Unfortunately, there isn't. In my opinion it will take probably upwards of eight or ten years for the S&P 500 to get back to where it was in October of '07. And thus there has been severe capital destruction, and for some it's permanent because of where they are in their life cycle. If you're in your 20s and 30s and 40s, you have the benefit of time. If you're in your 60s and you're part of the baby boom generation and you got destroyed, guess what, you better be working. You better find a job. Those things there. You move in, you may become a renter out there.
CONSUELO MACK: If can you sell your house.
ROBERT RODRIGUEZ: Well no, the house gets taken, at least if they would allow it to go. But there is no God given right to an easy retirement. It was a fool's paradise out there. My parents and grandparents did not have an easy retirement. The world is unsafe and unstable. We had in this country, I believe, a perverse view of what reality truly was, and now that veil is being lifted, and I'm sorry, but it's going to take a long time and that nice retirement home or continuous vacations may not be there.
CONSUELO MACK: You told me that you see things that other people don't see.
ROBERT RODRIGUEZ: Sometimes.
CONSUELO MACK: So what are you seeing now that other people aren't seeing?
ROBERT RODRIGUEZ: I think the difference is many of us see the buildup of federal liabilities. But there's this feeling, well, it'll be okay, we'll get through it. Well, that was the same not too long ago when the house prices were going through and people would raise the question, what happens if housing prices get hit? Don't worry about it, we'll get through it. There's always that element. So I think the question is, as you have to place the odds, what are the odds that we'll get through this with the least amount of pain? I think that's where the difference comes.
If you want to be on the optimistic side and say we'll get through it and you're wrong, your shareholders pay for it and your clients pay for it. If we're right and we've done our job correctly, we protect capital in the negative side, and if we're wrong, we just don't earn as much as our competition. I think that's a better combination than destroying your clients and saying, well, we'll go out and get some more new clients out there. I don't like that one.
CONSUELO MACK: That's a great way actually to end the interview. So Bob Rodriguez, thank you so much for giving us your time.
ROBERT RODRIGUEZ: Thank you.
CONSUELO MACK: Next week in our "Great Investors" series, we are devoting our program to the late Peter Bernstein, one of the giants of the financial world who died in June at the age of 90. Bernstein, an economist, historian and seminal financial thinker and prolific author, appeared on WealthTrack exclusively several times. Next week we share his timeless wisdom.
In the meantime, to access the collective wisdom of our other great investors, go to our website, weathtrack.com. Have a great weekend and make the week ahead a profitable and a productive one.
Ron Paul Thoughts
US REPRESENTATIVE RON PAUL HAS PRUDENT THOUGHTS ON HOW TO FIX THE ECONOMY. I AGREE WITH MANY OF THE THINGS HE SAYS. HOWEVER, WE WON'T BE GOING BACK TO THE GOLD STANDARD. IF WE STOPPED PRINTING MONEY, IT WOULD ACHIEVE THE SAME THING.
How a "Very Pessimistic" Ron Paul Would Fix the Economy
Posted Jul 16, 2009 11:20am EDT by Aaron Task in Newsmakers, Recession, Banking
Long a proponent of small government and a staunch opponent of the Federal Reserve system, Paul's main point is that increased spending and higher deficits are not the solution to our problems, but their cause.
"You can take care of people, but never with a deficit, never by expanding the spending," the Texas Republican says in this exclusive video interview, taped in the Capitol Hill Rotunda in Washington D.C. "The more we do to interfere with the correction - the longer it lasts."
Had he been elected, Paul said he would be doing "a lot less" than President Obama and blames Keynesian economics - which advocates increased government borrowing and spending during times of duress -- for our nation's current ills.
While admitting a transition to what he views an "ideal society" won't be quick or simple, Paul's economic prescription includes:
* Allowing bankruptcies to occur vs. rewarding failure with bailouts.
* Stop inflation by dismantling the Fed and returning to the gold standard.
* Encourage savings and liquidate debt.
* Deregulate.
* Give tax credits to those who take care of themselves, or the doctors who provide their care.
* Cut government spending, especially on international endeavors. "We spend hundreds of billions of maintaining our empire around the world. Let's bring that money home," he says.
These recommendations will be familiar to anyone who followed (or supported) Paul's run for the Presidency in 2008. Given all that's transpired in the past year, one suspects he'd be getting a lot more votes if the campaign were happening today.
How a "Very Pessimistic" Ron Paul Would Fix the Economy
Posted Jul 16, 2009 11:20am EDT by Aaron Task in Newsmakers, Recession, Banking
Long a proponent of small government and a staunch opponent of the Federal Reserve system, Paul's main point is that increased spending and higher deficits are not the solution to our problems, but their cause.
"You can take care of people, but never with a deficit, never by expanding the spending," the Texas Republican says in this exclusive video interview, taped in the Capitol Hill Rotunda in Washington D.C. "The more we do to interfere with the correction - the longer it lasts."
Had he been elected, Paul said he would be doing "a lot less" than President Obama and blames Keynesian economics - which advocates increased government borrowing and spending during times of duress -- for our nation's current ills.
While admitting a transition to what he views an "ideal society" won't be quick or simple, Paul's economic prescription includes:
* Allowing bankruptcies to occur vs. rewarding failure with bailouts.
* Stop inflation by dismantling the Fed and returning to the gold standard.
* Encourage savings and liquidate debt.
* Deregulate.
* Give tax credits to those who take care of themselves, or the doctors who provide their care.
* Cut government spending, especially on international endeavors. "We spend hundreds of billions of maintaining our empire around the world. Let's bring that money home," he says.
These recommendations will be familiar to anyone who followed (or supported) Paul's run for the Presidency in 2008. Given all that's transpired in the past year, one suspects he'd be getting a lot more votes if the campaign were happening today.
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