Why Hold This instead of That?

I am frequently asked by clients about the Exchange Traded Funds (ETF’s) we use in our portfolio construction. In particular, some clients ask why we hold RSP for broad market exposure instead of the more-well-known SPY. I’d like to explain the difference between the two and why we would use one over the other.


SPY is the first and most well know ETF in U.S. markets. Commonly known as the Spider (SPDR) it was introduced in January, 1993. It corresponds to price movement in the S&P 500. As such, it is a cap-weighted index, meaning that the larger a company is the more weighting or exposure the company has in the index or ETF.

RSP, on the other hand, mirrors the same S&P 500 index but for one major difference; RSP is an equal-dollar-weighted ETF. This means that regardless of the size of a company, each one has an equal weighting in the ETF. In other words: one company, one vote.

When comparing these two ETF’s we look at their relative strength. How do their prices move in relation to each other?

Going back to 1994, if you were to buy and hold SPY you would have a gain of 208.58% not including dividends. If you had bought RSP, your gain would have been 313.85% without dividends. What’s more interesting is, if you followed the relative strength indicators for each of these ETF’s going back 18 years, and made the changes that the indicator recommended, your return would have been over 400%.

As we all know, past performance is no guarantee for future success. However, I feel it is important to pay attention to what the market is telling us and make prudent investment decisions. Following the relative strength indicators over time can help us do just that.

Source: Dorsey Wright & Associates, Inc.

Markets and Economy Weekly Update

Alcoa kicked off earnings season last week by reporting a net loss of $143 million (13 cents a share) loss in the third quarter. The results included the cost of settling a four-year legal battle over bribery allegations but were still slightly better than Wall Street expected. This compares with a 15 cent a share profit a year earlier. Alcoa also cut its forecast for global aluminum demand growth from 7% to 6%. The market didn’t take kindly to the profit warning and the Dow shed 128 points on Wednesday.


Two of the nation’s largest banks, Wells Fargo and J.P. Morgan reported third quarter earnings last week. The improved results were most due to a rebound in the housing sector. Both banks said the housing market had “turned the corner”. Earnings are still under pressure from historically low interest rates.

The International Monetary Fund (IMF) World Economic Outlook report stated “Risks are alarmingly high,” for a slowdown in global growth. The IMF revised their expectations downward 0.2% to 3.3% this year and 0.3% to 3.6% in 2013. The stagnation of global growth is noted by its 5.1% advancement in 2010 and 3.8% in 2011.

Due to the reduction in global growth, Europe continued to be a drag on the domestic markets as France, Spain and other nations in the EU won’t hit budget deficit targets agreed to with EU authorities.

S&P Ratings Services downgraded Spain again in light that country’s deteriorating economy. This put the rating in line with Moody’s downgrade a few months ago.

The trade deficit widened by $2 billion in August to $44.2 billion. The drop was broad based and due to weakening demand from Europe.

The Producer Price Index (PPI) came in higher than expected with a 1.1% jump. Most of the increase came from the energy sector. The widely followed “core” PPI came in unchanged month over. This suggests that suppliers and manufacturers have not been able to pass on cost increases to consumers.

Applications for jobless benefits dropped 30,000 to 339,000 for the week ending Oct. 6th. That was the fewest since February, 2008 and shows the economy is still improving, although at a snail’s pace.

Exchange Traded Funds Make Sense for Investors, but as I Always Say…The Devil is in the Details!

Exchange Traded Funds (ETF’s) are a staple of our managed portfolios and all of our clients know that. Recently I read an article in the Wall Street Journal that highlighted some of the advantages as well as some of the pitfalls of investing in ETF’s. I hope you find it useful.

 

I’ve mentioned in previous weekly market commentaries that while the market has been climbing a wall of worry, money has been flowing out of equity based mutual funds. That money has been making its way into bond funds, hybrid funds, and money market funds. But equity based ETF’s have also seen a positive inflow of cash and with good reason.

 

ETF’s have a number of advantages over the more familiar mutual funds; everyone is well aware of that by now. But the article in the Wall Street Journal highlighted a few things investors need to keep a close eye out for. Here are a few they mentioned:

• Fees. While ETF’s can be much cheaper than mutual funds, some can be expensive. You have to know if the additional operating expense of the ETF is bringing value to you. Commodity based or emerging market ETFs tend to cost more to manage, but you need to make sure there is a reason for investing in any particular sector at any given time. For example, many commodities have been experiencing lower prices while many international markets have turned positive on their charts.   Some firms are adding additional fees to investors such as custodial fees. Since ETF’s have a low cost structure, and most investors consider themselves long-term investors, some firms are seeing their revenue decrease. Be sure you know all the fees you are paying for.
• High trading activity. Some advisers jump in and out of various ETF’s creating too much short-term gains and losses. The tax efficiency of ETF’s in non-qualified accounts is a tremendous benefit for investors. Any repositioning of a portfolio should always be based on changes in relative strength or on chart patterns. I tell people anytime we buy and anytime we sell and there is a technically sound reason for doing it.
• Chasing the latest thing coming down the road. As more and more ETF’s are being brought to the market, there is a concern that thinly traded or ETF’S based on obscure sectors may not last. Also, with little trading and low volume, wider price swings can knock investors for a loop. We’ve seen many ETF’s close over the last couple of years. You have to “check under the hood” to make sure you understand how the ETF intends to work.
• Compounding price movement. Along the same line, some ETF’s compound the upward or downward price movement of a particular sector or index. This type of ETF is best left for institutions which have professional traders watching price movements all day long. Finra and the SEC have both issued warning letters to advisers and brokers warning them of the complexity of this type of ETF.

In my opinion, ETF’s are one of the best ideas to come out of Wall Street. But not all ETF’s are created equal.

Retiring on Fear

Last week I wrote that we continue to see investors pull money out of equity mutual funds and plow it into bond and hybrid funds. Well, that trend still continues.

In July, the technical indicators I follow had all turned positive. I have been bullish since then and nothing has happened yet to change my view. Unfortunately, many investors don’t have a disciplined approach to investing and end up making snap judgments based on the nightly news or worse…whatever Jim Cramer tells them.

Last week, I read an interesting article in USA today and wanted to share some of the points it with you. Since 2003, investors had approximately $5.9 billion in bank accounts, cash, CD’s and money market accounts; by the beginning of 2012, that figure has ballooned to $9.4 billion. Keep in mind that during this time frame the interest earned on these “safe” investments has continued to fall to record lows.

Why has this happened? To understand this we need to go back in time a few years.
During the go-go years of the 1990’s, we saw investors pile money into dot.com companies with little or no earnings whatsoever. The fear of greed had overtaken the fear of loss. Prudence went out the window along with sound reasoning of what a corporate balance sheet should look like. People were more afraid of losing out on a golden opportunity than losing their hard-earned money. This investing with reckless abandon came to an end when the market corrected in 2000 when a new era of safety at all costs became in vogue. In a period of about 10 years, public perception had changed 180 degrees. This fear was reinforced by the correction of 2008.

One area we are seeing the dramatic effects of this phenomenon is in the 401-k area. Prior to 2000, 401-k participants had about 50% of the account values in equity based funds. That figure has fallen by almost half to 26%. What does this mean to plan participants? Well, they better go back and run their retirement planning calculations again to make sure they will have enough money to retire when they originally planned to. If not, they need to re-assess their risk tolerance or sharply increase the amount of money they put into their plan.

I don’t think people should take on more risk than they are comfortable with, but I do think they need to make sure they have a clear understanding of how much money they will need to retire on and when they plan on retiring. They also need to take into account how long they will live in retirement. Life expectancies continue to increase. As I like to say…60 is the new 50 (and so on). Not only are we living longer, but we are living a more recreational retirement lifestyle filled with cruises and trips. It becomes increasingly important to make sure you don’t outlive your nest egg.

I recently attended a conference at the Anderson School of Management at UCLA where we studied changes in the qualified retirement plan area (401-k’s especially). Many of these changes are being implemented by the Department of Labor and are in response to other legislation like the Pension Protection Act of 2006. We are at a significant crossroads for retirement planning for all Americans. In addition to helping retirees maintain the income level they need, I find myself helping more business owners get a handle on their own retirement plans. Many business owners face challenges to stay complaint with all the recent changes to rules and regulations affecting their plans. Many of these changes come from the Department of Labor. In 2011 alone, the DOL hired about 1,000 new agents with most of them being assigned to enforcement. My goal is to help business owners maintain a “compliant” retirement plan for their business.

Whether you’re currently retired or still accumulating assets for your eventual retirement, you need to have a focused, attainable goal. With that in mind, over the next several months, David Kover & Associates will be working on new tools to help you know what that goal is for you and your family. Stay tuned.

The Tax Man Cometh

The following is a synopsis of a recent Wall Street Journal editorial written in part by Dr. Arthur Laffer. In addition to being president of Laffer Associates, he is a founding member of the Congressional Policy Advisory Board and has worked with the 105th, 106th and 107th U. S. Congress. He was a member of President Reagan’s Economic Advisory Board for both terms and is best known for his belief in supply side economics to foster growth.


Among the numerous tax increases due to hit hard working Americans is the expiration of the temporary 2% payroll tax cut. This reduction was enacted last year and renewed again in January. The reduction applies to the first $110,100 of income and is set to expire on December 31. For a person making $50,000 a year, this results in $83 more a month in take home pay. Interestingly enough, this is the least painful of the many increases we will see beginning in 2013 if congress fails to act.

First on the slate is a huge increase in the estate tax. The current $5 million exemption goes all the way down to $1 million while the top estate tax bracket increases from 35% to 55%. Business owners and people with illiquid assets will be hit the hardest.

The top federal rate on personal income will increase to 39.6% from 35% with an additional 0.9% tacked on the payroll tax to help fund Medicare.

The highest tax rate on dividends will jump to 43.4% from the current maximum of 15%. Capital gains tax rate will go to 23.8% from 15%.

These are a result of the expiration of the Bush tax cuts and new taxes imposed by ObamaCare legislation.

Dr. Laffer points out that these increases will not only generate almost $500 billion a year in newly collected taxes, but will have a drastic affect on an already fragile recovery. He believes the drop in GDP we’ve been seeing for the last couple of years is due to businesses and consumers bracing for the storm. GDP was 4% at the end of 2010 and came in at an annualized rate of 1.5% in the last quarter.

In the end, he states that “…we cannot have a prosperous economy when government is overspending, raising tax rates, printing too much money, over-regulating and restricting the free flow of goods and services across national boundaries.”

The Money Market Fund Controversy

Almost everyone knows of money markets; those readily available low-yielding funds that come with all brokerage and advisory accounts. However, not many investors really know how money market funds work.


Prior to the financial crisis of 2008, no one paid much attention to money market funds. Then, with the collapse of Lehman Brothers, a handful of investors learned a painful lesson.

A money market fund is a pool of investor money that is used to purchase short-term government and corporate debt. Historically, it has always kept its Net Asset Value (NAV) at $1.00; even though the debt in the portfolio fluctuates, the issuing firm assumes the short-term debt will mature at par or the typical $1,000 face value. So, no one loses, right? Well, not so fast.

The Reserve Primary Fund, a money market fund with decades of experience in managing short-term debt instruments had a position so large in Lehman Brothers debt (1.2% of its $63 billion size) that it officially “broke the buck”; a term meaning that the net asset value fell below the stated $1.00 a share.

While the fund only lost a few cents a share (it posted a value of 0.97) it was enough to cause a run on money market funds. In September of 2008 $310 billion or about 15% of all money market funds saw redemptions. To help stave off a continued run on funds, the government stepped in to shore up investor confidence by guaranteeing the assets of the remaining money market funds that remained and in 2010 the SEC imposed stringent new rules that restricted the kind of investments that money markets could hold as well as the amount of cash they need to have on hand to meet investor redemptions.

Recently, SEC chairwoman Mary Schapiro has been pushing for even more rules and regulations on money market funds. One of her main components was requiring investors to only receive a portion of their money in the event of someone cashing out completely. The balance would be paid in 30 days. Schapiro offered a second option in that the sacred $1.00 share value would have to fluctuate to show the value of the holdings in the portfolio. Neither one was well received by the industry. It obviously wasn’t well received by her own 5-member commission panel. They voted down her recommendations and stressed that more needs to be done to understand the possible ramifications of any significant changes.

The Markets

My closing comments last week in the "Markets" section of the Weekly Market Commentary, were, "This should be an interesting week to say the least." Well, the week did not disappoint. With that in mind, let me summarize what happened and how it affected the markets.

The Republicans took control of the house by a significant margin putting Ohioan John Boehner in the position of House Majority Leader. While the Democrats maintain control over the senate, their loss of six seats reduces their control dramatically.

Mid-week, the Fed announced the extent of their second round of quantitative easing (QE2). You'll recall from last week's WMC, I said the Fed is attempting to push down those stubbornly high, longer term interest rates to help spur economic activity. The tool they are using is called quantitative easing. It consists of the Fed purchasing Treasuries ($600 billion this time) thus reducing the supply of bonds available. If demand stays the same and supply is reduced, then bond prices rise. It's basic economics 101. The less supply, the higher the prices. The reason the Fed wants bond prices to rise is that bond yields fall when their prices go up. When yields are low, companies and investors look for other ways to invest and increase their yield. This, hopefully will spur economic activity.

On Friday, the final round of good news came out with the spurt in job growth that caught everyone by surprise. 151, 000 jobs were created in October with the majority of those positions in the service sector.

The good news didn't stop there; the government also revised August and September job losses by reporting that 11,000 fewer jobs were lost than originally thought.

All of this resulted in a very strong week for the markets. In fact, the current advance has now put us ahead of where we were in September, 2008. That was when the collapse of Lehman Brothers was announced and the credit markets ground to a halt. Many are saying that he fundamentals don't support these higher prices when you consider all the problems that still exist in the US and around the world. However, markets love to climb a wall or worry and that is exactly what seems to be happening. Someone once told me...expect more of the same until the market shows you something different.

Enjoy the gains while we can!

The Markets

It was another quiet week for the markets as all eyes focused on the coming weeks events.

Tuesday's election results will be interesting as investors will closely watch for any shift of power in Congress. Republicans are expected to gain enough seats in the House to filibuster against an major legislation that will increase taxes or government spending. Gaining control of the senate is another matter. One of the major items on congress' agenda will be tackling the Bush tax cuts due to expire at the end of 2010.

There is some consensus to keep the tax cuts in place for some taxpayers while letting them expire for others. My concern with this thinking is that it punishes many small business owners who, without much if any help from the government, have willingly taken on risks to live the American dram by building a viable business enterprise. By reaching some level of success, their taxes could be raised by a disproportionate amount.

Taxpayers who earn more, pay more in taxes simply by having the tax rate applied to a larger taxable income figure. An article in a recent Investment News quoting IRS data found that the top 1% of tax returns in 2007 were responsible for over 40% of all federal individual income taxes paid. The top 0.1% of tax returns (one-tenth of one percent) accounted for nearly 20% of the nation's federal income taxes paid. Taxing this group by increasing higher income tax brackets seems counter-intuitive to a free-market economy.

Another event the markets will be keeping a keen eye on will be the announcement by the Fed about their intent on what's been called QE2. Quantitative Easing, the second round, is set to begin soon as the Fed attempts to further stimulate the economy by purchasing large amounts of Treasuries.

The Fed walks a fine line between making too little or too much in Treasury purchases. If the Fed buys only about $100 billion, the markets may take the effort as too little to be effective. On the other hand, if the Fed buys over $500 billion, it may result in stoking inflation fears beyond their control. The negative effect would be stagflation; a stagnant economy with long term rates rising.

The Markets

I hope everyone had a wonderful Labor Day. I know I did. Spending time with the family is always a great way to relax and bring summer to a close. Can you believe the unofficial end of summer has passed? I can't. It seems like yesterday we were talking about Memorial Day activities, getting the grill ready, and summer vacation for kids. Now we're ready to pull out those jackets and coats for their annual trip to the dry cleaner.

While I'm not glad to see summer go, I am glad to see the markets finally snap a three week losing streak. So what happened? Why the seemingly rebound? A couple of things happened:

1. First, even though many prognosticators have been predicting doom and gloom, the markets are actually in a trading range and have been since the end of April. while I don't believe the markets will break below previous support levels and retest the lows of last year, I do believe it will take some convincing for the markets to break out above this trading range.
2. Second, when the markets hit the bottom of this trading range, it looks for a reason to bounce back up. It got those reasons with stronger than expected manufacturing data from the U.S. and China. On Friday, the jobless rate ticked up to 9.6% from 9.5%. The silver lining in that report was that the private sector saw more job growth than analysts had fore casted.

Interesting enough, September is typically a bad month for the market on record. However, after only three trading days, we are already seeing strong positive numbers being posted. I've mentioned before that summers usually are a slow, boring time for the markets. There's an old saying; "Sell in May and go away." IF economic numbers show any indication of strength going into the fall we could see last week's activity as the possible beginning of a significant change.

The Markets

The Fed made some pretty bold statements last week. Speaking to world monetary policymakers at a meeting in Jackson Hole, Wyoming, Ben Bernanke told the group that "policy options are available to provide additional stimulus." Not only that, the Fed Chairman listed what those options might entail; more purchases of long term debt and possibly lowering the interest rate banks are paid for their reserves. Both of these options would have the effect of lowering even more the current historically low interest rates.

According to the Wall Street Journal, most analysts rule out the possibility of the U.S. slipping into another recession. Nonetheless, the fed has made it abundantly clear that it has no plans to raise interest rates for the foreseeable future. The hope is that by keeping the rate to borrow so low, companies will be more likely to put their capital to work by hiring and/or investing in capital improvements.

All of this came on the heels of second quarter GDP being revised downward from 2.4% to 1.6%. More signs that the economy is slowing down.

The markets had one of its best days recently on the news from Jackson Hole. Whether this will be the catalyst the market has been looking for to find higher ground or the sideways pattern we've seen for the last few months will continue remains to be seen.

The Markets

The markets turned in another strong performance last week. In fact, our main indicator, the New York Stock Exchange Bullish Percent, changed back to positive after being negative for about six weeks. The New York Stock Exchange Bullish Percent is calculated by taking all the stocks whose charts are on a buy signal and divide them by the total number of stocks that trade on the NYSE. This gives us a figure that, when plotted on a chart, can tell us if market conditions are getting stronger or weaker. It also gives us an indication whether stock prices are overvalued or undervalued.


This is good news for investors. It appears that the recent pullback in May was a healthy pause, as markets have turned upward. The beginning of second quarter earnings reports are about three weeks away. The markets will definitely be looking to these reports for reasons to continue climbing.

Consumer prices fell an unexpected 0.2% in May even though many commodity prices such as fuel, metals, and food are rising. This has the effect of squeezing company profits as their cost or production rises faster than they can raise prices. This is especially true when the economy is recovering from the current recession. Businesses are reluctant to raise prices on consumers when demand is still weak.

Rising commodity prices is further proof that the economy is picking up steam. In fact, the Wall Street Journal recently reported that while states such as Nevada and California are still struggling with high unemployment, much of the south and Midwest is experiencing an uptick in hiring as manufacturing increases. If this trend continues, we could see a strong rebound in the market as earnings are released over the next couple of months. Remember, the market is a forward looking indicator.

The Markets

Just when it appeared things were beginning to settle down in the markets, a one-two punch was delivered to investors on the last trading day of the week. Friday's 323 point drop put it back under the psychologically significant 10,000 point level.

Why the cause for concern? What was the one-two punch? It was a combination of weak employment data combined with concerns about Hungary's debt.

431,000 jobs were added in May. While that may sound good, most of those jobs came from temporary census workers. Private sector employment only rose by 41,000. Private sector jobs are what analysts look at when determining the strength of recovery from the recession since they are usually sustainable and lead to an expansion of the recovery.

The jobless rate dipped to 9.7% from 9.9% but don't let that number fool you; workers who become disenfranchised and stop looking for work fall off the tally of those counted. Unemployment is much worse than the 9.7% quoted.
More concerns came out of Europe as Hungary's newly elected officials voiced concern over the country's debt levels. Vice President Lajos kosa said Hungary faces a sovereign-debt crisis similar to the situation in Greece. The Euro, which has been in a downward spiral broke below it's ten-year average of $1.20 settling in at $1.1966.
Where to focus?

The markets are looking for signs of improvement in the U.S. economic situation or continued growth in corporate earnings. Since we won't be seeing anything significantly reported on the earnings front until the middle of July (the beginning of second quarter earnings reports), the markets are focusing on domestic economic data as well as what's happening around the world. And right now, that information is urging caution.


While all markets have become more interconnected and interdependent on each other, the U.S. remains a very significant source of corporate profits. Concern over Europe will take a back seat to what happens here at home. The most important factor for our continued recovery will be in next quarter's earnings. That will tell if we are still on the road to recovery, or things are beginning to pull back.

Weekly Market Commentary

The Markets
The U.S. markets sounded a little like Rodney Dangerfield last week: They get no respect. All the while the vast majority of economic news and corporate earnings continue to come in strong. Sure, new jobless claims were a little higher than what we would have liked to see, but two major inflation statistics, the Producer Price Index(PPI) and the Consumer Price Index both show there is no threat of inflation at the moment.
The PPI dropped an unexpected -0.1% in April. This was the second decrease in three months according to Bloomberg. Even core inflation at the wholesale level remains very subdued.
For the CPI, we also got good news as the cost of goods and services at the consumer level came in at the same -0.1%. This was the first drop since March of 2009. This helps take the pressure of the Fed to increase rates due to inflationary concerns. Low interest rates will help continue to fuel the growth of this recovery.
The market has given up all its gains for 2010 and then some, the volatility index has doubled over the last few weeks, I tell you....the market gets no respect.
But seriously, what now? Well, it looks like we have gotten the first official 10% correction since this bull rally started in March 2009. What happens now will tell us if this is just a correction or the beginning of a more serious pullback. Some sectors are showing more signs of breaking down than others.
If we were getting bad news from company earnings, or we were seeing significantly higher inflation figures, I would be a lot more concerned. But things look good out there. You have to remember how much corporations cut expenses to the bone. Even though we still have problems to deal with, we are not going into them as we did at the end of 2007. Companies are not bloated with inventory or over-staffed as they were. This enables them to stay lean and profitable.


If you or anyone you know is concerned about the last few weeks in the markets, please drop us a note or give us a call. I'd be glad to discuss it in more detail with you.

More on Europe

Last week I mentioned my concern for the U.S. bailing out more European countries when we have enough of our own problems to deal with. Well, last week, the Senate voted 94-0 to approve a measure making it harder to deploy U.S. funds in rescuing foreign governments. The amendment was attached to the financial regulatory overhaul bill. The bipartisan measure requires the administration to certify that any future loans made to the International Monetary Fund (IMF) would be fully repaid. If there is not certification, the U.S. representative tothe IMF would be required to oppose the lending, according to the Wall Street Journal.

The markets bounced back last week with a huge swing upward on Monday (as expected) and then began to lose steam through the remainder of the week.


Monday also saw the exchange chiefs called on the carpet by SEC chairperson Mary Schapiro. Unfortunately, we're still no closer to knowing what precipitated the previous weeks sell-off. Regulators are now looking at rapid sell orders placed by Wadell & Reed Financial as a possible contributor to accelerating the sell-off.


Retail sales came in stronger than expected at 0.4% increase. Even when you take out auto sales, the results were 0.4%. Most estimates were for an increase of 0.2%. We continue to get more positive readings on the recovery of the economy. Home sales are increasing, new jobless claims are decreasing, new jobs are increasing; all these things, while they seem to be happening at a slow rate, are great ways for the economy to regain its foothold and expand.

Gold continues to soar, topping out at $1,227.40 an ounce. With all the debt the U.S. (not to mention the rest of the world) is piling on, inflation becomes a serious threat to the global recovery.

Going into the May to November period, it's not unusual to see the market either trade in a sideways pattern or sell off somewhat. This is typically the time we see market activity slow down due to summer vacations and holidays. This is what appears to be happening now. We are seeing a few warning signs flash but as I have said in the past, we've seen the market pull back three times over the last year; we need to give it a little more room and time before we can determine if this is another one of those "healthy pullbacks to digest the gains" or the beginning of something more onerous.


So now what for Europe?


Obama called the president of the European Council last week pledging U.S. taxpayer bailout support to the PIIGS (Portugal, Ireland, Italy, Greece & Spain) for upwards of a trillion dollars.

While many believe this is necessary to help the global markets settle down, it concerns me that once again, the U.S. will be left footing the majority of the bill for someone else's largess. According to market strategist Bob Kendall, the U.S. is already the largest contributor to the International Monetary Fund. It makes it difficult to justify bailing out countries with some of the most generous pensions, wages & benefits, and working conditions in the world when our own economy is suffering. Kendall goes on to say, "...sort of like when NATO commits troops, guess who sends the most bodies?"

The fourth of July is a mere few days behind us now, but the fireworks are still going on in the market and I wanted to take this opportunity to update you on how the market indicators I follow stand at the halfway point of 2009. Interestingly enough, one of the main equity indicators that I follow, the NYSE Bullish Percent, forced us to get a bit more defensive at the end of last month for the first time since March. Coming into the second quarter of this year the NYSE Bullish Percent had already reversed back up to signal us to get more offensive with our equity exposure, and remained offensive for roughly three months until just recently. Following this indicator forced us to be invested in one of the best quarters for equities in more than 10 years. In general we were able to participate in a market that was driven by new demand, and the returns across various segments of the equity landscape reflect the fact that the investing climate was generally positive. Looking more specifically at the monthly returns this quarter, both April and May were huge contributors, some of the best on record in fact. April's returns in particular were among the best handful of months since 1987. Given the broad strength many of the worst performing US Equity ETFs were still in positive territory for the quarter. Specific winners was the Emerging markets side of the Non-US equity arena. Small Cap stocks notably outperformed Large Cap stocks, and Crude Oil provided exceptional returns relative to the broader commodity benchmarks. The weakest asset class was clearly the fixed income category, and even it had pockets of strength in corporate bonds. Overall though, the diversified fixed income market was effectively flat on the quarter, and the Gov't Long Bonds were among the worst. With that said, here are some of the other notable thoughts I have about the financial markets as we head into the third quarter of the year.
Market Thoughts:
· A comparison of stocks to bonds has moved back to favoring stocks for the first time in a year, suggesting that the equity market is a place that is likely to outperform fixed income. This certainly does not mean that stocks won’t experience pullbacks or breathers along the way, but it suggests that we use those pullbacks as buying opportunities so long as this relative strength relationship holds true. The last time stocks were favored over bonds was from July 2003 to July 2008. This comes at a time, interestingly enough, that defensive team is on the field. What this means to me is that we will maintain much of the equity exposure that we current have, however, we will not begin to put new money to work until we see offense return to the field.
· The international equities market and commodities are the two asset classes that are showing superior strength versus all asset classes that we follow including domestic equity, international equity, commodities, foreign currency, fixed income, and cash. Specifically, for international equity exposure, we are focusing on emerging markets.
· The Energy markets have seen a tremendous rally over the course of the past few months with Crude Oil moving from $34 back in February to a recent high of $72.50 per barrel. The picture for Crude now shows that this commodity remains among the tops on a relative strength basis, however, in the near term Crude Oil is overbought, which suggests the probabilities of a pullback or consolidation period for Crude is high here.
· After a positive year in 2008 where the US Dollar gained about 6%, the greenback returned to a negative trend in March of this year, and continues to show weakness on an absolute basis as well as relative to the broader foreign currencies market.
· Focus is essential. We don’t want to become a victim of following the crowd by turning to the financial news media for investment advice. The goal of these outlets is to get more eyeballs to watch or listen, not manage a portfolio. My goal is to balance risk with reward in your portfolio. So, I turn off the TV and radio and instead turn to my charts and data to analyze changing trends in the market place and how best to position your portfolio.
We have no way of knowing how this defensive possession will play out. Ideally, we would like to see demand regain control over the equities market so we can begin focusing on wealth accumulation again; however, we are not going to jump the gun in this regard and attempt to tell the market what it should do. Rather, we will let the market tell us when the time is right. Until then, I will continue to diligently review your account. Additionally, while we are on defensive I will be looking for new opportunities to surface when we go back on offense so we are ready to take advantage of the next offensive session. We will adhere to both the buy and sell side of our decision making process and let the discipline which has helped us successfully navigate this market continue to be our light in any stormy environment. If you have any questions regarding these strategies, or any other strategies for that matter, feel free to contact me and I would be happy to discuss them in further detail with you. In the meantime, kick back, relax and enjoy the summer.