CNBC Asia

I am scheduled to appear on Asian Market Watch tonight between 8pm and 8:30 EST.

Here is a list of topics that might come up;

• Oil came out of the blocks strongly in 2006 and there was nothing from the OPEC meeting in Vienna to convince the market that things would be very different anytime soon. The idea that energy can go down a lot from here and stay down does not make sense to me. Supply and demand are close to even right now. Demand is growing faster than supply. This means higher oil prices than what is considered normal. That does not mean that oil can go back into the $50's and stay there for a while. This will continue to mean very good things for energy companies.
• The big story on Tuesday centered around Alan Greenspan's last hurrah. I am concerned with how complacent the market seems to be about getting a new Fed chairman. Chairman Bernanke is more of an academic. There will be differences between Bernanke and Greenspan in terms of communication and perhaps methodology. I expect an adjustment period with a little more volatility for stocks, bonds and the dollar.
• While I think the Fed should have stopped raising rates a while ago, I expect another hike in March.
• The State of the Union speech is not very likely to have a huge impact on trading (unless he comes across as strong on keeping the dividend and cap gains tax cuts in place) on Wednesday but it seems Bush's popularity numbers tend to go down after these speeches. This could contribute to eroding sentiment over the next few days.
• What might have a bigger impact on Wednesday trade is the reaction to the Google earnings report. At last glance the stock was down $55 per share in after hours trade. The market may take a big chunk of that back before the open on Wednesday but if not, the report stands to cast a pall over the entire market.

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In The Spirit

This is a painting by Erin Crowe, the artist that has been on CNBC all day working on another Greenspan painting.

I don't see much benefit to spending time trying to assess how Greenspan rates compared to other Fed chiefs but whether you love him or hate he has left quite a big foot print behind him.
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Best of the Best?

John Connor, the manager of the Third Millennium Russia Fund (TMRFX), was on to talk about Russia. I made a mention of him once before about a month ago.

In that last post I noted that he was lagging the Russian market by about 35 percentage points. As of that day (12/27/2005) the index was up 83% and TMRFX was 47% for 2005. The segment today focused on year-to-date.

Year to date for 2006 the fund is lagging again. Once in an accident, twice is a coincidence, three times.....

In 2004 the fund outperformed the index for most of the year but then lost its lead at the end of the year (it is possible that the chart is not accounting for the year end distribution properly).

The fund also lagged in 2003.

I'm not sure why the fund gets such a high rating. In recent years it has lagged a lot of the time. If you hired a student to manage a fund and the pool of stocks he can choose from all goes up a lot, what do you think the results will be? They'd be pretty good whether they beat the average or not.

TMRFX might be a great way to invest in Russia but unless I am missing something, there is not much value being added which makes it reasonable to question Mr. Connor's understanding of the country.
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Multi National Companies

The second post about George Soros has had more comments than any other post I've written before, for that I say thank you.

The most recent comment had a point that comes up a lot that I wanted to address.

For the people who want to invest in emerging markets, it seems to be that the best way to get into those markets safely is buy investing in large multinational's/foreign companies that do buisness in those regions.

To me that seems like ETF's like PID and KIE are a good way to get involved in these markets. As a set of global natural resources play's the iShare's Canada/Australia, and the ETF IGE, could be a good play on the natural resources that China/India will need in the future.

It seems to me that almost every interview on CNBC about international markets this question comes up. What about buying US companies that do business in emerging markets? The answer on TV always varies.

This discussion is emerging markets, right? A big American industrial or insurance company is not an emerging market company. Part of you fundamental process may be to include a company because it derives revenue from emerging countries.

This chart compares Petrochina (PTR), AIG and the S+P 500 from April 2000 through year end 2002. The action on the chart perfectly captures my point. AIG does a lot of business in emerging markets. Perhaps it was the emerging exposure that allowed AIG to do better than the S+P but it still tracked closer to the S+P than PTR.

I should note that I looked at Caterpillar in this same vane and CAT, which some clients own, had a period of time where it correlated to PTR but then CAT fell away from it very sharply toward the end of the time period.

There are several moving parts here. One is moving away from US dollars in your portfolio, another is riding coat tails of another market even if you pick the wrong stock within that market and yet another is the relatively low correlation that emerging markets have to the US market. To be fair and balanced I should not that some studies show the correlation is closer than it used to be.

From there the issue then becomes how to access emerging markets. The choices are common stock or a fund of some sort. Obviously what you do from there depends on you tolerances and preferences.
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Meandering

Is it possible the market is flat because of the State of the Union Address? Is it flat because of the Fed tomorrow? Is it flat because it is just taking rest?

I'm not sure what the best answer is. One prediction for 2006 that I did not hear very often was that there would be more volatility in 2006. With January winding down it is safe to say 2006 is starting out with a little more volatility than in 2005. While I do not expect Japan-like volatility, Barry Ritholtz' point about too many months having gone by without a 10% correction looms over my thinking.

A fast violent correction of that magnitude would be better than a three or four month rolling over to get that point. Historically, slow capitulation is worse for the market than four day panics.

I repeat this notion often on this site and when talking to clients. The idea is to really embrace and understand, at a time when you are not at a heightened emotional state, that selling into panics is the wrong thing to do the vast majority of the time. Selling (reducing exposure) when the market has rolled over slowly and people on CNBC are justifying the decline is a good time to sell.

A flat market like today is a great time to study this.
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Jonathan Clements

Yesterday I caught a show on PBS called WealthTrack with Consuelo Mack. One of her guests was Jonathan Clements who writes about mutual funds for the Wall St Journal. He was on the show to talk about Exchange Traded Funds. What do you know, he doesn't like them?

I found his part of the show to be a waste of time. ETFs have drawbacks, he pointed out the commission that must be paid (true, this is a negative), he also said the ability to trade interday is an unnecessary feature because you should be holding them for extremely long periods of time. Another ding against them is that because they can be traded interday it encourages people to trade more frequently. That last one did not come up in the show but is one I have read before.

Clements' take away on the show was that ETFs are not the best way to go for most investors.

I'm not sure how a blanket statement like that can apply so broadly to such a big population. It is worth repeating my view on this. ETFs are a tool. OEFs are a tool. Any type of product you can find is a tool that may or may not be right for you to capture whatever part of the market you are considering.

Further any argument against a product because of a flaw in human behavior (like trading too much) seems silly. Anyone who manages a portfolio (their own for other people) needs to have some humble introspection about the weaknesses. If an investor cannot resist the urge to trade ETFs more frequently than their goals and volatility tolerance calls for, then yes, they should not own any but that is more about the person than the product.

There is a funny line from some movie or TV show about fearing the unfamiliar. I think Mr. Clements was making an argument in favor of staying afraid of the unfamiliar. I wasn't surprised because I know his writing but then again I was surprised that a personal finance writer is not working toward trying to explore the manner in which ETFs can benefit do-it-yourselfers and that he isn't more interested in a balanced view.
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The Big Picture For The Week of January 29, 2006

A theory I have written about several times on this is that as the US economy matures (this is a very big picture long term theme I am talking about, and not in any sort of apocalyptic way) it will start to look like the older, more mature, European economy.

What I think this means is tighter correlation in economic and stock market cycles. Also, I would expect milder recessions and expansions.

A part of this equation is the globalization of the world's economy. Perhaps there will be three kinds of countries; old slow growth service economies, fast growing emerging markets, and commodity-based economies (emerging or not).

This is a fairly benign outcome for the US compared to the discussion on Friday about Mr. Soros' expectations.

As it is a theory, it could be completely right, completely wrong or right in direction but wrong in magnitude.

Apparently I'm not the only one to think along these lines ( I never thought I was). Barron's European Trader touches on the concept as Alan Wilde, director of fixed-income and currency at Baring Asset Management talked about the current state of the gilt market being a template for the US treasury market.

He feels the long end of the gilt curve ( the UK issues 50 year paper) will go lower and stay lower. He sees the US following behind in a similar manner. Right or wrong, the idea behind the idea is more synchronization between the two.

I think some measure of change is inevitable. As far as I am concerned a low return environment in the US for years to come would be a very good outcome compared to the financial Armageddon some are calling for.
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More Soros

CNBC Europe also interviewed George Soros. I do not know if it was a function of manipulation or the US reporter not asking the right questions or what, but the CNBC Europe interview was much better and delved into what he is really thinking about and chances are a recession in the US in 2007 is not that high on his list.

This is dark stuff and I am not defending him in any way for his political views, I am just relaying this because it is what he is thinking about and I think it noteworthy. You may also notice that some of it ties in with what I have been writing about for a while. My time scale is much longer than his though.

He feels that there are a lot very serious problems looming for the US and those problems are being ignored at the Davos shindig. He referred to the mood in Davos as feel good and even complacent.

This biggest risk to the world economy, in his opinion, is the politics of the world order of US dominance. He feels that the US embarked on a self-defeating course after September 11 and starting a war on terror. He feels the US is losing power to a greater extent than he previously thought.

He feels that we are on a collision course with Iran over nuclear capability which, bigger picture, is about energy. He believes energy is an incentive for people that want to cause trouble as has been the case in Venezuela, Nigeria, Russia and Iran, among other places.

Interviewer Steve Sedgwick asked if we are talking about an end of empire for the US and could not China pick up the slack. He did not answer that one directly but he did say that hopefully the US recognizes the errors it has been making and can change course. He feels too much too soon in China could be a problem for China's own good. He did not really define his China point beyond those comments.

That was it, you can disagree with any of his thoughts, of course, but please don't shoot the messenger.

I have been writing for months about this new century belonging to someone else, probably China or India. I think his time table for changes in the world order is much faster than the way I think it will work out.

I clearly buy into the world order changing. I am not as pessimistic about the near term consequence as I think Mr. Soros is. No matter where you stand on the issue I think prudent risk and portfolio management requires you to have a good understanding of this argument and a game plan of some sort if this starts to play out.

More often than not, the worst case scenario does not happen. But for all anyone knows it could be worse that even Soros expects.
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MSM ETF Coverage

Usually I am very critical of main stream media coverage of ETFs. In an effort to be fair and balanced I need to give credit where it is due to an article that ran on Forbes.com written by someone named Carl Delfeld.

He writes regularly on the web site, I’m not sure if he appears in the magazine as well. He also has some sort of advisory firm that specializes in ETFs. Lastly it appears as though he sells some sort of newsletter with picks. I do not know how well the picks have done

I was impressed with the article. While the type of content may not be new to readers of this site, I can’t recall having seen a discussion that talked about capturing effects of different sectors of the stock market, commodities and currencies before. He was advocating what I would say is proper diversification.

There were no specific percentages given so I do not know if I would see eye to eye with him on anything, but that does not matter. Months ago I wrote that eventually there would be more and more quality analysis of ETF coming and maybe this is starting to finally happen. There will be more.
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Soros Predicts Recession In 2007

Why is this news?

We are bumping up on the normal duration of an economic expansion. While a recession may or may not be visible in the current fundamentals, it makes sense to think about just based on how economic cycles usually work.
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Healthcare

A question from a reader about healthcare.

A couple of my favorite market people are M J Whitman and Marc Faber. I noted Marc mentioned Pfizer in Barron's Roundtable, and Marty has a long position as of 10/30/05 of a million shares of Pfizer. Both have a tendency to get into things very early. With Medicare Plan D taking hold and a recession possible, do you think big pharm might be coming into play? Any thoughts on what to play with - XLY? PHH? or pick a basket of individual stocks?

OG

The demographic demand that will be created or depending on how you look at is being created now for all things healthcare will be huge. Today’s 50 year olds will live much longer and healthier than their parents. This is partly due to innovation, partly due to lifestyle changes and philosophically speaking partly due to evolution.

Despite obvious catalysts, big American pharma has done poorly for a long time. Maybe it is turning now and maybe not, I expect I will miss a big turn when it does finally happen. Make no mistake, history tells us they will do well at some point but I will freely admit I don’t know when.

Most clients own Johnson & Johnson and Novartis for big cap pharma exposure. Novartis obviously also adds Switzerland which I like for bomb-shelter reasons. Here, assuming I do miss the bottom, clients will participate to some extent.

My ownership universe also includes a foreign second tier pharma, biotech stock, a biotech ETF, a generic drug maker, a device company and a medical testing company. No client owns every name. The mix, hopefully, blends together different volatilities, cap sizes and countries.

Some smaller accounts own the iShares S+P Global Health (IXJ). The idea behind this pick instead of one of the domestic ETFs is my dim expectation for US big pharma. IXJ has some big American pharma but it benefits from its foreign exposure.

The question asks whether big pharma might now come into play. Now? Who can say? At some point, clearly. A diversified portfolio means that you have some big pharma exposure. I am not overweight that part of the sector nor do I have plans to be. Of course I may get it wrong.
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Latam

Latin American stocks have been very hot in the last few days. Yesterday CNBC did several cautionary segments about the region due to left leaning elections in several countries. While the content was interesting, I would urge anyone not to take action on this type of reporting.

Latam is a region that is part of emerging markets. Chances are diversification requires some exposure. How much exposure you have is a variable as is how you access it.

If you think now may not be a good time to own Latam, OK, but zero exposure could be a big mistake.

These are the Latin stocks I watch, I also watch Southern Peru Copper (PCU) but it is part of a different grouping on My Yahoo. Most of the tickers are in my ownership universe for clients and I own SAN personally. This is clearly not evidence of good stock picking. The region is doing very well. I would have no expectation that any of the names I own could swim upstream in a downtrend. But I can capture some nice yield if things do turn.

Unlike Thailand, the catalyst here, I think, is the global demand for resources. It is a simple theme that does a lot of work for me.
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Flat Not Inverted

Have you taken a peek at the treasury market today? The curve looks like it ha having a parallel shift so that it will still be flat when the Fed raises rates next week.

This is some very efficient trading. I am still trying to figure what it means. Will the curve stay flat no matter what, which I think means the Fed keeps going because rates are not at a point that discourages real estate speculation? The dilemma there is that a flat curve usually implies an expectation of slowing growth. Higher rates as growth slows is not ideal.

Another idea I expressed several months ago was that the reissuing of the 30-year bond (just a couple of weeks away now) should put upward pressure on ten year yields. If that is what is playing out the fed should stop at 4.25% because the dynamics of the market would be solving the housing issue that the Fed has been concerned about.
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Phuket

Thailand, that is.

Chuck Butler from the Daily Pfennig has been high on the Thai baht lately. As the chart shows, the baht has been strong against the dollar for a few months.

Thailand has some economic positives going for it right now plus most of the region's other currencies have been strong against the dollar.

This might be a catalyst for Thai equities to do well. A strong currency and healthy economy, generally speaking, are stock market positives.

This may all be true but Thailand does not really participate in any global big picture themes. Thailand is not China, does not have oil for sale or export a lot of copper. These themes can be a safety net for the risk taken by investing in an emerging market.

Thailand might do very well but there is more of an aspect of flying solo with this one.
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Actually, Its Not An Interesting Story

CNBC has devoted a lot of time in the last two days to whether the new Disney/Pixar combo will move over to the Nasdaq. "The Nasdaq is going to make a play because Steve Jobs is an old Nasdaq guy."

This might matter to Nasdaq (NDAQ) or Archipelago (AX) shareholders. Does anyone else care? Whether you care or not I am sure we can look forward to more coverage.

Vince Farrell will be on Mark Haines' show. Lemme guess, he's going to recommend three mega cap stocks.

I guess I woke up in a sour mood.

To balance with a little humor, I had a Stephen Wright moment at the bank yesterday. Why does the drive-through ATM have Braille on the keys?
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Process Nugget

I stumbled across an article from Motley Fool on MSN about a company that sells a kind of dirt that has a type of clay in it that has many marketable uses. The company is called Amcol International Corp. (ACO).

I have never heard of the company and have no opinion about it but the article was interesting enough that I read the whole thing and looked at a few things on Yahoo Finance about it. One of the things I looked at (and the point of this post) was the option chain.

I don't do a whole lot with options, personally or for clients, but a look at the premiums can give an idea how volatile the market expects the stock to be.

The bigger the premium the more volatility expected. For comparison you could use a stock like Research in Motion (RIMM) as one extreme and perhaps a low beta utility at the other extreme and compare whatever stock you are researching.

I have simplified how options pricing works for space sake, but the idea is very straightforward as to learning a little about how a stock trades. This obviously adds nothing to a fundamental analysis of a stock.
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MLPs

I had a reader ask what I think about individual MLPs. This was in response to my negative comments about MLP CEFs. The reader also mentioned that last June I wrote about reducing exposure but he did not follow my logic.

I think MLPs make a lot of sense when used properly. The risk to them is that you should expect them to get hit hard if oil and or natural gas drop in price. If a particular MLP is up a lot, relatively, you should expect it has the capacity to go down a lot, if energy prices fall.

I don't think energy prices will fall but that does not mean you are not taking the risk. I know that a lot of people have too many of these because of the yield and they are up a lot too. The answer I get when I ask is that they don't mind if they drop because they are still getting the yield.

I have to confess I do not understand the logic at all. Here I am talking about people that are very overweight not people that have 4% or 5% of their portfolio in them.

I think owning them is more work than a lot of people realize. US based MLPs pay royalties on depleting assets. US law prohibits MLPs from purchasing other assets to replace what is being depleted. Canadian trusts have no such restrictions. An investor that owns 20 MLPs should understand the depleting asset aspect of this which is a lot of work.

Further, if a ten year bond yields four point whatever percent and you are getting 11% in some sort of MLP, how much risk do you think you are taking? This is, of course, subjective and some elevated risk is appropriate but too much of anything is a bad idea.

Last June I reduced exposure to this part of the energy world because they had become so faddish and the one I sold had gone up a lot more than I ever expected it to when I bought it. Most clients have a little exposure but I think too many of these is a very aggressive stance, more so than I want to be.
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Off To A Good Start

I flipped on the computer this morning and was greeted with an email from Slash over at Inventing Money that told me I made the Forbes list of blogs again. Cool!

Bill Cara got the nod as their favorite blog which I think is a great choice. Props to everyone else on the list.

In an effort to try to improve the content I would like to open up the floor to the criticisms made to see if other people feel the same way or if it was just the reviewer.

Do you want more stock picks? The idea behind what I write about is that, one, there are stock picks all over the place and I try to emphasize that stock picking is less important than sector and theme picking and that stock selection comes last in the process. I can, however, devote more space to the part of the process.

The other issue noted is searching for past content. I don't know how to use technorati tags but I will try to find out and can start using them if I get other feedback along the same lines.

On a different note I had a lot of comments about the new Retirement Planning blog. It looks like some of you might find it to be useful so I am quite pleased with the start.

I'll have a regular post up a little later.
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New Blog

In an effort to reach more people and cover more ground I have started a new blog called Random Roger’s Retirement Planning.

The primary goal that I have with this new site is to try to help people to think differently about their retirement planning and retirement living. I have some very specific ideas about this. My intention is not for you to follow anything I say but to get you to look at things a little differently than main stream media tells you to. This is something I am good at with investing but I think it will be very important for retirement planning as well.

On the new blog I will spell out some of my philosophies about all sorts of things that I believe relate. The content will build on previous posts. It will be less capital market intensive than the original blog and focus more on strategy, creating a paycheck and finding different sources of income.

I do a lot of writing all over the place and I think I have done a decent job of not letting the other writing I do overlap with the content here. I expect that will be the case with the new blog too.

I further hope that readers will offer their ideas in the comments because I know from the comments I get here, there a lot of smart folks stop by this site. Let me reiterate that I am not suggesting anyone follow what I do but follow the process of looking at things differently.

I expect to post twice a week, once on the weekend and once during the week.
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Nuggets About Gold

I'm back from my gold show. I learned a couple of facts. Global demand for gold, according to the presenters, is 4000 tons per year. 2700 tons are mined every year. The rest comes from selling gold that is already above ground.

The GLD ETF owns around 300 tons. They contend that GLD is not having that big of an impact on gold. You can decide for yourself.

In addition to the US based ETF there is also one in the UK, Australia and South Africa. I asked about retail demand growth, and for now the largest source of investor demand is coming from the US. The World Gold Council expects to list an ETF in Hong Kong soon. Successfully penetrating the China market (through Hong Kong) and its 1.3 billion people would be big and could move the price of gold. However I doubt all 1.3 billion Chinese will be buying gold, probably more like 900 million (humor attempt).

One other thing came up and that was silver. I don't have the numbers, but if the silver ETF comes to be, the existence of the ETF could have a much more visible effect on the price of the metal. The idea behind this numberless assertion is that silver gets consumed where gold does not.

I can't vouch for any of this but it makes intuitive sense and is something I plan to look into. If the silver story is accurate, I will be buying across the board when it lists. Let me stress IF IT IS ACCUARATE. I do not know the answer yet. All I am suggesting is to try to research it. Hopefully this is clear.
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Odds N Ends

The market is up and that is not a bad thing but it feels like it is lacking conviction. This is a gut feeling more than anything else and hopefully I am wrong about the sentiment.

I have written about a structured product that I bought personally but not for clients that is pegged to a basket of Asian currencies (ticker CAQ). Lately it has been bouncing up a little. It is spending some time above $9.50, but not necessarily staying there, which is new territory in the time I have been watching it.

I still have no plans to buy it for clients due to its complexity and I am not suggesting anyone else buy it either but I am starting to wonder if watching it might be a useful proxy to gauge sentiment for the dollar. This is a theory I am working on and have no conclusions yet. I think it is worthwhile to explore new theories. There are inter-market relationships that exist that can help you better understand your own portfolio.

In a few minutes I am going to a shindig hosted by State Street about gold across the street from our office. Hopefully there will be some decision makers there and I can make some headway with what I think is missing. And maybe the gift bag will include a hat!
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Closed End Fund Coverage

I have been struck, lately, by the number of articles devoted to the beating that closed end funds have taken. The list includes Barron's, the Wall Street Journal, and countless newspaper articles that have come through my RSS feed.

I suppose the obvious way to look at it is that if so many experts say they are now cheap they will get cheaper. I'm not sure this holds up here. CEFs do have a purpose which is easy access to yield. They have their drawbacks and can be volatile but they have that yield. A well-diversified portfolio that only owns a few CEFs to capture certain parts of the market should be able to weather any down turns.

Two of my least favorite types of CEFs are ones that own preferred stocks and CEFs that own MLPs. I have written about both of these before.

An example of a CEF that owns preferred stocks is the Nuveen Quality Preferred Income Fund (JTP). The fund yields 8.3%. The 52-week high is $14.75, the 52-week low is $11.86 and it closed Monday at $13.07. The person that bought at $14.75 is down 11.3% at Monday's close. Compare that to the price range for an individual preferred I own for clients. The 52-week high is 26.60. the 52-week low is $25.13 and it closed Monday at $25.49. The person who bought at the year high and sold at the year low (the worst possible trade that could be made) lost 5.5%.

Further, the individual issue returns $25 back at maturity. The fund has no such safety net. Buying the preferred stock of a AA, or higher, rated company does not really carry unreasonable risk. I have been writing about this since the start of the site. This is an instance where the funds are actually riskier than the individual issues.

Ditto MLP funds. I have written about these several times in the past and studied the performance of some individual issues compared to a couple of funds. You can read that here and see the chart here.

I tend to think CEFs are best used in conjunction with things like treasuries, and individual preferred stocks. I use several CEFs for access to things like convertible bonds and foreign bonds. Too much of anything, no matter how conservative, can be very risky.
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Lots Of Little Posts Today

I found a new, to me, blog about options written by Adam Warner called Daily Options Report. I think I recognize Adam from something from The Street.com called Street Insight which I had a free trial to last year. He is also published on some pretty big sites in addition to his blog.

The most recent post is excellent. It is about understanding the consequence of buying too many option relative to your portfolio size. The quick and dirty is a 100 share buyer of stock should not control 1000 shares with options.

Additionally he used this graphic to demonstrate his concern about the market. I fell over laughing.

Great stuff.
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New Cool Thing

As you might imagine, I get emails about all sorts of market related tools, services and other various whatnots. I'm sure a lot of the other bloggers get the same emails.

I got one email from a service called TradeOver that allows for setting up a fake portfolio to follow and monitor whatever you are interested in. You get $1 million of fake money to deploy across stocks, world indices, currencies, commodities and treasuries.

For now there are very few individual stocks to choose from. The proprietors are looking to have their platform available through other sites and at that time there would be more equities to choose from (and currencies too).

For now it is a neat thing that hopefully will be more useful in time.

A similar service is Marketocracy. Despite the limited choices at TradeOver, I find it is much easier to use and the program seems to be more sophisticated.

I get a lot of questions from people asking about how to get started managing money. A site like TradeOver or Marketocracy allows someone to build a track record of sorts. Obviously a good year or two will not get you hired at Fidelity to run a mutual fund but it might be enough to get you started with some friends and family which is how most people get started.

And no, I am not being compensated in any way for the positive mention.
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Update 2: Swiss Bank UBS Halts Iran, Syria Business - Forbes.com

Update 2: Swiss Bank UBS Halts Iran, Syria Business - Forbes.com

Iran has $50 billion in reserves around Europe that it might need to sell quickly.

Hat tip to David Taylor.
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Contrarian

Hussman Funds - Weekly Market Comment: January 23, 2006 - Contrarian Bandwagons

This is an interesting article from John Hussman. The basic idea is that contrarian investing can not work all the time.

It makes sense that no one strategy can always work and this article dissects contrarian investing.
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Snap Back

It looks like we will get a snap back at the open. This is to be expected after such a violent sell off on Friday. What I think will matter will be the quality and duration of this snap back. If the high print of the day occurs in the first 15 minutes, which will be a bad sign. If the market erodes slowly, that will be a bad sign too.

Bill McLaren, whom I respect very much, called for the S+P 500 to turn on Jan 11. He got that right and thinks the SPX has now started a 90 day down trend.
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May I Have Cyanide With That

The commentary on CNBC Asia was very glum as the bear case for oil (the impact not the price), the dollar and the US economy were revisited in depth.

There are also big drops coming from the four markets that are open right now, New Zealand, Australia, Japan and Korea.

Obviously most of the action is catch up from the US on Friday. Moves like this underscore, to me, the balance that investors need to have both in their holdings and their emotions.

I am watching the Seahawks/Panthers game and I am feeling more stress about the fact that our new dog, Roscoe, has figured out he can jump our fence than I am from the market.

Balance and emotional detachment are crucial. Have a game plan and stick to it.
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The Big Picture For The Week Of January 22, 2005

I am surprised there was not more negativity in the press and on TV after Friday's truly nasty action. Despite the huge spike in the VIX index I am actually not sure the selloff meant anything.

The chart is a three-month chart. The range of the market is remarkably narrow. I don't think the VIX overlay is telling us anything useful about the market.

VIX has a history of spiking into the 40's or 50's in times of real crisis. These spikes serve as clearer signs of market bottoms. I don't think a spike to fourteen qualifies.

The reason I am writing about this is that VIX might change a little bit. Starting in late February options will be available on the VIX. Currently there are futures but the listing of options will make this product tradeable to a new and bigger group of people.

If VIX options attract investor interest, I would expect VIX itself to become more volatile. This may or may not impact the stock market ( I think the impact on stocks will be minimal) it could change the landscape for options.

VIX is calculated in a formula that takes different options series for the next couple of months to derive its value. If more capital flows into this part of the market through VIX options it makes sense to think that option premiums will be influenced.

I also think that VIX options will lead to other products that will become useful components to a diversified portfolio. I will give this more thought but they could be useful for adding or reducing beta without having to trade stocks. At this point it is a theory. We'll see what comes of it.
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With 20% Of The Precincts Reporting...

In Barron's today, and on CNBC yesterday, there were comments that only 20% of the S+P 500 have reported earnings and the fact that 24% have missed expectations is not a reason to worry. Um, don't we call presidential elections after 3% of the votes are counted? Three may be wrong but you get the idea.

It is right to be concerned when too many people trying to justify something negative.

On a different note there was an article in Barron's about closed end call writing funds. The article was negative. As a group the funds have not done well but are doing a little better lately. The conclusion that is made in the article about these funds being a bad way to go may turn out to be right or wrong. I have written about these funds a lot in the past and I believe in the concept.

However at every step along the way I have disclosed that these only make up 5%-10% of the fixed income portion of client accounts. The means a client with 60% equities and 40% bonds would, at most, have 4% of his total portfolio in one of these.

If the fund I use, Madison Claymore (MCN), which luckily for me has done relatively well, should somehow cut in half, I would look dumb which is a lot better than if I had financially damaged someone by owning too much in the hunt for yield.
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Diversification Can Work

I have a generally negative outlook for domestic stocks for 2006. Long term readers will know I have been overweight foreign, oil, materials and yield. I have been underweight tech, financials and beta.

Today that mix worked. The S+P 500 was down 1.83%, my generic, composite, client portfolio was down 1.16% (any individual client may have done better or worse).

Do not take this as bragging, please take it as a portfolio can be constructed to what the builder wants it to do. I have a couple of things that were down much more than 1.83% today and a couple of things that were up a lot. I would expect any diversified portfolio to have some up and some down.

I have made a conscious effort to try to have portfolios not look a lot like the S+P 500. The things I have written about over the last months speak to this. Today was just a microcosm. There is no way to know if today's results would hold up for the rest of the year if the market finishes down 10% and I made no other trades. I would hope so, but I don't know.

If I thought 2006 was going to be up a lot I would be overweight tech, financials and beta and not be very concerned about yield. This sort of how the market works analysis is not the toughest part of the job.

It felt like CNBC was trying to whip up emotion (no shock). Hopefully this post and the last one convey how little emotion I spend on my work. There was nothing that happened today in the market or affecting the market that hasn't happened before. I guarantee that if you have devised an exit or defensive strategy for your portfolio you will have to implement it at some point. Maybe I can guess when and maybe I can't but no amount of emotion will alter this fact.
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Managing Stress

The market is getting wally-whacked today.

It would be easy to freak out, but don't. Today is a bad day. Bad days go with the territory, period. If I turn out to be 100% right about 2006 being down a little, today will not matter at all. One day is not a reason to change your game plan, talking to investors here not traders.

Despite today, and dis-irreguardless (humor attempt) of whether Monday shows follow-through or un-winds this selloff (today is options expiration afterall), I can guarantee that there will be one day this year that SPX will be up 20 points, offsetting today thus having no impact on the year.

This is just how it works.
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I Have Seen This Movie Before

Do you remember the summer of 2002 when CEOs were going to have to start signing off on their earnings reports and the dire penalties that would befall any CEOs that signed off on reports with mistakes?

This was going to cause all sorts of havoc, earnings were going to be filed late and stocks were going to fall hard starting on the day that the new procedure took effect.

Do you remember what happened next? Neither do I because it was a complete non-event. The build up for this happened over many months. The market lived with the idea of this new thing and one way or another priced it in.

The market starts to price news in as soon as it is learned, it does not wait for it to go into effect.

That is where we are right now with options expensing. I can't imagine that options expensing is not already priced in. That's just not how the market works.

I'm sure any mediocre accounting student could out-debate me on this point but the history for this sort of thing repeats a lot.
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Model ETF Portfolio

There is a short post up at ETF Investor that contains model ETF portfolios from Agile Investors. There is one for conservative, moderate and aggressive investors. I like to make readers aware of this type of thing whenever possible because so-called model portfolios can be some great tools to learn from.

I am not picking on the work because I believe no all-ETF portfolio can cover all the bases. It can probably cover most of them but not all.

Agile’s portfolios have plenty of foreign but is heavily tilted toward Japan. EFA has 23% Japan and VPL has 74% Japan. The way the numbers work out the conservative portfolio has 15% of its equity exposure in Japan, about 12% of the moderate is in Japan and 11% of the aggressive. These weights are not heavy compared to the MSCI World Index but might be heavy given that Japan has doubled in the last couple of years.

There is also not much yield. I did not plug it into Morningstar to calculate but I can tell it will be low.

The investment-product world (notice I am taking it beyond ETFs) has a lot of very innovative tools that allow investors to capture many different themes, more than what is being captured here.

As an example, PowerShares has a lot of innovative products. Any of the Dividend ETFs might be a better way to capture the financial and utility sectors. IShares Australia (EWA), which is a personal holding, can be a good way to capture financials and materials or iShares UK (EWU) can be a good way to capture energy and financials. Both yield more than 3%.

The point here is that do-it-yourselfers can capture some very narrow themes without having to be stock pickers. Obviously anyone willing to do a little stock picking can capture even narrower themes, like Norway which has been a favorite of mine for over a year.
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Bill Richardson

Is it me or was that a bizarre interview with former energy secretary and current New Mexico governor Bill Richardson.

He came off looking a little paranoid or like a conspiracy guy. I know very little about him, it was just the impression I got from the interview.
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How To Hunker Down

This from a reader;

Hey Roger -- lets talk portfolio tilting to buy market downturn insurance.
Assuming a mild recession somewhere over the near term horizon. What do you think offsetting market exposure (i.e. S&P 500) with long bonds (i.e. American Century Target Maturity 2020) instead of using a reverse index fund?

This is a good question. As a big picture, simple answer I want to get portfolio volatility way down and yield way up during some sort of rough patch for the market. The goal is to have the portfolio not really look like the market but use the yield to give clients a chance to make some money or maybe just run in place as the market goes down.

The risk to this is that the market goes up 5% in one week for no reason at all and the entire lift is missed. This is why zero exposure to equities is a very bad idea no matter how pessimistic you are.

Tools to consider in the reader's scenario are bond funds (we’ll get to maturity a little later), foreign bond funds, treasuries, inverse index funds, foreign stocks, traditionally defensive stocks, commodities (now that they are on the verge of being more accessible), foreign currency products (now that there are more of these to choose from) and maybe a couple of other things I am forgetting.

Unfortunately for the reader I’m not entirely sure for the next recession (whenever that might be) what I will think is best. If the yield curve is flat I would not want to go out as far as 14 years.

Things change obviously. I hadn’t bought any treasuries for clients for a long time. But as two year yields started to go above 4%, I began to buy for certain clients in that part of the curve. I’m sure at some point ten year treasuries will be a good buy, but not now.

For the way I look at the world there are just too many variables to give an exact this is how I will do it answer.
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More Thoughts On Japan

The Japanese market bounced back a little bit last night, closing 2.3% higher. I started thinking about a market truism that I know applies to the US market but want to see if it also applies to Japan.

If you look through market history you will notice that in a lot of decades most of the average 10% return comes from a couple of great years. The 1990's were an exception for the US and the 1980's was an exception for Japan.

If this theory can hold water for Japan we may not see any big gains for a while. Following on with the two or three big years a decade theory, Japan was up a lot in 1996, 1999, 2003 and 2005.

Further, if you buy into the notion that the stock market is a leading indicator of the economy it is possible that 2003 and 2005 were pricing in whatever positive might be coming for Japan’s economy that so many people have been talking about.
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"One Day Tito Puente Will Be Dead...."

Die hard 1980's pop culture fans might recognize that title from the movie Stripes.
I of kind feel like we are experiencing part of that scene with regard to the parade of people coming on TV saying they have been underweight Japan for x number of months. For months on end we had nothing but a parade of Japan bulls. Now today everyone is a bear?

The biggest bull I can recall is David Malpass from Bear Stearns. He was very right for a long time about Japan. I didn’t see him on anywhere to talk about it after this last bit of news (anyone feel free to correct me). Chances are he has his finger on the pulse of whatever is going on.

If I had been on TV anywhere today I would say we don’t have exposure. Someone would have said "really, why not?" The truth would have been I was too dumb to see the rally coming because I never bought into the fundamentals behind the rally. Long term readers know this already.

Now is the time for the bulls to speak up. If I publicly got investors to buy into Japan at Nikkei 11000 and then took them back out 6% or 7% from the top I think I could never have to be right about anything again.

I’m speaking in hyperbole, but if now is the time to sell and you captured a big chunk of the lift you made a fantastic trade.
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The Market Is Taking Things Well

That is how Ron Insana opened the segment with Art Cashin.

This is very important. Bear markets start very calmly. They just rollover slowly. Bear markets do not start with crashes. I think the action today is a microcosm for what tops look like. I am not calling a top because that is not my strong suit.

The next time a bear market starts, whether that's today or sometime in the future, the declines will start out to be very manageable.

This chart is the first six months after the peak of the S+P 500 in 2000. The market gave investors plenty of time to slowly reduce exposure as the market flirted with its 200 DMA several times before going below it for good in October of that year.

The magnitude of the next bear will probably be different but I think the way it looks on the chart for the first few months will be very similar.
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BusinessWeek Has A Blog

I just found out yesterday the BusinessWeek has a new blog up and running. It is a collaborative effort amongst five of the magazine's writers.

Yesterday was literally the first day. The posts cover a wide range of topics so far. Like most blogs it will take a while for the writers to figure out what this blog will become and what role it will play in the blogosphere. I'll be giving them the benefit of the doubt as they ramp up.

One of my first posts waws about tarantula migration before I found my bearings so hang with them for a while. I have added the BusinesWeek blog to my RSS feeds.
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What The Hell Is Going On Here?

Japan apparently is on fire. There is looting in the street and martial law has been declared.

What? That’s not right? On September 17th 2001 the S+P 500 fell 4.9% in reaction to what I think was the first very meaningful terrorist attack on US soil. The US at that point was facing huge unknowns. 4.9%

In the last two days the Nikkei is down 5.6% because some Internet company had its offices raided. Huh? Bill Cara touched on this too. Something does not add up. I missed the run up in Japan so luckily I am missing whatever is happening now.

I write about understanding what a stock is capable of doing in the face of news, good or bad. The same applies to markets. Japan is capable of panicking. This has happened many times in my career. The panics are generally larger than what happens here. Last night there was some panic in Australia. That market dropped 1.6%. That is about as big as I have seen there since I first started watching that market.

If you are going to invest in foreign stocks and plan to do so with more depth than just buying the EFA ETF, you need to study and understand this.

A lot of managers have very heavy exposure to Japan. This type of decline just goes with that territory. By avoiding or underweighting that country you reduce your portfolio’s volatility.
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Mayhem!

Both Intel and Yahoo had bad earnings reports. This is likely to have a palpable impact for several days.

Several days?

It is probably a good bet that Yahoo (client holding) will see $40 in our life time, or more likely, before Valentine’s Day.

Intel is a different story. Intel no longer makes the most important kind of semi-conductor. One phrase I have used to describe companies is that nothing is going to happen in so-and-so’s industry without so-and-so.

This is true for a lot of companies but not forever. I think Intel’s time with this description is over until it proves it can be relevant in different parts of the chip world.

Yahoo still owns this distinction as pertains to the Internet sector.

Yahoo is a long term holding for most clients. While I was writing this post I bought some stock personally at $35.50. For the first $0.34 I am wrong. Hopefully the next few weeks are better.
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Trying to Answer

I had this question come in I’m not entirely sure I follow it but I will give it my best shot. It was in response to my saying I would not evaluate ETFs as described in this post.

Essentially what would be the way you would do things? I looked through your archives in search of a more clear analysis methodology -- all I could find was the "Big Picture" post on August 15, 2005. What you talk about in this post could be used towards ETF analysis, however, is not directly correlary with traditional quant methods, more qualitative. What comes to mind regarding this more textbook analysis approach towards ETF analysis in your mind?

I think the reader wants to know how I do evaluate them. Evaluating a particular ETF comes late in the process. I start much bigger with asset allocation. Then I evaluate each of the ten sectors in the S+P 500 to decide whether I want more or less exposure than what is in the market. For example I want more energy than the 10% or so in the market and I want less exposure to financials than the 20% or so in the S+P 500.

I make these decisions based on current events and historical precedent. Hopefully the two can be woven together to create a reasonable forward-looking analysis. This is how themes start to come together. Behind this is the foundation of having studied supply and demand for all sorts of things, understanding various cycles and figuring out what the market might be afraid or what is already priced in. This process needs to repeat for various countries and I need to understand the role in the global economy of those other countries.

It is in the last two paragraphs where I get most calls right or wrong.

Once I have figured this out (or think I have), I then try to assess what the best tools are to capture all the effects I want to capture. This has to be done in conjunction with client needs. For various reasons owning Norway through a common stock may not be possible for every single client. Given the totality of each client situation I have to figure out the best thing or things to capture the market. If I think the best way to capture financials is with five different stocks, those five may not be right for every client. For example, some clients own a bank stock from Chile. A Chilean stock is not right for everyone so not every client owns it.

Very rarely do I think an ETF the single best way to capture something. Where I do think an ETF is the best way to go, that is what I buy. Some clients have more ETFs than other as a function of tolerance for volatility or because of account size.

The shorter answer is I don’t really evaluate ETFs in a way that the reader is asking about. I decide on the sector or the country and then find the tool. I can say that I want to be sure that the ETF adequately captures its intended effect..
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ETF Impact on Gold

Recently I had a question come in about whether demand created for gold by the ETFs could have been behind the recent move up in the spot price. This subject has come up before on this blog and clearly this has played a role.

If there were no ETFs there would be far fewer people with direct access to gold. That GLD and IAU exist at all creates a demand that I believe would not otherwise exist. I found this table through one of my RSS feeds.

The tonnes owned by GLD and IAU adds up to 285. There are also gold ETFs in the other countries on the table. Incidently I know that the UK and Australia had gold ETFs before the US did, but I am not sure about South Africa.

I have touched on this before. I think that as more ETFs for other commodities get created we will see demand distortions there as well. The effect created could be big price increases for things like oil, copper, silver and some of the soft commodities that will be included in the Deutsche Bank ETF (DBC).

I realize that all of these have had big moves already. While there is no way to know for sure, I don’t think these markets can price in a future buying demand of this sort.
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Gollop's Gloom

Stephen Gollop, from Bridgewater in Hong Kong, was on Asian Squawk Box spreading his usual good cheer of gloom, doom and financial apocalypse. Mr. Gollop gets some of what I think are his smaller calls correct. He has been recommending Asian equities for a while. But he has been wrong, or early, on what I believe are his bigger calls. He has been calling for astronomically high gold prices and severe sell-offs in US markets.

Today he talked about his belief that government debt from the US, UK, Germany and France will be worthless in 30-35 years. He also cited a report from S+P that says Germany debt could lose its AAA rating in as soon as 14 months.

He usually has some hard data with and this time was no exception. Throughout the 1970's, for every dollar of increase in productive GDP in the United States, there was a $4.25 increase in debt. From 2001-2004, each dollar in GDP growth took a $63.51 increase in debt. I can’t vouch for these numbers but I will assume they are accurate.

I buy into the idea (and have written about it a lot) that this century will not belong to the US but probably China or India. That our debt, along with the debt of the other countries, could go from AAA, super AAA really, to worthless in 35 years seems like a stretch to me, a big stretch.

Whether any of the above scenario could play out does not really matter for purposes of this post. What does matter is that should it happen to any degree, there would be large dislocations and movement of capital. This is what’s important. Capital moving en-masse from one area of the market to another is something that I think we have seen in the past and will see in the future. For example, although much smaller in scale, after the large cap growth bubble burst we have seen smaller and more value oriented stocks outperform for years.

If very bad things happen in the US it might be reasonable to expect capital to flow just about every where else meaning that anything denominated in other currencies would do well. This will repeat, hopefully on smaller scales, over and over. Forward looking analysis means thinking about what will go up if the thing you own goes down.
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Not How I Would Do Things

This is an article from MarketWatch about a research shop named Buyside Research that tries to do bottom up analysis on ETFs.

According to the article, Buyside Research scores ETFs for valuations based on P/E ratios and high earnings growth.

They currently believe that IWM, MDY and DIA are not compelling values. They do give high scores (which is a good thing) to XLE, SPY, IYG, XLB, XLI and IGE.

I’m not sure this is the best way to assess ETFs. ETFs, for the most part, track indices. P/E ratios have a poor record for predicting moves in the broad stock market. The Russell 2000 and the S+P 500 are both pretty broad measures of the market. P/E ratios were high for years as the bubble inflated. There are also long periods in market history that have had low P/E ratios but where stocks did not do well.

P/E ratios can be useful for comparing one stock with a similar stock as one of several measures of valuation but I would not rely on this method to guess where the market is going. If you have been reading this blog for a while you may have noticed that I have never talked about P/E ratios as a determinant for the entire market.

Another thing that I must be missing is how SPY scores well in their method but DIA does not. The extent to which they are correlated ebbs and flows, but as the chart shows the two trade similarly.

I would not doubt that I would lose a debate on the matter but I just don’t think this method can work well in the manner it is being applied.
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Finite Oil

This is a concept I have touched on before from the demand side. Here are a couple of nuggets about the supply side from Felix Zulauf and Scott Black in Barron's.

Zulauf: There are about two trillion to 2.5 trillion barrels of oil in the world. We have lifted a little over one trillion, the first half-trillion between 1859 and 1982 and the second half trillion since. The theory behind Hubbard's peak is that once you have lifted half of the oil out of the field, you cannot increase production. We are running up against those technical difficulties, and oil's long-term trend is up. This year, due to the slowdown I expect in the U.S. and maybe in China, oil will stay between $50 and $70, plus or minus $5. Eventually, it will go a lot higher.

Black: At the end of 2005, the world produced about 84 million barrels a day. By 2010, production is projected to rise to 94.4 million barrels a day. At the end of '05 China represented 8% of world oil demand, or 6.7 million barrels a day. Over the next five years, that will climb to 10.7 million barrels a day. India is at roughly 2.5 million barrels, going to 3.5 million.

Might I suggest looking at uranium, coal and oil sands.

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Media Appearance

I will be appearing on Asian Squawk Box tonight at around 8:10 pm EST. I believe the focus will be about the earnings season that is about to get underway in earnest this week.

• I don't put too much faith in Alcoa and DuPont as being harbingers for a bad quarter. Alcoa is a perpetual disappointer and the DuPont story focused on a specific event that will not impact the entire economy.
  
• The market gets right into it on Tuesday with Intel and Yahoo (client holding). I think Intel will be the more important of the two as there is now real visibility for AMD to start taking market share for PCs. Another change on the landscape now is that microprocessors are no longer the most important type of semi-conductor. That is giving way to flash and other types of chips for hand held devices. Intel will need to convince the market it can make headway with things like MP3 players and cellphones.
• While Yahoo might lag Google in terms of growth rate I think both companies can co-exist and deliver great results.
• Wednesday Apple Computer and eBay both report. There has been so much great news priced in to Apple that I would be surprised if the news from here could get better. I am not expecting bad news per se, but it would take a lot for a dramatic upside reaction to this report.
• I would not be surprised if whatever lift might come from Yahoo gets taken back by eBay. The business is great and there will be more solid growth but I don't think it has a bullish surprise in store.
• One concern making its way around the bearish camp is that a disproportionate amount of the earnings growth is coming from the energy sector. If oil stays around its current levels for 2006 there will be a lot less earnings growth coming from energy stocks in the back half of the year. If growth from energy does disappear then some of the current full-year estimates for the market will prove to be far too optimistic.
  

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2005 Roundtable Report Card

This weekend is the first installment of the Barron's Roundtable. Included in the content is a PDF report card for the picks from last year's Roundtable (subscription required).

As I looked through all the results I saw a theme emerge that I write about a lot. If an investor picks a bunch of stocks for a portfolio they will get some picks wrong. Even the roundtable members can't get them all right, far from it. Meryl Witmer was the exception to prove the rule. Her worst pick was up 27%.

Not only were there some losers there were several names that lost 50%. This is important for do-it-yourselfers. You will make bad picks and lose money on some of your holdings. A few losers is normal. However, if you consistently have more losers than winners you might need to reevaluate what you are doing.
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The Big Picture For The Week Of January 15, 2005

Here is a question I had come in.

Have I missed the boat on Precious Metals?? It's been up big the last year and many people think this year will be better. What's your opinion? I was in an energy fund, but got out when oil dropped below $60 thinking it was heading to $50, of couse it went back over $60 and has stayed {against most peoples opinion - they claim to be experts!!}

I think I am reading someone who trades a lot and makes bets on specific outcomes. Going to zero energy (if I am reading the question correctly) is a big bet. Reducing or tweaking exposure is not so risky but zero is tough. A lot of the oil stocks I follow and own have had big moves of late.

The reader seems to care more about gold right now and wonders if he missed the move. This is a tough question. For the last few months I have made a couple of decent short term calls on gold on the RealMoney columnist conversation feature. My most recent comment was on December 15 (subscription req'd) when gold was around $503 and I thought a trading bottom had been put in.

Obviously there is more short term risk up here above $550. If you are trying to find a trade for the next few weeks I doubt it will be a lot higher in that time period. At a minimum I think gold needs to go sideways or correct before it is tradeable again.

To be clear all clients have exposure and I have no plans to get aggressive with trading gold. I view gold as an asset class that has a low correlation to US stocks. That gold is up a lot now does not change the correlation. I bought GLD last week for a couple of new accounts. I have no idea if their entry point will be good or not but it is an important asset class that has a role in all accounts I manage.

On a different note I got an email from someone with $2000 to invest, asking me about an article I wrote (free registration req'd) about Gilead Sciences (GILD) for Motley Fool on May 19, 2004. He wanted to know if he should buy Gilead. As a planning rule of thumb individual stocks are for people with enough money to diversify in a cost efficient manner. I’m sure he did not like my response but I hope he goes with a mutual fund or an ETF instead.
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Outlook For Equities

Abhijit Chakrabortti, an equity strategist from JP Morgan, came on CNBC to share his bearish outlook for the S+P 500 in 2006. His target is 1125. The way the interview went, it seemed like the shape of the yield is the biggest driver behind the call. I generally agree with the importance of the yield curve in driving the economy. He made an interesting point that every time the curve inverts people try to dismiss its importance.

It seemed like, similar to my thoughts, Mr. Chakrabortti's call is more focused more on how markets usually work as opposed to just looking at current events to make a forecast.

Each path, how-the-market-works or assessing-current-events, has drawbacks. The how-the-market-works (which includes me) can potentially miss the forest for the trees. The assessing-current-events crowd risks falling prey to this time is different.

If you fall into one of these camps, you need to see the other side of your trade and plan accordingly. Since I believe the market will likely drop I am prepared to take defensive action but will not do so until the market shows signs of cracking. I think down a little goes with the territory and so I am not concerned about trying to get out at the top.

If you are a current-events guy you need to recognize that this time might not be different and a specific I am wrong plan needs to be in place.
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Bonds

Every afternoon I go to Bloomberg’s page on market news for Australia/New Zealand to see what’s new. Every day I read one article about the New Zealand dollar and one about the Aussie. The articles either say that those currencies will go up vs. the greenback because the yield differential will hold or the articles will say those currencies will go down because the yield differential will not hold. It’s one or the other every day.

Occasionally I do learn something new which is why I read these articles.

One other recurring news item in these stories is bond issues that are denominated in NZ dollars but sold to investors that live in countries with lower yields. The concept of pricing bonds in one currency and selling them in other countries is not new but it is also not usually available to retail investors either.

Lately it seems as though I have read about a lot of bond issues denominated in NZ dollars. My comment is anecdotal I do not have data to refer to. NZ has some of the highest rates in the world. It makes sense that this type of demand exists. It is possible that as more bonds get issued, a floor of support will be created for the kiwi. Many strategists expect the kiwi to fall this year due to its current account deficit and other issues. While this is plausible, it has never been clear to me that this has to happen. Buying demand from a few billion dollars worth of bonds every so often could be enough to keep the kiwi from falling.

If this holds water for the kiwi, it should hold water for other high yielding (but not emerging market) currencies like the Icelandic krona. In fact the world bank issued ISK3 billion ($50 million US) of two year paper last November that yields 8%. The deal was lead by Toronto Dominion. According to the press release, Iceland is an AAA credit. I have seen conflicting information about the credit rating.

I was not able to find other ISK denominated bond issues but where there was one there will be others. Again this stands to support the krona to some extent. As more bonds get issued, it will create demand for the currency.

These types of simple supply and demand themes guarantee nothing but they help.
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Internet Outsider

Internet Outsider

I just found this blog written by Henry Blodget (hat tip Bill Cara). There is a lot of content about Google. I think it is a good read.
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Market Cap

Maria just said of Google’s $140 billion market cap, that yes it is larger than some of the companies in the S+P 500. Some? Yeah like about 485 of them.

I don’t know if she writes her own copy or if she said that on the fly but I continue to be astounded at how little she understands after all these years.
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Useful Site

Longtime reader and fellow blogger Anmol Mishra left a link to a very useful site about markets in northern Europe including Iceland. The link is to Jyske Bank from Denmark and provides commentary about equities, forex, bonds, commodities and macro topics.

It is too soon for me to tell if their analysis is any good but at a minimum it provides easy access to data for this part of the world which is not that easy to find.
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Trying To Think Ahead

I do not know whether this business that is starting to percolate in Iran will amount to anything or not. But if you are concerned about it, you should probably act now and buy some things that will go up if Iran escalates into something that hurts the US market.

This idea goes toward building a counter strategy in your portfolio. This typically means a defense company, some gold and maybe an inverse index fund.

In time of market panic, these are the types of holdings that usually go up. Money tends to rotate into US treasuries during times of crisis too.

I do not necessarily think something bad will come from Iran but I don’t know. If you don’t think you can stomach a nasty 2 month period for stocks like we had in October 1997 and August 1998, these are steps you can take now to minimize the impact but still capture most of the upside if Iran turns out to be a non-event.
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Back To Work

The blowoff rally seems to be over now. From here its back to work. Earnings season is going to start ramping up very quickly. Alcoa, as usual, was a major disappointment and while it is debatable as to whether Alcoa matters or not its about all we have so far.

Chuck Hill was on CNBC Asia last night and he sees very good earnings coming overall. If he is right, the question to ask would be is a good earnings season already priced in. If so, then it will become more about the guidance companies give.

I don’t think the DuPont warning necessarily is a harbinger for anything beyond companies that have a lot of operations in and around the Katrina region.

While I don’t think the next move is up a lot (after what we just had) I am encouraged that the market has gone sideways this week.

I am still plenty concerned about all the same things I have been concerned about for weeks.
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Abercrombie & Fitch

The Wall Street Journal has a bull/bear article (subscription req'd) up about Abercrombie & Fitch (ANF). I don't follow the name too closely so I will assume that the points made on both sides of the argument are plausible.

There was one thing missing from the article that I think is the biggest risk to a stock like this. ANF is up a gazillion whatever percent in the last few years because it has done a great job figuring out what teenagers will buy. Based on history (Wet Seal and Hot Topic come to mind) ANF will stumble at some point and get a fashion trend wrong.

I am very unlikely to know when that will happen (if ever) but anyone that buys this stock faces that risk. This is true of all retailers that cater to narrow markets.

This does not mean you should sell ANF if you own it or short it or even avoid buying it. All stocks or themes you can find have drawbacks and risks. Buyers of teen retailers have this very clear risk to deal with.
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Iceland

For the last couple of months I have been going through the process of opening an account in Iceland. I am almost there. My paperwork has been received (after three attempts) and now the bank is getting me an Icelandic ID number (part of the process) which hopefully will be squared away in a week or two.

I first wrote about Iceland as an investment destination last spring. For now the only direct access is to open an account in Iceland. There is no buying stock through a US account.

I still need to figure out what I will buy but I am leaning to a 50/50 allocation to stocks and bonds but this is still up in the air.

When this is done I plan to write about the entire experience with more detail.
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Looking For The Right Part Of The Market

"Something is alwyas working well" - perhaps you could comment on what tends to work well during flat / down periods? Are there assets that tended to do better in the 'red' portions of this chart?

This reader asks a fair question. As I often write about sector picker's markets (as opposed to stock picker's market which I find to be a very empty comment) it should be easy to see what sectors tend to do well if flat or down turns out to be right.

For some reason rattling off the usual defensive-ish sectors does not feel like the right way to go. A prime example would be the utility sector. In 2005 utilities outperformed the S+P 500 by a wide margin. The sector rotated into favor, I think, because of perception about a bunch of different things about the market, the economy and political reasons (still enjoying the lower tax rate on dividends). I don't think there was something new or some gotta-have-it aspect of the business or an obvious demographic theme that made the sector do so well. Based on that I don't expect utilities to lead. Staying anywhere close to the market and paying a nice yield in 2006 would be just fine with me.

I have written about before as it also applied to certain emerging markets. Thailand was a world leader in 2004 and a laggard in 2005. The market does not perceive Thailand as having something to sell that the rest of the world needs. Thailand is expected to grow GDP by 4.7% in 2006 but there are some political issues there that make a good market a pick 'em

As I think about some other sectors like tech, financials and telecom I have to wonder whether money won't rotate into these sectors. In 2005 , tech and financials finished even with the S+P 500 and telecom lagged (in mid-December I wrote about my belief that telecom has a good shot of outperforming in 2006). In 2004 tech lagged badly and financials slightly outperformed but telecom lead. In 2003 telecom lagged badly tech beat by a lot and financials did very little.

After being in the middle of the pack for so long it is right to wonder whether financials will lead. They are not defensive but it has been so long since the sector did something big, why not in 2006? Another contrarian nugget going for financials is that this is exactly the time (because of the yield curve slope) that financials should lag.

Tech is off to the kind of start that should make anyone wonder if it is back. I don't see that tech should be back (fundamentally) but it has done well and I am capturing it for clients. Tech is obviously not defensive but could do well I suppose.

Keep in mind that I am brainstorming with this. Also if tech and financials do well, my down a little prediction will be wrong. Both sectors have such large weights that the market would be hard pressed to do poorly with tech and financials doing well.

What about large cap? So many people think large cap will finally do well. A contrarian might think that small cap might just continue its long run of success.

And I am still very optimistic about emerging markets which is not a defensive play either. The stories in India and China are still unfolding and I believe the resources story will continue to help certain countries.

I guess the shorter answer might have been that this has been a weird cyclical bull market and some rules of thumb have not worked as normal.

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ProtectedStock.com

Jay over at ProtectedStocks.com has an interesting series running this week about his stock of the year. Regardless of what you think of his idea it is worth reading and thinking about.

If I correctly read where he is going with his pick he is using a variation on a strategy that I have written about in the past. To be clear, neither Jay nor I takes credit for this approach but understanding it is worthwhile. The version I have talked about is buying a zero coupon bond with a face value equal to your principal and then using the difference between the cost and your principal to buy an index fund.

For example (using Jay's lump sum amount), an investor with $100,000 buys a zero coupon bond due in 15 years. Currently that strip would cost $49,560 with a yield of 4.70%. So in 15 years that strip will be worth $100,000, the original lump sum. That would leave $50,440 to buy an index fund. If the market goes to zero the investor still has $100,000. I chose 15 years off the top of my head, you could do any time period. The strategy is the thing here not the exact specifics of the trade.

In Jay's version of this an investor buys a three year CD yielding 5.57%. Using present value, Jay says that, $85,000 into the CD today will be worth $100,000 at maturity. So an investor puts $85,000 into the CD and puts the remaining $15,000 into call index options.

Both methods have pluses and minuses but this can work. There are severe limitations however. If you are 50 years old and your granpdarents made it their 90's you need a lot of inflation protection (that is you need equities).

If you don't need your assets to grow (not being sarcastic) I think this makes a little more sense. For example if your income need 1% of your assets or less this sort of game-over strategy is more appealing.

Being too conservative has plenty of its own drawbacks, I can't stress this enough. Equity markets go up more often than not. People need to let the market do its thing for them in the context of a disciplined strategy.
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More From Barry

In case you missed it in the comments. Barry Ritholtz left this chart that follows up what I mentioned yesterday with another chart of his.

The time period covered is all red from yesterday. As with the three year period ending 12/31/1936, this chart shows some huge up-moves during a flat period. Thanks Barry!

Jack Miller's follow on is alos important. Something is alwyas working well. At that time it was small cap. If you are properly diversified you don't have to be that right.

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Follow Up To Burma

I had the following question left on my Burma post from yesterday that I wanted to try to answer.

I hope you will comment on ways to get IRA money out of the US dollar other than buying US listed foreign stocks. Are there places other than Everbank (where the IRA process is cumbersome and expensive) to get foreign currency CDs and bonds? Where even the interest is paid in the other currency(ies)?

I'm sorry I do not know. Thanks for stopping by, goodnight everybody.

Seriously I really am not an expert in the more esoteric ways to access IRA money or where and how it can be moved around. I have co-workers to help me beyond the basics. But the bigger question is about expense. Small currency transactions will always be expensive, keep in mind small could mean low six figures. Barron's profiled a company over the weekend called COESfx. This may not be the end goal of opening an IRA, transferring a rollover with $50,000 and buying two or three currencies cheaply but it might be cheaper than some of the other options out there. If I have time I will explore what they have and post about it.

Take the above paragraph as a cattle call to post a link to any institution that is relevant to this discussion.

But assuming $10 currency trades for people that don't want to trade a lot are not quite here yet, what is the way to go?

I will expand the topic to include all the bomb shelter asset classes I have been writing about recently.

Just about every commodity out there is priced in dollars. Here is more info about the DB commodity ETF, DBC, from ETFInvestor.

Any further exploration into commodities with future products will be dollar based but will still likely continue to have a low correlation to US stocks. If the dollar gets weaker, a commodity priced in dollars, everything else being equal, will go up in value.

Any of the currency products will also do the job of protecting against a weak dollar. Perhaps not as exact as someone would like but most of the effect will be captured which is better than nothing.

Recently I bought a foreign stock traded in another country (that is an ordinary share, not an ADR traded here). These are tough to trade (which is why I am in the process of transferring to Schwab, I am fed up with Ameritrade's lousy service and lack of resources) and get information on, but not impossible. Again this is not the exact thing the reader is looking for but it is close.

You can open accounts with non-qualified money even if IRAs are a no go. I am in the process of trying to open an account in Iceland which I will write about when I'm done (hopefully soon). Along these lines, do not open an account in New Zealand. The tax on interest is close to half. It would be cheaper to use Everbank for the kiwi.

One thing to remember is that topics like this are not really mainstream just yet. If they are not mainstream it may be tougher to find how to access these themes for a while to come.

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Does Dow 11,000 Matter?

Bill Cara asks the same question over on his site today and he gives a great technical perspective.

My answer is a little different as I tend to write about different things than Bill. My take is it does not matter. I am spectacularly wrong, so far, about what 2006 will mean for stocks (I am being sarcastic as it is too early for anyone to be right or wrong about 2006 yet).

There has not been any evidence of stocks rolling over in several months. I try to be very clear in every post that I write about market direction that I do not try to outsmart or outguess big market shifts and the current lift we have seen so far this year is exactly why.

Despite being surprised by the lift I am capturing it for clients and that is what matters.

This directly applies to do-it-yourselfers. 3% or 4% in a week does not happen very often (of course it may not stick, I don't know). No matter what the market should do you need some exposure (this is a repeating theme). At some point in the future when I might be at my most defensive position I will never be 0% US equities. Neither should you.
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Muscle Cars?

Much is being made on CNBC about GM unveiling the Challenger and Camaro. You know, big, fast muscle cars.

Um isn't there a chance that gas prices will go back up close to $3.00? Didn't the US auto-industry do something like this in the 1970's; that is stick with gas guzzlers too long?

I am unlikely to accurately assess consumer demand for new muscle cars but this strategy is not obvious to me.

Dylan just made the same point I started to write above. I will say the Camaro looks like it would be a rocket.
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Look Closely

This chart is from Barry Ritholtz. I have seen it on his blog and it is in his most recent Street.com article too.

Some of the things I have touched on in past posts are clearly visible in this chart.

Look at the red periods of time. There are some colossal up years during those time periods. The three years ending 12/31/1936 is about as sharp a move up as has ever occurred. More attention from this time period is devoted to how look it too to get to the pre-crash high. This chart speaks to that being the wrong thing to think about.
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"...But it will always be Burma to me"

That is of course a quote from the J. Peterman character on Seinfeld (BTW the I do a pretty good Peterman impression). It will be relevant in a moment.

On the Monday morning (Sunday afternoon US time) Asian Squawk Box they had Jim Rogers on for 90 minutes, of which I would guess 50 minutes was him answering viewer emails and CNBC reporters' questions.

This was about as indepth as I have seen. The only negative was that there was a lot of repetition in the questions and while none of his themes were new there was some useful tidbits that were new in the context of some of his recent themes.

I had never heard him talk about uranium before. Also I did not know that 40% of the world's known uranium deposits (if that is even the best word?) are in Australia. He thinks that China will be a big buyer of uranium and, without naming names, he said those are probably good stocks to own. I will see if I can find any Australian uranium companies. I have written about a couple of the uranium stocks that trade in the US previously on this site.

He continues to pound the table on just about every type of commodity there is, favoring soft commodities over hard. I learned there is a wool futures market somewhere in Australia, which amused me.

He really thinks that people are far better off owning gold as opposed to shares in a mining company. Lately the miners have wildly outperformed the metal which has me thinking of swapping stock for the GLD ETF for the clients that own stock.

He also went on about his belief that the US is in trouble economically and that these troubles will manifest themselves fairly soon.

Show host Martin Soong asked what areas he thinks will be future investment destinations. Jim mentioned Viet Nam (which I have written about several times and apparently may have oil in the ground), Angola, Myanmar (hence the title of this piece) and East Timor. He made a comment about moving to East Timor so my wife and I are going there next month to look at some caves that are in move-in condition.

It would be easy to watch something like this and come away feeling very glum about what will happen to our country. I buy into the idea that the US (based on historical precedent) will not be the top economic banana by the time this century ends. I don't know if another country transitioning to world economic super power will happen in our lifetime or not but I think we could see some evidence of this over the next ten years, some would say it has already started. While I think this could happen I don't view it to the extreme that Jim and some others see it.

This blog has urged about all portfolios having a counter strategy. One of thing things I have included in this concept has been gold and other stocks or ETFs that generally benefit from a bull market in commodities. Timber is another asset class I've written about as well.

I think this entire bomb shelter concept is becoming more and more important, as I often write. This means foreign stocks, commodities (the new Deutsche Bank ETF could be the right way to go), currencies and probably other things that are not yet on most people's radar.

For now a little exposure and a growing awareness of these types of products are probably all that are needed. If any of this holds any water it will take quite a while to unfold.
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