Posts tagged ‘china’
The Ski Slope Market: What’s Next in 2014?
This article is an excerpt from a previously released Sidoxia Capital Management complementary newsletter (January 2, 2014). Subscribe on the right side of the page for the complete text.
Skiing, or snowboarding in my case, is a lot like investing in the stock market…a bumpy ride. Snow, wind, ice, and moguls are common for seasoned skiers, and interest rate fluctuations, commodity price spikes, geopolitical turmoil, and -10% corrections are ordinary occurrences for veteran equity investors. However, in 2013 stock investors enjoyed pristine conditions, resulting in the best year for the Dow Jones Industrial Average since 1996. Individuals owning stocks witnessed their portfolios smoothly race to sunny, powder-like returns. More specifically, a December Santa Claus rally (S&P +2.4% for the month) capped off a spectacular year, which resulted in the S&P 500 Index soaring +30%, the NASDAQ Composite Index +38%, and the Dow +26%.
Despite the meteoric move in stocks this year, many observers missed the excitement of the equity ski slopes in exchange for lounging in the comfort of the deceivingly risky but warm lodge. In the lodge, these stock-frightened individuals sipped hot cocoa with wads of inflation-losing cash, bonds, and gold. As a result, these perceived safe assets have now become symbolic relics of the 2008-2009 financial crisis. In the short-run, the risk-averse coziness of the lodge may feel wonderful, but before the lounging observers can say “bull market,” the overpriced cocoas and holiday drinks will eat holes through retirement wallets and purses.
As you can see from the chart below, it is easy for the nervous lodge loungers to vividly remember the scary collapse of 2008-09 (point A to B). Surprisingly, many of these same skeptics are able to ignore or discount the explosive move of 2009-13 (point B to C). There’s another way of looking at this volatile time period. Had an investor fallen into a coma six years ago and then awakened today, an S&P portfolio would still have risen a respectable +26% (point A to C), plus more than +10% or so from dividends.
Turbulent Times on Back-Country Bond & Gold Trails
While stockholders have thoroughly enjoyed the recent climate, the 2013 weather conditions haven’t been as ideal for gold and bond investors. Gold investors felt less-than-precious in 2013 as they went flying off a cliff and broke a leg. In fact, the shiny metal suffered its worst performance in 30 years and underperformed stocks by a whopping -58%. With this year’s -28% loss (GLD), gold has underperformed stocks over the last six years, after including the impact of dividends.
Like gold traders, most bondholders were wounded in 2013 as well, but they did not get completely buried in an avalanche. Nevertheless, 2013 was a rocky ride overall for the bond haven hunters, as evidenced by the iShares Barclays Aggregate Bond composite (AGG), which fell -4%. As I’ve discussed previously, in Confessions of a Bond Hater, not all bonds are created equally, and actually many Sidoxia client portfolios include shorter-duration bonds, inflation protection bonds, convertible bonds, floating rate bonds, and high-yield bonds. Structured correctly, a thoughtfully constructed bond portfolio can outperform in a rising rate environment like we experienced in 2013.
Although bonds as a broad category may not currently offer great risk-reward characteristics, individuals in the mid-to-latter part of retirement need less volatility and more income – attributes bonds (not stocks) can offer. In other words, certain people are better served by snow-shoeing, or going on sleigh rides rather than risking a wipeout or tree collision on a downhill ski adventure. By owning the right types of bonds, your portfolio can avoid a severe investment crash.
Positive 2014 Outlook but Helmet Advised
With the NASDAQ index having more than tripled to over 4,176 from the 2009 lows, napping spectators are beginning to wake up and take notice. After money hemorrhaged out of the stock market for years (despite positive total returns in 2009, 2010, 2011, 2012), the fear trend began to reverse itself in 2013 and investment capital began returning to stock funds (see Here Comes the Dumb Money).
Adding fuel to the bull market fire, the International Monetary Fund (IMF) head Christine Lagarde recently signaled an increase in economic growth forecasts for the U.S. in 2014, thanks to an improving employment picture, successful Congressional budget negotiations, and actions by the Federal Reserve to unwind unprecedented monetary stimulus. If you consider the added factors of rising corporate profits, improving CEO confidence (e.g., Ford expansion), the shale energy boom, an expanding housing market, and our technology leadership position, one can paint a reasonably optimistic picture for the upcoming years.
Nonetheless, I am quick to remind investors and clients that the pace of the +30% appreciation in 2013 is unsustainable, and we are still overdue for a -10% correction in the major stock indexes.
The fundamental outlook for the economy may be improving, but there are still plenty of clouds on the horizon that could create a short-term market snowstorm. Domestically, we have the upcoming 2014 mid-term elections; debt ceiling negotiations; and a likely continuation of the Federal Reserve tapering program. Abroad, there are Iranian nuclear program talks; instability in Syria; meager and uncertain growth in Europe; and volatile economic climates in emerging markets like China, Brazil and India. After such a large advance this year, any one of these concerns (or some other unforeseen event) could provide an ample excuse to sell stocks and take some profits.
Since wipeouts are common, a protective helmet in the form of a valuation-oriented, globally diversified portfolio is strongly advised. For seasoned skiers and long-term investors, experiencing the never-ending ups and downs of skiing (investing) is a necessity to reach a desired destination. If you have trouble controlling your skis (money/emotions), it’s wise to seek the assistance of an experienced instructor (investment advisor) so your investment portfolio doesn’t crash.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing SCM had no direct position in AGG, GLD, F, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.
Nail Not in Emerging Market Coffin Yet
I wouldn’t say the nail is in the emerging market coffin quite yet. During the financial crisis, the EMSCI Emerging Market Index (EEM) was left for dead (down -50% in 2008) before resurrection in 2009 and 2010 (up +74% and +16%, respectively). For the last two years however, the EMSCI index has underperformed the S&P 500 Index massively by more than -30%. Included in this international index are holdings from China, Russia, India, Brazil, South Korea, and South Africa, among others.
The question now becomes, can the emerging markets resurrect themselves from the dead again? Recent signs are flashing “yes”. Over the last three months, the emerging markets have outperformed the S&P 500 by more than +8%, but these stocks still have a lot of ground to make up before reaching the peak levels of 2007. Last year’s slowing growth in China and a European recession, coupled with talks of the Federal Reserve’s “tapering” of monetary stimulus, didn’t provide the EMSCI index any help over the last few years.
With all the distracting drama currently taking place in Washington D.C., it’s a relief to see some other indications of improvement. For starters, China’s most recent PMI manufacturing index results showed continued improvement, reaching a level of 51.1 – up from August and signaling a reversal from contraction earlier this year (levels above 50 point to expansion). Chinese government leaders are continuing their migration from an externally export-driven economy to an internally consumer-driven economy. Despite the shift, China is still targeting a respectable +7.5% GDP economic growth target, albeit a slower level than achieved in the past.
Adding to emerging market optimism is Europe’s apparent economic turnaround (or stabilization). As you can see from the chart below, the European Institute for Supply Management (ISM) service sector index has lately shown marked improvement. If the European and Chinese markets can sustain these recovering trends, these factors bode well for emerging market financial returns.
Source: Calafia Beach Pundit
While it is clear these developments are helping the rebound in emerging market indices, it is also clear the supply-demand relationship in commodities will coincide with the next big up or down move in developing markets. Ed Yardeni, strategist and editor of Dr. Ed’s Blog, recently wrote a piece showing the tight correlation between emerging market stock prices and commodity prices (CRB Index). His conclusions come as no surprise to me given these resource-rich markets and their dependence on Chinese demand along with commodity needs from other developed countries. Expanding populations and rising standards of living in emerging market countries have and will likely continue to position these countries well for long-term commodity price appreciation. The development of new, higher-value service and manufacturing sectors should also lead to sustainably improved growth in these emerging markets relative to developed economies.
Source: Dr. Ed’s Blog
Adding fuel to the improving emerging market case is the advancement in the Baltic Dry Index (see chart below). The recent upward trajectory of the index is an indication that the price for moving major raw materials like coal, iron ore, and grains by sea is rising. This statistical movement is encouraging, but as you can see it is also very volatile.
Source: Calafia Beach Pundit
While the emerging markets are quite unpredictable and have been out-of-favor over the last few years, a truly diversified portfolio needs a healthy dosage of this international exposure. You better check a pulse before you put a nail in the coffin – the emerging markets are not dead yet.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs) including emerging market ETFs, but at the time of publishing, SCM had no direct position in EEM, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is the information to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.
The Most Hated Bull Market Ever
Life has been challenging for the bears over the last four years. For the first few years of the recovery (2009-2010) when stocks vaulted +50%, supposedly we were still in a secular bear market. Back then the rally was merely dismissed as a dead-cat bounce or a short-term cyclical rally, within a longer-term secular bear market. Then, after an additional +50% move the commentary switched to, “Well, we’re just in a long-term trading range. The stock market hasn’t done a thing in a decade.” With major indexes now hitting all-time record highs, the pessimists are backpedaling in full gear. Watching the gargantuan returns has made it more difficult for the bears to rationalize a tripling +225% move in the S&P 600 index (Small-Cap); a +214% move in the S&P 400 index (Mid-Cap); and a +154% in the S&P 500 index (Large-Cap) from the 2009 lows.
For the unfortunate souls who bunkered themselves into cash for an extended period, the return-destroying carnage has been crippling. Making matters worse, some of these same individuals chased a frothy over-priced gold market, which has recently plunged -30% from the peak.
Bonds have generally been an OK place to be as Europe imploded and domestic political gridlock both helped push interest rates to record-lows (e.g., tough to go lower than 0% on the Fed-Funds rate). But now, those fears have subsided, and the recent rate spike from Ben Bernanke’s “taper tantrum” has caused bond bulls to reassess their portfolios (see Fed Fatigue). Staring at the greater than -90% underperformance of bonds, relative to stocks over the last four years, has been a bitter pill to swallow for fervent bond believers. The record -$9.9 billion outflow from Mr. New Normal’s (Bill Gross) Pimco Total Return Fund in June (a 26-year record) is proof of this anxiety. But rather than chase an unrelenting stock market rally, stock haters and skeptics remain stubborn, choosing to place their bond sale proceeds into their favorite inflation-depreciating asset…cash.
Crash Diet at the Buffet
I’ve seen and studied many markets in my career, but the behavioral reactions to this most-hated bull market in my lifetime have been fascinating to watch. In many respects this reminds me of an investing buffet, where those participating in the nourishing market are enjoying the spoils of healthy returns, while the skeptical observers on the sidelines are on a crash diet, selecting from a stingy menu of bread and water. Sure, there is some over-eating, heartburn, and food coma experienced by those at the stock market table, but one can only live on bread and water for so long. The fear of losses has caused many to lose their investing appetite, especially with news of sequestration, slowing China, Middle East turmoil, rising interest rates, etc. Nevertheless, investors must realize a successful financial future is much more like an eating marathon than an eating sprint. Too many retirees, or those approaching retirement, are not responsibly handling their savings. As legendary basketball player and coach John Wooden stated, “Failing to prepare is preparing to fail.”
20 Years…NOT 20 Days
I will be the first to admit the market is ripe for a correction. You don’t have to believe me, just take a look at the S&P 500 index over the last four years. Despite the explosion to record-high stock prices, investors have had to endure two corrections averaging -20% and two other drops approximating -10%. Hindsight is 20-20, but at each of those fall-off periods, there were plenty of credible arguments being made on why we should go much lower. That didn’t happen – it actually was the opposite outcome.
For the vast majority of investing Americans, your investing time horizon should be closer to 20 years…not 20 days. People that understand this reality realize they are not smart enough to consistently outwit the market (see Market Timing Treadmill). If you were that successful at this endeavor, you would be sitting on your private, personal island with a coconut, umbrella drink.
Successful long-term investors like Warren Buffett recognize investors should “buy fear, and sell greed.” So while this most hated bull market remains fully in place, I will follow Buffett’s advice comfortably sit at the stock market buffet, enjoying the superior long-term returns put on my plate. Crash dieters are welcome to join the buffet, but by the time they finally sit down at the stock market table, I will probably have left to the restroom.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), including IJR, and IJH, but at the time of publishing, SCM had no direct position in BRKA/B, Pimco Total Return Fund, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.
Sidoxia Debuts Video & Goes to the Movies
Article is an excerpt from previously released Sidoxia Capital Management’s complementary February 1, 2013 newsletter. Subscribe on right side of page.
The red carpet was rolled out for the stock market in January with the Dow Jones Industrial Average rising +5.8% and the S&P 500 index up an equally impressive +5.0% (a little higher rate than the 0.0001% being earned in bank accounts). Movie stars are also strutting their stuff down the red carpet this time of the year as they collect shiny statues at ritzy award shows like the Golden Globes and Oscars. Given the vast volumes of honors bestowed, we thought what better time to put on our tuxes and create our own 2013 nominations for the economy and financial markets. If you are unhappy with our selections, you are welcome to cast your own votes in the comments section below.
By award category, here are Sidoxia’s 2013 selections:
Best Drama (Government Shutdown & Debt Ceiling): Washington D.C. has provided no shortage of drama, and the upcoming blockbusters of Shutdown & Debt Ceiling are worthy of its Best Drama nomination. If Congressional Democrats and Republicans don’t vote in favor of a new “Continuing Resolution” by March 27th, then our United States government will come to a grinding halt. At issue is Republican’s desire for additional government spending cuts to lower our deficit, which is likely to exceed $1 trillion for the fifth consecutive year. If you like more heart pumping drama, the Senate has just passed a Debt Ceiling extension through May 18th…mark those calendars!
Best Horror Film (Sequestration): Most people have already seen the scary prequel, The Fiscal Cliff, but the sequel Sequestration deserves the horror film honors of 2013. This upcoming blood-filled movie about broad, automatic, across-the-board government cost cuts will make any casual movie-watcher scream in terror. The $1.2 trillion in spending cuts (over 10 years) are so gory, many viewers may voluntarily leave the theater early. If you are waiting for the release, Sequestration is coming to a theater near you on March 1st, unless Congress, in an unlikely scenario, cancels the launch.
Best Director (Ben Bernanke): Federal Reserve Chairman Ben Bernanke’s film, entitled, The U.S. Economy, had a massive budget of about $16 trillion dollars, based on estimates of last year’s GDP (Gross Domestic Product). Nevertheless, Bernanke managed to do whatever it took (including trillions of dollars in bond buying) to prevent the economic movie studio from collapsing into bankruptcy. While many movie-goers were critical of his directorial debut, inflation has remained subdued thus far, and he has promised to continue his stimulative monetary policies (i.e., keep interest rates low) until the national unemployment rate falls below 6.5% or inflation rises above 2.5%.
Best Foreign Film (China): Americans are not the only people who produce movies globally. A certain country with a population of nearly 1.4 billion people also makes movies too…China. In the most recently completed 4th quarter, China’s economy experienced blockbuster growth in the form of +7.9% GDP expansion. This was the fastest pace achieved by China in two whole years. To put this metric into perspective, compare China’s heroic growth to the bomb created by the U.S. economy, which registered a disappointing -0.1% contraction at the economic box office. China’s popularity should bring in business all around the globe.
Best Special Effects (Japan): After coming out with a series of continuous flops, Japan recently launched some fresh new special effects in the form of a $116 billion emergency stimulus package. The country also has plans to superficially enhance the visual portrayal of its economy by implementing its own faux money-printing program modeled after our country’s quantitative easing actions (i.e., the Federal Reserve stimulus). As a result of these initiatives, the Japanese Nikkei index – their equivalent of our Dow Jones Industrial index – has risen by +29% in less than 3 months to a level of 11,138.66 (click here for chart). But don’t get too excited. This same Nikkei index peaked at 38,957 in 1989, a far cry from its current level.
Best Action Film (Icahn vs. Ackman): This surprisingly entertaining action film features a senile 76-year-old corporate raider and a white-haired, 46-year-old Harvard grad. The investment foes I am referring to are the elder Carl Icahn, Chairman of Icahn Enterprises, and junior Bill Ackman, CEO of Pershing Square Capital Management. In addition to terms such as crybaby, loser, and liar, the 27-minute verbal spat (view more here) between Icahn (his net worth equal to about $15 billion) and Ackman (net worth approaching $1 billion) includes some NC-17 profanity. The clash of these investment titans stems from a decade-old lawsuit, in addition to a recent disagreement over a controversial short position in Herbalife Ltd. (HLF), a nutritional multi-level marketing firm.
Best Documentary (Europe): As with a lot of reality-based films, many don’t receive a lot of attention. So too has been the commentary regarding the eurozone, which has been relatively peaceful compared to last spring. Despite the comparative media silence, European unemployment reached a new high of 11.8% late last year. This European documentary is not one you should ignore. European Central Bank (ECB) President Mario Draghi just stated, “The risks surrounding the outlook for the euro area remain on the downside.”
Best Original Song (National Anthem): We won’t read anything politically into Beyonce’s lip-synced rendition of The Star-Spangled Banner at the presidential inauguration, but she is still worthy of the Sidoxia nomination because music we hear in the movies is also recorded. I’m certain her rapping husband Jay-Z agrees whole-heartedly with this viewpoint.
Best Motion Picture (Sidoxia Video): It may only be three minutes long, but as my grandmother told me, “Great things come in small packages.” I may be a little biased, but judge for yourself by watching Sidoxia’s Oscar-worthy motion picture debut:
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing SCM had no direct position in HLF, Japanese ETFs, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.
Risk of “Double-Rip” on the Rise
Okay, you heard it here first. I’m officially anointing my first new 2013 economic term of the year: “Double-Rip!” No, the biggest risk of 2013 is not a “double-dip” (the risk of the economy falling back into recession), but instead, the larger risk is of a double-rip – a sustained expansion of GDP after multiple quarters of recovery. I know, this sounds like heresy, given we’ve had to listen to perma-bears like Nouriel Roubini, Peter Schiff, John Mauldin, Mohamed El-Erian, Bill Gross, et al shovel their consistently wrong pessimism for the last 14 quarters. However, those readers who have followed me for the last four years of this bull market know where I’ve stood relative to these unwavering doomsday-ers. Rather than endlessly rehash the erroneous gospel spewed by this cautious clan, you can decide for yourself how accurate they’ve been by reviewing the links below and named links above:
Roubini calling for double-dip in 2012
Roubini calling for double-dip in 2011
Roubini calling for double-dip in 2010
Roubini calling for double-dip in 2009
If we switch from past to present, Bill Gross has already dug himself into a deep hole just two weeks into the year by tweeting equity markets will return less than 5% in 2013. Hmmm, I wonder if he’d predict the same thing now that the market is up about +4.5% during the first 18 days of the year?
Why Double-Rip Over Double-Dip?
How can stocks rip if economic growth is so sluggish? If forced to equate our private sector to a car, opinions would vary widely. We could probably agree the U.S. economy is no Ferrari. Faster growing countries like China, which recently reported 4th quarter growth of +7.9% (up from +7.4% in 3rd quarter), have lapped us complacent, right-lane driving Americans in recent years. But speed alone should not be investors’ only key objective. If speed was the number one priority, the only places investors would be placing their money would be in countries like Rwanda, Turkmenistan, and Libya (see Business Insider article). However, freedom, rule of law, and entrepreneurial spirit are other important investment factors to be considered. The U.S. market is more like a Toyota Camry – not very flashy, but it will reliably get you from point A to point B in an efficient and safe manner.
Beyond lackluster economic growth, corporate profit growth has slowed remarkably. In fact, with about 10% of the S&P 500 index companies reporting 4th quarter earnings thus far, earnings growth is expected to rise a measly 2.5% from a year ago (from a previous estimate of 3.0% growth). With this being the case, how can stock prices go up? Shrewd investors understand the stock market is a discounting mechanism of future fundamentals, and therefore stocks will move in advance of future growth. It makes sense that before a turn in the economy, the brakes will often be activated before accelerating into another fast moving straight-away.
In addition, valuation acts like shock absorbers. With generational low interest rates and a below-average forward 12-month P/E (Price-Earnings) ratio of 13x’s, this stock market car can absorb a significant amount of fundamental challenges. The oft quoted message that “In the short run, the market is a voting machine but in the long run it is a weighing machine,” from value icon Benjamin Graham holds as true today as it did a century ago. The recent market advance may be attributed to the voters, but long-term movements are ultimately tied to the sustainable scales of sales, earnings, and cash flows.
If that’s the case, how can someone be optimistic in the face of the slowing growth challenges of this year? What 2013 will not have is the drag of election uncertainty, the fiscal cliff, Superstorm Sandy, and an end-of-the-world Mayan calendar concern. This is setting the stage for improved fundamentals as we progress deeper into the year. Certainly there will be other puts and takes, but the absence of these factors should provide some wind under the economy’s sails.
What’s more, history shows us that indeed stock prices can go up quite dramatically (more than +325% during the 1990s) when consensus earnings forecasts continually get trimmed. We have seen this same dynamic since mid-2012 – earnings forecasts have come down and stock prices have gone up. Strategist Ed Yardeni captures this point beautifully in a recent post on his Dr. Ed’s Blog (see charts below).
CLICK TO ENLARGE – Source: Dr. Ed’s Blog
What Will Make Me Bearish?
Am I a perma-bull, incessantly wearing rose-colored glasses that I refuse to take off? I’ll let you come to your own conclusion. When I see a combination of the following, I will become bearish:
#1. I see the trillions of dollars parked in near-0% cash start coming outside to play.
#2. See Pimco’s Bill Gross and Mohammed El-Erian on CNBC fewer than 10 times per week.
#3. See money flow stop flooding into sub-3% bonds (Scott Grannis) and actually reverse.
#4. Observe a sustained reversal in hemorrhaging of equity investments (Scott Grannis).
#5. Yield curve flattens dramatically or inverts.
#6. Nouriel and his bear buds become bullish and call for a “triple-rip” turn in the equity markets.
#7. Smarter, more-experienced investors than I, á la Warren Buffett, become more cautious. I arrogantly believe that will occur in conjunction with some of the previously listed items.
Despite my firm beliefs, it is evident the bears won’t go down without a fight. If you are getting tired of drinking the double-dip Kool-Aid, then perhaps it’s time to expand your bullish horizons. If not, just wait 12 months after a market rally, and buy yourself a fresh copy of the Merriam-Webster dictionary. There you can locate and learn about a new definition…double-rip!
Read Also: Double-Dip Guesses are “Probably Wrong”
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing SCM had no direct position in Fiat, Toyota, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.
Financial Olympics: Chasing Gold, Siver & Bronze
Article is an excerpt from previously released Sidoxia Capital Management’s complementary August 1, 2012 newsletter. Subscribe on right side of page.
As a record number of 204 nations compete at the XXX Olympic Games in London, and millions of couch-watchers root on their favorite athletes, a different simultaneous competition is occurring…the 2012 Financial Olympics. So far, both Olympics have provided memorable moments for all. While the 2012 London Olympic viewers watched James Bond and Queen Elizabeth II parachute into a stadium filled with 80,000 cheering fans, investors cheered the Dow Jones Industrial Average above the 13,000 level on the same day of the opening ceremony. We have already witnessed a wide range of emotions displayed by thousands of athletes chasing gold, silver, and bronze, and the same array of sentiments associated with glory and defeat have been observed in the 2012 Financial Olympics. There is still a way to go, but despite all the volatility, the stock market is still up a surprising +10% in 2012.
Here were some of the key Financial Olympic events last month:
Draghi Promises Gold for Euro: Some confident people promise gold medals while others promise the preservation of a currency – European Central Bank President (ECB) Mario Draghi personifies the latter. Draghi triggered the controversy with comments he made at the recent Global Investment Conference in London. In the hopes of restoring investor confidence Draghi emphatically proclaimed, “The ECB is ready to do whatever it takes to preserve the euro. And believe me, it will be enough.” To view this excerpt, click video link here.
U.S. Economy Wins Bronze: Whereas Europe has been disqualified from the Financial Olympics due to recessionary economic conditions (Markit predicts a -0.6% contraction in Q3 eurozone GDP), the U.S. posted respectable Q2 GDP results of +1.5%. This surely is an effort worthy of a bronze medal given the overall sluggish, global demand. Fears over a European financial crisis contagion; undecided U.S. Presidential election; and uncertain “fiscal cliff” (automatic tax hikes and spending cuts) are factors contributing to the modest growth. Nevertheless, the US of A has posted 12 consecutive quarters of economic growth (see chart below) and if some clarity creeps back into the picture, growth could reaccelerate.
Source (Calafia Beach Pundit)
No Podium for Spain: Spain’s recent economic achievements closely mirror those of the athletic team, which thus far has failed to secure a sporting medal of any color. Why no Spanish glory? Recently, the Bank of Spain announced the country’s economy was declining at a -1.6% annual rate. Shortly thereafter, Spain estimated its economy would contract by -0.5% in 2013 instead of expanding +0.2%, as previously expected. Adding insult to injury, Valencia (Spain’s most indebted region) said central government support would be needed to repay its debts. These factors, and others, have forced the Spanish government to adopt severe austerity measures to cut its budget deficit by $80 billion through 2015. Spanish banks have negotiated a multi-billion-euro bailout, but they will have to hand control over to European institutions as a concession. Considering these facts, combined with an unemployment rate near 25%, one can appreciate the dominant and pervading losing spirit.
Global Central Banks Inject Financial Steroids: The challenging and competitive global growth environment is not new news to central bankers around the world. As a result, finance leaders around the world are injecting financial steroids into their countries via monetary stimulus (mostly rate cuts and bond buying). Like steroids, these actions may have short-term invigorating effects, but these measures can also have longer-term negative consequences (i.e., inflation). Here are some of the latest country-specific examples (also see chart below):
- U.S. Federal Reserve Chairman Ben Bernanke has already shot a couple “Operation Twist” and “QE” (Quantitative Easing) bullets, but as global growth continues to slow, he has openly acknowledged his willingness to dig into his toolbox for additional measures under the right circumstances, including QE3.
- The PBOC (People’s Bank of China) surprised many observers by employing its second rate cut in less than a month. The PBOC lowered its one-year lending rate by 0.31% to 6%.
- The ECB (European Central Bank) lowered its key lending rate by 0.25% to an all-time low of 0.75% and also cut its overnight deposit rate (the equivalent of our Federal Funds rate) by 0.25% to 0%.
- Brazil’s central bank recently cut its benchmark Selic rate for the 8th time in a year to an all-time low of 8% from 12.5%.
- South Korea’s central bank lowered its key interest rates by 0.25% to 3%, its first such action in three years.
- The BOE (Bank of England) raised its quantitative easing goal by 50 billion pounds (~$78 billion).
Source (Calafia Beach Pundit)
Banks Disqualified from Libor Games: As a result of the Libor (London Interbank Offered Rate) rigging scandal, Barclays CEO Robert Diamond resigned from the bank and agreed to forfeit $31 million in bonus money. Libor is a measure of what banks pay to borrow from each other and, perhaps more importantly, it acts as a measuring stick for determining rates on mortgages and other financial contracts. In an attempt to boost the perceived financial strength of their financial condition, multiple banks artificially manipulated the calculation of the Libor rate. Ironically, this scandal likely helped consumers with lower mortgage and credit card rates.
Rates Running Backwards: Sports betting on teams and events is measured by point spreads and numerical odds. In the global debt markets, betting is measured by interest rates. So while losing, debt-laden countries like Greece and Spain have seen their interest rates explode upwards, winning, fiscally responsible countries (including Switzerland, Austria, Denmark, Netherlands, Germany, and Finland) have seen their bond yields turn NEGATIVE. That’s right, investors are earning a negative return. Rather than making a bet on higher yielding bonds, many investors are flocking to the perceived safety of these interest-losing bonds (see chart below). This game cannot last forever, especially for individual and institutional investors who require income to meet liquidity and return requirements.
Source (The Financial Times)
China Wins GDP Gold Medal but No World Record: China currently leads in both the Olympic Games gold medal count (China 13 vs. U.S. 9 through July 31st) and GDP competition. Given the fiscal and monetary stimulus measures the government has implemented, it appears their economy is bottoming. Despite the tremendous anxiety over China’s growth, China’s National Bureau of Statistics just announced a +7.6% Q2 GDP growth rate (see chart below), down from +8.1% in Q1. Although this is the slowest growth since the global financial crisis, Even though this was the slowest GDP growth rate in over three years, most countries would die for this level of growth. Adding evidence to the bottoming storyline, HSBC recently reported the preliminary Chinese PMI manufacturing index rose to 49.5 in July, up from 48.2 in June – the highest reading since early this year (February).
Source (Calafia Beach Pundit)
Higgs Wins God Particle Gold: Michael Phelps and Missy Franklin are not the only people to win gold medals in their fields. Peter Higgs and fellow scientists had 50-years of their physics research validated when the Large Hadron Collider discovered the long-sought Higgs boson (a.k.a., the “god particle”). The collider, located on the Franco-Swiss border, measured approximately 17 miles in length, took years to build, and cost about $8 billion to finish. Pundits are declaring the unearthing of Higgs boson as the greatest scientific discovery since the sequencing of the human genome. Higgs’s gold medal may just come in the form of a Nobel Prize in Physics.
Source (The Financial Times)
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in Barclays or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Digesting the Anchovy Pizza Market
Source: Photobucket
Article is an excerpt from previously released Sidoxia Capital Management’s complementary July 2012 newsletter. Subscribe on right side of page.
I love pizza, and most fellow connoisseurs have difficulty refusing a hot, fresh slice of heaven too. Pizza is so universally appreciated that people consider pizza like ice cream – it’s good even when it’s bad (I agree). However, even the biggest, diehard pizza-lover will sheepishly admit their fondness for the flat and circular cheesy delight changes when you integrate anchovies into the mix. Not many people enjoy salty, slimy, marine creatures layered onto their doughy mozzarella and marinara pizza paradise.
With all the turmoil and uncertainty going on in the global financial markets, prudently investing in a widely diversified portfolio, including a broad range of equity securities, is viewed as palatable as participating in an all-you-can-eat anchovy pizza contest. Why are investors’ appetites so salty now? Hmmm, let me think. Oh yes, here are a few things that come to mind:
- Presidential Election Uncertainty
- European Financial Crisis
- Impending Fiscal Cliff (tax cut expirations, automatic spending cuts, termination of stimulus, etc.)
- Unsustainable Fiscal Debt & Deficits
- Slowing Subpar Domestic Economic Growth
- Partisan Politics and Gridlock in Washington
- High Unemployment
- Fears of a Hard Economic Landing in China
Doesn’t sound too appealing, does it? So, what are most investors doing in this unclear market? Rather than feasting on a pungent pie of anchovies, investors are flocking to the perceived safety of low yielding asset classes, no matter the price. In other words, the short-term warmth and comfort of CDs, money market, checking, and fixed income assets are being gobbled up like nicotine-laced pepperoni pizzas selling for $29.95/each + tax. The anchovy alternative, like stocks, is much more attractively priced now. After accounting for dividends, earnings, and cash flows, the anchovy/stock option is currently offering a 2-for-1 special with breadsticks and a salad…quite the bargain!
Nonetheless, the plain and expensive pepperoni/bond option remains the choice du jour and there are no immediate signs of a pepperoni hangover just quite yet. However, this risk aversion addiction cannot last forever. The bond gorging buffet has gone on relatively unabated for the last three decades, as you can see from the chart below. In spite of this, the bond binging game is quickly approaching a mathematical terminal end-game, as interest rates cannot logically go below zero.
Source: Calafia Beach Pundit with Sidoxia comments
Since my firm (Sidoxia Capital Management) is based in Newport Beach, next to PIMCO’s global headquarters, we get to follow the progression of the bond binging game firsthand. I’ve personally learned that if I manage close to $2 trillion in assets under management, I too can construct a 23-story Taj Mahal-esque headquarters that overlooks the Pacific Ocean from a stones-throw away.
Beyond glorified headquarters, there is evidence of other low-risk appetite examples. Here are some reinforcing pictures:
The Bond Binge
Source (The Financial Times): Bond purchases have exploded in the last three years.
Cash Hoarding
Source (Calafia Beach Pundit): Stuffing money under the mattress has accelerated in recent years as fear, uncertainty, and doubt have reigned supreme.
The Anchovy Special
Even though anchovy pizza, or a broadly diversified portfolio across asset class, size, geography, and style may not sound appealing, there are plenty of reasons to fight the urges of caving to fear and skepticism. Here are a few:
1) Growth Rolls On: Despite the aforementioned challenges occurring domestically and abroad, growth has continued unabated for 11 consecutive quarters, albeit at a rate less than desired. We are not immune to global recessionary forces, but regardless of European forces, the U.S. has been resilient in its expansion.
Source: Calafia Beach Pundit
2) Jobs and Housing on the Upswing: Unemployment remains high, but our country has experienced 27 consecutive months of private creation, leading to more than 4 million new jobs being added to our workforce. As you can see from the clear longer-term downward trend in unemployment claims, we are moving in the right direction.
Source: Calafia Beach Pundit
3) Eurozone Slowly Healing its Wounds: The Greek political and fiscal soap opera is grabbing all the headlines, but quietly in the background there are signs that the eurozone is slowly healing the wounds of the financial crisis. If you look at the 2-year borrowing costs of Europe’s troubled countries (ex-Greece), there is an unambiguous and beneficial decline. There is no doubt that Spain and Italy play a larger role than Portugal and Ireland, but at least some seeds of change have been planted for optimism.
Source: Calafia Beach Pundit
4) Record Corporate Profits: Investors are not the only people reading uncertain newspaper headlines and watching CNBC business television. CEOs are reading the same gloomy sensationalistic stories, and as a result, corporations have been cautious about dipping their short arms into their deep pockets. Significant expense reductions and a reluctance to hire have led to record profits and cash hoards. As evidenced by the chart below, profits continue to rise, and these earnings are being applied to shareholder friendly uses like dividends, share buybacks, and accretive acquisitions.
Source: Yardeni.com
5) Attractive Valuations (Pricing): We have already explored the lofty prices surrounding bonds and $30 pepperoni pizzas, but counter-intuitively, stock prices are trading at a discount to historical norms, despite record low interest rates. All else equal, an investor should pay higher prices for stocks when interest rates are at a record low (and vice versa), but currently we are seeing the opposite dynamic occur.
Source: Calafia Beach Pundit
Even though the financial markets may look, smell, and taste like an anchovy pizza, the price, value, and return benefits may outweigh the fishy odor. And guess what…anchovies are versatile. If you don’t like them on your pizza, you can always take them off and put them on your Caesar salad or use them for bait the next time you go fishing. The gloom-filled headlines haven’t been spectacular, but if they were, the return opportunities would be drastically reduced. Therefore you are much better off by following investor legend Warren Buffett’s advice, which is to “buy fear and sell greed.”
Investing has never been more difficult with record low interest rates, and it has also never been more important. Excluding a small minority of late retirees and wealthy individuals, efficiently investing your retirement dollars has become even more critical. The safety nets of Social Security and Medicare are likely to be crippled, which will require better and more prudent investing by individuals. Inflation relating to food, energy, healthcare, gasoline, and entertainment is dramatically eroding peoples’ nest eggs.
Digesting a pepperoni pizza may sound like the most popular and best option given the gloomy headlines and uncertain outlook, but if you do not want financial heartburn you may consider alternative choices. Like the healthier and less loved anchovy pizza, a more attractively valued strategy based on a broadly diversified portfolio across asset class, size, geography, and style may be the best financial choice to satiate your long-term financial goals.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Broken Record Repeats Itself
Article is an excerpt from previously released Sidoxia Capital Management’s complementary June 2012 newsletter. Subscribe on right side of page.
Traditional music records have been replaced with CDs (compact discs) and digital downloads. Although the problem of a broken record repeating itself is no longer an issue, our financial markets have not conquered the problem of repetition. More specifically, the timing of the -6.3% stock market decline during May (as measured by the S&P 500 index), coincides with the same broken sell-offs we have temporarily experienced over the last two summers. First, we had the “Flash Crash” in the summer of 2010, and then the debt ceiling debate and credit downgrade of 2011.
So far, the “Sell in May and go away” mantra has followed the textbook lessons over the last few years, but as you can see from the chart below, the short-lived seasonal sell-offs have been followed by significant advances (up +33% from 2010 lows and up +29% from the 2011 lows). Given the global challenges, a two-steps forward, one-step back pattern in equity markets should not be seen as overly surprising by investors.
Source: Yahoo Finance
Although the late-spring and summer doldrums have not been a joy-ride in recent years, these overly simplistic seasonal trading rules of thumb have not been exceedingly reliable either. For example, even though the months of May in 2010-2012 produced negative returns, the previous 25 Mays going back to 1985 produced positive returns more than 2/3 of the time. Rather than fiddle with these unreliable, unscientific trading rules, individuals would be better served by listening to famous Jedi Master Yoda from Star Wars, who so astutely noted, “Uncertain, the future is.”
Voting Machines and Scales
Given the spread of globalization and technology, the speed of news dissemination has never been faster. With the 2008-2009 financial crisis still burned into investors’ minds, the default response to any scary news item is to shoot first and ask questions later. Renowned long-term investing legend Ben Graham famously highlighted, “In the short run the market is a voting machine. In the long run it’s a weighing machine.”
As it relates to short-run current events, here are some of the items that investors were voting on (no pun intended) this month:
Europe, Europe, Europe: This problem has been with us for some time now, and there are no signs it will disappear anytime soon. In a game of chicken between the EU (European Union) and Greek legislators, fresh elections are taking place on June 17th, which will ultimately determine if Greece will exit the Euro monetary union or stick to the bitter medicine of austerity prescribed by the key European decision-makers in Germany. As Greece attempts to clean up its own mess, European politicians and G-20 leaders around the globe are scrambling to create plans that ring-fence countries like Spain and Italy from succumbing to a Greek-born contagion.
Presidential Politics: If you haven’t been living in a cave for the last six months, you probably know that 2012 is a presidential election year. Regardless of your politics, there are big questions surrounding the economy, jobs, deficits, debt, taxes, entitlements, defense, gay marriage, and other important issues. Answers to many of these questions will remain unclear until we get closer to the elections. The financial markets do not like uncertainty, so probabilities would indicate volatility will remain par for the course for the foreseeable future.
Facebook Folly: Despite my warnings, Facebook’s initial public offering (IPO) failed to live up to the social media giant’s hype – the share price has fallen -22% since the shares originally priced. Great companies do not always make great stocks, especially when a relatively new kid on the block has his company’s stock initially valued at a hefty price-tag of more than a $100 billion. Finger pointing is being spread liberally on the botched Facebook deal (e.g., Morgan Stanley, NASDAQ, Facebook), but no need to shed a tear for 28-year-old founder Mark Zuckerberg since his ownership stake in the company is still valued at around $15 billion – enough to cover a European trip to McDonald’s with his newlywed wife.
Dimon in a Rough Spot: Jamie Dimon, the poster child of the banking industry (and CEO of JP Morgan Chase – JPM), dropped a bomb on the investment community earlier in the month by explaining how a rogue “whale” trader racked up $2 billion in initial losses (and growing) by taking excessive risk and throwing controls into the wind.
Chinese Dragon Losing Steam: The #2 global economy has been losing some steam as witnessed by slowing industrial production and GDP growth (Gross Domestic Product). In turn, the self correcting economic forces of supply and demand have provided relief to consumers and corporations in the form of lower fuel, energy, and commodity prices. Chinese leaders are not sitting still – there are plans of accelerating infrastructure spending and assisting banks in the form of capital injections and lower reserve requirements.
As I discussed in a previous Investing Caffeine article (see The European Dog Ate My Homework), although the current headlines remain gloomy, that will always be the case. Just a few years ago, Bear Stearns, Lehman Brothers, AIG, CDS (credit default swaps), and subprime mortgages were the boogeymen. In the 1980s, we had the Savings & Loan financial crisis and the infamous 1987 Crash. During the 1970s, the Vietnam War, Nixon’s impeachment proceedings, and rising inflation were the dominating issues. Since then, the equity markets are up over 20x-fold – time will always reward those patient long-term investors. Despite all the doom and gloom, stock markets have roughly doubled over the last three years and all the major indexes remain solidly in the black for the year. Choppy waters are likely to remain as we approach this year’s elections, but for those who understand broken records often repeat themselves, there’s a good chance the music will eventually sound much better.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds (including commodities, inflation protection, floating rate bonds, real estate, dividend, and alternative investment ETFs), but at the time of publishing SCM had no direct position in FB, MCD, JPM, MS, NDAQ, AIG, Lehman Brothers, Bear Stearns, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Investing with the Sentiment Pendulum
Article is an excerpt from Sidoxia Capital Management’s complementary May 2012 newsletter. Subscribe on right side of page.
The last five years have been historic in many respects. Not only have governments and central banks around the world undertaken unprecedented actions in response to the global financial crisis, but investors have ridden an emotional rollercoaster in response to historically unparalleled uncertainties.
While the nature of this past crisis has been unique, experienced investors know these fears continually manifest themselves in different forms over various cycles in time. Despite the more than doubling in equity market values over the last few years, as measured by the S&P 500 index, the emotional pendulum of investor sentiment has only partially corrected. Investor temperament has thankfully swung away from “Panic,” but has only moved closer to “Fear” and “Skepticism.” Here are some of the issues contributing to investors’ current sour mood:
The Next European Domino: The fear of the Greek domino toppling the larger Spanish and Italian economies has investors nervously chewing their finger-nails, and political turmoil in France and the Netherlands isn’t creating any additional warm and fuzzies.
Job Additions Losing Steam: New job creation here in the U.S. weakened to a lethargic monthly rate of +120,000 new jobs in March, while the unemployment rate remains stubbornly high at an 8.2% level.
Domestic Growth Losing Mojo: GDP (Gross Domestic Product) growth of +2.2% during the first quarter of 2012 also opened the door for the pessimists. Consumers are still spending (+2.9% growth), but government spending, business investment, and housing are taking wind out of the economy’s sails.
Emerging Markets Submerging: Unspectacular growth in the U.S. is not receiving any favors from slowing emerging markets like China and Brazil, which took fiscal and monetary actions to slow inflation and housing speculation in 2011.
Humpty Dumpty Politics: Presidential elections, tax policy, and deficit reduction are all concerns that carry the possibility of pushing the economic Humpty Dumpty off the wall, and as a result potentially lead to a great fall. The determination of Humpty Dumpty’s fate will likely have to wait until year-end or 2013.
Any student of history knows these fears and other concerns never go away – they simply change. But like supply and demand, gravitational forces eventually swing the emotional pendulum in the opposite direction. As Sir John Templeton so aptly stated, “Bull markets are born on pessimism, grow on skepticism, mature on optimism and die on euphoria.” Or in other words, escalating bull markets must climb the proverbial “Wall of Worry” in order to sustain upward momentum. If there was nothing to worry about, then all the buyers would already be in the markets. We are nowhere close to experiencing “Euphoria” like we saw in stocks during the late-1990s or in the housing market around 2005.
Positively Climbing the “Wall of Worry”
With all this bad news out there, surprisingly there are some glimmers of hope chipping away at the “Wall of Worry.” Here are some of the positive factors helping turn pessimist frowns upside down:
Slow & Steady Wins the Race: The economic recovery has been weaker than hoped, but I can think of worse scenarios than 11 consecutive quarters of GDP growth and 25 straight months of private job creation, which has reduced the unemployment rate from 10.0% in October 2009 to 8.2% last month.
Earnings Machine Keeps Chugging Along: With the majority of S&P 500 companies having reported their quarterly results for the first quarter, three-fourths of the companies are beating forecasted earnings, which are currently registering in at a respectable +7.1% rate (Thomson Reuters). One company epitomizing this trend is Apple Inc. (AAPL). The near doubling in Apple’s profits during the quarter, thanks to explosive iPhone sales, pushed Apple’s shares over $600 and helped drive the NASDAQ index to its best day of the year.
Super Ben to the Rescue: The Federal Reserve has already stated their intention of keeping interest rates near 0% until 2014. The potential of additional monetary stimulus spearheaded by Federal Reserve Chairman Ben Bernanke, in the form of QE3 (Quantitative Easing Part III), may provide further needed support to the stock market (a.k.a., the “Bernanke Put”).
Return of the IPO: Initial Public Offerings (IPOs) have gained steam versus last year with more than 53 already coming to market in the first four months of 2012. This is no 1999, but a good number of deals have done quite well over the last month. For example, data analysis company Splunk Inc. (SPLK) share price is already up around 100% and the value of leisure luggage company TUMI Holdings (TUMI) has climbed over +40%. In a few weeks, the highly anticipated blockbuster Facebook (FB) IPO is expected to begin trading its shares, so we can see if the chronicled deal can live up to all the hype.
Dividends Galore: Dividend payments to stockholders are flowing at an extraordinary rate so far in 2012. Companies like IBM (increased its dividend by +13%), Exxon Mobil – (XOM +21%); Goldman Sachs – (GS +31%) are but just a few of the dividend raisers this year. Through the first three months of the year, the number of companies increasing their dividend payments was up +45% as compared to the comparable number for all of 2011.
Emerging Growth Not Dead: While worriers fret over slowing growth in China, companies like Apple grew by more than +100% in this region and collected nearly 20% of its revenues from this Asian country (~$8 billion). Coincidentally, China is expected to surpass an incredible one billion mobile connections in May – many of those iPhones. In other related news, Starbucks Corp. (SBUX) plans to triple its workforce and number of stores in China over the next three years. China has also helped fuel a backlog of Caterpillar Inc. (CAT) that is more than triple the level of 2009. Emerging markets may have slowed down in 2011, but with inflation beginning to stabilize, emerging market central banks and governments are now beginning to ease policies and reduce red-tape. For example, Brazil and India have started to lower key benchmark interest rates, and China has started to reverse capital flow restrictions.
Stay Off the Trampled Path
The mantra of “Sell in May and go away” always gets a lot of playtime around this period of the year. Over the last few years, the temporary spring/summer sell-offs have only been followed by stronger price appreciation. Individuals attempting to time the market (see also Getting Off the Treadmill) generally end up in tears. And for those traders who boast about their excellent timing (like those suspicious friends who brag about always winning in Las Vegas), we all know the truth – nobody buys at the lows and sells at the highs…except for liars.
With all the noise and cross-currents flooding the airwaves, investing for individuals without assistance has never been so difficult. But before hiding in your cave or reacting to the next scary headline about Europe, the economy, or politics, do yourself a favor by reminding yourself these chilling news items are nothing new and are often great contrarian indicators (see also Back to the Future). The emotional pendulum is constantly swinging from fear to greed and investors stand to prosper by adjusting sentiment and actions in the opposite direction. To survive in the investing wild, it is best to realize that the grass is greener and the eating more abundant when you stay off the trampled path of the herd.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds and AAPL, but at the time of publishing SCM had no direct position in SPLK, TUMI, IBM, XOM, GS, SBUX, CAT, FB, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
Curing Our Ills with Innovation
Fareed Zakaria thoughts have blanketed both traditional and internet media outlets, spanning everything from Newsweek to Time, and the New York Times to CNN. With an undergraduate diploma from Yale and his PhD from Harvard, Dr. Zakaria has built up quite a following, especially when it comes to foreign affairs.
In his latest Time magazine article, Can America Keep Pace?, Zakaria addresses the role of innovation in the U.S., “Innovation is as American as apple pie.” The innovation lead the U.S. maintains over the rest of the world will not evaporate over night because this cultural instinct is bred into our DNA – innovation is not something you one can learn directly from a textbook, Wikipedia, or Google (GOOG). With that said, the innovation gap is narrowing between developed and developing countries. New York Times columnist Tom Friedman captured this sentiment when he stated the following:
“French voters are trying to preserve a 35-hour work week in a world where Indian engineers are ready to work a 35-hour day.”
The fungibility of labor has pressured industries by transferring jobs abroad to much lower-cost regions like China and India, and that trend is only expanding further into countries with even lower labor cost advantages. Zakaria agrees:
“America’s future growth will have to come from new industries that create new products and processes. Older industries are under tremendous pressure.”
The good news is the United States maintains a significant lead in certain industries. For instance, we Yankees have a tremendous lead in fields such as biotechnology, entertainment, internet technologies, and consumer electronics.
The poster child for innovation is Apple Inc. (AAPL), which arose from the ashes of death ten years ago with its then ground-breaking new product, the iPod. Since then, Apple has introduced many innovative products and upgrades as a result of its research and development efforts, including the recently launched iPad.
The Education Engine
Where we are falling short is in education, which is the foundation to innovation. In a country with a high school system that Microsoft Corp.’s (MSFT) founder Bill Gates calls “obsolete,” society is left with one-third of the students not graduating and nearly half of the remaining graduates unprepared for college. In this instant gratification society we live in, the long-term critical education issue has been pushed to the backburner. Other emerging countries like China and India are churning out more college graduates by the millions, and also dominating us in the key strategic count of engineering degrees.
Government’s Role
With the massive debt and deficits our country currently faces, an ongoing debate about the size and role of government persists. Zakaria makes the case that government must place a significant role when it comes to innovation. Unfortunately, the U.S. wastes billions on pork-barrel projects and suboptimal subsidies while dilly-dallying in political gridlock over critical investments in education, infrastructure spending, basic research, and energy policies. In the meantime, our fellow competing countries are catching up to us, and in certain cases passing us (e.g., alternative energy investments – see Electric Profits).
Zakaria makes this point on the subject:
“The fastest-growing economies are all busy using government policy to establish commanding leads in one industry after another. Google’s Eric Schmidt points out that ‘the fact of the matter is, other countries are putting a lot more money into nurturing new industries than we are, and we are not going to win unless we do something like what they’re doing.’”
As a matter of fact, an ITIF (Information Technology & Innovation Foundation) study measuring innovation improvement from 1999 to 2009, as it related to government funding for basic research, education and corporate-tax policies, ranked the U.S. dead last out of 40 countries.
Not All is Lost – Pie Slice Maintained
Source: Carpe Diem
Although the outlook may sounds bleak, not all is lost. In a recent Wall Street Journal interview with Bob Doll Chief Equity Strategist at the world’s largest money management company (BlackRock has $3.6 trillion in assets under management), he makes the case that the U.S. remains the leading source of technological innovation and home to the greatest universities and the most creative businesses in the world. He sees this trend persisting in part because of our country’s relative demographic advantages:
“Over the next 20 years, the U.S. work force is going to grow by 11%, Europe’s going to fall by five, and Japan’s going to fall by 17. This alone tells me the U.S. has a huge advantage over Europe and a bigger one over Japan for growth.”
So while emerging markets, like those in Asia, continue to gain a larger slice of the global GDP pie, Mark Perry at Carpe Diem shows how the U.S has maintained its proportional slice of a growing global economic pie, over the last four decades.
Growth is driven by innovation, and innovation is driven by education. If America wants to maintain its greatness, the focus needs to be placed on innovation-led growth. The world is moving at warp speed, and our neighbors are moving swiftly, whether we come along for the ride or not. The current, sour conversations regarding deficits, debt ceilings, entitlements, wars, and unemployment are all essential discussions, but more importantly, if these debates can be refocused on accelerating innovation, the country will be well on its way to curing its ills.
See also Our Nation’s Keys to Success
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, GOOG, and AAPL, but at the time of publishing SCM had no direct position in MSFT, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
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