Monday, December 30, 2013

Be It Resolved . . .

When I was a boy or young man and did something stupid, as boys and young men are prone to do, my father would console me with the reminder that "there was only one perfect man, and look what happened to him," referring to Jesus being crucified.  His point was that being perfect is over-rated and that you can forgive yourself for your mistakes.

On the other hand, my mother insisted that I also learn from my mistakes.  One favorite technique of hers was for me to make New Year's Resolutions each year to deal with those mistakes and not make the same mistakes again.  "Unless you are already perfect, you always need to work on your imperfections."

I soon began to think the only reason for New Year's celebrations was to make New Year's resolutions.  Yet, that is no longer fashionable, and I wonder why?  Imperfect people are missing a real opportunity!

Over the years, my annual resolutions have become increasingly mundane and boring, but I still make them.  For 2014, I have just two resolutions, i.e., to have my eyes examined and to take a refresher course in econometrics.  It is pretty dull stuff, but they will be done!  New Year's resolutions will even force the procrastinator to act!

Now, what is your New Year's resolution?  What . . . you think you're perfect ?? 

Sunday, December 29, 2013

Economists vs. Americans

By a large margin, most economists and strategists agree that the economy is doing much better.  Yet, according to the latest poll by CNN, 68% of Americans think the economy is doing poorly and 38% think the economy will still be doing poorly in another year.

I think this difference in perspective shows how much more important the jobs market is to Americans than to economists and strategists.  Americans cannot see past the lousy jobs market to the overall economy.  It is the old story of parties on Wall Street and poverty on Main Street.

Remembering that consumer spending is two-thirds of GDP, the critically important consumer confidence is still rising more slowly than business confidence.  It is dampened by the jobs market.  As the late Lee Atwater said, "perception is reality" . . . sometimes.

The good news is that the latest monthly unemployment rate dropped to only 7%, but I suspect this rate will be adjusted upwards when the next jobs report is released January 10th.  Still, job creation is expected to average about 200 thousand monthly in 2014, which is a long way from losing 600 thousand a month, as we were in early 2009.  Economists have been arguing we need at least 250 thousand new jobs each month to accommodate normal growth in the labor force.

But, something else is happening in the labor force.  Back in the dark ages of the year 2000, almost 65% of Americans between the ages of 16 and 65, who were not in school, were either working or looking for work.  Rather dramatically during the Great Recession of 2008-9, that rate dropped to only 58% and has remained there since then. This is called the "labor force participation rate."  Republicans use that data to to argue that Americans have lost interest in working and that unemployment payments should not be extended.  Democrats use that data to argue that baby-boomers are retiring faster than expected,  even though many were retired involuntarily. They see a need to reinforce entitlement spending to protect these new retirees.   Also, given the lack of jobs, many younger people have delayed entering the work force, most often pursuing higher education.  Still, there is no definitive answer to why fewer people participate in the labor force.

If that labor force participation rate returned to normal as suddenly as it declined, the unemployment rate would increase significantly, which means our current level of unemployment is really much higher than 7%.  

Maybe, Americans know something that economists and strategists don't know?

Saturday, December 28, 2013

2014 Forecast

Sometimes, there is a long wait before something appears in the newspaper.  This is especially true for "feature" articles.  Inside Business is currently preparing such a feature article, compiling 2014 forecasts from various business leaders for publication in early January.  For loyal readers, here is the forecast I submitted on December 19th:

Behavioral economists always warn about “recency bias,” which is the natural tendency to predict more-of-the-same of whatever has been happening recently.  The latest survey of economists by the National Association of Business Economists (NABE) just forecast more long, slow but improving growth in the economy.  GDP will grow from 1.8 percent in Q4 of 2013 to 3.0 percent in Q4 of 2014.  Job growth will continue about 197 thousand monthly.  The majority do not expect another government shutdown or, more importantly, a default on Federal debt.  Continued slow tapering of quantitative easing will raise the benchmark 10-year Treasury rates only slightly, from 2.9 percent to 3.25 percent by the end of 2014.  Inflation will remain tame.

As much as I would like, I cannot disagree that both the economy and the stock market will make continued improvements during next year.  We can eliminate strong economic growth as a possibility, due to the fiscal drag from our dysfunctional Federal government.  In all probability, we can also eliminate recession, as recent economic data has been stronger than expected. 

From a historical standpoint, there is an old Wall Street adage that a great year is followed by a good year, but watch out after that.  2013 was a great year.  Also, in the last 114 years since 1900, the stock market has dropped 30 percent or more -- thirteen times.  The current recovery is far shorter and far weaker than the average.  Historically, neither the economy nor the stock market is due for a recession.

Slow, steady growth in the economy is the default prediction, with the S&P 500 closing 2014 over 2000, compared to about 1800 now.

However, there are more landmines to this prediction than normal.  First, Europe is looking better all the time.  Ireland has now exited its austerity program, and Greece has returned to the international bond market.  Although the probability is decreasing, I will raise cash if there is a derivatives blow-up in Europe, which would be a very bad sign.  Second, if there is another “flash crash,” where the Dow drops 600 points in five minutes, like it did May 6, 2010, I will do nothing.  It will recover in the short term, but I will be raising cash in the long term.  Third, if it looks like the U.S. will actually default on its debt, I’ll start reducing risk by increasing cash.

Otherwise, enjoy the ride in 2014 – hopefully, the S&P 500 will reach 2014!

Thursday, December 26, 2013

Ten Predictions From The Vampire Squid

Goldman Sachs has delivered their "Ten For 2014, " and here they are:

1.  GDP growth will improve as the fiscal drag from reduced government spending falls from 1.5% to only 0.5%, which is a full point of additional GDP growth.  It sounds small but is a big deal!

2.  Unemployment will drop to 6.5% in mid-2014 from 7.0% now.  Further, it will drop to 6.0% in mid-2015.  This suggests much less support from the Fed, which is good in the long run, if not the short run.

3.  From any historical perspective, inflation will remain low, due to the amount of slack in the labor force as well as in industrial capacity.  This is good news for bonds.

4.  The Fed will complete its tapering or end quantitative easing by the end of 2014.  This makes libertarians happier than other Americans.

5.  The S&P will end 2014 up modestly to 1,900 and end 2015 at 2,100 -- compared to 1,830 now.

6.  Interest rates will continue to rise.  The 10-year Treasuries will rise from 2.9% now to 3.25% next year and 3.75% in 2015.  (Remember:  rising interest rates are a double-edged sword.)

7.  The dollar will weaken against the Euro, meaning European vacations will get more expensive.

8.  Oil prices have hit bottom but gold, cooper, and soybeans will continue to fall.

9.  An increase in oil prices will not derail our continued economic recovery, indicating the strength of this recovery.

10.  "Hot" themes to watch are 3D printing, LED lighting, E-cigarettes, cancer immunotherapy, and "big data."  3D printing is already doing well for commercial usage, if not residential.  I thought E-cigaretters were already done but will have to study that some more.  Just imagine being immune to cancer???

Overall, this set of predictions is not significantly different from their previous one, except that it does continue into 2015.  However, one interesting point is that their prediction of S&P ending 2014 at 1,900 is lower than most other forecasters.  But, don't confuse the vampire squid with the thundering herd!

Monday, December 23, 2013

Happy Holidays . . . to all !!

Most religions and cultures enjoy some early winter celebration, in preparation for the long, dreary winter weather.  So, Merry Christmas and Happy Hanukkah and Blessed Kwanzaa and Warm Winterfest to each and everyone of you!

Spring will be here soon . . . ??

Here Comes Santa Claus?

In a predictable world, we know that the stock market usually weakens in the first half of December as the hedge funds sell out to "lock-in" their investment gains (read:  bonuses) for the year and enjoy the holidays.  Mutual funds do not have that option.

During the latter half of December, mutual funds needs to "window-dress" their balance sheets before the year-end statements are prepared.  This normally means they want investors to see they were fully-invested and holding very little cash on December 31st.  In addition, a great deal of qualified plan contributions are made just prior to year-end, which also have to be invested quickly.  Lastly, the omnipresent gloom on Wall Street lifts during this season of glad tidings, reducing the number of sellers.

The result is a monthly see-saw -- the market drops the first half of the month but rallies the second half.  This is called the "Santa Claus" rally.  Last week, we saw the best week for the market in three months.

Oh, yeah . . . Santa Claus is coming Tuesday night!

So, enjoy the season of capital gains!!

Sunday, December 22, 2013

Improbable But Appropriate

In Army Basic Training, we were taught that, if we were ever captured by the enemy, we can only release our name, rank, and serial number.  In Officer Candidate School, we were taught to choose death over dishonor.  In Special Forces, we were taught techniques to better withstand torture, such as deep breathing and the mental game of disassociation.  If that failed, remember the pain you're absorbing would go to your family if you talked.  You take the pain for those you love.

Not surprisingly, my knee-jerk reaction when I head about Edward Snowden leaking secrets was that he must be captured and executed as quickly as possible.  With the passage of time, my worst fears about government snooping have been realized, although it does seems to be more pervasive but less invasive, at least so far.  There is a reasonable argument that Snowden has done the world a favor by exposing the government snooping, which is even more insidious than Google.

So, is Snowden a hero . . . or scum . . . or both?  My suggestion is that he be awarded the Presidential Medal, the highest civilian medal, in recognition for the awareness he has created.  Then, he should be promptly executed!

To paraphrase Benjamin Franklin, he who would trade security for privacy will have neither.  I look forward to tight, new controls on the zealots of NSA!

Thursday, December 19, 2013

Welcome Home, Prodigal Son!

Sometimes, the stock market is like The Prodigal Son that comes from a good family, then becomes foolish, asinine, and unreasonable for awhile, before finally returning to their House of Reason.

Twice, the stock market has suffered from a "taper tantrum," losing billions of dollars of investor money, because it was afraid the Fed would begin tapering or reducing the amount of its monthly purchases of Treasury bonds and Mortgage-Backed Securities (MBS), which is known as quantitative easing.  I have argued that it was an unreasonable reaction, because the Fed will not begin that s-l-o-w process -- until the economy is stronger.  And, since when does the market collapse because the economy gets stronger?

Yesterday, the Fed reduced uncertainty by announcing it would only buy $75 billion monthly instead of $85 billion.  Immediately, I could almost hear a distant submarine sounding "DIVE, DIVE" as the Dow dropped 61 points in a heartbeat.  Then, the Prodigal Son returned home to the House of Reason, as the Dow ended the day UP a whopping 292 points, closing at a new record high!

Another reason I suspected tapering would begin yesterday was that it would be Bernanke's last chance to begin unwinding the huge "stimulus" program he began.  Like everyone in office, he has his detractors, primarily that he didn't foresee the financial collapse and then did TOO MUCH to save the nation's financial system.  He wanted to start reducing what he began, just to answer his detractors.  From their standpoint, Bernanke was also a Prodigal Son, who did "wild & crazy" things before reversing course at the end.

History will be kind to Dr. Ben Bernanke!

Tuesday, December 17, 2013

No Dog In This Fight

Sometimes, I have trouble getting my nose out of books and looking out the window instead.

The classical school of economics makes it clear that any increase in the cost of unskilled labor will cause a decrease in the demand for that type of labor.  Therefore, increasing the minimum wage will cause unemployment to increase.  Of course, the U.S. economy is too complex to be that easily explained.  Since the minimum wage was first imposed in 1938, the demand for unskilled labor has increased greatly, although it does beg the question of how much MORE demand would have increased, if we still paid workers a minimum wage of 25 cents per hour like we did in 1938?

Some pundits argue that the government must establish a minimum wage, since unskilled workers don't have the benefit of unions to protect them.  They also argue that the time to raise the wage is when the economy is improving and business has greater ability to absorb the increased costs by increasing prices, which would be now.

The demand school or Keynesian school of economics argues that increased spending by unskilled labor will help business, thus creating more demand for unskilled labor.

A recent analysis by Bloomberg concluded that the current debate about increasing the minimum wage is a great deal of words and emotions spent on something that is really not very important.  Increasing the minimum wage doesn't help unskilled workers as much as expected nor hurt small business profits as much as expected.  I think that is correct.

As for me, if 76% of Americans approve of helping the 2% of Americans who are actually earning the minimum wage, then why should an economic agnostic like myself preach classical economics?

Sunday, December 15, 2013

Distant Thunder

Because commission-based salesmen are typically not reliable sources of good information, I seldom study any analysis by stockbrokers.  However, Merrill Lynch has just released an interesting analysis, entitled A Transforming World.  Instead of focusing on what the economy and the stock market will do next year, it focuses on three major transformations in the world economy and stock markets over the next few decades.

"First, amid rapid strides toward energy self-sufficiency, we're seeing a surge in U.S. business and technological innovation that has the potential to revitalize the economy and spark another long-lived bull market."  This paper discusses the impact of "fracking," the reduced cost of labor in the U.S. (minimizing outsourcing), the long-term housing recovery, and increased spending on R&D.  The U.S. is 75% of global venture capital!

"Second, far-reaching shifts in the financial markets are presenting investors with unprecedented opportunities - as well as unanticipted risks."  It points out that the flow of funds into mutual funds has shifted from bond funds into stock funds, probably beginning a "Great Rotation" into stocks, which is great for the stock market.  Both interest rates and inflation remain relatively low.  Minor increases are easily manageable.  While investing globally is finally getting the respect it deserves, "values-based investing" (VBI) is also becoming more practical.

"At the same time, a massive rebalancing of the world's economic, political, and social power is under way."  This paper emphasizes the impact of doubling the global middle class over the next twenty years, which will produce more consumer economies and fewer export economies.  The increased burden of aged populations in developed countries, like the U.S., will shift huge advantages to the developing world or emerging markets.  "By 2020, the U.S. is expected to have twice as many workers over age 55 than those 24 and under."  (This worries me . . . a lot!)  The demand for natural resources, such as water, will increase to a dangerous point.  Lastly, due to the limitations of democracy and the impotency of central governments, economic power has shifted to central banks, like the Federal Reserve.

While this was an excellent analysis and should be "required reading," it is primarily geared toward the "buy and hold" investor, who has a high tolerance for the inevitable bear markets that will occur.  And, I don't know many of those.  Of course, this report is what one would expect from "the thundering herd."

After all, everything is an opportunity, isn't it?

Saturday, December 14, 2013

Same Song, Different Chorus

Wells Fargo was never known as a powerhouse economics shop, but that changed when the giant bank bought and absorbed Wachovia, whose economics department was highly respected.  Here is a peek at their "combined" forecast for next year:

1.  GDP will continue to increase next year and into the following year as well -- yea, no recession.
2.  Inflation will remain tame, ending next year at 2.0% and 2.2% the following year -- good news.
3.  Capacity utilization remains relatively constant at 79.1% now to 80.8% - reinforcing the lack of inflation.
4.  The Federal budget deficit was $668.5 billion this year, decreasing to $538.5 billion next year -- good.
5.  The dollar will strengthen next year, making exports more difficult -- good and bad news.
6.  Unemployment drops to 6.5% by end of next year and 6.2% the following year -- slow but good news.
7.  Short term interest rates remain unchanged next year but rise sharply in the second half of 2015 -- good.
8.  Long term rates (10-year Treasuries) rise from 2.85% now to 3.2% at the end of next year -- OK news.
9.  Interest rates will rise more rapidly in England, suggesting a stronger pound -- visit England now.
10. GDP will grow faster in Korea, China, India, Mexico, and Russia than in the U.S. by 2015 -- old news.

While economic forecasts are not the same as stock market forecasts, there is a "stretchy" relationship.  The currently bullish stock market reflects a bullish outlook for the economy, notwithstanding a dysfunctional government and the withdrawal of stimulus by the Federal Reserve.  That is a big difference from last year.

There is surprising uniformity to the 2014 economic forecasts that I've been studying, probably reflecting a "recency bias," which is a common error of forecasters to forecast a continuation of what has been happening recently.

Thursday, December 12, 2013

Disconcerting Conversations

I have one friend who is a very senior hospital administrator and another friend who has spent his whole career in health insurance.  Both are lifelong Republicans, and both opposed Obamacare.  In separate conversations, they both said that healthcare is now so hopelessly complex that it will certainly fail.  Both said the only way out of this mess will be a single-payer system, like Europe where universal health care is provided to everybody by the government.  They agreed there is no going back - "you can't unbreak an egg."

I pointed out to each friend that the President originally wanted a single-payer healthcare system but was forced to settle for "Romneycare."  Each of them just nodded in agreement and warned me that the process of getting from an unacceptable healthcare system, where 30-40 million people received minimal healthcare, to a real healthcare system -- requires a painful detour through Obamacare.  I jokingly asked if we were going through Purgatory in route to Heaven.  Neither thought that was funny!

If that is the case, what is the time horizon?  What does that suggest for the stock of health insurance companies?  For other medical related companies?  For medical research?

And, how does either political party benefit from this?

Wednesday, December 11, 2013

Harder To Hate

My mother taught me that hate is a four-letter curse word that should never be used.  Therefore, I cannot say that I hate Google!

The reason is that I greatly resent their 24/7 snooping of our private lives, especially the granularity of their snooping.  For example, they know whether you need a blue shirt or a white shirt, because you clicked on a website selling such items, and Google then sells that information to advertisers selling shirts.

However, with the recent discovery of NSA spying on Americans, Google's spying does seem a little more trivial.  In addition, I see that Google is now donating $250 thousand to put a holiday wreath on all 120 thousand gravestones in Arlington National Cemetery, which is a truly noble gesture.

I know, I know, even Al Capone supported an orphanage in Chicago, but I have a weak spot for veterans.  From now on, I will just deplore Google!

Now, A Word From The Pros

The National Association of Business Economists annually surveys members on their outlook for the next year.  Their 2014 economic outlook has just been released, and here are some of the more salient points:

1.  GDP growth will accelerate, with a full year growth of 2.8%.  This is lower than Q3 of this year but indicates their belief in slow growth . . . but still growth -- no recession.

2.  Job creation will continue at 200 thousand per month, with a full-year average unemployment rate of 7%, which is exactly where it is now.  No good news for the desperate.

3.  The S&P 500 will end 2014 at 1,850.  (It is already over 1,800 now.)  If there is a bear market, they expect it to be short-lived.

4.  Export growth will double from 2.5% this year to 5% next year.

5.  There is only a 20% probability of another government shutdown.  (Of course, announcement of the latest budget deal suggests it is probably even lower.)

6.  Tapering of quantitative easing will definitely begin in the first half of next year -- duh!  Since the ridiculous "taper tantrum" of the stock market last summer, it does appear that the market is finally starting to realize that tapering is a good thing.  But, we'll have to wait before seeing if the good economic news becomes good financial news again.

7.  Short-term interest rates will remain low, but the longer term rates (10-year Treasuries) will rise somewhat from 2.8% to 3.25% next year.

8.  Inflation was only 1.5% this year and is expected to rise modestly to 1.8% next year -- hardily worrisome!

While I haven't gone back to last year's forecast, I'll bet it was almost identical to this one.  The irony is that, while it was somewhat pessimistic last year, it was still basically correct . . . slow, steady growth.  I expect it will also be right this time . . . slow, steady growth.

I sure miss the good, old days when 4.0% GDP growth was routine!

Monday, December 9, 2013

Page Three News

A few months ago, the budget talks in Congress were page one news, until the can was kicked down the road once again.  However, we should get some idea of any budget deal late this week.  But, where is the news coverage?  Normally, that is a good sign - a sign that things were going well.  Then again, I always see a half-empty glass as 51% full . . .

To stay focused on the importance of any budget deal, please take another look at and, more specifically, study the "Largest Budget Items" on the left side.  While sequestration was successful in reducing the deficit, it did nothing to improve these items.  Sequestration only impacted discretionary spending, like infrastructure -- cutting muscle, not fat.  We need a real budget compromise, which actually deals with the "800-pound gorilla."

I would gladly pay another dollar in tax . . . if entitlements could be cut by ten dollars!

Friday, December 6, 2013

A Plain Vanilla Jobs Report

Economists did a good job predicting today's all-important "Jobs Report."  They predicted 185-200 thousand jobs were created in the private sector during November, and the report showed . . . drum roll, please . . . 196 thousand.  The futures market immediately spiked but then dropped back to exactly where it was.  Actually, this is also the three month average of jobs being created, which means their prediction was actually a safe one -- the best type of predictions to make!

Unemployment dropped from 7.3% to 7.0%, compared to the Virginia unemployment rate of 5.5% and Virginia Beach of 5.3%.  Earlier, the Fed said they would begin reducing monetary stimulus or QE when unemployment dropped to 6.5%.

The question is whether today's report triggers an action by the Federal Reserve to begin tapering or reducing the amount of Federal bonds they buy each month, known as quantitative easing.  A strong jobs report on the tail of a very strong GDP report suggests that tapering could begin sooner.  When the market believes tapering will begin soon, we can expect another "taper tantrum" like we saw last summer.  Both the stock market and the bond market will then fall . . . but not too far nor too long.

Remember:  the Fed will not begin tapering until it thinks the economy no longer needs the training wheels of QE, which means the economy is strong enough to grow without help from the Fed.  That means the stock market should begin growing again . . . but not until after it has a taper tantrum.

It is possible that tapering will begin this month, but I don't expect that to happen before March or so.  Until then, enjoy the ride and be ready to invest remaining cash during the taper tantrum.

Thursday, December 5, 2013

Not A Birthright

Following the destruction of World War II the Allies in general and America in  particular were in a position to re-make much of the world, including international trade.  Meeting in Geneva, it was no accident that the official language of such trade and international contract law became English.  As the dollar was then backed by gold, it was natural that the world also gravitated to the dollar as the world's reserve currency.  This has given us many benefits, guaranteeing a large demand for our currency, which drives up its value, keeping the dollar strong for decades.

A few months ago, China raised the obvious possibility that the world needs another reserve currency, like the renminbi, of course.  Few Americans have ever lived when the dollar was not world's reserve currency.  Most don't take the risk of losing our privileged status very seriously, but it is not a birthright.  Take a look at this graph of history:

So far, the reserve currency has always been from a western nation, but there is nothing preventing an eastern nation like China from taking our place.  While that would not be good for us economically, it would NOT be a disaster.  Politically, it would be much more damaging worldwide.  

I suspect American neo-cons would lose their sanity, as that would be the death of American exceptionalism.

Wednesday, December 4, 2013

Americans versus Investors

Last month, the ADP estimated 130 thousand jobs were created in our country during October.  Economists expected a improvement in November, with maybe as many as 170 thousand jobs being created.  Instead, ADP says 213 thousand jobs were actually created.  Economists cheered!  Americans cheered!

Investors didn't cheer . . . in fact, Dow futures immediately dropped 25 points.  Why?

Investors expect the Fed will start cutting back on quantitative easing (QE) when the economy improves, especially when the job market improves.  If you don't think QE is pumping up the stock market with cheap money, the stock market says you're wrong.

Of course, the Fed knows this but expects that the "wealth effect" or good feelings generated by both the rising stock market and the continued low interest rates will encourage more risk-taking, which jump-starts the economy.

So, who are you rooting for:  America or Wall Street?  In the short-term or long-term?

Saturday, November 30, 2013

Mind/Gut Dissonance

My mind and my gut are in disagreement.  There is something gnawing in my gut that says this market rally is overdone and needs a correction.  While a 5% correction is almost always a good thing for the market in the long run, my gut is telling me we are overdue for a 5-10% correction or drop in the market.  However, history does not support that conclusion.  Take a look at the market since 1900 or the last 113 years:

Chart of the Day
As you can see, the market has fallen 30% or more thirteen times over the last 113 years, averaging every 8.7 years.  Our market last hit bottom in March of 2009, suggesting there is still a long time before we re-visit the bottom of a bear market.

This chart plots the length and duration of the those thirteen recoveries.  If you look along the bottom, you'll see the current recovery.  It is both shorter-than-average and weaker-than average.  History suggests we should not be worrying about a significant bear market retreat.  (That means that growth investors will be happy, while income investors will be less happy.  Income investors will be happier than growth investors when the bear market does arrive.)

Reinforcing this notion, the appointment of Janet Yellen as the new Chairman of the Federal Reserve assures the market that the "punch bowl" of easy money will not be taken away anytime soon.

The one big difference between this market recovery and all the others is our increased vulnerability to sudden market drops due to the secretive nature of derivatives, "dark pools," and high-frequency trading.  I've characterized those events as non-fatal heart-attacks.

My gut is not happy with my mind's conclusion that the bull will continue running, but in the spirit of cooperation, the mind has agreed to keep my finger on the SELL button.

Thursday, November 28, 2013

Thanksgiving Thanks

For this Thanksgiving, I give thanks for the things in my life:

a nice home, a nice car, a dry bed, good food & wine, nice clothes and things that don't really matter.

I give thanks for the people in my life:

my friends and clients who allow me to see the world through their eyes, 
my long-term friends & family, who age before my eyes, just like fine wine,
my parents, whose courage in the face of misery inspires me everyday,
and, my lovely wife, whose love of absurdity always keeps me smiling inside.

I give thanks for the freedoms in my life:

financial freedom, freedom of religion (or not), freedom of speech, the freedom to discuss neither religion nor politics, the freedom to study whatever I like, the freedom to associate with whomever or whatever ideas I choose (within reason), and even the freedom to choose NOT to live at all.

I give thanks for the intangibles in my life:

good health, the uncertainties of life that keep it unpredictable & interesting, and the ability to learn, as well as the continuing desire to learn.

And, I give thanks for the burning question  in my life:

why does complaining get 364 days a year, while thanksgiving only gets one? 

Wednesday, November 27, 2013

Graph Envy

Readers know I've long supported a "Grand Bargain" approach to solving our economic malaise.  This means making everybody suffer . . . but only for a short time.  While Estonia has been my favorite example, Eastern Europe in general has done a far better job of ripping off the scab from the global financial crisis five years ago.

They have cut entitlements.  Yes, even some grandmothers have been put into the street, hopefully into the care of family, churches and charities.  Yes, expensive medical treatments have been denied to the terminally ill, who died anyway.  Yes, they have increased taxes, especially on the "rich."  And, it has paid-off!  Look at the sharp rebound in their economies:

GLobal Resources Fund Sees Golden Cross

As we continue to slog through our long, slow recovery, we should remember there is an alternative.  Our economy is growing at an anemic pace, compared to Eastern Europe, and will continue to do so.  We're waiting for the scab to just fall off naturally someday.

Democrats will wail about the poor grandmothers, forgetting about the unemployed who could have jobs during the economic recovery.  Republicans will wail about the increased tax burden, forgetting about their increasing wealth during the economic recovery.  The rest of us will just shake our heads in wonder . . . impatiently waiting for the economic recovery.

Tuesday, November 26, 2013

Northern Light?

Northern Trust is a huge Chicago-based money manager that successfully styles itself as home for America's blue-bloods, i.e., the extremely wealthy and discerning.  Like all big money managers, they brag about their proprietary investment research department, as if that was something unusual.  Their forecasts are obviously written by economists and strategists for other economists and strategists, not the average investor.  But, their latest forecast is somewhat more interesting than usual:

1.  Referring to the confirmation hearing of Fed Chairman designate Janet Yellen, there was a "noticeable lack of animus from Republican senators, which may be a reflection of evolving political strategy" . . . hum?  Is something going on?

2.  The "economy is in a slow-growth, low-inflation environment". . . well, duh!

3.  There is "a supportive environment for high yield investments," which is a prime building block for income portfolios and is a good thing for income investors.

4.  The "U.S. stock market during the last 85 years shows a pattern of strong years being followed by another positive year.  Specifically, we have had 31 years of greater than 20% stock market gains in this period, and in 22 of those instances, the following year showed another positive return from equities."  (Those are great betting odds, if history means anything, but does it?)

5.  "We also continue to believe that the risks of fiscal problems in Washington, D.C., and uncertain policy progress in Japan and Europe, remain manageable."  Re-assuring, yes!  But, why?  Did the Congressional cry-babies suddenly grow up?

My sense from reading the full report is that there may have been a fundamental shift in the Republican strategy for dealing with President Obama.  They didn't get specific but implied less confrontation and more negotiation.  I hope so!

Sunday, November 24, 2013

Paging Miss Manners

"No smoking, no drinking, and no cussing."  That was the first advice I can remember as a boy.  Then, I learned the Ten Commandments.  Still, the best advice I ever received was to "NEVER discuss religion, politics or the proper way to raise children."  (Only your spouse should know such intimate things about you.)

While attending Infantry Officer Candidate School, I recall a three-hour class on etiquette, one morning shortly before graduation, learning the importance of standing when a lady approaches, opening the door for her, and helping her with her chair.  When working at SunTrust, I attended another three-hour class on etiquette, re-learning that civilized people will delay eating until everybody at your table has been served and to ALWAYS keep elbows off the table.  When working at Bank of America, I attended yet another three-hour class on table manners, re-learning the proper way to place eating utensils on the plates, when finished eating (tips down, blade away, at 45 degree angle) and the importance of thank-note notes.

No, I don't why etiquette training always comes in three hour bites, but my wife wonders why I needed more bites of such training than most people, suggesting some inner-barbarian that badly needed it.

Now, I wonder if the purpose of all that training was simply to avoid friction with other people.  If friction slows things down, does that mean it will be easier/faster to get through life, if one is well-mannered and therefore has less friction with others?  Is that a good thing?

I think of all the good and decent people I know.  Do I need friction-protection from them?  I think of all the other old soreheads I know.  Friction with them is a good thing, a badge of honor, isn't it?  Or, is it?  Who is etiquette for, anyway?

The classic existential book by Samuel Beckett called Waiting for Godot contains the memorable line that "Hell is other people."  He begs the question of whether Hell is in Death . . . or in Life.  That question is obviously above my pay grade, but etiquette training might be helpful in both places?  Therefore, I guess that etiquette is for everybody?

But, I still like enjoy my inner-barbarian . . . and yours, too!

Friday, November 22, 2013

Portfolio Polarity . . . and pimples

Investors may be tall or short, male or female, black or white.  The possibilities seem endless.  However, we tend to categorize them as growth investors, income investors, or capital preservation investors.  As a practical matter, 99% of investors are either growth or income.  (Most capital preservation investors leave their money in FDIC accounts.)

Generally speaking, the appropriate investments for each type of investor are very different.  For growth investors, we buy them lots of tech stocks, for example, or stocks that produce no income but are expected to appreciate substantially in value.  Of course, they may also depreciate substantially during the inevitable bear markets.

Traditionally, we buy lots of bonds for income investors, because most bonds pay interest income to our income investors every quarter.  With interest rates so low currently and with  bonds expected to lose so much value when interest rates finally start rising, we now buy high-dividend stocks for income investors instead of bonds.  Like Willie Sutton admitted to robbing banks "because that's where the money is," we buy high-dividend stocks because that's where the income is.  But, these stocks behave somewhat like bonds.  Their values do fall somewhat when interest rates rise, and their values don't rise as much as growth stocks during a bull run.  There is also solid research that they don't fall as much as growth stocks fall during the inevitable bear markets.

This polarity in investment objectives actually works quite well, except for one problem.  Income investors are unhappy when the market is rising, because their portfolio is not increasing as rapidly as the portfolio of growth investors.  They feel bad at cocktail parties.  Conversely, growth investors are unhappy when the market is falling, because their portfolio is falling more than the portfolio of income investors.  They also feel bad at cocktail parties -- but not at the same time as income investors feel bad.  They alternate feeling bad!

Income investors are happy during the inevitable bear markets, because their income remains relatively stable despite falling stock prices.  But, just try to remind income investors of that right now, after a great bull run!

Because people are people, they want to be growth investors when the market is going up and to be income investors when the market is going down, which is like having your cake and eating it too.

Bottom Line:  Investors are people too, and that's why I love them . . . pimples and all.

Thursday, November 21, 2013

The Unfaithfulness of Numbers

Like all human relationships, my love affair with numbers has its "ups & downs."  Numbers are a useful shortcut thorough the blizzard of words that bombard us almost every waking minute.  But, when numbers become as vague and contradictory as words, the love affair suffers.

I've been trying to identify why the market has been so strong this year.  One strong possibility is that "The Great Rotation" has begun, meaning that investors believe interest rates will rise soon, which will drive down the values of bond funds, which means it is time to sell bonds and buy stocks.  Some of this is undoubtedly true as bond fund outflows spiked in Summer, when it was believed tapering of quantitative easing would begin in September.  But, the bull started running in the early Spring.

Another strong possibility is that the small investor is returning to the stock market, after fleeing during the financial collapse in 2008 -- five years ago.  However, the numbers aren't convincing either.  It looks more like the average investor, who remained in the market, is just increasing their account balance, not that the timid investor is returning.

Related to that, trading volumes have remained quite low, suggesting investors are not returning.  But, the ratio between BUY and SELL trades has shifted with more BUY orders and fewer SELL orders.  Sellers have slowed down considerably, but why?

Another possibility is that consumer confidence, while volatile, is still up for the year, as consumers become increasingly callous to the ideologues making Congress so impotent and are paying less attention to that set of event-driven risks.

The only thing we know for sure is that the rise in stocks has been much greater than the rise in corporate earnings.  The relationship should be much closer.  Maybe, investors suspect a substantial rise in earnings in the near future.  This is the more normal relationship, but doesn't seem to fit this year.

Maybe, it is just a weakness of numbers-lovers to look for an identifiable, quantitative reason for everything.  Maybe, it is time to accept that there will always be "unknown unknowns" that are not knowable and just enjoy the ride.  But, the search for a faithful, meaningful number never ends . . .

Wednesday, November 20, 2013

The Wisdom of Vampire Squids

You don't have to trust Goldman Sachs in order to respect their research department.  Here are their latest forecasts:

1.  GDP growth in 2014 will be almost 3%, which is a big improvement.  They expect both consumer spending and capital spending to pick up sharply.

2.  Congress will avoid the next round of sequestration, partially explaining the improved growth rate.

3.  Unemployment will average 6.6%, and the Fed will lower its trigger to end QE from 6.5% to 6.0%.

4.  While oil has stabilized, gold and copper will continue falling.

5.  Interest rates will finally make their move next year, with the benchmark 10-year Treasury rising from 2.7% to 3.25%.

6.  The Yen will continue to weaken, while the Euro has stabilized.

7.  Inflation will remain quiet.

8.  The S&P 500 will end next year at 1,900 -- up from 1,780 where it is now.

Tuesday, November 19, 2013

No Love For Google . . . or NSA

I have not been able to contribute to my blog in five days.  Once again, Google was denying me access, presumably because it didn't like my downloading their newest Chrome . . . I guess.  This is not the first time they have shut me down.  Once they denied me access because I was using Explorer, which is owned by Microsoft, instead of Chrome, which is owned by Google.  Although they have never written a word on the blog, they act like they own it.  Maybe, they do . . . technically.

Did anybody notice Google agreed to pay $17 million to 37 states for violating privacy of people who use Apple's operating system, Safari.  Oh, that was on top of the $22.5 million they agreed to pay the FTC for the same thing.  If you or I violate the privacy of our neighbors, we're likely to spend some time in jail.  If Google does it, they pay a fine that is insignificant to them.  So, why wouldn't they do it again and again??

Let's see . . . Google makes money by selling advertising.  They sell advertising by telling advertisers which internet users are interested in which types of products.  They have that information from planting "cookies" in YOUR computer to track your movements.  They have a monumental, obtuse, dense privacy agreement that everyone must agree with, in order to use anything remotely Google.  If you look for a new set of golf clubs, you get bombarded with advertisements selling golf clubs.  So, is Google doing you a favor??

And, who violates your privacy the most -- Google or the NSA?  Google does it for profit, while the NSA does it with abandon.  At least, Google knows what they will do with the information they get for violating your privacy.  They will sell it to the highest bidder.  The NSA gathers more information they can use, so leakers like Snowden can do what leakers do . . . leak it!  So, is Snowden the last leaker??

Maybe, it is time to go gently into the night, surrendering any appreciation for individual privacy.  If there is no place for chivalry in modern life, maybe there is no place for privacy either.  Every time you meet a new person, you have to wonder how much information he can immediately find out about YOU!  Will they know about your last medical procedure?  How about that embarrassing little social disease you picked up at age 18?  How about that time you typed in child proof furniture and somehow found yourself on a child porn website?  How much do you want strangers to know about YOU??

Thursday, November 14, 2013

A Known Known at the Fed

Janet Yellen has been nominated by the President to be Chairman of the Federal Reserve System in January.  With all due respect to Ms. Yellen, I agree with Warren Buffet in wishing the President had re-nominated Ben Bernanke for another term.

Yellen will be grilled today by the Senate Banking Committee, as part of the nomination process.  More is already known about her economic views than we knew about Bernanke's views when he was confirmed.  For example, she clearly has a more dovish attitude toward inflation than most economists.

Every central banker in the world has a single goal, i.e., control inflation.  Our central bank, however, has two, i.e., control both inflation and unemployment.  The Fed was given this dual mandate when economists believed in the "Phillips Curve," which says there is a trade-off between unemployment and inflation.  In other words, if you want to lower unemployment, you must accept higher inflation.  Conversely, if you want to lower inflation, you must accept higher unemployment.  We have now learned the connection between the twin evils of unemployment and inflation is more loose than anyone expected many years ago.

A Fed Dove is a Fed Governor who accepts higher inflation more readily than a Fed Hawk who accepts higher unemployment.  By all accounts, Yellen is a dove.  What does that mean?

Inflation may rise.  Deflation becomes less likely.  Unemployment will fall or rise less than otherwise.  Money supply will continue to rise quickly.  The dollar will weaken.  Exports will rise.  The price of imports will rise, thereby reducing imports.  Both our trade deficit and our balance of trade will improve.

One can argue that the Fed is already doing all that, and they would be correct.  The difference is that nobody knew Bernanke would take us down that trail, but I believe Bernanke was a solid Republican pragmatist who was willing to do anything to keep the Great Recession from becoming Depression II.  Going forward, the difference between Bernanke and Yellen would be that Bernanke would limit monetary stimulus like quantitative easing sooner than Yellen.

Since Yellen is an extremely qualified economist, since she will be the first woman ever appointed to be Chairman of the Fed, and since I think she is the first Vice-Chair of the Fed to become Chairman, she is both exceptionally well qualified and well experienced.

As a footnote, it is simply stupid for Senator Graham to put a hold on her nomination until he gets satisfaction, if that is ever possible, on Benghazi, which Yellen knows nothing about.  If he thinks the Fed had anything to do with the tragedy in Libya, he is too stupid to serve.  Holding up anybody's nomination to be Fed Chairman because of Benghazi is as stupid as holding up the nomination until the government tells us "the truth" about UFOs in Roswell.

Tuesday, November 12, 2013

A Brave Perma-Bear

Readers know I have been mildly bullish about the economy for some time, despite its being constrained by our politics.  While recoveries from financial crisis are almost always longer than recoveries from recessions, this particular recovery has been painfully slow.  But, the economy clearly has the potential to grow much faster.

There is an old Wall Street adage that anybody can be a bear, but it takes courage to be a bull.

So, imagine my surprise that Dr. Doom himself (AKA Nouriel Roubini) has turned bullish.  He famously predicted the 2008 crash.  Because he has predicted so many dire events, he has been known as a "perma-bear," always full of gloom.

As reasons for his change of mind, he cites:  "One was the reduction of tail risk of a eurozone disaster, a reduction of tail risk of a U.S. massive fiscal cliff, a reduction of  tail risk of a Chinese hard landing, and a reduction of tail risk of a war between Israel and Iran."  (Tail risk is a favorite term of statisticians and refers to low-probability events that can be highly destructive.)  With an economy slowly improving and uncertainty falling, the markets logically begin rising.  

While he doesn't seem to share my concern about a sudden "Jim Fixx" moment or an economic cardiac event from our dark pool of derivatives, it is comforting to imagine that Dr. Doom may become Dr. Boom?

Sunday, November 10, 2013

A Substitute Addiction

Ken Burns is arguably the greatest film documentary producer in our history.  Your perspective is always richer after viewing one of his films.  After viewing Dust Bowl, I was fascinated by the failure of science in causing this disaster.  Now, I just watched Prohibition and was fascinated by the failure of economics.

One of the tenets of classical economics, which was dominant at the time, was that, if you want more of something, you subsidize it and, if you want less of something, you tax it.  Intuitively, that makes sense.

As the perceived dangers of alcohol increased, the government kept raising the tax on it.  But, consumption kept increasing, along with government revenues.  At one point, taxes on alcohol were 70% of Federal revenue.  What a wonderful revenue source -- it was voluntary!  People were not forced to buy alcohol.  But, why were people drinking more, even with higher taxes?

What classical economists didn't know was called the "inelasticity of demand" or how will demand for a product increase or decrease in response to a change in price?  Take the case of cigarettes:  It is addictive, and addicts will pay almost any amount to have a cigarette . . . or alcohol  . . . or "illegal" drugs.  Increased taxes does not significantly reduce demand.

But, the government found itself in a paradox.  Taxing alcohol did not reduce alcohol consumption, but the government itself became addicted to alcohol taxes.  So, how to reduce alcohol consumption without bankrupting the government?  Obviously -- create a substitute addiction for the government to replace its addiction to alcohol and instead become addicted to something else.  The revenue had to be recovered!

And, the income tax was born.

Saturday, November 9, 2013

Tortured Logic

On Thursday, we learned that GDP was stronger during the third quarter than we expected, with an annualized growth rate of 2.8%.  Interestingly, it was not because of improved consumer spending, which was 1.5% of the 2.8%.  Improved exports contributed 0.31%.  But, the most surprising increase was inventory levels, which contributed 0.83%.  That could be because businesses are not able to sell existing inventory, but it is more likely because businesses see greater sales opportunities ahead.  This is a good!

With this strong economic data, it was not surprising that futures on Friday morning indicated a 30-point jump in the Dow at the opening.  At 8:30 AM, the October Jobs Report was issued and was also stronger than expected, with 204 thousand jobs being created, far above the 125 thousand that were expected.

With that good economic news, you would expect futures to strengthen and gain more than 30 points at the opening.  Instead, the futures market immediately dropped 60 points.  Why?  Because an improving economy means reducing quantitative easing sooner.  Because the market faces withdrawal from the "sugar high" sooner, if the job market is stronger.  More jobs means less sugar!

Sure enough, the market opened weakly.  However, as analysts dug into the Jobs Report, the labor market didn't look so good after all.  As it turns out, almost half the jobs were minimum wage jobs in hospitality and leisure industry.  The number of government workers continues to decline.  There was scant improvement in the number of part-time jobholders who could not find full-time jobs.  Businesses are unusually reluctant to hire full-time workers for this stage in the recovery.  But, the most inexplicable number was the 720 thousand decrease in the labor force, reducing the Labor Force Participation Rate to a 35-year low of only 62.8%.  It is hard to believe so many baby-boomers retired in October or that many young mothers chose to be stay-at-home mothers or so many people gave up and opted for continued poverty.  Bottom line:  the numbers in the latest Jobs Report raise too many questions.

Sure enough, the market realized the Fed would continue quantitative easing longer after this confusing Jobs Report, and the Dow jumped 167 points to a new all-time high.

The teaching point is that the stock market does not reflect economic conditions solely but also measures those conditions against expectations.  That's why good economic news is sometimes bad news.

Got that?

Friday, November 8, 2013

Beware This Bull Indicator

Technical indicators are always interesting but not necessarily trustworthy.  It is a very bullish technical indicator when the 50-day moving average crosses above the 200-day moving average.  That just happened for gold.  Take a look at this:

GLobal Resources Fund Sees Golden Cross

Despite what all the commercials on Fox News promise, gold is not about to spike upwards, UNLESS you believe we are about to experience hyper-inflation or governmental collapse.  As we have discussed here before, we will not experience hyper-inflation until the velocity of money returns to some more normal level.  And, while we obviously face a real prospect of government paralysis, but I see no realistic prospect of governmental collapse.  Even if the government were to collapse, it would not happen in the middle of the night before we have a chance to buy all the gold we can afford when the market opens at 9:30 AM five days a week.

At the same time, I don't see gold going much lower either.  The nations that consume the most gold are China and India, both of whom have seen their economy strengthen this year.  While silver has gained some fashion status in India, as an alternative to gold, that is not apparent in China.  Goldman Sachs predicts gold will drop another 25-30% or so by the end of next year, but I don't expect that large a drop.  The nicest thing I can say about gold right now is that it is "dead money" -- doing nothing for awhile.

Technical indicators are interesting . . . but not your boss.

Thursday, November 7, 2013

Just More Feckless Politicians ?

While nobody would ever confuse me with a Tea Party supporter, media analysis of the Tea Party's dismal performance during Tuesday's elections remind me of the quote attributed to Mark Twain about reports of his death being greatly exaggerated.  I hope so, because we still need the Tea Party . . . a little, maybe!

Born during Bush's $5 trillion increase in national debt and coming of age during Obama's $6.5 trillion increase, the Tea Party exploded into our national consciousness in 2010, producing the biggest realignment in the House of Representatives since 1948.

If every Tea Party member dropped dead today, they have already changed America.  Past discussions of deficit reduction quibbled about the need to increase taxes . . . but no longer.  (Obama was forced to make permanent the ruinous tax cuts of Bush, except for those earning over $400 thousand annually.)  Deficit discussion is now focused solely on cutting spending, with no discussion of tax increases.  The Tea Party should be happy, because, since 2010, the deficit has fallen more rapidly (percentage-wise) than any three year period since the demobilization after World War II.

But, I know of no economist who doesn't believe that current fiscal policy, frozen in place by the Tea Party,  is retraining growth of our GDP, anywhere from 0.5% to 1.5%.  This may sound small until you realize we're only growing about 1.5% to 2% now.  We could almost double our GDP growth, if we had a "grand bargain" and eliminated the deadening uncertainty we have now.  What would a doubled growth rate do to unemployment?  I believe the Tea Party stands in the way of any "grand bargain."

The Tea Party fancies themselves as fearless, and it is true they have little fear of other politicians, but they are as cowardly as other politicians on the subject of cutting entitlements.  All the spending cuts caused by the Tea Party and their sequestration program are cuts to discretionary spending.  The majority of this is muscle, not fat.  We're scalping Defense spending, infrastructure spending, and laying off food inspectors, for example.

Nobody suggests that grandma needs to be thrown in the street, but the growth in entitlements must be contained.  By 2038, entitlements will consume the entire Federal budget, that is 100% -- with $0 left for the military and food inspectors.  Most cuts are easy, such as cutting Social Security payments for people like myself and limiting heroic end-of-life treatments.  Finding the courage is not easy.

If the Tea Party really wants to do something fearless and actually constructive for a change, they should stand up to Seniors like myself and introduce a discussion on entitlements.  Without that, they're just routine, run-of-the-mill, everyday political cowards, that we already know so well. 

Wednesday, November 6, 2013

Wisdom of Sir John

Investment legend Sir John Templeton is best known for his emphasis on international investing.  However, he also said "Bull markets are born on pessimism, grow on skepticism, mature on optimism, and die on euphoria."  And, of course, he is right!

So, where are we today?  While I see a lot of political pessimism, I see even more economic optimism, especially on Wall Street.  But, I see no euphoria . . . yet.  Frankly, I don't expect to see any euphoria until some time after the politicians strike a "grand bargain." 

Monday, November 4, 2013

Lee Greenwood Is Right

With our daily deluge of negative news, it is easy to think America is falling apart.  Maybe, it is, but there are some places that are far worse.  If you think we have problems, consider the case of Greece:

1.  They are still in recession after six long years.  We've been a "weak" recovery for four years already.
2.  Their GDP has fallen an unbelievable 26%, while we're still growing about 2% a year.
3.  Unemployment is a staggering 27%, compared to our rate of "merely" 7.2%
4.  Greek wages are 30% less than 2008 levels, including some government workers.

The Greek economy is finally showing some signs of life.  They predict some minor growth next year, for the first time in seven years.

Still, there is much pain ahead of them.  23% of the workforce still works for the government, which is insane. Many thousands will have to lose their jobs in that small country, before Greece receives any additional financing.

Can you remember Lee Greenwood's pop classic "I'm Proud to be an American"?  He should re-record it as "I'm Thankful to be an American."

Remember this on Thanksgiving, November 28th . . .

What's Not To Like ?

Amid the love fest taking place on Wall Street, it was easy to miss the good ISM (Institute of Supply Management) reports of underlying economic data last week.  We learned that manufacturing improved nicely in October, with the ISM Manufacturing Index coming in at 56.4.  (Anything above 50 indicates an increase.)  While production increased 2% in the third quarter, most economists expect a 5% annualized gain in the fourth quarter.  This is big!

Also, foreigners strongly increased their orders from U.S. manufacturers, with the ISM New Orders Index rising from 52.0 to 57.0, and that is the eleventh straight month they have ordered more from us.  This is a very positive leading economic indicator.

Lastly, the ISM Prices Index showed only minimal inflationary pressure.  Just 8 out of 18 industries reported higher input prices.  This is very comforting, especially to the Fed.

Let's see:  production is up, foreign demand is up, inflation remains low, tapering of QE is postponed until Spring, China has avoided a hard landing, and unemployment is dropping, albeit slowly.  The love fest on Wall Street seems justified.

However, Wall Street is considered "smart money," and it seems unconcerned about the continuing charade in Washington, as well as the under-capitalized banks in Europe.  There is even talk of a dangerous "melt-up" in stock prices, when stock prices rise at an unsustainable rate.  While I'm aware that a "melt-up" merely lays the groundwork for a subsequent "melt-down," I don't think we're close to that yet.

So, I like it . . . for now . . .

Sunday, November 3, 2013

More Than Money

It doesn't matter if you believe you are fortunate because you are a "doer" or "job creator" from the mind of Ayd Rand, or if you believe God has just blessed you (but not others), or that you had the good foresight to pick a rich father, or that you believe it was simply blind luck or even all of the above.  However, reflecting my natural Calvinism, I believe the more fortunate have a responsibility to help the less fortunate, period.  With money, of course, but also with more than mere money.

Through good organizations like Rotary and Kiwanis, I've been fortunate to help make repairs to the homes of the elderly, to repaint the abused women's shelter and the homeless center.  Once, we spent a day planting dune grass (which was a real back-breaker) to protect the critical sand dunes that protect us.  Once a month, we still deliver meals-on-wheels to "shut-ins," which also serves as a monthly reminder that we are indeed blessed.

The vast majority of financial advisors enter the business to make big money.  However, some of us see the need to do more and serve the "whole" client by becoming certified.  Yesterday, a dozen of us participated in Financial Planning Day, hosted by the City of Virginia Beach at their convention center.  It was designed to help the less fortunate who have no access to serious financial planners.  I was expecting to meet with the desperately poor and "welfare queens."  I was wrong!

Everyone I helped was female, and I saw the other financial planners helping very few men.  Just like the stereotyping joke about men not asking for traffic directions, they apparently don't ask for financial direction either.  Also, everyone I helped already had a job.  They were not the desperately poor, just the working poor, who are seldom welcomed by financial planners or even by financial advisors.

One person was genuinely despondent that she lacked the discipline to save.  My first conservative instinct was that her personal problem with self-discipline should not be a problem dropped on taxpayers.  Then, I realized she was reaching out for serious help.  Nothing in all my financial planning training prepared me for a situation like that.  Like an alcoholic who must first admit they have a problem before they can be helped, here was a woman admitting her problem and asking for help.  After much discussion, I suggested she start small and put the money where she could not get it, except for emergencies.  Because she had complete trust in her mother, she agreed to give her mother $5 weekly to hold for her.  I will pray for her.

One 59-year-old woman was remarkably well-prepared financially, showing up with all her bank statements, a rough balance sheet, and tax returns -- a very detail-oriented lady, indeed.  She didn't trust financial advisors but still wanted somebody who was both well-trained and impartial to tell her if she was prepared for retirement.  With no children, no inheritance, and, importantly, with no divorces, she and her husband were able to save, truly save by practicing self-denial, almost $600 thousand.  I was proud of her.

Helping the less fortunate should be more than mere self-serving, sanctimonious, smug "do-gooder-ism."  You may recall I recently reviewed the great existential film Ikiru, in which a dying bureaucrat learns that death is just the expiration date for your opportunity to do something good, something with meaning.  Amen!

Tuesday, October 29, 2013

When One Is An Ugly Number

For many decades now, Modern Portfolio Theory (MPT) has been the "gold standard" for investment management.  Basically, it shows that an investor can achieve above-average returns with below-average risks by spreading his risks or allocating his portfolio across many "asset classes," i.e. large company stocks, small company stocks, international stocks, bonds, real estate, cash, etc.  This was possible because all assets are not perfectly correlated.  For example, bonds might go up in value when stocks go down in value. Or, gold may move a different direction than international stocks.  If an asset class moved exactly like the S&P 500, it had a correlation of 1.0.  If it moved up half as much as the S&P 500, it had a correlation of 0.5.  If it moved down one-quarter as much as the S&P 500 moved up, it had a negative correlation of (0.25).

Critics of MPT have always known there were some unrealistic assumptions supporting the whole theory. For example, one assumption was that all investors are rational and making decisions in their own best interest, based upon complete information.  Do you believe that?  And, there were some other unrealistic assumptions as well.

During the financial collapse of 2008, all correlations went to 1.0, which happens only when there is a complete collapse and all asset classes are losing value.  MPT made no provision for this happening, because rational investors would scoop up the bargains.  MPT made no provision for investors being terrified and wanting only cash.

In 2009, I was invited to serve on a certification committee, to re-write a certification exam for financial advisors.  At first, I was excited for the opportunity to update financial advisors on what we had learned about MPT during the global financial crisis, as well as other techniques for investment management. However, it was like finding yourself in an old-fashioned religious revival with everybody competing in their enthusiasm to agree with the preacher.  They were continuing to preach the "old-time religion."  Disappointed in the intellectual dishonesty, I resigned from the committee and have had nothing to do with them since then.

Currently, I'm in Dallas attending an advanced but similar course and relieved to find that we are finally being honest about the limitations of MPT, as well as other techniques.  But, why did it take four years?

Monday, October 28, 2013

Thank You, Wells Fargo

Each month, the Bureau of Labor Statistics publishes the "jobs report," which the media and the markets watch closely . . . too closely.  It is a flawed measure for several reasons.  One is that people get discouraged and quit looking for jobs, which decreases the available pool of labor and therefore makes the unemployment rate rise.  This factor in the changing labor force is called the "labor force participation rate." In other words, what percentage of "able-bodied" people are looking for work?  Of course, there is no shortage of political rhetoric around this number.

Today, Wells Fargo released a new Labor Market Index.  It includes six key labor variables and, at first blush, looks very interesting.  Next week, they will publish the statistical backup for this index, and I look forward to studying it.  Hopefully, the media and the markets can be liberated from the over-hyped "jobs report."

In the meantime, there is one little noticed piece of jobs data that I have always found interesting, i.e., the number of unemployed for every job opening.  It has now fallen to only to 2.9, which is the lowest since 2003.  I have no doubt the job market is improving, but it is improving slower than the economy is improving.  While this is characteristic of recoveries from a financial crisis (as opposed to recoveries from ordinary recessions), this is still unacceptably slow.

I applaud Wells Fargo for this new step forward and look forward to studying it. 

Down-Shifting Social Expectations

Republicans tend to believe that marginal income rates will not be raised if we experience strong economic growth.  Democrats tend to believe entitlements can be increased if we experience strong economic growth.  While they disagree on the methods to achieve it, they agree that the solution to all our problems is strong economic growth.  What happens when both parties praying at the altar of strong economic growth realize they are worshiping a false god?

A friend recently sent me a column by Robert J. Samuelson that makes me wonder if strong economic growth is a pleasant memory.  Are we doomed to a future of slow economic growth?  And, most importantly, can our society withstand such a down-shifting?

Since 1959, the U.S. has enjoyed approximately a 3% annual growth rate in GDP.  A product of the Age of Enlightenment, we've always assumed that things would always improve.  The conservative Cato Institute think tank explained that our growth since 1950 resulted from (1) a larger workforce from female participation, (2) a better educated work force, (3) more capital, e.g., machines & computers, per employee, and (4) technological & organizational innovation.

Unfortunately, labor force participation by women has decreased from 59.9% in 2000 to 57.7% last year.  High school and college graduation rates have stopped increasing.  Capital investment by business has been lagging for years.

Today, we're only growing from 1.5-2.0%.  That's not much additional income to keep a population happy when faced with higher taxes, possibly higher health insurance costs, and worsening income inequality.  Is there a tipping point, at which the resentment boils over and irrationality prevails?  If so, how will we know it when we approach that point?

Always seeing a glass as 51% full, I'm praying that our workforce increases from Hispanic additions, that education becomes more STEM-centric, and that businesses will lose their fear of politicians and start investing capital.

Even England is growing more rapidly than the U.S.   How will this country be different if we must lower our social

Wednesday, October 23, 2013

Giving the Devil His/Her Due

The latest forecasts from investment banking giant Goldman Sachs predict the following:

1.  GDP growth this year will average only 1.6%, reflecting damage of the government shutdown, but will jump to 2.9% for next year and unemployment will be "only" 6.6% by the end of 2014.
2.  Inflation remains tame at 1.8% at the core level through next year.
3.  Interest rates will move up sharply from about 2.5% for 10-year Treasuries now to 3.25% next year.
4.  The S&P 500 will end this year about where we are now (1,750) but end next year at 1,900.
5.  Oil will continue to fall about 10% through next year.
6.  Gold and cooper will both fall.  Gold is expected to drop from about $1,325/oz to only $1,030, while cooper will drop from $6,600/ton to $6,200.
7.  The dollar will appreciate against the Yen but depreciate slightly against the Euro.
8.  Tapering of quantitative easing will not begin before March.

Any questions?

Tuesday, October 22, 2013

One Cost of Uncertainty

Due to the government shutdown, the all-important Jobs Report was delayed from October 4th to October 22nd.  While the delayed report showed the unemployment rate dropped from 7.3% to 7.2% and average hourly earnings up a bit, the other numbers were disappointing.

Private sector jobs grew 161 thousand in August and were expected to grow 180 thousand in September.  Instead, they only grew 126 thousand.  The anecdotal reports were that hiring decreased during the month as the fiscal cliff of September 30th approached, obviously a response to increasing possibility of a government shutdown.

I could die happy if I never hear another politician piously mouthing "jobs, jobs, jobs."  If I needed a job, I would be angry at all politicians, and I would be justified.  Politicians are not job creators but job destroyers.

Mommies, don't let your babies grow up to be . . . politicians!

Sunday, October 20, 2013

Just Another 56-Year-Old Movie

I should have watched the film classic by the famous Ingmar Bergman called The Seventh Seal many years ago.  It plotted the emotional trail for so many combat veterans.

In the mid-fourteen century, a priest convinces a young Swedish knight to leave his wife and castle to serve in the bloody Crusades.  Seeing death up close, smelling it, feeling life leave others, and loathing his own fear of it, he finally returns from the Crusades to await his own death, whenever and wherever he finds it.  When he returns to his native Sweden, the Black Plague is ravishing the country he loved.  Sorrow is everywhere.  Before he reaches his castle, he meets Death on a beach.  Stalling for time, he invites Death to play a game of chess first, which they play intermittently throughout the movie.  He realizes he is stalling, not to just continue living, but to do something, anything worthwhile in his wretched life; so weary of war.  He befriends a young couple with a baby girl and an infectious love of life.  When they find themselves in danger, the knight distracts Death with their chess game.  Once the young family is safely away, the knight is then ready to die.  He had accomplished something worthwhile, and Death takes him.  The final scene shows the knight dancing joyfully on a hillside, liberated from the sorrow of life.

The title of The Seventh Seal refers to a passage in the Book of Revelation in the Bible when "the Lamb opens the Seventh Seal, there was silence in Heaven."  This refers to the knight's continual prayers for God to lead him, but he only hears from Death instead.

The best known themes in existentialism are the love of absurdity and the obsession with death.  While there are some delightfully absurd situations and dialogue in the movie, the obsession with death is overwhelming.  But, another existential theme is the individual's responsibility for his own life and his own death.  Doing something worthwhile in his life was more important to the knight than his death, and that's good advice!

I couldn't help thinking about my fellow veterans, who return from war more emotionally-damaged than physically-damaged.  Their feelings are not unique; just unbearably heavy.  Maybe, it would be helpful for them to view this movie, to see that doing something worthwhile in life is more important than their death by suicide.  Indeed, it is a predicate to dying.

Saturday, October 19, 2013

The Joy of Unintended Consequences

Many laws have unintended consequences, whether at the national, state or local level.  Republicans believe that is proof the government never understands what it is doing.  Democrats believe that unintended consequences are a normal part of legislating.  Existentialists find unintended consequences to be absurdly amusing.

Over the last few years, there have many changes in laws regulating ownership of guns, especially at the state level.  This can pose a significant problem to executors of estates, as they try to distribute personal effects of the decedents to beneficiaries across state lines.  The executors can incur both financial and criminal liability for distributing guns illegally, even if innocently.

Rising to the occasion, a cottage industry is developing among lawyers to create "gun trusts."  While the details are fluid, the basic idea is that a person would transfer ownership of his guns before his death to a trust that would continue after his death, relieving the executor of any responsibility to transfer the guns.  The trustee of the trust would be whomever the decedent wanted to have the guns.  That trustee would have the right to pick his successor trustee, presumably based upon some exchange of money.  Of course, the trust would have to be established in a "gun-friendly" state, like Virginia.  Voila -- an end run around restrictive gun laws!

Republicans, who feel strongly about the second amendment, will undoubtedly applaud this evolutionary step.  Democrats, who feel 300 million guns in this country are enough already, will undoubtedly feel the need for more laws.  Existentialists will just chuckle.

Friday, October 18, 2013

Rationalized Irrationality

Novice investors either expect the stock market to be efficient, according to Efficient Market Theory where all information is known by all investors, or they expect to invest based on hunches or even inside information.  However, experienced investors know to study the specialized analysts, and make rational decisions supported by careful analysis, but always expect some irrational behavior.

For example, consider the example of IBM, a historic giant in information technology.  Morningstar gives it 4-stars, with a grade of A on financial position.  Thomson Reuters rates it a BUY, with its highest possible score of 10.  Standard & Poor's also rates it a BUY, as does Argus and The Street.  The Jaywalk score of 2.65 makes IBM a BUY.

Yesterday, the company announced an increase in its profit margin and got pounded by the market, losing a whopping 4% in one day.  Because the company is such a large component of the Dow Jones Industrial Average, the Dow was down most of the day, even though the S&P 500 was up strongly.  How's that for irrational behavior?  Since when is increasing your profit margin bad??

Here's the problem:  total revenue was down slightly because of a 40% drop in hardware sales in China.  Following the Snowden/NSA affair, the Chinese government has become worried about sales of American technology in their country and is pressuring Chinese businesses to only buy Chinese technology.  That's it!  A clear market over-reaction, making IBM an even better buy right now, I think.

Most pundits think it was Lord John Maynard Keynes who first warned that the stock market can remain irrational longer than you can remain solvent.  In other words, always expect some irrationality but don't fight it.  Adjust your investment decisions when irrationality presents opportunities.

Rational investors don't need to understand irrationality . . . just deal with it!

Thursday, October 17, 2013

The Morning After

Congress finally did their job last night to prevent America from defaulting.  Yes, the international community had to get involved, with a host of "shame on you, America" comments and China asking the world to be de-Americanized.  The debacle in Washington was certainly not the best promotional piece for democracy.

But, that is minor.  Take a look at the loss in consumer confidence:

Chart of the Day

This is major!  After hitting a post-recession high in June, the horrors in the Capitol has really discouraged the American people.  Of course, this affects consumer spending, which is about 70% of our GDP.

And, did I mention that another of the three credit-rating agency put us on "negative credit watch," which is the last step before a credit downgrade?  

Now, refresh my memory, what was this debacle all about?

Wednesday, October 16, 2013

Falling Into Place ?

The pieces are already falling into place for the worst-case scenario to the current debt debacle in Washington. On Friday, mutual fund giant Fidelity announced they had sold all short-term Treasury notes and bonds, expecting they would be hammered if Congress cannot agree to raise the debt ceiling.

Yesterday, a small auction of Treasuries was poorly subscribed, as investors are starting to avoid U.S bonds.  Last night, one of the three credit ratings firms, Fitch, announced the United States was being placed on "negative credit watch," the last step before stripping us of our AAA rating.  Standard & Poor's has already stripped us of that rating, based not on our ability to pay but on our inability to govern.

Interest rates that we pay on short-term Treasuries have risen, while falling on long-term Treasuries.  This is called a "flattening yield curve" and is usually a predictor of recession.

Traditional interest rate analysis begins with the "risk free rate" (RFR), which reflects inflation and the demand for bonds versus other asset classes.    To that RFR, you add something to reflect risk of not being repaid, called the risk premium.  Whether you are comparing AAA corporate bonds with junk bonds, you start with the RFR and add a small risk premium for AAA corporate bonds and a large risk premium for junk bonds.  That's why junk bonds carry higher interest rates than AAA corporate bonds.

Around the world, the RFR has universally been U.S. Treasuries.  Now what, the RFR is no longer risk-free or is it?  Investors are avoiding short-term Treasuries, but buying longer-term Treasuries in the belief we'll eventually get our act together.

Many pundits are predicting our interest rates will rise sharply, because the RFR will rise, but that ignores the power of the Fed to keep interest rates low with quantitative easing.  Over the long term, the RFR will rise but no time soon.

Another piece falling into place are the lawyers circling Congress.  If interest payments are made while Social Security payments are not, there are legions on both sides saying that is an unconstitutional prioritization of equally-binding laws.  I don't venture a legal opinion, but, as an economist,  it is better to pay the interest.

Treasury workers are already hiding behind technology, saying they cannot technically pay interest without paying entitlements.  They're getting their excuses ready.

Another piece is the sophisticated cash-flow analysis for the Treasury, which predicts the end-of-the-world tomorrow.  Goldman Sachs predicts it will be next week.  Who knows?

The most annoying piece is the international ridicule.  China has called for the de-Americanization of the world, as America has proven that democracy is a joke.

Still, Wall Street remains optimistic that the debt ceiling will be raised and default avoided, as the futures market indicates a nice rally today.  I think they're right . . . until we do all this again in a few months!

Tuesday, October 15, 2013

A Refreshing Change of Pace

During the national embarrassments that Congress creates ever more frequently, it is nice to read a little good news, such as three Americans winning this year's Nobel Prize for Economics.  They were Eugene Fama and Lars Peter Hansen of the University of Chicago and Robert Shiller of Yale University.  Congratulations to each of them!

Although all three have increased our understanding of how asset prices are determined, it is also interesting that the two universities represent very different views of economics.  The University of Chicago is associated with the conservative view:  that government can only make an economy less efficient.  Indeed, their seminal work is called "the efficient market hypothesis."  Detractors have joked that Professor Fama was walking across campus with a student, when the student saw a $20 bill laying on the ground.  He pointed it out to Professor Fama, who said there was no $20 bill laying there.  Seeing it with his own good eyes, the student asked Fama how could he deny the existence of what the student could see?  The professor explained that if the $20 bill was really laying there, somebody would have already picked it up, because the market is efficient.

All joking aside, the efficient market hypothesis gave birth to and propelled the index industry of mutual funds and ETFs.  Why pay somebody to pick stocks for you, when that was impossible.  If a stock was undervalued, somebody would have already bought it.

Professor Shiller of Yale, on the other hand, is a very different type of economist.  While he doesn't argue undervalued stocks can be found, he does argue overvalued stocks can be avoided.  (Fama would argue stocks could not be overvalued, because investors would have already sold the stocks if they were overvalued.)  Shiller has done significant work in documenting "bubbles," which theoretically is impossible if the markets were really efficient.  He clearly predicted "" stocks were overvalued and later predicted home prices were overvalued.  Last week, he said home prices are again showing some signs of being overvalued.  Shiller is a big supporter of Janice Yellen as the replacement for Ben Bernanke as Fed Chairman.  (He also does economic research with Yellen's husband.)

Be it a "high five" or a glass of champagne, raise your hand today and be proud of being an American. Since the year 2000, Americans have won 21 out of 37 Nobel Prizes in physics, 18 out of 33 in medicine, 22 out of 33 in chemistry, and an incredible 27 out of 30 in economics.  Whoever said that America is in decline?

 Now, wasn't that refreshing??

Monday, October 14, 2013

Ceiling Uncertainty?

As someone who tries very hard to keep political opinions out of his writing, I've always respected The Kiplinger Letter for keeping their political opinions private.  However, their newest letter said "For now, Republicans favor ideological purity over winning . . ."  I'm trying to judge whether their political opinion is showing or whether that is a simple statement of the facts.

It also predicts more continuing resolutions than budgets to fund the government, which is unfortunate.  Without doing budget planning, there is no curtailment in entitlement spending.  We really do need a "grand bargain" with entitlement cuts and revenue increases.

Also, with small increases in the debt ceiling, there will be even more opportunities to create a crisis, and it will make it seem debt is rising faster than it really is.  "That, in turn, will embolden the staunchest conservative Republicans to fight against the increases."

While the latest newsletter doesn't speak to the potential default, if the debt ceiling is not raised this week, it doesn't seem overly-concerned about it, just mentioning it in passing.

If I were a historian, I would also treat the debt ceiling lightly, as Congress has always done the right thing and raised the ceiling to pay for the spending they have approved.

If I were a psychiatrist, I would argue that rational people connected to reality can never negotiate successfully with irrational people who have only a tenuous connection to reality.

If I were a market strategist, I would continue to buy all this week as the market goes down, as it will.  If we do break the debt ceiling on Thursday or Friday, the market will fall badly . . . for awhile, which is time to do even more buying.  After all, fourth quarter earnings are expected to rise 9.4%.

Make no mistake, breaking the debt ceiling is simply idiotic.  It is a self-inflicted wound and a seriously-bad economic event, but we will survive.  Prepare to be scared  . . . but keep buying slowly.