Brighton Perspective

Weekly Update

The Markets   Equity markets very modestly positive through Wednesday ahead of the Thanksgiving Day holiday here in the U.S. Then, on Wednesday, Dubai World announced it would seek a six month reprieve on its debt. The fear of another massive liquidity crunch driven by sovereign debt default caused a global sell-off. The S&P 500 gapped down 25 points (more than 2%) on the open Friday and recovered only slightly on the day to end the week flat to slightly down. This news should create a bit of an overhang until investors more fully understand the potential global consequences and adjust prices accordingly. Many skeptics have been searching for the “correction” trigger and a potential sovereign default, if not contained, could be it. Market participants will monitor this one closely. Market/Index 2008 Close Prior Week As of 11/27/09 Week Change YTD Change DJIA 8776.39 10318.16 10309.92 (0.01)% 17.47% S&P 500 903.25 1091.38 1091.49 0.00% 20.84% MSCI World 920.226 1145.72 1144.58 (0.01)% 24.38% Russell 2000 499.45 584.68 577.21 (1.03)% 15.57% Fed. Funds .25% .25% .25% 0 bps 0 bps 10-year Treasuries 2.24% 3.36% 3.21% (15) bps 97 bps Last Week's Headlines ·      Existing home sales exceeded expectations ·        Consumer confidence index exceeded expectations ·        Estimates for October personal income and personal spending were higher than expected ·        Initial and continuing unemployment claims were below expectations ·        Durable goods orders fell and were below expectations ·        Michigan Sentiment Index was revised upward beating expectations ·        New home sales for October beat expectations     Upcoming Items of Interest   The focus this week will be on Dubai and the potential negative effects the issues surrounding Dubai will have on global markets. Domestically, the focus will be on the Chicago PMI index, the Fed Beige Book and employment statistics – initial and continuing unemployment claims and non-farm payrolls. Obviously, looking for more evidence of economic recovery.   Data source: All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Headlines and upcoming items of interest are pulled from published reports of Vanguard, Briefing.com and Reuters. Past performance is no guarantee of future results. The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The MSCI World Index is a free-float adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets.

Leaving Your Job? Don't Forget Your 401(k)

Leaving Your Job? Don't Forget Your 401(k). Nice Article - I would generally suggest that you rollover your 401k when leaving a firm but this article does highlight some of the considerations. Generally, you're better off having control over your money, asset selections, etc than you are if you leave the 401k account with the prior firm.

Continued mixed signals - consumer confidence is up slightly but we're all worried about finances. New housing up better than expected, but to what degree is the housing credit just accelerating purchase decisions a la "Cash for Clunkers"? GDP revised down to 2.8% as the "Cash for Clunkers" impact is cut by half. Etc, Etc. I'm still thinking it's wise to hedge equity exposure.

Various Thoughts

While catching up on my reading over the weekend and this morning several thoughts came to mind (it does happen from time to time):

1) It seems to me that market performance over the last quarter has been driven by the weakening dollar rather than by expectations for economic performance. That is equity market performance has been driven by liquidity rather than fundamentals (someone else's phrase but fitting just the same). This is disconcerting as it suggests to me that a real correction is possible - greater than the 10-15% or so I have been assuming for awhile. I don't think it will happen in the next 5 weeks, though some suggest a sell-off is possible in late December as active investors lock in gains and reduce risk to ensure year-end bonuses. More likely it'll occur in the early part of 2010. I'm a strong advocate for constructing portfolios that are more conservative than an investor's risk tolerance. Such a portfolio pays an "insurance premium" to reduce volatility and hopefully hedge downside risk. If you haven't done so, give this some thought heading into year-end.

2) I went to grad school in the early 90's and Monetarism was favored over Keynesianism. I favor less government and more private enterprise but acknowledge that the government has a role in providing services private participants are unwilling to provide. However, these services should be provided in relationship to the government's ability to pay for them. This link is to a new study by two Harvard economists that finds that "Fiscal stimuli based upon tax cuts are more likely to increase growth than those based upon spending increases. As for fiscal adjustments those based upon spending cuts and no tax increases are more likely to reduce deficits and debt over GDP ratios than those based upon tax increases. In addition, adjustments on the spending side rather than on the tax side are less likely to create recessions." I'm biased in this direction but it is nice to see new evidence that supports tax cuts over spending. Policies favoring increasing spending, increasing debt and increasing taxes are not good for investors. Which leads to point 3.

3)

Source: Mark Perry

The emerging markets, particularly Asia, despite recent equity market run-ups continue to look attractive. As this chart shows the Asian countries have significantly increased their contribution to global GDP and at the expense of the EU15. The dip in the late 90s is likely attributable to the currency crisis in 97 and the Russian default/LTCC debacle in 98. Lessons were learned at that time that helped in 2007-2008. Per the IMF, advanced economics (largely the EU, US, Japan) had a current account balance of (.66)% of GDP for 2009 and are forecast to only reduce that to (0.33)% by 2014. Emerging and developing countries, by comparison, had a current account balance of 2.02% for 2009 and are forecast to increase that to 3.5% by 2014. Additionally, gross national savings for advanced countries is forecast to 17.5% of GDP in 2010 but 33.5% for developing and emerging countries. Stronger balance sheets and higher savings rates lead to improvements in net worth (standard of living) and to better investment returns. Continue to consider emerging markets for your portfolios at the expense of the U.S. and other developed markets. This isn't to say eliminate developed markets just be skeptical of equity market returns in the near term.

Weekly Update

The Markets   Equity markets backed up for the week as mounting data suggested the U.S. recovery, and potentially the global recovery, is going to a long, tough slog. The uncertainty among investors caused a sell-off in equity and positive flows into gold and short-term fixed income. T-bill yields declined to just 0.05% with yields dropping below zero briefly on Thursday. Low interest rates and a declining dollar have enabled equity investors to push prices up and have led to a disconnect between equity and fixed income markets. It appears that equity market participants are more enthusiastic about the recovery than fixed income investors. At some point in the near future, one group will be proven correct. It would appear equity investors are beginning to grow concerned that it won’t be them. Market/Index 2008 Close Prior Week As of 11/20/09 Week Change YTD Change DJIA 8776.39 10270.47 10318.16 0.47% 17.57% S&P 500 903.25 1093.48 1091.38 (0.01)% 20.83% MSCI World 920.226 1158.26 1145.72 (1.08)% 24.50% Russell 2000 499.45 586.26 584.68 (0.27)% 17.06% Fed. Funds .25% .25% .25% 0 bps 0 bps 10-year Treasuries 2.24% 3.45% 3.36% (9) bps 112 bps Last Week's Headlines ·      Leading indicators rose for the seventh consecutive month but only by 0.3%. ·        New home construction fell 10.6% to the lowest level in six month and 30.7% below the pace of one year ago. ·        Core CPI increased only 0.2% suggesting inflation is in check. ·        Industrial production rose for the fourth consecutive month by 0.1% which was less than expected.     Upcoming Items of Interest   Despite a short week, there will be an abundance of economic data reported this week. First up is existing home sales on Monday. Tuesday we’ll see the latest GDP report, consumer confidence and the Federal Open Market Committee meeting minutes. On Wednesday, we’ll get durable-goods orders, personal income and spending, and new home sales. Keep in mind that roughly 70% of GDP is comprised of consumer spending. So the consumer confidence and personal income and spending reports will be important. The other data will highlight the economic recovery. Data source: All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Headlines and upcoming items of interest are pulled from published reports of Vanguard, Briefing.com and Reuters. Past performance is no guarantee of future results. The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The MSCI World Index is a free-float adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets.

Invest like Paulson?

greatest-trade-how-you-can-make-20-billion: Personal Finance News from Yahoo! Finance.

Most of the "lessons" listed in the article are common sense. A few are worth discussing:

3) Debt Markets can do a better job predicting problems than stock markets. Consider - right now interest rates are very low across the spectrum - see this chart - suggesting subdued economic growth going forward while equity markets are predicting 30% year-over-year earnings growth. This despite average EBITDA margins for the S&P 500 at 32%, 4% over the historical average of 28%. What does that mean? It means there is much left to squeeze from the cost structure so earnings growth must come from top line revenue growth. Essentially the bond markets are suggesting that kind of growth isn't possible right now. Who's right? I don't know but I'm more inclined to believe the debt markets.

5) Don't underestimate the value of a safety net. If the debt markets are correct, the equity markets will likely correct at some point. The safety net will help your portfolio endure that correction. The article suggests put options. For most investors, I'd suggest looking for mutual funds that actively incorporate hedging techniques.

A good article as it highlights common sense investing. Of course, to match Paulson, one also needs softer characteristics such as intuition, courage and and a little bit of luck. We can't all make $20 billion but we can utilize these lessons to improve our own portfolios.

Who Cares About the Dollar? - The Merk Mutual Funds

Who Cares About the Dollar? - The Merk Mutual Funds.

Very well said!

Weekly Update

The Markets   The equity rally continued last week as all major equity indexes posted gains. Continued dollar weakness helped the equity markets as it countered weaker than expected consumer confidence and a larger than expected budget deficit for October. 10 year Treasury yields declined slightly as the Fed signaled it will hold the Fed Funds rate steady in the near term and the latest consumer confidence report highlighted continued weakness. Less consumer spending reduces the near-term risks of inflation. Market/Index 2008 Close Prior Week As of 11/13/09 Week Change YTD Change DJIA 8776.39 10023.42 10270.47 2.46% 17.02% S&P 500 903.25 1069.30 1093.48 2.26% 21.06% MSCI World 920.226 1132.192 1158.258 2.30% 25.87% Russell 2000 499.45 580.35 586.26 1.02% 18.95% Fed. Funds .25% .25% .25% 0 bps 0 bps 10-year Treasuries 2.24% 3.54% 3.45% (9) bps 121 bps Last Week's Headlines ·      G-20 leaders pledged to keep aid flowing to support the global economic recovery ·        Consumer confidence was weaker than expected ·        October budget deficit was larger than expected ·        Strong demand for Treasuries demonstrated the U.S. can still borrow at low rates     Upcoming Items of Interest   The dollar will continue to be a focal point for investors as weakness would support higher equity prices. Also on the docket for the week are retail sales, Industrial production, CPI and housing data (housing starts and existing home sales). Investors will be searching for signs of continued economic recovery with little prospect of inflation. If the data reported this week is stronger than expected, it will lend support to bullish investors expectations of the economic recovery. However, if the data is weaker than expected an overriding question will be – can equity markets continue to move higher on dollar weakness alone? Data source: All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Headlines and upcoming items of interest are pulled from published reports of Briefing.com and Reuters. Past performance is no guarantee of future results. The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The MSCI World Index is a free-float adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets.

Keeping Tabs on Your Portfolio - Morningstar - The Short Answer

Keeping Tabs on Your Portfolio - Morningstar - The Short Answer.

It is important to review your investment portfolios (taxable, 401k, IRA, etc) at least quarterly to ensure the asset allocation is as you want it to be, investments are performing in line with expectations, no management changes have taken place (of if they have, that they're not material to the management of the fund), etc.

If you're a buy and hold investor, that doesn't mean buy and ignore. Things change and its important to stay on top of that. Not doing so can lead to unintended consequences such as a significant overweight in domestic equities in early 2008 just as you were getting ready to retire.

Review and adjust, if necessary, at least quarterly. As part of the process consider your risk appetite at the time, liquidity needs, time horizon, etc. This isn't a cure all but will help you better manage risk over time.

The article provides a few good insights on things to consider as you conduct your review. If you don't have time to do this yourself, then get help from a financial advisor.

Weekly Update

Financial markets rallied over the last week reversing a two week decline. The Dow was able to hold on to gains and close over 10,000 returning to levels not seen since October 22. Economic news continued to be mixed but was well received by investors looking for any signs of economic recovery strong enough to maintain the equity rally we’ve seen since late March. Yields increased as fixed income investors continue to remain concerned about the decline of the dollar and continued interest among some foreign governments to swap dollars for gold as their currency reserve. Market/Index 2008 Close Prior Week As of 11/06/09 Week Change YTD Change DJIA 8776.39 9712.73 10023.42 3.20% 14.21% S&P 500 903.25 1036.19 1069.30 3.20% 18.38% MSCI World 920.226 1106.170 1132.192 2.35% 23.03% Russell 2000 499.45 562.77 580.35 3.12% 17.71% Fed. Funds .25% .25% .25% 0 bps 0 bps 10-year Treasuries 2.24% 3.39% 3.54% 15 bps 130 bps Last Week's Headlines · Commercial property prices increased for the first time in more than a year based on the latest report from the MIT Center for Real Estate ·  Planned lay-offs fell for the third consecutive month in October according to Chancellor, Gray & Christmas ·  The Fed indicated that it is unlikely to raise rates for an “extended period” ·  Mortgage rates dropped below 5% for the first time in three weeks according to Freddie Mac   Upcoming Items of Interest Markets will be focused on news released over the weekend by the G20 indicating their intentions to continue to support the stimulus measures boosting the global economy. Thursday brings the latest employment news – initial and continuing claims (market consensus is for a slight decline in both), and Friday brings the latest U of Michigan Sentiment Index measuring consumer sentiment (market forecast is for a slight increase). Data source: All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Headlines and upcoming items of interest are pulled from published reports of Briefing.com and Reuters. Past performance is no guarantee of future results. The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The MSCI World Index is a free-float adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets.

A Case for Risk Management

One Way to Dig Out of a Hole - WSJ.com.

Ms. Damato makes a strong case for lower volatility strategies but does miss a few additional points worthy of consideration.

The math is clear - the 37% decline in the S&P 500 in 2008 requires a subsequent gain of more than 58% to return to "even". An investor focused on returning to even, is going to assume more risk in an effort to gain back what he/she lost. Sort of like doubling down when gambling. It's not a good bet.

I believe, for the individual investor, the key risks to manage are downside risk and inflation risk. The investor (or advisor to the investor) should be focusing on constructing portfolios that will generate an absolute positive return that exceeds inflation plus a reasonable "risk" premium AND attempt to hedge the possibility of real losses such as witnessed in 2008. One approach is to emphasis low volatility funds within a portfolio. That's a good start, but correlations must be considered as well. A portfolio of low volatility bond funds may look attractive but if they all have a correlation of 1, they'll all move in the same direction. That can still produce larger than desired losses.

I believe in constructing portfolios that incorporate both low volatility strategies and higher volatility strategies. For me, the key is consider poorly correlated strategies. This can be accomplished by using strategies that actively "hedge" their long exposures. These hedges can reduce correlations and can improve downside risk management. There is a premium paid for this "insurance" and that is in the form of potentially lower positive returns when market performance is good. I also add higher volatility strategies, typically un-hedged, tactically, to provide greater potential upside.

It is prudent to consider low volatility strategies as part of the risk management of investments. Capital preservation is often overlooked in good times and lamented in bad times, as in " I wish I had paid more attention to risk". As I've started before, I believe it is always valuable to view the markets skeptically.