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June 3, 2011: Market Update

Jun 3, 2011   //   by Bruce Mason   //   Weekly Market Update  //  No Comments

State of the Economy: Mid-Year Review

If you were hoping that last week’s economic data was an anomaly, you would have been disappointed by the news this week.  Two weeks does not make a trend, but perhaps a couple of months do.  The shock this week was a very poor jobs report which had the optimists scratching their heads and the pessimists questioning their optimism.  The market tried to shrug off the news but in the end it finished lower for the week.

The silver lining, as mentioned last week, is that as the economy deteriorates, it is more likely that the Federal Reserve will be forced into further quantitative easing.  While quantitative easing is widely seen as a failure in curing the ailing economy (particularly labor and housing); it has been very successful at inflating financial asset and pumping up commodity prices.  We’re neither sure what form the stimulus will take nor when it will happen, but with each passing week it appears more likely.

Let’s not forget that corporations are sitting on huge piles of money.  Some of it is parked overseas where it will probably remain, short of an income repatriation tax holiday.  However, a lot of it is right here in the United States and is waiting for the right opportunity to buy a competitor, expand into new a market, repurchase stock, pay down debt, expand infrastructure or put into research and development.  Earnings trends remain positive and productivity is higher.  While inflation pressure has begun to work its way into materials costs, it still has not created an issue for most industries.  Companies are in better shape today then they have been in a long time.

What’s ailing is middle-class America.  We learned this week that housing prices fell another 4.2% in the first quarter of 2011, bringing them down to mid-2002 levels.  To a large extent this drop is driven by the large number of foreclosures than continue to wind their way through the system.  However, an even more sobering number was that the unemployment rate headed higher again for the second month in a row.  We learned today that the unemployment rate is now 9.1% and that only 54,000 jobs were created last month (there are 8.5 million people unemployed).   Consumption makes up 70% of our Gross Domestic Product (GDP) and to the extent that people remain unemployed, worried about their jobs, or unable to make their house payments, the economy will continue to struggle.

We’re in difficult times.  We’ve been navigating these waters with financially strong companies who have excellent growth opportunities.  We’re also focused on companies that have strong international sales and fixed income with an international component.  Eventually, this cycle will turn around and the market will head higher.  Until then, we remain positioned to weather both the good and bad that undoubtedly lies ahead.

While the news may be less than rosy at the moment, rest assured that things will get better.  After all, the world didn’t end on May 21st right?

May 27, 2011: Market Update

May 27, 2011   //   by Bruce Mason   //   Weekly Market Update  //  No Comments

QE3: Unavoidable Fact of Life?

Despite less than stellar economic news this week, the markets seem to have hung on remarkably well. In large part, this is due to a growing belief that the end of QE2 in a couple of weeks could cause the economy to stall and require… wait for it… QE3! While the Federal Reserve remains sharply divided on the consequences of fiscal stimulus, it is becoming clear that investors want, and to some degree are beginning to expect, further stimulus.

If you stop and think about it, the Fed has done an extraordinary job keeping the markets on an even keel. We’ve had revolutions, oil at $120, the reemergence of Greek debt problems, war, the nuclear and flood crisis in Japan and the upcoming end of QE2. Without the $600 billion in stimulus the Fed has pumped into the economy these past nine months, one would have to believe the stock market would be considerably lower than it is today. We’re not suggesting that deficit spending is necessarily good, nor that the national debt isn’t a problem but that we, as investors, have benefited from the Fed’s actions in the short-run.

So what happened this week? As previously touched upon, the economic data was weaker than anticipated. The April Chicago Fed National Activity Index went negative versus the increase that was expected. The May Richmond Fed Manufacturing Survey dropped a whopping six points while shipments dropped 13 points and new orders dropped 15 points. April Durable Goods Orders were down 3.6% versus being up 4.4% in March. Perhaps most important was that Q1 GDP (second estimate) was not revised higher as had been projected but instead remained at an anemic 1.8%. Each of these data points are broad measures of economic activity over the past couple of months. The slow recovery, largely spurred by the Fed, looks to be slowing precipitously.

There was little in the way of corporate news this week. Perhaps the most interesting news is that Google introduced what it is calling the “Google Wallet.” Without going into too much detail, it would essentially make your phone your wallet. In conjunction with Citibank (and presumably may other credit card companies in the future), you will be able to make payments using your phone just like you would with a physical credit card. It is an interesting concept and one that will probably be quite popular. Starbucks has a similar proprietary application and it is surprisingly useful. At the moment it will only work on Android based smartphones but should be available on other platforms later this year. We suspect that this will eventually prove to be a good move for Google.

To close out the week, I bring you an interesting study from 2004 and confirmed in a new study released this week.

“A 2004 study of the results of stock trading by United States Senators during the 1990s found that Senators on average beat the market by 12% a year. In sharp contrast, U.S. households on average underperformed the market by 1.4% a year and even corporate insiders on average beat the market by only about 6% a year during that period. A reasonable inference is that some Senators had access to—and were using—material nonpublic information about the companies in whose stock they trade.

Under current law, it is unlikely that Members of Congress can be held liable for insider trading. The proposed Stop Trading on Congressional Knowledge Act [H.R. 1148] addresses that problem by instructing the Securities and Exchange Commission to adopt rules intended to prohibit such trading.”

The study released this week indicates that those in the House of Representatives aren’t quite as adept as their counterparts in the Senate. House members on average beat the market by only 6% a year. In case you were wondering, H.R. 1148 was never brought to the floor for a vote. Now you know.

May 20, 2011: Market Update

May 20, 2011   //   by Bruce Mason   //   Weekly Market Update  //  No Comments

LinkedIn… To 1999?

The market is hanging on to recent gains, but just barely.  We look to close the week right about where it started.  Considering the news, a flat close might be the best we could have hoped for.  Perhaps the biggest non-news event occurred on Monday when the U.S. officially broke through the $14.294T debt ceiling.  Lawmakers have eleven weeks to hash out a deal to avoid a default.  Let the countdown begin.

There were a few surprises this week perhaps most notably the arrest of International Monetary Fund (IMF) chief Dominique Strauss-Kahn.  The head of the IMF was removed from a Paris-bound flight in New York minutes before takeoff Saturday afternoon and arrested in connection with a sexual assault on a housekeeper at a Manhattan hotel.  The allegations create immediate uncertainty for the IMF, which has been playing an important role in stabilizing the global economy amid the financial crisis.  Mr. Strauss-Kahn has been instrumental in restructuring Greece’s debt and was widely thought to be considering a challenge to French President Nicolas Sarkozy in next year’s election.

In other news, Iranian President Mahmoud Ahmadinejad shook up his cabinet by replacing three ministers and temporarily taking over the oil ministry just in time for the OPEC conference.  It turns out that Iran holds the organization’s rotating presidency for the year.  This means that Mr. Ahmadinejad will lead next month’s OPEC conference in Vienna as he presses for higher oil prices to aid Iran’s struggling economy.

With the end of QE2 right around the corner, the release of the April Federal Reserve meeting minutes came with renewed interest.  The minutes show a clear division on when to begin tightening monetary policy.  Some officials want to raise interest rates sooner rather than later while others are deeply concerned that such a move would stifle any recovery.  In theory, they agree that raising interest rates is preferable to selling assets when the time comes to tighten policy.  As for weakness in the first quarter, they blame severe weather, increases in energy and other commodity prices, and lower-than-expected defense spending.  They threw around Mr. Bernanke’s catch-word “transitory” and see economic growth picking up later this year.

There was little in the way of company news this week.  Both TJX Companies and Wal-Mart released earnings that were roughly in line with expectations.  McDonald’s announced that they are trying a pilot program in Europe that would replace its cashiers with touch-screen terminals.  This would allow customers to both order and pay for food thereby saving both time and money.  If successful, we expect it could be brought to the United States in the next few years.  And lastly, although not specifically company news, the Senate fell short of the votes necessary to repeal the tax subsidies given to large oil companies.  It was decided that repeal would hurt domestic drilling while failing to lower gas prices.  This remains a $2 billion windfall for the likes of Shell, Exxon, ConocoPhillips, BP and Chevron.

In closing, it looks like the heady days of the dot-com era are back.  This week the market saw the first IPO of a social-networking company.  Many regard LinkedIn (ticker:LNKD) as essentially Facebook for the corporate world.  The stock was priced at $45 a share but quickly hit $122 before settling around the $95 mark.  At this price, the market cap for LinkedIn exceeds $10 billion with a P/E ratio of 1,250.  What you’re seeing here is enthusiasm that goes way beyond what the prospects are for the company itself.  Hold onto your wallets, irrational exuberance is back.  We’re LinkedIn all right… to 1999!

May 13, 2011: Market Update

May 13, 2011   //   by Bruce Mason   //   Weekly Market Update  //  No Comments

The Boehner Ultimatum

For all intents and purposes, it was a pretty dull week for the markets.  There weren’t any big breaking news stories to move things higher or lower.  The minor blips that made headline news were the conviction of Raj Rajaratnam on insider-trading and the unexpectedly higher inventory of both crude oil and gasoline.  However, there is an uneasiness regarding the rapidly approaching debt ceiling and the continuing saga of debt problems in Greece, Portugal, Ireland and Spain.  Despite being just beneath the surface, all of these issues helped contribute to slightly higher anxiety levels this week.

The news that caught my attention this week was what I am calling the “Boehner Ultimatum” (not to be confused with the award winning book by Robert Ludlum).  Having taken a lot of heat from the conservatives in his party over the budget compromise, Mr. Boehner is now taking a very hard stand on the national debt ceiling.  He said this week that if the White House desires to raise the national debt ceiling (again), that they will have to come up with spending cuts that more than offset the rise in the ceiling.  The part that gave me pause was his declaration that the idea of raising taxes is completely off the table.  Leaving politics aside, this is an interesting position to take since the tax cuts in 2006, two unpopular wars and an unfunded Medicare prescription plan are in large part a cause of our current debt problem.  There are arguments to be made for both sides and I’m not suggesting that any one party is to blame.  Regardless of how we got here, the current debt is unsustainable and a quick resolution would be in the best interest of the United States.

In other news, we learned that U.S. consumers are once again taking on more debt, ending a string of nine consecutive declining quarters.  Many consider this a sign that people are feeling better about their economic prospects.  Also we were told that banks are more willing to lend, the first such gain since Q3 2008.  However, home prices continue to decline, showing a 3% drop quarter-over-quarter with approximately 28% of all homeowner underwater on their mortgages.

In closing, I don’t have a quirky story to share with you this week.  However, I do want to let you know about the Academy Award winning documentary “Inside Job”.  I watched it earlier this week and have to say it is riveting.  For those of you who haven’t seen it yet, it is definitely worth watching.  It explores the decisions that created the environment in which the financial crisis was born.  Perhaps the most interesting aspect for me is that many of the people who were instrumental in creating the financial crisis are the same people who are now tasked with fixing the system.  In light of this realization, it should come as no surprise that little has been done to prevent these circumstances from happening again.  What would Adam Smith say if he were alive today?

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