The U.S. economy contracted at an annual rate of 1% in the 2nd quarter which is a significant improvement over the decline of 6.4% (annualized) in the first quarter. This is a significant improvement and has been accompanied by over a 50% increase in stock prices as measured by the S&P 500 from the March lows. Some portion of the improvement in stock prices and in the economy must be attributed to actions by the Federal Reserve and the Treasury. The government supports are not sustainable in the long-term, and to some extent must be removed at some point in the future.
So what kind of recovery will we see, particularly as some government stimulus is removed? Stock price increases would seem to indicated the market believes we will see a strong period of growth as inventories rebuild and consumer demand increases. We are somewhat skeptical of this, and would instead worry that 2010 could see an economy with high unemployment and slow growth (possibly even periods of declines). We quote the analysts at PIMCO who said on August 20, "Government intervention on an unprecedented scale... has brought about stabilization. But this does not provide the foundation for a V-shaped return to business-as-usual. The violent rise in unemployment, above 9% in U.S. and Eurozone, is a significant challenge to income growth, and in turn, consumption growth and top line growth for business."
We may have a long way to go before we reach what truly feels like recovery. This seems to be time for caution by investors.
Monday, August 31, 2009
Friday, August 21, 2009
Alphabet Soup Revisited
Perry Moore authored this blog. Perry is Director of Wealth Planning at Payne Wealth Partners. Please read more about Perry here.
In a 2005 newsletter we wrote about the maze of professional designations those in our industry carry in an article titled “Alphabet Soup”. There were so many designations, in fact, that most investors didn’t have the slightest idea what each meant, and more importantly, what each required of the advisor to earn and maintain. Four years later the maze has turned into a labyrinth.
In a recent article by Elaine Floyd at horsesmouth.com, the International Association of Registered Financial Consultants estimated there are over 80 designations currently available to financial professionals. This does not include what would fall in the insurance, tax, and legal areas- with these the number quickly climbs into the hundreds. What complicates matters is that each of those designations has its own set of requirements (or in some cases lack of requirements) for education, ethics, experience, testing, and continuing education. For example, there are designations that require submission of a resume and $300 fee for completion. No specific education, testing, ethics or experience requirements! Still others require attendance at a 2-day seminar and a larger fee of $600 to obtain a designation. Compare these to the Certified Financial Planner™ designation, which requires a bachelor’s degree, 3 years experience in financial planning, passing a 2-day 10 hour exam (with pass rates averaging 50%), 30 hours of continuing education every 2 years, and ongoing ethics training. Quite a difference- but how can an everyday investor determine the differences when all the letters behind advisors’ names look so similar?
There are a number of things an investor should do to arm themselves with the right information. Finra.org provides details about every financial designation available here: http://apps.finra.org/DataDirectory/1/prodesignations.aspx - you can find information on all the critical parts of every designation you may see an advisor using. With some quick research you’ll be surprised at how many “designations” are more smoke and mirrors than major accomplishments. Of course you can always ask the advisor what they have done and continue to do for their designations- look for the details about the programs they’ve been through and what they’re doing on an ongoing basis to keep up with planning, investment, and legislative changes. Another easy source to access is the website for the provider of the designation you’re checking out. For example, by doing a google search for “CFP” you can quickly find www.cfp.net- the Certified Financial Planner™ Board of Standards website. The old saying goes- “caveat emptor”- only this time you’re armed with the right sources to do your homework and pick out the winners.
In a 2005 newsletter we wrote about the maze of professional designations those in our industry carry in an article titled “Alphabet Soup”. There were so many designations, in fact, that most investors didn’t have the slightest idea what each meant, and more importantly, what each required of the advisor to earn and maintain. Four years later the maze has turned into a labyrinth.
In a recent article by Elaine Floyd at horsesmouth.com, the International Association of Registered Financial Consultants estimated there are over 80 designations currently available to financial professionals. This does not include what would fall in the insurance, tax, and legal areas- with these the number quickly climbs into the hundreds. What complicates matters is that each of those designations has its own set of requirements (or in some cases lack of requirements) for education, ethics, experience, testing, and continuing education. For example, there are designations that require submission of a resume and $300 fee for completion. No specific education, testing, ethics or experience requirements! Still others require attendance at a 2-day seminar and a larger fee of $600 to obtain a designation. Compare these to the Certified Financial Planner™ designation, which requires a bachelor’s degree, 3 years experience in financial planning, passing a 2-day 10 hour exam (with pass rates averaging 50%), 30 hours of continuing education every 2 years, and ongoing ethics training. Quite a difference- but how can an everyday investor determine the differences when all the letters behind advisors’ names look so similar?
There are a number of things an investor should do to arm themselves with the right information. Finra.org provides details about every financial designation available here: http://apps.finra.org/DataDirectory/1/prodesignations.aspx - you can find information on all the critical parts of every designation you may see an advisor using. With some quick research you’ll be surprised at how many “designations” are more smoke and mirrors than major accomplishments. Of course you can always ask the advisor what they have done and continue to do for their designations- look for the details about the programs they’ve been through and what they’re doing on an ongoing basis to keep up with planning, investment, and legislative changes. Another easy source to access is the website for the provider of the designation you’re checking out. For example, by doing a google search for “CFP” you can quickly find www.cfp.net- the Certified Financial Planner™ Board of Standards website. The old saying goes- “caveat emptor”- only this time you’re armed with the right sources to do your homework and pick out the winners.
Monday, August 17, 2009
Commercial Real Estate
There continues to be much concern over the commercial real estate market. This is mentioned frequently in the consumer press, and we have had clients ask about what risks we see for the entire economy.
Commercial real estate is suffering from high levels of debt incurred in the days of low interest rates of 2007 and prior, and the high prices paid for some real estate that the debt was used to acquire. The financing came from banks and also from Commercial Mortgage Backed Securities (CMBS). This debt does not have the long maturities of residential housing, with significant amounts of 3 to 7-year paper scheduled to mature over the next few years. It is this maturing debt, and the now lower prices of real estate, that has some observers so concerned.
Goldman Sachs was recently quoted in the press as expecting another 20% price decline in commercial real estate. Companies are downsizing (thus reducing their demand for real estate) and debt holders may be liquidating real estate collateral, so additional price declines make sense to us. Certain commercial REITS and others who have high levels of debt are at significant risk in this environment.
We did note just today the announcement that the government TALF program (where the Fed makes low cost loans to acquirers of asset-backed securities including CMBS) that was scheduled to end December 31, 2009 has been extended for an additional 6 months as to CMBS. The Fed is trying to improve liquidity for commercial real estate with this extension and it is reasonable to think the government will provide additional assistance in commercial real estate if they feel it necessary.
Our conclusion: commercial real estate price deflation and defaults in the debt secured by such real estate is a legitimate concern as to the economy. We would think the government would do what they could to soften the economic blows from this problem, but it is one more headwind the economy and markets will have to deal with.
Commercial real estate is suffering from high levels of debt incurred in the days of low interest rates of 2007 and prior, and the high prices paid for some real estate that the debt was used to acquire. The financing came from banks and also from Commercial Mortgage Backed Securities (CMBS). This debt does not have the long maturities of residential housing, with significant amounts of 3 to 7-year paper scheduled to mature over the next few years. It is this maturing debt, and the now lower prices of real estate, that has some observers so concerned.
Goldman Sachs was recently quoted in the press as expecting another 20% price decline in commercial real estate. Companies are downsizing (thus reducing their demand for real estate) and debt holders may be liquidating real estate collateral, so additional price declines make sense to us. Certain commercial REITS and others who have high levels of debt are at significant risk in this environment.
We did note just today the announcement that the government TALF program (where the Fed makes low cost loans to acquirers of asset-backed securities including CMBS) that was scheduled to end December 31, 2009 has been extended for an additional 6 months as to CMBS. The Fed is trying to improve liquidity for commercial real estate with this extension and it is reasonable to think the government will provide additional assistance in commercial real estate if they feel it necessary.
Our conclusion: commercial real estate price deflation and defaults in the debt secured by such real estate is a legitimate concern as to the economy. We would think the government would do what they could to soften the economic blows from this problem, but it is one more headwind the economy and markets will have to deal with.
Friday, August 14, 2009
July 2009 Market Update (Posted to our blog two weeks after sending to clients)
“A wise man makes his own decisions; an ignorant man follows public opinion.” Chinese proverb
As we write this on July 28, 2009 the Dow Jones Industrials average closed the prior day over 9,100 and the S&P 500 closed over 980. Compare these levels to the March 9th close for the Dow of 6,547 and for the S&P 500 of 676 and you can see that U. S. equity prices are up approximately 40% from those March lows. Stocks in the U.S. (as measured by the S&P 500) have increased approximately 7% so far in July alone and approximately 10% for YTD 2009. Investors who sold at those low levels in March have missed out on a very significant upward move in prices.
One of the key reasons for the July gains were positive surprises on corporate profits for the quarter ended June 30, 2009. A good example of such a positive surprise is the report from Apple that showed a 15% jump in quarterly profit and even more meaningfully reported a 12% increase in quarterly revenue from a year earlier. This means consumers were willing to increase purchases of Apple products despite the challenging economy and the market seems to interpret this as an indication that consumers may not be as stingy as expected. According to Thomson Reuters, 77% of companies reporting have exceeded profit estimates and this has also supported recent market gains.
All of this has many market experts revising upward their earnings estimates and market targets. Goldman Sachs has raised its estimate of S&P 500 earnings for 2010 to $75 and has raised their year-end target for the index to 1,060 (from prior target of 940). If the $75 earnings prediction proves accurate, it equates to a price earnings ratio of 14 on the new 1,060 target.
International stocks have done well also, with the MSCI-EAFE index up 15% in dollar terms YTD through July 24, 2009 (5% of this increase came from dollar declines). Emerging markets (especially those in Asia) have done exceedingly well, with Asia ex-Japan up 43% in dollar terms through July 24.
Corporate bonds have also done well, as the very high spreads of investment grade issues as compared to U.S. Treasury securities have now returned almost to the levels that existed before the September 15, 2008 Lehman Brothers bankruptcy. Quality corporate bond spreads that were 600 bps over Treasury securities in March of this year are now less than 300 bps. Likewise, high-yield spreads of almost 1900 bps in March are now under 1000 bps (100 bps = 1%).
We believe our client portfolios were well positioned to participate in the 2009 gains of U.S. stocks, international stocks (including emerging markets) and corporate bonds (particularly high-yield bonds). This was possible because we did not follow public opinion and sell in early March when there were broad worries about deflation and possible depression. Instead, we worked to keep client portfolios invested consistent with their written Investment Policy.
Going forward we think there are still many economic challenges. One key challenge is what could happen with home foreclosures. Home prices (per the 20-city Case-Shiller index) are down 32% from their mid-2006 peak. As a result 15 million homeowners- one in five of those with a 1st mortgage- are under water (their home market value is less than their mortgage). If these homeowners run into any significant financial difficulty (lose a job, medical claim, etc.) they are at severe risk of walking away from their mortgage. This could spiral home prices down further as these foreclosed homes are sold at low prices. The Obama administration has advanced plans for helping homeowners, but these programs are unwieldy and to date have helped relatively few.
As we write this on July 28, 2009 the Dow Jones Industrials average closed the prior day over 9,100 and the S&P 500 closed over 980. Compare these levels to the March 9th close for the Dow of 6,547 and for the S&P 500 of 676 and you can see that U. S. equity prices are up approximately 40% from those March lows. Stocks in the U.S. (as measured by the S&P 500) have increased approximately 7% so far in July alone and approximately 10% for YTD 2009. Investors who sold at those low levels in March have missed out on a very significant upward move in prices.
One of the key reasons for the July gains were positive surprises on corporate profits for the quarter ended June 30, 2009. A good example of such a positive surprise is the report from Apple that showed a 15% jump in quarterly profit and even more meaningfully reported a 12% increase in quarterly revenue from a year earlier. This means consumers were willing to increase purchases of Apple products despite the challenging economy and the market seems to interpret this as an indication that consumers may not be as stingy as expected. According to Thomson Reuters, 77% of companies reporting have exceeded profit estimates and this has also supported recent market gains.
All of this has many market experts revising upward their earnings estimates and market targets. Goldman Sachs has raised its estimate of S&P 500 earnings for 2010 to $75 and has raised their year-end target for the index to 1,060 (from prior target of 940). If the $75 earnings prediction proves accurate, it equates to a price earnings ratio of 14 on the new 1,060 target.
International stocks have done well also, with the MSCI-EAFE index up 15% in dollar terms YTD through July 24, 2009 (5% of this increase came from dollar declines). Emerging markets (especially those in Asia) have done exceedingly well, with Asia ex-Japan up 43% in dollar terms through July 24.
Corporate bonds have also done well, as the very high spreads of investment grade issues as compared to U.S. Treasury securities have now returned almost to the levels that existed before the September 15, 2008 Lehman Brothers bankruptcy. Quality corporate bond spreads that were 600 bps over Treasury securities in March of this year are now less than 300 bps. Likewise, high-yield spreads of almost 1900 bps in March are now under 1000 bps (100 bps = 1%).
We believe our client portfolios were well positioned to participate in the 2009 gains of U.S. stocks, international stocks (including emerging markets) and corporate bonds (particularly high-yield bonds). This was possible because we did not follow public opinion and sell in early March when there were broad worries about deflation and possible depression. Instead, we worked to keep client portfolios invested consistent with their written Investment Policy.
Going forward we think there are still many economic challenges. One key challenge is what could happen with home foreclosures. Home prices (per the 20-city Case-Shiller index) are down 32% from their mid-2006 peak. As a result 15 million homeowners- one in five of those with a 1st mortgage- are under water (their home market value is less than their mortgage). If these homeowners run into any significant financial difficulty (lose a job, medical claim, etc.) they are at severe risk of walking away from their mortgage. This could spiral home prices down further as these foreclosed homes are sold at low prices. The Obama administration has advanced plans for helping homeowners, but these programs are unwieldy and to date have helped relatively few.
A retrenching consumer in developed countries, particularly the U.S., is another significant risk. No one yet knows what level of past consumption will be redirected toward savings to replace wealth lost with declining home prices and shrunken investment portfolios. All such reduced consumption translates into reduced corporate sales and reduced corporate profits which would challenge stock prices.
We continue to follow the themes expressed in past reports. Those themes for how we invest client money include:
We continue to follow the themes expressed in past reports. Those themes for how we invest client money include:
- Developed countries will be faced with weak consumption as consumers deleverage and increase their savings rate to help restore lost wealth.
- Emerging countries have a growth advantage with an emerging middle class, high savings rates (that can be redirected towards consumption) and low government debt.
High budget deficits will lead to increasing levels of government debt compared to GDP, resulting in a weaker U.S. dollar (and weaker currencies of most other developed countries). - There is an increasing possibility of significantly higher levels of interest rates on government bonds in the U.S. and other countries where government debt to GDP increases materially over the next decade or more.
- There is a risk of much higher inflation (although time is needed to clear excess capacity) if governments worldwide don’t skillfully remove monetary stimulus.
- It is important to understand that human behavior results in markets that overdo things on both the upside and downside.
We are not recommending any changes to client portfolios at this time, but we do continue to consider a number of possible investment themes and strategies. Also, we are periodically rebalancing portfolios to their Investment Policy, as we always have.
Monday, August 10, 2009
NAPFA Consumer Webinars
One of the great challenges to consumers of financial services is the lack of clear information on financial matters. The National Association of Personal Financial Advisors (www.napfa.org) is attempting to address this with "consumer webinars". These are free one-hour presentations over the web by fee-only, fiduciary financial practitioners from a variety of cities.
These just started on August 7, 2009 and will be held monthly in the future. More information, including a schedule, an archive of the first webinar "Money 101: Knowing the Basics" can be found at http://www.napfa.org/consumer/ArchivedSessions.asp.
These just started on August 7, 2009 and will be held monthly in the future. More information, including a schedule, an archive of the first webinar "Money 101: Knowing the Basics" can be found at http://www.napfa.org/consumer/ArchivedSessions.asp.
Thursday, August 6, 2009
FORTUNE MAGAZINE: "The next great bailout: Social Security"
The most recent issue of Fortune magazine contains a compelling article on Social Security at http://tiny.cc/RYxRm. The author of the article (Allan Sloan) who is nearing retirement age, points out that Social Security is nearing the point where annual cash flow (payroll taxes collected from workers minus claims paid) will turn negative. The annual Social Security cash flow deficits must be funded with additional Treasury borrowing which will put further upward pressure on interest rates.
Mr. Sloan proposes some fixes for the problems, including raising the covered wage limit (but not too high). He is very clear that it is important not to "tax the rich" too much in any such fix.
After the health care legislation is done (which is supposed to address the even more challenging Medicare solvency questions), Social Security would seem to need some attention. Let's just hope Washington is up to the task.
Mr. Sloan proposes some fixes for the problems, including raising the covered wage limit (but not too high). He is very clear that it is important not to "tax the rich" too much in any such fix.
After the health care legislation is done (which is supposed to address the even more challenging Medicare solvency questions), Social Security would seem to need some attention. Let's just hope Washington is up to the task.
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