Historically, these events tend to help equities.
You may have heard that stocks tend to rally in fall and winter. That has often been the case. In fact, the S&P 500 and the Dow have gained repeatedly after the elections occurring in the third year of a first-term presidency.
These elections seem to elate Wall Street. While past performance is no indication of future success, consider this: Wall Street has witnessed rallies after every mid-term election since 1942.1
The Leuthold Group, a Minneapolis-based investment research firm, has determined that the S&P 500 has gained an average of 18.3% in the 200 days following such elections. Widening the window of time, Goldman Sachs finds that the S&P has averaged an 18.1% advance during the 12 months following each of the 15 mid-term elections since 1950. (The gain averages 11.0% when control of Congress changes hands.)1,2
Consider another intriguing statistic regarding mid-term election years: in the five instances since 1942 when an incumbent first-term president was a Democrat, the S&P 500 has gained an average of 21.3% for the year.3
The Dow may get a tailwind from the “third-year effect”. Since 1945, the third year of a presidential election cycle has tended to be very positive for the Dow. As MarketWatch columnist Mark Hulbert noted recently, the DJIA has averaged +24.7% in such 12-month periods (usually measured in fiscal years, i.e., 4Q-1Q-2Q-3Q) since the end of World War II. In fact, the Dow’s average returns in other fiscal years of a presidential term have been puny in comparison: +4.0% in year one, +1.9% in year two and +3.3% in year four.4
Last month, Standard & Poor’s chief investment strategist Sam Stovall told the Wall Street Journal that the DJIA has risen an average of 17.1% in calendar years following mid-term elections since 1945, with less than 10% of these years seeing selloffs.5
Will 2010 follow the historical pattern? Excellent question – after all, no one is clairvoyant. This year, stocks have not followed the longstanding trends. Stocks typically do badly in September, yet September 2010 actually turned the market around. When it comes to November, let’s hope history repeats.
These are the views of Peter Montoya Inc., not the named Representative nor Broker/Dealer, and should not be construed as investment advice. Neither the named Representative nor Broker/Dealer gives tax or legal advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The publisher is not engaged in rendering legal, accounting or other professional services. If other expert assistance is needed, the reader is advised to engage the services of a competent professional. Please consult your Financial Advisor for further information. www.montoyaregistry.com www.petermontoya.com
Citations.
1 - kiplinger.com/columns/value/archive/how-elections-affect-the-stock-market.
html [10/12/10]
2 - foxbusiness.com/markets/2010/10/05/gridlock-looming-wall-street-
stands-gain/ [10/5/10]
3 - cnbc.com/id/38538007/Midterm_Elections_Produce_Pain_Then_Gain
_For_Stocks [9/27/10]
4 - marketwatch.com/story/mid-term-elections-impact-on-stocks-
2010-10-04 [10/4/10]
5 - online.wsj.com/article/
SB10001424052748704062804575510482714106168.html [9/25/10]
Tuesday, October 19, 2010
Wednesday, October 13, 2010
SPEND LESS NOW, LIVE IT UP LATER
A little “delayed gratification” may help you retire more comfortably.
Baby boomers are known for wanting more out of life – and for living life on their own terms. They also get a bad rap as a generation weaned on instant gratification – wanting it all now, wanting to have it both ways.
It is neither wise nor truthful to paint a generation with a broad brush. What we do know in 2010 is that more Americans than ever are poised to retire. In fact, 10,000 Americans will turn 65 each day during the next 18 years.1 Will their retirements match their expectations?
Are boomers in for a collective shock? Many boomers are used to affluence and expect creature comforts in retirement. Yet many may not understand how much money retirement will require. A 2010 study from the non-profit Employee Benefit Research Institute estimates that about half of “early” boomers (those aged 56-62) will face a retirement shortfall – someday, they will have inadequate income to pay medical costs and core retirement expenses. EBRI also estimates that 43.7% of “late” boomers (those aged 46-55) are likely to exhaust their retirement savings as well.2
Investing aside, what about the way we spend? EBRI research director Jack VanDerhei told TheStreet.com that beyond federal policy decisions, “[what is] even more important is to identify which of those households still have time to modify their behavior to achieve retirement security, and how they need to proceed." 2
What is a need and what is a luxury? Now here is where it gets interesting. In a new survey of more than 1,000 boomers conducted by MainStay Investments, more than half the respondents identified “pet care” and “an internet connection” and “shopping for birthdays and special occasions” as basic needs. Almost half checked off “weekend getaways” and “professional hair cutting/coloring” as basic needs. Perhaps the definition of a “basic need” is expanding. Or perhaps we have gotten so used to these perks that we can’t imagine living without them (and not spending money on them).3
Boomers are necessarily growing more pragmatic. The MainStay survey results hint at a shift in their financial outlook. The survey found that 76% of boomers were willing to work longer and save more in pursuit of more retirement comfort.3
Additionally, 40% of those surveyed said they will have to delay retirement in order to afford their desired lifestyle – and 47% said they would be willing to live in a smaller house to have more of the above luxuries/needs. A whopping 84% of respondents indicated they would be willing to allocate a portion of their assets so that they might have consistent lifelong income. However, just 52% of them were in contact with a financial consultant.3
We can learn from our elders. Look at the sacrifices made by the “greatest generation”. World War II demanded so much from Americans, not only in the theatres of combat but at home. For several years, new cars weren’t manufactured, travel was discouraged, and food, clothing and gasoline were rationed. The entire economy was rearranged, and more than 40 million Americans had to start paying federal income tax.4
This generation certainly understood delayed gratification. Yet with all that economic and political upheaval, its members collectively enjoyed the most comfortable retirement in American history (and perhaps the history of the world).
Will we pay for today’s lifestyle tomorrow? Financially, that is a risk we face. Many of us have not saved enough for retirement, and the financial markets have been especially volatile of late. So it only figures that spending less and saving more today could help us out tomorrow. Who knows - if some extra effort is put in now, we may end up with enough money to “live it up” later.
Citations
1 – sacbee.com/2010/08/29/2990176/baby-boomers-signal-shift-in-what.html [8/29/10]
2 - thestreet.com/story/10806795/even-wealthy-face-retirement-shortfall.html l7/15/10]
3 - freeerisa.com/news/fe_daily.aspx?StoryId={66D70228-CEFE-4782-9058-F2F2DAB68DD1} [8/5/10]
4 – nationalww2museum.org/education/for-students/america-goes-to-war.html [10/1/10]
Baby boomers are known for wanting more out of life – and for living life on their own terms. They also get a bad rap as a generation weaned on instant gratification – wanting it all now, wanting to have it both ways.
It is neither wise nor truthful to paint a generation with a broad brush. What we do know in 2010 is that more Americans than ever are poised to retire. In fact, 10,000 Americans will turn 65 each day during the next 18 years.1 Will their retirements match their expectations?
Are boomers in for a collective shock? Many boomers are used to affluence and expect creature comforts in retirement. Yet many may not understand how much money retirement will require. A 2010 study from the non-profit Employee Benefit Research Institute estimates that about half of “early” boomers (those aged 56-62) will face a retirement shortfall – someday, they will have inadequate income to pay medical costs and core retirement expenses. EBRI also estimates that 43.7% of “late” boomers (those aged 46-55) are likely to exhaust their retirement savings as well.2
Investing aside, what about the way we spend? EBRI research director Jack VanDerhei told TheStreet.com that beyond federal policy decisions, “[what is] even more important is to identify which of those households still have time to modify their behavior to achieve retirement security, and how they need to proceed." 2
What is a need and what is a luxury? Now here is where it gets interesting. In a new survey of more than 1,000 boomers conducted by MainStay Investments, more than half the respondents identified “pet care” and “an internet connection” and “shopping for birthdays and special occasions” as basic needs. Almost half checked off “weekend getaways” and “professional hair cutting/coloring” as basic needs. Perhaps the definition of a “basic need” is expanding. Or perhaps we have gotten so used to these perks that we can’t imagine living without them (and not spending money on them).3
Boomers are necessarily growing more pragmatic. The MainStay survey results hint at a shift in their financial outlook. The survey found that 76% of boomers were willing to work longer and save more in pursuit of more retirement comfort.3
Additionally, 40% of those surveyed said they will have to delay retirement in order to afford their desired lifestyle – and 47% said they would be willing to live in a smaller house to have more of the above luxuries/needs. A whopping 84% of respondents indicated they would be willing to allocate a portion of their assets so that they might have consistent lifelong income. However, just 52% of them were in contact with a financial consultant.3
We can learn from our elders. Look at the sacrifices made by the “greatest generation”. World War II demanded so much from Americans, not only in the theatres of combat but at home. For several years, new cars weren’t manufactured, travel was discouraged, and food, clothing and gasoline were rationed. The entire economy was rearranged, and more than 40 million Americans had to start paying federal income tax.4
This generation certainly understood delayed gratification. Yet with all that economic and political upheaval, its members collectively enjoyed the most comfortable retirement in American history (and perhaps the history of the world).
Will we pay for today’s lifestyle tomorrow? Financially, that is a risk we face. Many of us have not saved enough for retirement, and the financial markets have been especially volatile of late. So it only figures that spending less and saving more today could help us out tomorrow. Who knows - if some extra effort is put in now, we may end up with enough money to “live it up” later.
Citations
1 – sacbee.com/2010/08/29/2990176/baby-boomers-signal-shift-in-what.html [8/29/10]
2 - thestreet.com/story/10806795/even-wealthy-face-retirement-shortfall.html l7/15/10]
3 - freeerisa.com/news/fe_daily.aspx?StoryId={66D70228-CEFE-4782-9058-F2F2DAB68DD1} [8/5/10]
4 – nationalww2museum.org/education/for-students/america-goes-to-war.html [10/1/10]
Tuesday, October 5, 2010
The State of the Economy
The question on the mind of many investors has to be: where is the U.S. and world economy headed? Are we moving toward a double-dip recession, or is the economy in the early stages of a long-term recovery?
At a recent industry conference in San Diego, financial advisors heard a keynote presentation by economist Todd Buchholz, former White House director of economic policy and, before that, economics professor at Harvard University. His presentation was extremely candid, describing the 2008-2009 economic meltdown as "the most tumultuous economic times any of us have ever been through," later noting that it was a period when the Beardstown Ladies investment club outperformed the leading brokerage house investment divisions, when Mattel, the company that makes little hot wheels cars, has more market value than General Motors, which manufactures real ones.
But haven't we emerged from complex economic times in the past without this lingering uncertainty about where things are going? Buchholz said that if you aren't sure what's going on, you aren't alone. Economists are discovering that their economic models have grown increasingly out of touch with the realities of the marketplace. One big reason is that the world has changed dramatically. "When the Berlin Wall was pulled to the ground, millions of workers who had been trapped on the other side were suddenly free to compete against you, me, somebody writing software in San Diego or assembling textiles in North Carolina," Buchholz told the audience. "When you add in India and China, you have billions of new workers in the global workforce, which pushes down labor rates and inflationary forces here at home."
Today, the American worker is caught between two negative forces. It's hard to negotiate for higher wages when more than a billion workers are competing for his/her job. At the same time, newly-industrializing nations like India and China are clamoring for commodities, which raises the world price of everyday items like gasoline, cotton, cement, metals, food and whatever is made from those things.
So where do we stand today? Buchholz applauded the fact that the Federal Reserve Board has taken interest rates to zero and (as he put it) "stomped on the money supply accelerator." He doesn't expect this to lead to high inflation down the road because wages will be kept low by global competition for jobs, and because the new money is actually offsetting the 2008-2009 destruction of value in the real estate markets and the private sector. Unlike some economists, Buchholz believes the fact that housing inventories and home starts are going down is a good thing, because it means that home prices will be primed to rise again.
Jobs? Buchholz conceded that the job market is brutal right now, but he thinks this is normal at this stage of a downturn. "Whenever you have a recession, companies fire people and cut costs," he said. "When business picks up again, as it has in the U.S., they don't immediately call them back. Instead, they say, hey, Bill, can you stay an extra hour? Or: hey, Joe, come in a bit early tomorrow morning?" Recent rises in temporary worker hiring and overtime may be a precursor to hiring back full-time employees.
The bottom line? Buchholz doesn't expect to see a double-dip recession. "Consumers are showing more resilience and more composure than most professional economists anticipated," he said. "This is not a rip-roaring recovery, by any means. But earnings are better than expected, corporate cash on hand is greater than expected. Instead of a recovery that would grow the economy at 4-5% a year, we could see 2-3% growth for a while."
Is there a danger to this cautiously positive vision? Buchholz said that what worries him most is a backlash against capitalism in the U.S. Congress, which might impose trade barriers to protect U.S. industries. "There were three terrible policy mistakes that the government made which caused the Great Depression," he told the group. Two of them are unlikely to be repeated: the Federal Reserve allowed the money supply to collapse by 30%--the opposite of what the Fed is doing today--and Congress raised taxes dramatically across the board. But the third mistake was passing significant tariffs, triggering retaliation from other companies--and suddenly world trade fell by 40%. "I am very concerned today about trade tensions brewing around the world," said Buchholz, "even among friendly countries with the U.S."
At the end, Buchholz said that the most pressing issue, in his mind, is getting our educational system back into the global top tier. He said that increasingly, wealth is measured by the application of education and intelligence, and the world is catching up to the U.S. "Whoever harnesses intelligence most," he told the group, "will prosper most in the 21st century."
At a recent industry conference in San Diego, financial advisors heard a keynote presentation by economist Todd Buchholz, former White House director of economic policy and, before that, economics professor at Harvard University. His presentation was extremely candid, describing the 2008-2009 economic meltdown as "the most tumultuous economic times any of us have ever been through," later noting that it was a period when the Beardstown Ladies investment club outperformed the leading brokerage house investment divisions, when Mattel, the company that makes little hot wheels cars, has more market value than General Motors, which manufactures real ones.
But haven't we emerged from complex economic times in the past without this lingering uncertainty about where things are going? Buchholz said that if you aren't sure what's going on, you aren't alone. Economists are discovering that their economic models have grown increasingly out of touch with the realities of the marketplace. One big reason is that the world has changed dramatically. "When the Berlin Wall was pulled to the ground, millions of workers who had been trapped on the other side were suddenly free to compete against you, me, somebody writing software in San Diego or assembling textiles in North Carolina," Buchholz told the audience. "When you add in India and China, you have billions of new workers in the global workforce, which pushes down labor rates and inflationary forces here at home."
Today, the American worker is caught between two negative forces. It's hard to negotiate for higher wages when more than a billion workers are competing for his/her job. At the same time, newly-industrializing nations like India and China are clamoring for commodities, which raises the world price of everyday items like gasoline, cotton, cement, metals, food and whatever is made from those things.
So where do we stand today? Buchholz applauded the fact that the Federal Reserve Board has taken interest rates to zero and (as he put it) "stomped on the money supply accelerator." He doesn't expect this to lead to high inflation down the road because wages will be kept low by global competition for jobs, and because the new money is actually offsetting the 2008-2009 destruction of value in the real estate markets and the private sector. Unlike some economists, Buchholz believes the fact that housing inventories and home starts are going down is a good thing, because it means that home prices will be primed to rise again.
Jobs? Buchholz conceded that the job market is brutal right now, but he thinks this is normal at this stage of a downturn. "Whenever you have a recession, companies fire people and cut costs," he said. "When business picks up again, as it has in the U.S., they don't immediately call them back. Instead, they say, hey, Bill, can you stay an extra hour? Or: hey, Joe, come in a bit early tomorrow morning?" Recent rises in temporary worker hiring and overtime may be a precursor to hiring back full-time employees.
The bottom line? Buchholz doesn't expect to see a double-dip recession. "Consumers are showing more resilience and more composure than most professional economists anticipated," he said. "This is not a rip-roaring recovery, by any means. But earnings are better than expected, corporate cash on hand is greater than expected. Instead of a recovery that would grow the economy at 4-5% a year, we could see 2-3% growth for a while."
Is there a danger to this cautiously positive vision? Buchholz said that what worries him most is a backlash against capitalism in the U.S. Congress, which might impose trade barriers to protect U.S. industries. "There were three terrible policy mistakes that the government made which caused the Great Depression," he told the group. Two of them are unlikely to be repeated: the Federal Reserve allowed the money supply to collapse by 30%--the opposite of what the Fed is doing today--and Congress raised taxes dramatically across the board. But the third mistake was passing significant tariffs, triggering retaliation from other companies--and suddenly world trade fell by 40%. "I am very concerned today about trade tensions brewing around the world," said Buchholz, "even among friendly countries with the U.S."
At the end, Buchholz said that the most pressing issue, in his mind, is getting our educational system back into the global top tier. He said that increasingly, wealth is measured by the application of education and intelligence, and the world is catching up to the U.S. "Whoever harnesses intelligence most," he told the group, "will prosper most in the 21st century."
Tuesday, September 21, 2010
Darkness Before Dawn?
If you're feeling a bit gloomy about the economy and the markets, you have a lot of company these days. Despite U.S. stocks getting off to a positive start in the scary month of September, the news seems to be all about the possibility of a double-dip recession. One economist, David Rosenberg of Gluskin Sheff, has suggested that the recession never ended despite positive economic growth in the first half of 2010. Meanwhile, the put-call ratio, which compares the number of put and call options being bought and sold in the market, stands at an unusually bearish 1.28, according to the investment web site EquityClock.com. That means many more professional investors are betting against a market rise than for one.
All of this gloominess is leading investors to search for alternatives to corporate stocks--including gold and cash equivalents like CDs and Treasury bills. One online blog is titled "Nine Adult Entertainment Stocks to Weather the Recession;" it recommends Playboy and several providers of "mature entertainment" in hotel rooms.
There's only one problem with following the herd down this gloomy path, or stuffing your portfolio with gold and smut. In the past, people have been least optimistic about stocks and the economy right before the economy recovered and the markets produced higher-than-average returns. Business Week published its famous cover article entitled "The Death of Equities" in August of 1979, after the stock market had sustained serious losses and the long-term health of the U.S. economy was in doubt. The article noted a massive flight of investors from the market--right before one of the longest and most powerful bull runs the market has ever seen, which would take the S&P 500 index from just over 95 in 1979 to more than 1469 over the next 21 years.
And that gloomy put-call ratio? According to the investment encyclopedia Investopedia: "Many traders will consider a large ratio a sign of a buying opportunity."
If you want an extreme view of gloom and doom, then consider this quote from Time Magazine: "In a normal rebound, Americans would be witnessing a flurry of hiring, new investment and lending, and buoyant growth. But the U.S. economy remains almost comatose a full year and a half after the recession officially ended. Unemployment is still high; real wages are declining... The current slump already ranks as the longest period of sustained weakness since the Great Depression."
Sounds pretty awful, right? Except that this is a quote from Time's September 28, 1992 issue, talking about the gloomy prospects for the economy coming out of the 1990-91 recession. It reflected the mood of economists and the country at large--and, with the generous benefit of hindsight, we now know that this severe downer of an article was followed by a 16 year economic boom in the U.S. economy, without a single down year until 2008. The S&P 500 ended calendar 1992 at just over 435, and climbed, with more ups than downs, to just over 1576 at the peak in 2007.
There are good reasons to be cautious in today's economy and investment markets. We don't know what the markets are going to do tomorrow or next year. But the good news is that everybody else doesn't too.
Rosenberg on the idea that the recession never ended: http://www.businessinsider.com/never-ending-recession-2010-8
Death of Equities article: http://www.businessweek.com/investor/content/mar2009/pi20090310_263462_page_2.htm
Time magazine quote: http://www.time.com/time/magazine/article/0,9171,976602,00.html
S&P 500 data set: http://www.econstats.com/eqty/eqea_mi_1.htm
Equity Clock: http://www.equityclock.com/2010/09/12/stock-market-outlook-for-september-13-2010/
Investopedia: http://www.investopedia.com/ask/answers/06/putcallratio.asp
All of this gloominess is leading investors to search for alternatives to corporate stocks--including gold and cash equivalents like CDs and Treasury bills. One online blog is titled "Nine Adult Entertainment Stocks to Weather the Recession;" it recommends Playboy and several providers of "mature entertainment" in hotel rooms.
There's only one problem with following the herd down this gloomy path, or stuffing your portfolio with gold and smut. In the past, people have been least optimistic about stocks and the economy right before the economy recovered and the markets produced higher-than-average returns. Business Week published its famous cover article entitled "The Death of Equities" in August of 1979, after the stock market had sustained serious losses and the long-term health of the U.S. economy was in doubt. The article noted a massive flight of investors from the market--right before one of the longest and most powerful bull runs the market has ever seen, which would take the S&P 500 index from just over 95 in 1979 to more than 1469 over the next 21 years.
And that gloomy put-call ratio? According to the investment encyclopedia Investopedia: "Many traders will consider a large ratio a sign of a buying opportunity."
If you want an extreme view of gloom and doom, then consider this quote from Time Magazine: "In a normal rebound, Americans would be witnessing a flurry of hiring, new investment and lending, and buoyant growth. But the U.S. economy remains almost comatose a full year and a half after the recession officially ended. Unemployment is still high; real wages are declining... The current slump already ranks as the longest period of sustained weakness since the Great Depression."
Sounds pretty awful, right? Except that this is a quote from Time's September 28, 1992 issue, talking about the gloomy prospects for the economy coming out of the 1990-91 recession. It reflected the mood of economists and the country at large--and, with the generous benefit of hindsight, we now know that this severe downer of an article was followed by a 16 year economic boom in the U.S. economy, without a single down year until 2008. The S&P 500 ended calendar 1992 at just over 435, and climbed, with more ups than downs, to just over 1576 at the peak in 2007.
There are good reasons to be cautious in today's economy and investment markets. We don't know what the markets are going to do tomorrow or next year. But the good news is that everybody else doesn't too.
Rosenberg on the idea that the recession never ended: http://www.businessinsider.com/never-ending-recession-2010-8
Death of Equities article: http://www.businessweek.com/investor/content/mar2009/pi20090310_263462_page_2.htm
Time magazine quote: http://www.time.com/time/magazine/article/0,9171,976602,00.html
S&P 500 data set: http://www.econstats.com/eqty/eqea_mi_1.htm
Equity Clock: http://www.equityclock.com/2010/09/12/stock-market-outlook-for-september-13-2010/
Investopedia: http://www.investopedia.com/ask/answers/06/putcallratio.asp
Friday, September 17, 2010
Developed and Overextended
Conventional wisdom says that buying Treasury bonds is the safest place to put your money, and very nearly as safe is putting your money into the sovereign (government-issued) debt of other developed nations like Japan, England, Germany, Spain and Greece.
But I'm sure the first thing that came to your mind when you saw that short list of developed nations was: wait a minute! Didn't Greek government bonds nearly default last Summer? Wasn't Spain on some kind of watch list? Isn't the U.S. deeply in hock to China? And, of course, you're right; there is growing evidence that, after bailing out their economies after living beyond their means for decades, developed nations around the world have overextended their balance sheets.
This has produced one of of those strange anomalies that you see in the investment markets from time to time: what may be the safest government bond investments around the world also happen to be some of the highest-yielding.
Much of this is laid out in a fascinating new white paper authored by Rob Arnott and Research Affiliates, Inc. in Newport Beach, CA. Entitled "Debt Be Not Proud," the paper compares the total percentage of government debt outstanding for developed and emerging nations with other measures that hint at these countries' ability to pay back what has been borrowed. The report tallied up the total debt that developed nations--Europe, Japan, the U.S., Canada, Australia etc. currently have on their books--$16.7 trillion in all--and calculated that this makes up 89.5% of the world's total. Yet these developed economies make up only 62.4% of the global economic output (what economists call GDP), and have just 19.1% of the world's population.
That's right; countries with just 19.1% of the world's population have borrowed almost 90% of the world's total sovereign debt.
The figures for the United States alone are not totally comforting, but by at least one measure, we are not out of line. The U.S. population represents 5.9% of the world's people, but our economy makes up 23.6% of the world's GDP. Our share of the total debt: 23.2%, slightly less than our share if measured in terms of economic output.
The situation is completely reversed for the smaller, less-developed countries, and yet they're paying MORE in interest to borrowers than the larger, less-solvent nations. In aggregate, the government debt of emerging markets is paying more than twice what U.S. Treasuries are offering. The International Business Times recently estimated that 10-year bonds issued by countries like Malaysia, India, Peru and Hungary are yielding an average of 6% a year, compared with 2.5% for U.S. Treasury bonds of comparable maturity. The article notes that many of these less developed countries are in better fiscal condition than the nations whose banks teetered on the edge of collapse during the credit crisis and recession.
This assessment is confirmed by the Research Affiliates white paper, which points out that total government debt issued by emerging market nations--just over $1.95 trillion--equals 10.5% of the world's total. Yet these economies include 80.9% of the world's population and their economies generate 37.6% of the world's economic output. The paper argues that their balance sheets are, by these measures at least, much stronger than the countries you normally associate with economic strength. Indeed, the report notes that China and Russia have foreign reserves larger than their respective bond debt, while Saudi Arabia, Kuwait, Qatar, the Cayman Islands, Monaco and Lichtenstein all have zero net debt. Of the 45 emerging markets that are included in various indexes, only Taiwan and Singapore have as much debt as ANY of the G-5 countries, measured relative to GDP--and by most measures, those two countries really belong on the developed side of the equation.
What does this mean for investors? Emerging market debt is probably yielding a bit more than the fundamentals would justify. But the real story may be just how overextended the developed world's balance sheets have become following the recent economic trauma. Greece and Spain may be the headlines today, but the industrial nations that don't successfully reign in their borrowing in the next ten years could become the subject of scary headlines somewhere down the road.
Research Affiliates white paper can be downloaded here: http://www.researchaffiliates.com/index.htm
Emerging markets debt vs. Treasuries: http://www.ibtimes.com/articles/62196/20100914/emerging-markets-bonds-yields.htm
But I'm sure the first thing that came to your mind when you saw that short list of developed nations was: wait a minute! Didn't Greek government bonds nearly default last Summer? Wasn't Spain on some kind of watch list? Isn't the U.S. deeply in hock to China? And, of course, you're right; there is growing evidence that, after bailing out their economies after living beyond their means for decades, developed nations around the world have overextended their balance sheets.
This has produced one of of those strange anomalies that you see in the investment markets from time to time: what may be the safest government bond investments around the world also happen to be some of the highest-yielding.
Much of this is laid out in a fascinating new white paper authored by Rob Arnott and Research Affiliates, Inc. in Newport Beach, CA. Entitled "Debt Be Not Proud," the paper compares the total percentage of government debt outstanding for developed and emerging nations with other measures that hint at these countries' ability to pay back what has been borrowed. The report tallied up the total debt that developed nations--Europe, Japan, the U.S., Canada, Australia etc. currently have on their books--$16.7 trillion in all--and calculated that this makes up 89.5% of the world's total. Yet these developed economies make up only 62.4% of the global economic output (what economists call GDP), and have just 19.1% of the world's population.
That's right; countries with just 19.1% of the world's population have borrowed almost 90% of the world's total sovereign debt.
The figures for the United States alone are not totally comforting, but by at least one measure, we are not out of line. The U.S. population represents 5.9% of the world's people, but our economy makes up 23.6% of the world's GDP. Our share of the total debt: 23.2%, slightly less than our share if measured in terms of economic output.
The situation is completely reversed for the smaller, less-developed countries, and yet they're paying MORE in interest to borrowers than the larger, less-solvent nations. In aggregate, the government debt of emerging markets is paying more than twice what U.S. Treasuries are offering. The International Business Times recently estimated that 10-year bonds issued by countries like Malaysia, India, Peru and Hungary are yielding an average of 6% a year, compared with 2.5% for U.S. Treasury bonds of comparable maturity. The article notes that many of these less developed countries are in better fiscal condition than the nations whose banks teetered on the edge of collapse during the credit crisis and recession.
This assessment is confirmed by the Research Affiliates white paper, which points out that total government debt issued by emerging market nations--just over $1.95 trillion--equals 10.5% of the world's total. Yet these economies include 80.9% of the world's population and their economies generate 37.6% of the world's economic output. The paper argues that their balance sheets are, by these measures at least, much stronger than the countries you normally associate with economic strength. Indeed, the report notes that China and Russia have foreign reserves larger than their respective bond debt, while Saudi Arabia, Kuwait, Qatar, the Cayman Islands, Monaco and Lichtenstein all have zero net debt. Of the 45 emerging markets that are included in various indexes, only Taiwan and Singapore have as much debt as ANY of the G-5 countries, measured relative to GDP--and by most measures, those two countries really belong on the developed side of the equation.
What does this mean for investors? Emerging market debt is probably yielding a bit more than the fundamentals would justify. But the real story may be just how overextended the developed world's balance sheets have become following the recent economic trauma. Greece and Spain may be the headlines today, but the industrial nations that don't successfully reign in their borrowing in the next ten years could become the subject of scary headlines somewhere down the road.
Research Affiliates white paper can be downloaded here: http://www.researchaffiliates.com/index.htm
Emerging markets debt vs. Treasuries: http://www.ibtimes.com/articles/62196/20100914/emerging-markets-bonds-yields.htm
Tuesday, September 14, 2010
OBAMA’S MIDTERM TAX PROPOSALS
The President recommends what amounts to a second stimulus package.
Many Americans are frustrated with the pace of the economic recovery; many Democrats are worried that their party will lose its majority in the House and Senate. As elections loom, President Obama has offered a new platform of tax initiatives for Congress to consider and potentially approve.
Extending the Bush-era tax cuts (for the middle class). President Obama wants to extend the EGTRRA and JGTRRA cuts of the last decade – but not to what Treasury Secretary Timothy Geithner referred to as the “most fortunate 2% of Americans.” Taxpayers who earn more than $250,000 would see those tax breaks disappear in 2011, while others would still benefit from them.1
Why not extend the Bush-era tax breaks for the demographic that is probably the most economically influential? “We don’t think that’s responsible economic policy,” Geithner commented during an interview on the FOX Business Network. He felt that preserving the cuts for the highest-earning Americans would be analogous to “borrowing hundreds of billions of dollars from our children.”1
Some contend that EGTRRA and JGTRRA have had broader impact. The Tax Foundation (a non-partisan Washington D.C. think tank which often criticizes tax policy) claims that the Bush-era tax cuts have saved the median U.S. family of four about $2,200 per year.2
However, an August Gallup poll indicated that only 37% of Americans wanted to keep the 2001 and 2003 tax cuts in place for all taxpayers. A plurality (44%) wanted to end them for those earning above $250,000, and 15% wanted them gone altogether. In partisan terms, 60% of the Democrats polled favored extending the cuts for all but the wealthiest Americans; 54% of Republicans polled wanted them retained for everyone.3
Offering tax breaks for capital spending and R&D. President Obama wants to allow businesses to write off 100% of their investment costs through 2011. He also wants to bring back the research tax credit for businesses – it would be expanded and made permanent.
What would a 100% expensing credit do for the business sector? On the right, Harvard economist Greg Mankiw calls it a “good idea” yet feels “the impact will be relatively modest.” In his view, this tax break amounts to “a zero-interest loan if [companies] invest in equipment. But with interest rates near zero anyway, the value of the loan is not that great.” On the left, UC Berkeley economist (and former Labor Secretary) Robert Reich thinks that “the economy needs two whopping corporate tax cuts right now as much as someone with a serious heart condition needs Botox. The reason businesses aren’t investing in new plant and equipment has nothing to do with the cost of capital. It’s because they don’t need the additional capacity.”4
Historically, the R&D tax credit has favored larger companies with long track records in research rather than smaller firms. Since 1981, Congress has allowed the R&D credit to sunset 13 times – it expired again at the end of last year. In the Obama proposal, the most popular R&D tax credit offered to businesses would rise to 17% from 14%. Many Silicon Valley firms and biomedical firms would love any break they can get – R&D credits in India, China and Brazil are all greater than in the U.S., and France's R&D tax credit is six times more generous than ours.5
Infrastructure projects to provide added stimulus. The President also wants to devote another $50 billion to infrastructure spending on roads, railroads and airports. The money would be used to repair 150,000 miles of highways and 4,000 miles of railways, among other uses.6 Some transportation industry analysts see it as merely a drop in the bucket – but also possibly a step toward the creation of a national infrastructural fund.
What might the effect be? Moody’s Analytics chief economist Mark Zandi thinks the proposed tax breaks would be “helpful but they're not going to jump start the economy, at least not in the next six to twelve months.” Interviewed by CNN, Zandi noted that “Investment spending has picked up very nicely, that's not the problem. The problem is a lack of hiring.”7
David Rosenberg, chief economist at investment bank Gluskin Sheff, is one voice more skeptical about the business tax breaks. He notes that “We already have business spending running at its fastest rate in three decades … how ridiculous is it for the government to be targeting tax relief to the one part of the economy that needs it the least?”7
Standard & Poor’s chief economist David Wyss feels that any new government stimulus is better than none, saying that “going cold turkey” in 2010 would severely damage growth.7 The debate on Capitol Hill over these tax initiatives will likely amplify as we head into fall.
Citations
1 – foxbusiness.com/markets/2010/09/09/treasury-secretary-geithner-urges-approval-economic-tax-package/ [9/9/10]
2 – boston.com/business/personalfinance/managingyourmoney/archives/2010/09/expiring_bush_t.html [9/10/10]
3 – theatlantic.com/business/archive/2010/09/59-of-americans-want-to-mess-with-bush-tax-cuts/62779/ [9/10/10]
4 – economix.blogs.nytimes.com/2010/09/07/reactions-to-obamas-business-tax-write-off-proposals/ [9/10/10]
5 – mercurynews.com/politics-government/ci_15990903 [9/5/10]
6 – newsweek.com/blogs/the-gaggle/2010/09/08/does-obama-s-infrastructure-proposal-have-the-right-priorities.html [9/8/10]
7 – money.cnn.com/2010/09/07/news/economy/obama_proposal_react/ [9/7/10]
The President recommends what amounts to a second stimulus package.
Many Americans are frustrated with the pace of the economic recovery; many Democrats are worried that their party will lose its majority in the House and Senate. As elections loom, President Obama has offered a new platform of tax initiatives for Congress to consider and potentially approve.
Extending the Bush-era tax cuts (for the middle class). President Obama wants to extend the EGTRRA and JGTRRA cuts of the last decade – but not to what Treasury Secretary Timothy Geithner referred to as the “most fortunate 2% of Americans.” Taxpayers who earn more than $250,000 would see those tax breaks disappear in 2011, while others would still benefit from them.1
Why not extend the Bush-era tax breaks for the demographic that is probably the most economically influential? “We don’t think that’s responsible economic policy,” Geithner commented during an interview on the FOX Business Network. He felt that preserving the cuts for the highest-earning Americans would be analogous to “borrowing hundreds of billions of dollars from our children.”1
Some contend that EGTRRA and JGTRRA have had broader impact. The Tax Foundation (a non-partisan Washington D.C. think tank which often criticizes tax policy) claims that the Bush-era tax cuts have saved the median U.S. family of four about $2,200 per year.2
However, an August Gallup poll indicated that only 37% of Americans wanted to keep the 2001 and 2003 tax cuts in place for all taxpayers. A plurality (44%) wanted to end them for those earning above $250,000, and 15% wanted them gone altogether. In partisan terms, 60% of the Democrats polled favored extending the cuts for all but the wealthiest Americans; 54% of Republicans polled wanted them retained for everyone.3
Offering tax breaks for capital spending and R&D. President Obama wants to allow businesses to write off 100% of their investment costs through 2011. He also wants to bring back the research tax credit for businesses – it would be expanded and made permanent.
What would a 100% expensing credit do for the business sector? On the right, Harvard economist Greg Mankiw calls it a “good idea” yet feels “the impact will be relatively modest.” In his view, this tax break amounts to “a zero-interest loan if [companies] invest in equipment. But with interest rates near zero anyway, the value of the loan is not that great.” On the left, UC Berkeley economist (and former Labor Secretary) Robert Reich thinks that “the economy needs two whopping corporate tax cuts right now as much as someone with a serious heart condition needs Botox. The reason businesses aren’t investing in new plant and equipment has nothing to do with the cost of capital. It’s because they don’t need the additional capacity.”4
Historically, the R&D tax credit has favored larger companies with long track records in research rather than smaller firms. Since 1981, Congress has allowed the R&D credit to sunset 13 times – it expired again at the end of last year. In the Obama proposal, the most popular R&D tax credit offered to businesses would rise to 17% from 14%. Many Silicon Valley firms and biomedical firms would love any break they can get – R&D credits in India, China and Brazil are all greater than in the U.S., and France's R&D tax credit is six times more generous than ours.5
Infrastructure projects to provide added stimulus. The President also wants to devote another $50 billion to infrastructure spending on roads, railroads and airports. The money would be used to repair 150,000 miles of highways and 4,000 miles of railways, among other uses.6 Some transportation industry analysts see it as merely a drop in the bucket – but also possibly a step toward the creation of a national infrastructural fund.
What might the effect be? Moody’s Analytics chief economist Mark Zandi thinks the proposed tax breaks would be “helpful but they're not going to jump start the economy, at least not in the next six to twelve months.” Interviewed by CNN, Zandi noted that “Investment spending has picked up very nicely, that's not the problem. The problem is a lack of hiring.”7
David Rosenberg, chief economist at investment bank Gluskin Sheff, is one voice more skeptical about the business tax breaks. He notes that “We already have business spending running at its fastest rate in three decades … how ridiculous is it for the government to be targeting tax relief to the one part of the economy that needs it the least?”7
Standard & Poor’s chief economist David Wyss feels that any new government stimulus is better than none, saying that “going cold turkey” in 2010 would severely damage growth.7 The debate on Capitol Hill over these tax initiatives will likely amplify as we head into fall.
Citations
1 – foxbusiness.com/markets/2010/09/09/treasury-secretary-geithner-urges-approval-economic-tax-package/ [9/9/10]
2 – boston.com/business/personalfinance/managingyourmoney/archives/2010/09/expiring_bush_t.html [9/10/10]
3 – theatlantic.com/business/archive/2010/09/59-of-americans-want-to-mess-with-bush-tax-cuts/62779/ [9/10/10]
4 – economix.blogs.nytimes.com/2010/09/07/reactions-to-obamas-business-tax-write-off-proposals/ [9/10/10]
5 – mercurynews.com/politics-government/ci_15990903 [9/5/10]
6 – newsweek.com/blogs/the-gaggle/2010/09/08/does-obama-s-infrastructure-proposal-have-the-right-priorities.html [9/8/10]
7 – money.cnn.com/2010/09/07/news/economy/obama_proposal_react/ [9/7/10]
Tuesday, September 7, 2010
The Three Factors of Fear
Suddenly, in the past few weeks, the markets have looked a lot scarier to a lot of nonprofessional investors. Why? The answer probably has something to do with human psychology.
An Australian company called FinaMetrica has been giving lay consumers a scientifically-designed risk profile questionnaire for the past 12 years, helping financial advisors evaluate whether their clients are natural risk-takers or the kind of people who feel more comfortable if their money is stuffed safely in their mattress. A closer look at the responses, including 2,586 individuals who took the test before and after the recent bear market, shows something surprising: people were no more risk-averse after they had been clawed by the worst bear market since the Great Depression than they had been before.
Chances are, you're less excited about taking market risk now than you were in, say, the early months of 2007, so these results seem impossible. But the FinaMetrica people offer a plausible explanation for their results. They say that there are three components to your willingness to expose yourself to the ups and downs of the market. Two of them changed after the market downturn, and one of those two has recently changed again.
The first component is what might be broadly called your bravery; your willingness to take chances. This is the part that FinaMetrica measures directly, and its results show that if you were willing to skydive or take ski jumping lessons off the 90-foot hill before the Fall of 2008, you're just as excited by the idea of putting your life at risk now. The markets don't change who you are fundamentally.
The second component is your risk capacity; that is, how much financial risk you can afford to take. The 2008-2009 bear market might have caused a lot of us to rethink how early we might be able to retire, but a reprise of it might make us wonder if we can retire at all. So we become a bit more conservative in our investment approach.
Component number three is our risk perception. If we're watching the markets go up and up and up, then we see little risk and lots of upside. This is why, during the late 1990s tech boom, even the most timid individuals were throwing money into the market like drunken sailors. When the markets deliver the opposite experience, we look at stocks and see nothing but risk.
This last piece of the risk tolerance puzzle is, today, sending out alarm bells that may be echoing deep in your own psyche. The markets have just delivered the worst market performance in the month of August since 2001--which professional investors know is a random event. But now we're in September, that very same month when Lehman Brothers went down and AIG effectively declared bankruptcy back in 2008. It also happens to be the same month that the country experienced the shock of 9/11--which, among a lot of other things, sent the global investment markets reeling. Chances are you don't remember it personally, but September is also the month when the 1929 crash occurred.
So we had a dismal August that gave back the gains that the market had created in the first seven months of the year, and we're entering that scary month that we associate with recent financial disaster. Chances are, your logical mind knows that a reprise of 2008 is unlikely, and if you've been reading the papers, you know that corporate profits have been going through the roof in the American economy. But the emotional part of your mind looks at the market and conjures up every negative statistic, and sees far more potential risk than reward, and experiences fear even as you strap on your parachute at 15,000 feet and give an enthusiastic high-five to the instructor who is looking a little nervous.
We don't know whether the month of September will bring the markets back into positive territory or not, despite a lot of long-term analysis. But if you invest based on what the markets did recently, where does that lead you? August was negative, so get out in September. September is positive, so get back in. October is down; get back out; November is up, so you get back in--and over time, whether you follow this formula for months or years, or through bear and bull markets, you end up in the market when you would have preferred to be out, and out when it was better to be in.
As professionals, we try not to let greed OR fear dictate our portfolio composition. In the long run, that gives you an edge on others who are responding without understanding what, exactly, is driving them to the sidelines whenever stocks go on sale.
An Australian company called FinaMetrica has been giving lay consumers a scientifically-designed risk profile questionnaire for the past 12 years, helping financial advisors evaluate whether their clients are natural risk-takers or the kind of people who feel more comfortable if their money is stuffed safely in their mattress. A closer look at the responses, including 2,586 individuals who took the test before and after the recent bear market, shows something surprising: people were no more risk-averse after they had been clawed by the worst bear market since the Great Depression than they had been before.
Chances are, you're less excited about taking market risk now than you were in, say, the early months of 2007, so these results seem impossible. But the FinaMetrica people offer a plausible explanation for their results. They say that there are three components to your willingness to expose yourself to the ups and downs of the market. Two of them changed after the market downturn, and one of those two has recently changed again.
The first component is what might be broadly called your bravery; your willingness to take chances. This is the part that FinaMetrica measures directly, and its results show that if you were willing to skydive or take ski jumping lessons off the 90-foot hill before the Fall of 2008, you're just as excited by the idea of putting your life at risk now. The markets don't change who you are fundamentally.
The second component is your risk capacity; that is, how much financial risk you can afford to take. The 2008-2009 bear market might have caused a lot of us to rethink how early we might be able to retire, but a reprise of it might make us wonder if we can retire at all. So we become a bit more conservative in our investment approach.
Component number three is our risk perception. If we're watching the markets go up and up and up, then we see little risk and lots of upside. This is why, during the late 1990s tech boom, even the most timid individuals were throwing money into the market like drunken sailors. When the markets deliver the opposite experience, we look at stocks and see nothing but risk.
This last piece of the risk tolerance puzzle is, today, sending out alarm bells that may be echoing deep in your own psyche. The markets have just delivered the worst market performance in the month of August since 2001--which professional investors know is a random event. But now we're in September, that very same month when Lehman Brothers went down and AIG effectively declared bankruptcy back in 2008. It also happens to be the same month that the country experienced the shock of 9/11--which, among a lot of other things, sent the global investment markets reeling. Chances are you don't remember it personally, but September is also the month when the 1929 crash occurred.
So we had a dismal August that gave back the gains that the market had created in the first seven months of the year, and we're entering that scary month that we associate with recent financial disaster. Chances are, your logical mind knows that a reprise of 2008 is unlikely, and if you've been reading the papers, you know that corporate profits have been going through the roof in the American economy. But the emotional part of your mind looks at the market and conjures up every negative statistic, and sees far more potential risk than reward, and experiences fear even as you strap on your parachute at 15,000 feet and give an enthusiastic high-five to the instructor who is looking a little nervous.
We don't know whether the month of September will bring the markets back into positive territory or not, despite a lot of long-term analysis. But if you invest based on what the markets did recently, where does that lead you? August was negative, so get out in September. September is positive, so get back in. October is down; get back out; November is up, so you get back in--and over time, whether you follow this formula for months or years, or through bear and bull markets, you end up in the market when you would have preferred to be out, and out when it was better to be in.
As professionals, we try not to let greed OR fear dictate our portfolio composition. In the long run, that gives you an edge on others who are responding without understanding what, exactly, is driving them to the sidelines whenever stocks go on sale.
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