With the demise of Bear Stearns, many investors are rightfully asking what happens to client accounts held at the firm. Client accounts are segregated from the assets of the firm and insured by the Securities Investor Protection Corporation (SIPC) for $500,000 in securities per account. Only $100,000 in cash is insured. If the firm were to file for bankruptcy, the client accounts would be transferred to another broker/dealer. However, in the case of Bear Stearns, the firm's client accounts will more than likely remain with Bear as a division of JP Morgan Chase.
The SIPC doesn't insure against losses in the value of securities, but rather against loss due to malfeasance. As is usually the case with securities firms that run into difficulty, SIPC insurance is rarely utilized. Instead, the securities held by clients are generally transferred to another broker/dealer that agrees to purchase the client accounts. Since client accounts are a valuable asset, there is usually no problem finding another broker/dealer ready to step in to service those accounts. This usually doesn't take long, as evidenced by the case of MJK Clearing, a Minneapolis brokerage firm that failed in 2001. Within a week, most clients were able to access their accounts after the assets were transferred to another firm.
In the case of our firm, Transamerica, client accounts are held by a third party clearing firm. The name of that firm is Pershing. The accounts are segregated from the assets of Transamerica and held in the client's name. Should there ever be any problem with the solvency of Transamerica, as in the case of MJK Clearing, client assets would continue to be held at Pershing until another broker/dealer stepped in to service those accounts. Protection of the client is of utmost importance to all of us in the securities industry, because client confidence is paramount to our success and survival.
John Kaighn
Jersey Benefits Advisors
Web Business Review
Plug In Profit
John Kaighn's Guidance Website
Saturday, March 29, 2008
Wednesday, March 19, 2008
Stock Market Swings To Continue
Look for continued wild swings in the market for the foreseeable future as the current economic situation works itself out. At this juncture the Federal Reserve has committed to shoring up the financial system and mitigating the effects of a deceleration in economic growth. The current consensus of economists is that the US is in recession, or very close to it. While the definitive answer to the recession question will be confirmed after the fact, the Fed has seen enough downside risk to the economy to cut the Federal Funds rate to 2.25%, but has also stated that inflation is a concern.
Fed chairman Ben Bernanke, who studied The Great Depression in detail, feels one of the foremost causes of the prolonged downturn in the 1930's was the central bank's reluctance to lower interest rates. Unfortunately, when the Fed takes this type of action, the dollar becomes weaker and inflation becomes a very real risk. While last month's inflation news was muted, there are fears the renewed speculation in commodities, especially oil, will ignite another round of inflationary pressures. It is too soon to know if the Fed moves and the stimulus plan implemented by the Legislative and Executive branches of the government will stave off recession. There are concerns that the increased stimulus may actually overheat the economy in the second half of the year.
While the markets have been in a bit of a panic mode recently, Bernanke and company have taken the right steps to handle the crisis. If inflation begins to accelerate and global demand for commodities doesn't subside, look for the Fed to stop lowering rates and begin to raise them in the second half of the year. My guess is the Euro and other currencies, which have strengthened against the dollar, will weaken considerably as the global slowdown begins to take hold. Just as the stock markets of the world have not decoupled from the US stock market, the global economies and consequently their currencies have also not decoupled from the dollar.
John Kaighn
Jersey Benefits Advisors
Web Business Review
Plug In Profit
John Kaighn's Guidance Website
Fed chairman Ben Bernanke, who studied The Great Depression in detail, feels one of the foremost causes of the prolonged downturn in the 1930's was the central bank's reluctance to lower interest rates. Unfortunately, when the Fed takes this type of action, the dollar becomes weaker and inflation becomes a very real risk. While last month's inflation news was muted, there are fears the renewed speculation in commodities, especially oil, will ignite another round of inflationary pressures. It is too soon to know if the Fed moves and the stimulus plan implemented by the Legislative and Executive branches of the government will stave off recession. There are concerns that the increased stimulus may actually overheat the economy in the second half of the year.
While the markets have been in a bit of a panic mode recently, Bernanke and company have taken the right steps to handle the crisis. If inflation begins to accelerate and global demand for commodities doesn't subside, look for the Fed to stop lowering rates and begin to raise them in the second half of the year. My guess is the Euro and other currencies, which have strengthened against the dollar, will weaken considerably as the global slowdown begins to take hold. Just as the stock markets of the world have not decoupled from the US stock market, the global economies and consequently their currencies have also not decoupled from the dollar.
John Kaighn
Jersey Benefits Advisors
Web Business Review
Plug In Profit
John Kaighn's Guidance Website
Friday, March 7, 2008
How the Federal Reserve Battles Recession
Historically, capitalistic societies have gone through boom and bust cycles on a regular basis. The economic good times are enjoyable for everyone involved, but sometimes the exuberance can lead to downturns which are often painful. The Federal Reserve was created to help moderate the effects of an economic contraction and was given some powerful tools to affect the money supply and keep the economy out of recession.
The establishment of a Central Bank went through many convolutions prior to becoming a non partisan guardian of monetary policy. During the American Revolution, the Continental Congress printed the new nation's first paper money, known as "continentals”. Later, at the urging of Treasury Secretary Alexander Hamilton, Congress established the First Bank of the United States, headquartered in Philadelphia, in 1791. By 1811, with a backlash toward the large banking establishment brewing, the bank's 20-year charter expired and Congress refused to renew it by one vote.
By 1816, Congress agreed to charter the Second Bank of the United
States, but Andrew Jackson, a central bank foe, was elected president in 1828 and he was successful in allowing the charter to expire. State-chartered banks and unchartered "free banks" took hold and began issuing their own notes, redeemable in gold. The New York Clearinghouse Association was established in 1853 to provide a way for the city's banks to exchange checks and settle accounts.
During the Civil War the National Banking Act of 1863 was passed, providing for nationally chartered banks, whose circulating notes had to be backed by U.S. government securities. Although the National Banking Act of 1863 established some measure of currency stability for the growing nation, bank runs and financial panics continued to plague the economy. In 1893 a banking panic triggered the worst depression the United States had ever seen, and the economy stabilized only after the intervention of financial mogul J.P. Morgan.
In 1907 a bout of speculation on Wall Street ended in failure, triggering a
particularly severe banking panic. The Aldrich-Vreeland Act of 1908, passed as an immediate response to the panic of 1907, provided for emergency currency issues during crises. It also established the National Monetary Commission to search for a long-term solution to the nation's banking and financial problems. By December 23, 1913, when President Woodrow Wilson signed the Federal Reserve Act into law, it stood as a classic example of compromise -- a decentralized central bank that balanced the competing interests of private banks and populist sentiment.
Originally, the mandate of the Federal Reserve was not envisioned as an entity which would utilize an active monetary policy to stabilize the economy. The idea of using an economic stabilization policy only dates from the work of John Maynard Keynes in 1936. Instead, the founders viewed the Fed as a means of preventing the supplies of money and credit from drying up during economic contractions, as often happened prior to World War I.
The central bank’s function has changed since the days of the Great Depression, and the Fed now primarily manages the growth of bank reserves and money supply to help stabilize growth during expansions. In order to control the money supply, the Fed uses three main tools to change bank reserves. These tools are a change in reserve requirements, a change in the either the discount rate or the federal funds rate, and the use of Open-market operations.
Changing the reserve ratio is a seldom used, but quite powerful tool at the Fed’s disposal. The reserve ratio is the percentage of reserves a bank is required to hold against deposits. A decrease in the ratio will allow the bank to lend more, which will increase the supply of money. An increase in the ratio will have the opposite effect.
One of the principal ways in which the Fed provides insurance against financial panics is to act as the "lender of last resort", one of the tools used recently as the subprime mortgage debacle led to a credit crunch in the summer of 2007. When business prospects made commercial banks hesitant to extend credit, the Fed stepped in by lending money to the banks, thereby inducing banks to lend more money to their customers. The Federal Reserve does this by lending at the discount window and changing the discount rate.
The federal funds rate is the interest rate that banks charge each other. The federal funds rate target is decided at Federal Open Market Committee (FOMC) meetings. Depending on their agenda and the economic conditions of the U.S., the FOMC members will either increase, decrease, or leave the rate unchanged. It is possible to infer the market expectations of the FOMC decisions at future meetings from the Chicago Board of Trade (CBOT) Fed Funds futures contracts, and these probabilities are widely reported in the financial media.
The Federal Reserve’s open-market operations consist of the buying and selling of government securities by the Fed. If the Fed buys back issued securities (such as Treasury Bills) from large banks and securities dealers, it increases the money supply in the hands of the public. The Fed can decrease the supply of money when it sells a security. The monetary expansion following an open-market operation involves adjustments by banks and the public. When the Fed buys securities from a member bank, the bank’s reserves increase, thereby encouraging it to lend . When the bank makes an additional loan, the person receiving the loan gets a bank deposit. These actions cause the money supply to increase by more than the amount of the open-market operation. This multiple expansion of the money supply is called the money multiplier.
Today, the Fed uses its tools to control the supply of money to help stabilize the economy. When the economy is slumping, the Fed increases the supply of money to spur growth. Conversely, when inflation is threatening, the Fed reduces the risk by shrinking the supply. While the Fed's mission of "lender of last resort" is still important, the Fed's role in managing the economy has expanded since its origin. As we near the end of the first quarter of 2008, the Fed has been lowering interest rates because the threat to growth has taken precedence over the Fed’s concern about inflation. Therefore, at this juncture, the Fed is working to keep the economy out of recession and attempting a "soft landing".
John Kaighn
John Kaighn's Web Business Review
Plug In Profit
Jersey Benefits Advisors
John Kaighn's Guidance Website
The establishment of a Central Bank went through many convolutions prior to becoming a non partisan guardian of monetary policy. During the American Revolution, the Continental Congress printed the new nation's first paper money, known as "continentals”. Later, at the urging of Treasury Secretary Alexander Hamilton, Congress established the First Bank of the United States, headquartered in Philadelphia, in 1791. By 1811, with a backlash toward the large banking establishment brewing, the bank's 20-year charter expired and Congress refused to renew it by one vote.
By 1816, Congress agreed to charter the Second Bank of the United
States, but Andrew Jackson, a central bank foe, was elected president in 1828 and he was successful in allowing the charter to expire. State-chartered banks and unchartered "free banks" took hold and began issuing their own notes, redeemable in gold. The New York Clearinghouse Association was established in 1853 to provide a way for the city's banks to exchange checks and settle accounts.
During the Civil War the National Banking Act of 1863 was passed, providing for nationally chartered banks, whose circulating notes had to be backed by U.S. government securities. Although the National Banking Act of 1863 established some measure of currency stability for the growing nation, bank runs and financial panics continued to plague the economy. In 1893 a banking panic triggered the worst depression the United States had ever seen, and the economy stabilized only after the intervention of financial mogul J.P. Morgan.
In 1907 a bout of speculation on Wall Street ended in failure, triggering a
particularly severe banking panic. The Aldrich-Vreeland Act of 1908, passed as an immediate response to the panic of 1907, provided for emergency currency issues during crises. It also established the National Monetary Commission to search for a long-term solution to the nation's banking and financial problems. By December 23, 1913, when President Woodrow Wilson signed the Federal Reserve Act into law, it stood as a classic example of compromise -- a decentralized central bank that balanced the competing interests of private banks and populist sentiment.
Originally, the mandate of the Federal Reserve was not envisioned as an entity which would utilize an active monetary policy to stabilize the economy. The idea of using an economic stabilization policy only dates from the work of John Maynard Keynes in 1936. Instead, the founders viewed the Fed as a means of preventing the supplies of money and credit from drying up during economic contractions, as often happened prior to World War I.
The central bank’s function has changed since the days of the Great Depression, and the Fed now primarily manages the growth of bank reserves and money supply to help stabilize growth during expansions. In order to control the money supply, the Fed uses three main tools to change bank reserves. These tools are a change in reserve requirements, a change in the either the discount rate or the federal funds rate, and the use of Open-market operations.
Changing the reserve ratio is a seldom used, but quite powerful tool at the Fed’s disposal. The reserve ratio is the percentage of reserves a bank is required to hold against deposits. A decrease in the ratio will allow the bank to lend more, which will increase the supply of money. An increase in the ratio will have the opposite effect.
One of the principal ways in which the Fed provides insurance against financial panics is to act as the "lender of last resort", one of the tools used recently as the subprime mortgage debacle led to a credit crunch in the summer of 2007. When business prospects made commercial banks hesitant to extend credit, the Fed stepped in by lending money to the banks, thereby inducing banks to lend more money to their customers. The Federal Reserve does this by lending at the discount window and changing the discount rate.
The federal funds rate is the interest rate that banks charge each other. The federal funds rate target is decided at Federal Open Market Committee (FOMC) meetings. Depending on their agenda and the economic conditions of the U.S., the FOMC members will either increase, decrease, or leave the rate unchanged. It is possible to infer the market expectations of the FOMC decisions at future meetings from the Chicago Board of Trade (CBOT) Fed Funds futures contracts, and these probabilities are widely reported in the financial media.
The Federal Reserve’s open-market operations consist of the buying and selling of government securities by the Fed. If the Fed buys back issued securities (such as Treasury Bills) from large banks and securities dealers, it increases the money supply in the hands of the public. The Fed can decrease the supply of money when it sells a security. The monetary expansion following an open-market operation involves adjustments by banks and the public. When the Fed buys securities from a member bank, the bank’s reserves increase, thereby encouraging it to lend . When the bank makes an additional loan, the person receiving the loan gets a bank deposit. These actions cause the money supply to increase by more than the amount of the open-market operation. This multiple expansion of the money supply is called the money multiplier.
Today, the Fed uses its tools to control the supply of money to help stabilize the economy. When the economy is slumping, the Fed increases the supply of money to spur growth. Conversely, when inflation is threatening, the Fed reduces the risk by shrinking the supply. While the Fed's mission of "lender of last resort" is still important, the Fed's role in managing the economy has expanded since its origin. As we near the end of the first quarter of 2008, the Fed has been lowering interest rates because the threat to growth has taken precedence over the Fed’s concern about inflation. Therefore, at this juncture, the Fed is working to keep the economy out of recession and attempting a "soft landing".
John Kaighn
John Kaighn's Web Business Review
Plug In Profit
Jersey Benefits Advisors
John Kaighn's Guidance Website
Saturday, March 1, 2008
Commodity Express
In his testimony before Congress on economic conditions, Fed Chairman Ben Bernanke stated, "It is important to recognize that downside risks to growth remain." This was taken as a signal that the Fed will once again be lowering interest rates at the March FOMC meeting. This sent the dollar to new lows against the Euro and commodities prices soaring as gold futures approached $1,000 an ounce and oil futures rallied to $102.59 a barrel. Are we seeing the froth of another bubble, this time in commodities, as the speculators (who never quite seem to learn their lesson) seek to find yet another way to get rich quick?
Recently, economists and investors completely debunked the notion that the major economies of the world may have decoupled from the US economy. Yet the very idea that commodity prices will continue their dizzying upward spiral despite a slowdown in the US economy would almost indicate some denial going on here. Since a slowdown in the US would bring about lesser demand for foreign and domestic goods, which in turn will slow production in foreign countries, which will mean less money to purchase goods (which are made from commodities), it seems in the very near future the direction of oil and other commodities may be down.
Inventories of gasoline and heating oil have been higher than anticipated and winter is almost over. As gasoline hovers at $3.00 a gallon and threatens to go to $4.00 a gallon, can a slowdown in consumption be far behind. At this point, OPEC has not cut production, and why would they? At $100 a barrel their greed overwhelms their business sense, much as the builders, mortgage brokers and banks during the run up to the housing correction. It's no wonder consumer confidence fell in February to the lowest level in 17 years. All of this, and we are not even sure we are in a recession yet. Let's just hope the most recent homeowner bailouts being contemplated by Congress never get out of committee, or we could take a slowdown and create a disaster.
John Kaighn
John Kaighn's Web Business Review
Plug In Profit
Jersey Benefits Advisors
John Kaighn's Guidance Website
Recently, economists and investors completely debunked the notion that the major economies of the world may have decoupled from the US economy. Yet the very idea that commodity prices will continue their dizzying upward spiral despite a slowdown in the US economy would almost indicate some denial going on here. Since a slowdown in the US would bring about lesser demand for foreign and domestic goods, which in turn will slow production in foreign countries, which will mean less money to purchase goods (which are made from commodities), it seems in the very near future the direction of oil and other commodities may be down.
Inventories of gasoline and heating oil have been higher than anticipated and winter is almost over. As gasoline hovers at $3.00 a gallon and threatens to go to $4.00 a gallon, can a slowdown in consumption be far behind. At this point, OPEC has not cut production, and why would they? At $100 a barrel their greed overwhelms their business sense, much as the builders, mortgage brokers and banks during the run up to the housing correction. It's no wonder consumer confidence fell in February to the lowest level in 17 years. All of this, and we are not even sure we are in a recession yet. Let's just hope the most recent homeowner bailouts being contemplated by Congress never get out of committee, or we could take a slowdown and create a disaster.
John Kaighn
John Kaighn's Web Business Review
Plug In Profit
Jersey Benefits Advisors
John Kaighn's Guidance Website
Friday, February 15, 2008
Forecasting the Price of Oil and its Impact on the Economy
The following aricle is a reprint from a recent newsletter by Advisor Perspectives, a company that provides data showing the investment trends of high and ultra high net worth investors, whose money is managed by fee-only independent Registered Investment Advisors.
Higher oil prices make dramatic news.
In 2007, we saw a 50% jump from $70 to $100 per barrel from mid-August to the end of the year. Only during three other times – the Iranian Revolution (1979), Iraq’s invasion of Iran (1980), and Iraq’s invasion of Kuwait (1990) – was there a price increase of this magnitude.
Oil prices affect consumers on a daily basis, at the gas pump and in their home heating bills. No other goods or services have such an impact. Yet, for all its visibility, there are widespread misconceptions about what determines the price of oil and how it affects the economy.
In this article, we look at what drives the price of oil, the prospects for 2008 and the implications of these forecasts. In particular, we examine the 2007 price jump in order to see whether it is likely to be permanent.
Our analysis draws upon the research of Philip Verleger, an expert on energy prices and the author of numerous articles on the oil markets. (We interviewed Verleger on Jan. 30, 2008.)
Light and Sweet or Heavy and Sour?
When we hear that oil is at $80 per barrel, we assume that is the price in the U.S. market. This is not the case. The quoted price for oil is based on WTI, or West Texas Intermediate. This is a “light sweet” crude oil, low in sulfur content and easy to refine. But oil comes in more than one flavor, and WTI represents at most a third of US oil consumption. The majority of the oil refined in the U.S. is “heavy and sour,” driven in part by Canadian and Saudi supply. This oil is considerably cheaper – about $15 per barrel cheaper – than WTI, but costs more to refine.
Using WTI as a benchmark for oil prices is like using the price of an expensive French wine to gauge the price of the overall wine market.
Historically, WTI and sour crude prices have been closely correlated, so the quoted price of oil was an accurate indicator of the market. However, this relationship has started to break down, primarily because of new environmental regulations which limit the amount of sulfur in diesel fuel. These regulations have placed a premium on sweet crude that has caused price movements to diverge.
Oil in 2006 and a Year Later
Oil prices followed nearly identical paths until mid-August, when we saw the beginning of the dramatic increase that lasted until the end of the year. Verleger’s examines the oil markets in 2006-07 with the goal of isolating the underlying supply and demand factors causing the increase last year.
Debunking the Popular Myths
The most popular explanation for the 2007 price increase is growing demand from China, which now consumes 8.5% of the world supply (versus 24% for the U.S.). For an example of how this line of reasoning is presented by one prominent economist, see Dealing with the Dragon. Verleger’s data shows this is not a reasonable explanation. The Chinese market has been correctly forecasted for the last several years. There was no abnormal spike in demand from China (or from India or other markets) during the latter half of last year. As Verleger notes, “it is hard to attribute the sudden price boost to oil buyers waking up to the fact that the global economy was expanding and oil use was rising.”
Supply was not being adversely affected by political disputes or international conflict. If anything, the international dynamics were calmer in 2007 than they were in 2006, as evidenced by the declining casualty rate in Iraq. This was not the source of the price increases.
A shortage of sweet crude in the world markets in 2007 caused the Saudis to increase production of sour crude. This led to a price decline in sour crude prices relative to sweet crude, well-documented in publicly available data. The Saudis were not responsible for the spike.
Speculation did not cause a price spike. Verleger’s data shows investments in commodities, as an asset class, increased from $100 billion to $170 billion in 2007, but most of this increase occurred before the beginning of the August price rise. In addition, the open interest in oil futures contracts was decreasing while prices were increasing, showing that speculators (or whoever was investing in the futures markets at that time) had a diminishing influence on oil prices. Verleger argues the “data seem to exonerate speculators.”
In addition to the oil futures traded on the commodities exchanges, oil experts also look to price movements in “trust” securities (such as the BP Prudhoe Bay Royalty Trust) to calibrate expectations of future prices. If these trusts indicate that oil prices are heading for a sharp increase, oil producers will cut back supply and/or raise current prices until equilibrium is reached. Data show these trusts have a better record of predicting price movements than projections offered by government agencies. Yet future prices implied by these trusts were stable in 2006-07 timeframe, so they cannot explain the 2007 price increase.
Explaining the 2007 Spike
Verleger’s key contention is, beginning in mid-August, the Department of Energy began building up the strategic petroleum reserves, in particular using 1/3 sweet crude and 2/3 sour crude. In fact, approximately 0.3% of the world’s supply of sweet crude went to the SPR. Verleger estimates this action drove oil prices up as much as $10 per barrel, due to the elasticity of oil prices relative to demand, especially in the sweet markets.
On a percentage basis, the increase beginning in mid-August of 2007 may not appear that dramatic. But with sweet crude in high demand and tight supply, the effect on prices was extreme.
Unconfirmed reports suggested that China may also have been accumulating sweet crude into its own SPR during this period, and may be continuing to do so now. If this is true – and oil analysts are trying to confirm these facts – it would explain some of the 2007 price increase. But its effect would be dwarfed by the impact of oil flowing into the American SPR.
Oil companies were reducing their inventories over the last half of 2007 by 50 million barrels of crude stock, representing a little over two days of U.S. oil consumption. The turmoil in the financial markets increased the cost of borrowing for oil companies, making it unattractive for them to finance inventories. Econometric data suggest this inventory reduction contributed a few dollars per barrel to the overall price increases.
“Delta” hedging contributes to price increases. This is a tactic employed by large fuel consumers, particularly airlines, to hedge against price increases by purchasing call options, allowing oil to be bought at a fixed price. Bankers selling these call options hedge their exposure in the futures market, and the net effect is to magnify price increases in an escalating oil environment, such as the latter half of 2007.
Verleger’s bottom line is the US SPR usage contributed $10 of the increase from $70 to $100 per barrel, with inventory reductions responsible for $3 per barrel. Delta hedging was responsible for the remaining $17 per barrel.
Outlook for 2008 and the Impact on the Economy
A common concern is that the 2007 oil spike will lead to a repeat of the 1980s, when the US economic growth was stunted under the burden of expensive oil. This scenario is highly unlikely.
The world economy is less oil dependent. Research from Lehman Brothers shows 0.63 of a barrel is needed to produce $1,000 of GDP, as compared to 0.89 of a barrel in the 1980s. The inflation-adjusted price of oil would need to exceed $100/bbl over a sustained period to replicate the environment of the ‘80s. Additionally, the dollar was stronger then; the fall of the dollar has contributed to the current rise in the price of oil. To the extent the dollar strengthens against world currencies, the price of oil will decline.
The gating factor in today’s economy is not oil prices. It is credit and liquidity, driven by the housing market.
We asked Verleger if an easing of the credit crisis would translate to lower oil prices. “If banks solve their liquidity problem, then it will depend in large part on what oil exporters do,” said Verleger. “It is not a competitive market. If OPEC is aggressive and cuts production, or focuses on inventories, it will push prices higher.”
On the question of the risk of prolonged higher prices, Verleger says it “really depends on how aggressive the members of the cartel are.” More non-OPEC production in today’s market could force OPEC to be more aggressive.
“In 2008, if current flows to the SPR continue, and China continues to do what many believe it has been doing, it will result in a tight sweet crude market, with prices in the high $80s or mid $90s,” Verleger said.
For many in the oil industry, the ultimate question is how oil prices will behave if the economy and overall demand slows down, as many are predicting. Verleger lives in a data-driven world, and has closely studied the path of oil prices during the last five recessions. There is no pattern: in November of 1973 oil prices went up, in January of 1980 they went down, from 1981-2 they went down, in 1990 they went up, and in 2001-2 they went down.
Verleger said “it boils down to how the oil exporting countries behave.” In an economic crisis, he expects them to keep production tight and inventories low, which foretells higher prices. OPEC has seen crude go from $10 to $80 per barrel without a drop in demand in the US. He knows the analysts at OPEC watch the data as closely as he does, and believes they understand that dropping the price of crude from $80 to $10 would not stimulate our economy. “They would rather keep the money in their pockets,” said Verleger.
For his part, Verleger has recommended that the DOE change the composition of flows to the SPR, to increase the portion of sour crude and reduce the portion of sweet crude. This would relieve the primary upward pressure on prices, but so far the response has been negative.
Verleger believes refinery problems would be necessary for prices to go significantly higher than current levels. Alternatively, he cites concern for the oil exporting countries vis-à-vis the dollar, causing them to hold back on production. “A further decline in the dollar could cause OPEC countries to cut production,” Verleger noted, adding that “a problem in Nigeria could also cause this.”
Our final question for Verleger was how high oil prices would need to rise before they significantly impaired the economy.
“If the central bank controls inflation, then oil prices don’t have much impact,” he said on the day the Fed lowered interest rates by 50 basis points.
“Bernanke has offered a good explanation for his interest rate cuts,” Verleger said.
But Verleger is not convinced that the liquidity problem is solved, which he believes is the key to economic growth.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Higher oil prices make dramatic news.
In 2007, we saw a 50% jump from $70 to $100 per barrel from mid-August to the end of the year. Only during three other times – the Iranian Revolution (1979), Iraq’s invasion of Iran (1980), and Iraq’s invasion of Kuwait (1990) – was there a price increase of this magnitude.
Oil prices affect consumers on a daily basis, at the gas pump and in their home heating bills. No other goods or services have such an impact. Yet, for all its visibility, there are widespread misconceptions about what determines the price of oil and how it affects the economy.
In this article, we look at what drives the price of oil, the prospects for 2008 and the implications of these forecasts. In particular, we examine the 2007 price jump in order to see whether it is likely to be permanent.
Our analysis draws upon the research of Philip Verleger, an expert on energy prices and the author of numerous articles on the oil markets. (We interviewed Verleger on Jan. 30, 2008.)
Light and Sweet or Heavy and Sour?
When we hear that oil is at $80 per barrel, we assume that is the price in the U.S. market. This is not the case. The quoted price for oil is based on WTI, or West Texas Intermediate. This is a “light sweet” crude oil, low in sulfur content and easy to refine. But oil comes in more than one flavor, and WTI represents at most a third of US oil consumption. The majority of the oil refined in the U.S. is “heavy and sour,” driven in part by Canadian and Saudi supply. This oil is considerably cheaper – about $15 per barrel cheaper – than WTI, but costs more to refine.
Using WTI as a benchmark for oil prices is like using the price of an expensive French wine to gauge the price of the overall wine market.
Historically, WTI and sour crude prices have been closely correlated, so the quoted price of oil was an accurate indicator of the market. However, this relationship has started to break down, primarily because of new environmental regulations which limit the amount of sulfur in diesel fuel. These regulations have placed a premium on sweet crude that has caused price movements to diverge.
Oil in 2006 and a Year Later
Oil prices followed nearly identical paths until mid-August, when we saw the beginning of the dramatic increase that lasted until the end of the year. Verleger’s examines the oil markets in 2006-07 with the goal of isolating the underlying supply and demand factors causing the increase last year.
Debunking the Popular Myths
The most popular explanation for the 2007 price increase is growing demand from China, which now consumes 8.5% of the world supply (versus 24% for the U.S.). For an example of how this line of reasoning is presented by one prominent economist, see Dealing with the Dragon. Verleger’s data shows this is not a reasonable explanation. The Chinese market has been correctly forecasted for the last several years. There was no abnormal spike in demand from China (or from India or other markets) during the latter half of last year. As Verleger notes, “it is hard to attribute the sudden price boost to oil buyers waking up to the fact that the global economy was expanding and oil use was rising.”
Supply was not being adversely affected by political disputes or international conflict. If anything, the international dynamics were calmer in 2007 than they were in 2006, as evidenced by the declining casualty rate in Iraq. This was not the source of the price increases.
A shortage of sweet crude in the world markets in 2007 caused the Saudis to increase production of sour crude. This led to a price decline in sour crude prices relative to sweet crude, well-documented in publicly available data. The Saudis were not responsible for the spike.
Speculation did not cause a price spike. Verleger’s data shows investments in commodities, as an asset class, increased from $100 billion to $170 billion in 2007, but most of this increase occurred before the beginning of the August price rise. In addition, the open interest in oil futures contracts was decreasing while prices were increasing, showing that speculators (or whoever was investing in the futures markets at that time) had a diminishing influence on oil prices. Verleger argues the “data seem to exonerate speculators.”
In addition to the oil futures traded on the commodities exchanges, oil experts also look to price movements in “trust” securities (such as the BP Prudhoe Bay Royalty Trust) to calibrate expectations of future prices. If these trusts indicate that oil prices are heading for a sharp increase, oil producers will cut back supply and/or raise current prices until equilibrium is reached. Data show these trusts have a better record of predicting price movements than projections offered by government agencies. Yet future prices implied by these trusts were stable in 2006-07 timeframe, so they cannot explain the 2007 price increase.
Explaining the 2007 Spike
Verleger’s key contention is, beginning in mid-August, the Department of Energy began building up the strategic petroleum reserves, in particular using 1/3 sweet crude and 2/3 sour crude. In fact, approximately 0.3% of the world’s supply of sweet crude went to the SPR. Verleger estimates this action drove oil prices up as much as $10 per barrel, due to the elasticity of oil prices relative to demand, especially in the sweet markets.
On a percentage basis, the increase beginning in mid-August of 2007 may not appear that dramatic. But with sweet crude in high demand and tight supply, the effect on prices was extreme.
Unconfirmed reports suggested that China may also have been accumulating sweet crude into its own SPR during this period, and may be continuing to do so now. If this is true – and oil analysts are trying to confirm these facts – it would explain some of the 2007 price increase. But its effect would be dwarfed by the impact of oil flowing into the American SPR.
Oil companies were reducing their inventories over the last half of 2007 by 50 million barrels of crude stock, representing a little over two days of U.S. oil consumption. The turmoil in the financial markets increased the cost of borrowing for oil companies, making it unattractive for them to finance inventories. Econometric data suggest this inventory reduction contributed a few dollars per barrel to the overall price increases.
“Delta” hedging contributes to price increases. This is a tactic employed by large fuel consumers, particularly airlines, to hedge against price increases by purchasing call options, allowing oil to be bought at a fixed price. Bankers selling these call options hedge their exposure in the futures market, and the net effect is to magnify price increases in an escalating oil environment, such as the latter half of 2007.
Verleger’s bottom line is the US SPR usage contributed $10 of the increase from $70 to $100 per barrel, with inventory reductions responsible for $3 per barrel. Delta hedging was responsible for the remaining $17 per barrel.
Outlook for 2008 and the Impact on the Economy
A common concern is that the 2007 oil spike will lead to a repeat of the 1980s, when the US economic growth was stunted under the burden of expensive oil. This scenario is highly unlikely.
The world economy is less oil dependent. Research from Lehman Brothers shows 0.63 of a barrel is needed to produce $1,000 of GDP, as compared to 0.89 of a barrel in the 1980s. The inflation-adjusted price of oil would need to exceed $100/bbl over a sustained period to replicate the environment of the ‘80s. Additionally, the dollar was stronger then; the fall of the dollar has contributed to the current rise in the price of oil. To the extent the dollar strengthens against world currencies, the price of oil will decline.
The gating factor in today’s economy is not oil prices. It is credit and liquidity, driven by the housing market.
We asked Verleger if an easing of the credit crisis would translate to lower oil prices. “If banks solve their liquidity problem, then it will depend in large part on what oil exporters do,” said Verleger. “It is not a competitive market. If OPEC is aggressive and cuts production, or focuses on inventories, it will push prices higher.”
On the question of the risk of prolonged higher prices, Verleger says it “really depends on how aggressive the members of the cartel are.” More non-OPEC production in today’s market could force OPEC to be more aggressive.
“In 2008, if current flows to the SPR continue, and China continues to do what many believe it has been doing, it will result in a tight sweet crude market, with prices in the high $80s or mid $90s,” Verleger said.
For many in the oil industry, the ultimate question is how oil prices will behave if the economy and overall demand slows down, as many are predicting. Verleger lives in a data-driven world, and has closely studied the path of oil prices during the last five recessions. There is no pattern: in November of 1973 oil prices went up, in January of 1980 they went down, from 1981-2 they went down, in 1990 they went up, and in 2001-2 they went down.
Verleger said “it boils down to how the oil exporting countries behave.” In an economic crisis, he expects them to keep production tight and inventories low, which foretells higher prices. OPEC has seen crude go from $10 to $80 per barrel without a drop in demand in the US. He knows the analysts at OPEC watch the data as closely as he does, and believes they understand that dropping the price of crude from $80 to $10 would not stimulate our economy. “They would rather keep the money in their pockets,” said Verleger.
For his part, Verleger has recommended that the DOE change the composition of flows to the SPR, to increase the portion of sour crude and reduce the portion of sweet crude. This would relieve the primary upward pressure on prices, but so far the response has been negative.
Verleger believes refinery problems would be necessary for prices to go significantly higher than current levels. Alternatively, he cites concern for the oil exporting countries vis-à-vis the dollar, causing them to hold back on production. “A further decline in the dollar could cause OPEC countries to cut production,” Verleger noted, adding that “a problem in Nigeria could also cause this.”
Our final question for Verleger was how high oil prices would need to rise before they significantly impaired the economy.
“If the central bank controls inflation, then oil prices don’t have much impact,” he said on the day the Fed lowered interest rates by 50 basis points.
“Bernanke has offered a good explanation for his interest rate cuts,” Verleger said.
But Verleger is not convinced that the liquidity problem is solved, which he believes is the key to economic growth.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Sunday, February 3, 2008
Correction or Bear Market; Recession or Slowdown?
One of the worst January performances for the stock market is behind us and many investors are wondering just where we stand as we begin February. Are we just experiencing another correction, or are we in the throes of a full fledged bear market? While dipping close to bear levels for an hour on the Tuesday following the Martin Luther King holiday, the market has rebounded well off of those levels recently, despite much weaker than expected employment numbers. With the media and presidential candidates tossing the word recession around like a hot potato, Congress and the President brandishing a $150 billion stimulus plan and the Federal Reserve Chief slashing interest rates like a Samurai, is it any wonder main street investors are wondering what will happen next?
In a speech last week, Hillary Clinton sounded the alarm about the "second Bush recession". The media gave her a complete pass on the statement, because if my memory serves me correctly, The National Bureau of Economic Research confirmed the last recession began in the first quarter of 2001, so it is quite difficult to blame that recession on the current occupant of the White House. Furthermore, there is no confirmation of a recession at this juncture, and many economists believe the current fiscal stimulus being contemplated may well overstimulate an economy that could recover on its own from the current slowdown. So, what is the real deal?
The economy's anemic .6% growth rate for the fourth quarter does indicate a recession is a distinct possibility. A jobs number showing the economy shed 15,000 jobs also is cause for concern. With the credit crunch and housing debacle still raging, it is prudent for policymakers to manage the risk of recession proactively. However, the economic team at JP Morgan Chase recently stated that the current spate of economic stimulus being contemplated is like "risk management on steroids". Ed Yardeni, who heads his own research firm, said it succinctly in a letter to his clients when he noted, "I don't recall so much policy stimulus and so many bailout plans thrown at the economy so fast before there was compelling evidence of a recession". None of the plans being developed will have any impact on the economy in the current quarter or the second. All of the pump priming effects will be felt in the second half of the year.
If all of the doom and gloom predictions of recession turn out to be overblown, and the economy limps along with slow growth through the first half of the year, things just might improve on their own. When all of the monetary and fiscal stimulus kicks in during the second half of the year, the economy could heat up more than anticipated. The Fed could find themselves in the situation of having to raise interest rates to battle reignited inflation.
As I stated in an earlier blog, closing values of 1,252.12 in the S&P 500 and 11,331.62 in the DJIA would indicate a 20% decline for those two indices from their highs in October 2007. Until those levels are reached, we are officially only in a correction. Recessions and bear markets usually occur when most people are unaware of the possibility of their occurance. Perhaps a contrarian position might be the most prudent view to take at the present time.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
In a speech last week, Hillary Clinton sounded the alarm about the "second Bush recession". The media gave her a complete pass on the statement, because if my memory serves me correctly, The National Bureau of Economic Research confirmed the last recession began in the first quarter of 2001, so it is quite difficult to blame that recession on the current occupant of the White House. Furthermore, there is no confirmation of a recession at this juncture, and many economists believe the current fiscal stimulus being contemplated may well overstimulate an economy that could recover on its own from the current slowdown. So, what is the real deal?
The economy's anemic .6% growth rate for the fourth quarter does indicate a recession is a distinct possibility. A jobs number showing the economy shed 15,000 jobs also is cause for concern. With the credit crunch and housing debacle still raging, it is prudent for policymakers to manage the risk of recession proactively. However, the economic team at JP Morgan Chase recently stated that the current spate of economic stimulus being contemplated is like "risk management on steroids". Ed Yardeni, who heads his own research firm, said it succinctly in a letter to his clients when he noted, "I don't recall so much policy stimulus and so many bailout plans thrown at the economy so fast before there was compelling evidence of a recession". None of the plans being developed will have any impact on the economy in the current quarter or the second. All of the pump priming effects will be felt in the second half of the year.
If all of the doom and gloom predictions of recession turn out to be overblown, and the economy limps along with slow growth through the first half of the year, things just might improve on their own. When all of the monetary and fiscal stimulus kicks in during the second half of the year, the economy could heat up more than anticipated. The Fed could find themselves in the situation of having to raise interest rates to battle reignited inflation.
As I stated in an earlier blog, closing values of 1,252.12 in the S&P 500 and 11,331.62 in the DJIA would indicate a 20% decline for those two indices from their highs in October 2007. Until those levels are reached, we are officially only in a correction. Recessions and bear markets usually occur when most people are unaware of the possibility of their occurance. Perhaps a contrarian position might be the most prudent view to take at the present time.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Tuesday, January 22, 2008
Fed Cuts Interest Rate 75 Basis Points
The Federal Reserve, after reviewing the significant global stock market declines on Monday and again on Tuesday, which were at least partially caused by increased fears of a US recession, lowered the federal funds rate by 75 basis points, or three-quarters of a percentage point this morning and indicated further rate cuts were likely. This surprise reduction in the federal funds rate from 4.25% down to 3.5% percent is the most significant one-day rate move by the central bank since it cut the discount rate by a full percentage point in December 1991, a period when the country was struggling to get out of a recession.
In addition to cutting the federal funds rate, the Fed said it was reducing the discount rate, the interest it charges to make direct loans to banks, by a similar three-quarters of a percentage point, pushing this rate down to 4%. Commercial banks responded to the Fed's action on the funds rate by announcing similar cuts of three-quarters of a percent on its prime lending rate, the benchmark for millions of business and consumer loans. The action will mean the prime lending rate will drop from 7.25% down to 6.50%.
The Fed's interest rate moves came after significant declines in Asian and European markets on Monday, while the US markets were closed in observance of the Martin Luther King Holiday, and again overnight and into this morning as global markets continued their sell off. By midday, the U.K.'s FTSE 100 was down 0.3 percent at 5,560.90, Germany's DAX was down 1.7 percent at 6,671.82, while France's CAC 40 dropped 1.3 percent to 4,681.07.
Japan's Nikkei 225 index tumbled 5.7 percent, its largest percentage drop in nearly 10 years, to 12,573.05, a day after falling 3.9 percent. Australia's benchmark index sank 7.1 percent, its steepest one-day slide in nearly 20 years. Hong Kong's Hang Seng index, which slumped 5.5 percent Monday, finished down 8.7 percent on Tuesday. In China, the Shanghai Composite index lost 7.2 percent to 4,559.75, its lowest close since August. Indian Finance Minister P. Chidambaram urged investors to remain calm after trading in Mumbai was halted for an hour when the stock market there fell 10 percent within minutes of opening. The Sensex rebounded some to close down 5 percent after plunging 7.4 percent Monday.
Early market reaction to the Fed's rate reduction was not positive, as the DJIA opened off 450 points. However, as the morning wore on, the losses subsided to a more palatable 150 points off of Friday's close. Whether this will be a complete capitulation and subsequent end of the bull market remains to be seen. Closing values of 1,252.12 in the S&P 500 and 11,331.62 in the DJIA would indicate a 20% decline for those two indices from their highs in October 2007. Even if a recession is avoided, I think global markets are making a huge statement regarding the theory of decoupling, that is, the belief global markets and economies could continue to thrive during a downturn in the US.
The positive news for the day is the European markets seemed to like the Federal Reserve's interest rate decision, because even though they were down at midday, they managed to end on the plus side, for the most part. European policymakers offered no hint on Tuesday they would rush to join the United States with a stimulus plan to inoculate their economies from the ravages of a global stock market rout. The economy is sound and fear and panic should not drive decision making, European Central Bank officials said after the U.S. Federal Reserve's surprise move to slash interest rates.
Jean-Claude Juncker, the senior finance minister for the euro zone economies, said he was keeping a close eye on developments but right now saw no danger of U.S. driven turmoil spilling over to cause a global recession. "When financial markets act irrationally, and are driven by herd behaviour, when stock markets demonstrate short-termism, there is no reason for finance ministers to do the same," Juncker told reporters on arriving for Tuesday's talks. Someone should show the above quote to the alarmist politicians in Congress and the White House before they overstimulate the economy, increase food stamp subsidies and who knows what else. Washington's overreaction and the election year grandstanding could further damage the economy or inflate a bubble in another sector by easing credit too much. Sometimes, less is better, especially when it comes to political demagoguery and bogus spending programs appealing to special interest groups.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
In addition to cutting the federal funds rate, the Fed said it was reducing the discount rate, the interest it charges to make direct loans to banks, by a similar three-quarters of a percentage point, pushing this rate down to 4%. Commercial banks responded to the Fed's action on the funds rate by announcing similar cuts of three-quarters of a percent on its prime lending rate, the benchmark for millions of business and consumer loans. The action will mean the prime lending rate will drop from 7.25% down to 6.50%.
The Fed's interest rate moves came after significant declines in Asian and European markets on Monday, while the US markets were closed in observance of the Martin Luther King Holiday, and again overnight and into this morning as global markets continued their sell off. By midday, the U.K.'s FTSE 100 was down 0.3 percent at 5,560.90, Germany's DAX was down 1.7 percent at 6,671.82, while France's CAC 40 dropped 1.3 percent to 4,681.07.
Japan's Nikkei 225 index tumbled 5.7 percent, its largest percentage drop in nearly 10 years, to 12,573.05, a day after falling 3.9 percent. Australia's benchmark index sank 7.1 percent, its steepest one-day slide in nearly 20 years. Hong Kong's Hang Seng index, which slumped 5.5 percent Monday, finished down 8.7 percent on Tuesday. In China, the Shanghai Composite index lost 7.2 percent to 4,559.75, its lowest close since August. Indian Finance Minister P. Chidambaram urged investors to remain calm after trading in Mumbai was halted for an hour when the stock market there fell 10 percent within minutes of opening. The Sensex rebounded some to close down 5 percent after plunging 7.4 percent Monday.
Early market reaction to the Fed's rate reduction was not positive, as the DJIA opened off 450 points. However, as the morning wore on, the losses subsided to a more palatable 150 points off of Friday's close. Whether this will be a complete capitulation and subsequent end of the bull market remains to be seen. Closing values of 1,252.12 in the S&P 500 and 11,331.62 in the DJIA would indicate a 20% decline for those two indices from their highs in October 2007. Even if a recession is avoided, I think global markets are making a huge statement regarding the theory of decoupling, that is, the belief global markets and economies could continue to thrive during a downturn in the US.
The positive news for the day is the European markets seemed to like the Federal Reserve's interest rate decision, because even though they were down at midday, they managed to end on the plus side, for the most part. European policymakers offered no hint on Tuesday they would rush to join the United States with a stimulus plan to inoculate their economies from the ravages of a global stock market rout. The economy is sound and fear and panic should not drive decision making, European Central Bank officials said after the U.S. Federal Reserve's surprise move to slash interest rates.
Jean-Claude Juncker, the senior finance minister for the euro zone economies, said he was keeping a close eye on developments but right now saw no danger of U.S. driven turmoil spilling over to cause a global recession. "When financial markets act irrationally, and are driven by herd behaviour, when stock markets demonstrate short-termism, there is no reason for finance ministers to do the same," Juncker told reporters on arriving for Tuesday's talks. Someone should show the above quote to the alarmist politicians in Congress and the White House before they overstimulate the economy, increase food stamp subsidies and who knows what else. Washington's overreaction and the election year grandstanding could further damage the economy or inflate a bubble in another sector by easing credit too much. Sometimes, less is better, especially when it comes to political demagoguery and bogus spending programs appealing to special interest groups.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Saturday, January 12, 2008
Baby It's Cold Outside
It didn't take much time for the market to hit official correction territory from its October 2007 high. After a dismal drop at the end of 2007 and two weeks of trading in the new year, the S&P 500 and the Dow Jones Industrial Average have managed to retreat to that 10% milestone. The January trading barometer, which states that the first 5 days of trading in January set the tone for the month is indicating a chilly month ahead. While the indicator, popularized in 1972 by Yale Hirsch of the Stock Trader's Almanac is quite accurate (91%) when the first five days are positive, the accuracy is only 45% when the first five days are negative. I guess it is really way to early to try to figure out what the year ahead may be bringing, although most of those participants in the Barron's Roundtable seem to think the market won't even begin to come back to life until the second half of the year.
The small nuggets of upbeat earnings news were pretty much drowned out by a continued litany of economic and financial problems. The Dow Jones Industrial Average fell 246 points, or 1.9%, to 12,606 on Friday, losing 1.5% for the week. Since the start of 2008, the Dow has now lost 658.52 points, or 5%. The S&P 500 index was off 1.4% Friday and fell 0.7% for the week. The Nasdaq Composite dropped 2% Friday for a weekly loss of 2.6%.
Fear of bankruptcy at Countrywide Financial led to a 238-point plunge in the Dow on Tuesday, followed by another big drop Friday, even as Bank of America said it would buy the troubled mortgage lender for $4 billion. A year ago, Countrywide's market value was $24 billion. Seems like Bank of America may have gotten a pretty good deal on this transaction, which will be an all stock deal.
Meanwhile, results at major financial firms are expected to continue to reflect the impact of bad bets in subprime mortgages. Citigroup is expected to report earnings on Tuesday, along with US Bancorp and State Street Corp. J.P. Morgan Chase reports on Wednesday, along with Wells Fargo Co. and Northern Trust. Washington Mutual, Merrill Lynch, Bank of New York, and PNC Financial report on Thursday.
Intel's earnings on Tuesday along with IBM's results on Thursday could also further test recent market hopes that the technology sector might continue to benefit from global growth even as the U.S. slows down. Yet, those hopes have waned in the market, with the tech-heavy Nasdaq Composite posting some of the worst losses of major indexes, losing 8% since the start of the year. Investors will also monitor the results and forecasts of industrials giant General Electric Co., which reports Friday, for clues on global growth.
Some key data will also be closely monitored next week, with investors on high alert for signs that the economy might slide into recession. Tuesday will bring reports on December producer prices, retail sales and a key business survey in the New York region. Wednesday will see the release of the December consumer price index, industrial production data, a housing market index, along with the Federal Reserve's Beige Book of economic conditions.
On Thursday, December housing starts, weekly jobless claims and the Philadelphia Fed survey will be released. Friday will bring a key consumer sentiment survey along with leading economic indicators. With oil sitting near $100 a barrel, gold topping $900 an ounce on Friday, and food prices surging, investors remain worried that inflation pressures might prevent the Fed from cutting interest rates as much as hoped. However, "the U.S. economy seems to be facing ever-greater risks of entering a recession, in the light of the latest statistics on unemployment, activity in the manufacturing sector and household confidence," said Philippe D'Arvisenet, an economist at BNP Paribas, in a note. "Under these conditions, the Fed should give priority to avoiding a recession, pushing its concerns about inflationary risks onto the backburner," he said.
I'm sure all eyes will be on the Fed at the end of the month when the Federal Open Market Committee meets. Investors are anticipating a 1/2 point cut in the Federal Funds Rate at that meeting. Unfortunately, it really doesn't seem like monetary policy will be enough to breathe life into the stock market in the short term. There are a lot of excesses which have to be wrung out of the system, and it could mean some short term pain.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
The small nuggets of upbeat earnings news were pretty much drowned out by a continued litany of economic and financial problems. The Dow Jones Industrial Average fell 246 points, or 1.9%, to 12,606 on Friday, losing 1.5% for the week. Since the start of 2008, the Dow has now lost 658.52 points, or 5%. The S&P 500 index was off 1.4% Friday and fell 0.7% for the week. The Nasdaq Composite dropped 2% Friday for a weekly loss of 2.6%.
Fear of bankruptcy at Countrywide Financial led to a 238-point plunge in the Dow on Tuesday, followed by another big drop Friday, even as Bank of America said it would buy the troubled mortgage lender for $4 billion. A year ago, Countrywide's market value was $24 billion. Seems like Bank of America may have gotten a pretty good deal on this transaction, which will be an all stock deal.
Meanwhile, results at major financial firms are expected to continue to reflect the impact of bad bets in subprime mortgages. Citigroup is expected to report earnings on Tuesday, along with US Bancorp and State Street Corp. J.P. Morgan Chase reports on Wednesday, along with Wells Fargo Co. and Northern Trust. Washington Mutual, Merrill Lynch, Bank of New York, and PNC Financial report on Thursday.
Intel's earnings on Tuesday along with IBM's results on Thursday could also further test recent market hopes that the technology sector might continue to benefit from global growth even as the U.S. slows down. Yet, those hopes have waned in the market, with the tech-heavy Nasdaq Composite posting some of the worst losses of major indexes, losing 8% since the start of the year. Investors will also monitor the results and forecasts of industrials giant General Electric Co., which reports Friday, for clues on global growth.
Some key data will also be closely monitored next week, with investors on high alert for signs that the economy might slide into recession. Tuesday will bring reports on December producer prices, retail sales and a key business survey in the New York region. Wednesday will see the release of the December consumer price index, industrial production data, a housing market index, along with the Federal Reserve's Beige Book of economic conditions.
On Thursday, December housing starts, weekly jobless claims and the Philadelphia Fed survey will be released. Friday will bring a key consumer sentiment survey along with leading economic indicators. With oil sitting near $100 a barrel, gold topping $900 an ounce on Friday, and food prices surging, investors remain worried that inflation pressures might prevent the Fed from cutting interest rates as much as hoped. However, "the U.S. economy seems to be facing ever-greater risks of entering a recession, in the light of the latest statistics on unemployment, activity in the manufacturing sector and household confidence," said Philippe D'Arvisenet, an economist at BNP Paribas, in a note. "Under these conditions, the Fed should give priority to avoiding a recession, pushing its concerns about inflationary risks onto the backburner," he said.
I'm sure all eyes will be on the Fed at the end of the month when the Federal Open Market Committee meets. Investors are anticipating a 1/2 point cut in the Federal Funds Rate at that meeting. Unfortunately, it really doesn't seem like monetary policy will be enough to breathe life into the stock market in the short term. There are a lot of excesses which have to be wrung out of the system, and it could mean some short term pain.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Sunday, January 6, 2008
Jersey Benefits Advisors Newsletter Winter 2008
Market Watch
After a year of increased volatility and some major financial upheavals, the stock market still managed to finish in positive territory, despite some setbacks along the way. Overall, it was a year that saw many actively managed funds surpass the indices, index related mutual funds and ETF’s.
The Dow Jones Industrial Average ended 2007 with a gain of 6.4% at 13,264.82, while the S&P 500 only managed a gain of 3.4% to close at 1,468.36. The NASDAQ Composite was up 9.8% for the year, closing at 2,652.28 while the NASDAQ 100, an index of primarily technology stocks, managed to turn in the best performance of the year with an 18.7% gain. The Dow Jones Utility Average also had a stellar performance adding 16.6% for the year, while the Russell 2000, which had been on fire recently, had a –2.7% return for 2007.
The market reacted to the Fed’s latest 25 basis points cut in interest rates with a thud in December, mainly because traders wanted a 1/2 point cut. It seems like the traders might have missed the bigger point, because historically, the third in a series of rate cuts by the Fed is a charm for the market. In the year after three successive rate reductions by the Fed, the DJIA has gained an average of 18%. This has happened 14 times since 1921, according to Ned Davis Research. Stocks have risen with striking consistency after three rate cuts, except in 1930, at the onset of the Great Depression, when the Dow fell nearly 40% that year. Let’s hope history is on our side in 2008.
There has recently been a great deal of talk about the possibility of a recession, characterized by two or more successive quarters of negative GDP growth. According to a recent article in the Wall Street Journal, most economists polled put the risk of recession at around 38%, while John Lonski, chief economist at Moody's says, "The odds of a recession right now are just under 50-50." Gary Pollack a Managing Director at Deutsche Bank Private Wealth Management says," The economy will skip a recession because the decline in housing will be offset by increases in exports and government spending." As you can see from the various opinions it is almost impossible to know when or if the economy will slip into recession. Recessions are generally confirmed after the fact, so the best thing investors can do is be aware of the possibility of recession and understand the implications for their investments. Markets usually decline during recessions and assets can be bought at lower prices. If you don't NEED to sell anything during a market downturn, think about adding to and diversifying your investments.
The new year should see further volatility in the markets as investors reassess the risks they are willing to take with their investments. You can be sure there will be fewer subprime mortgages underwritten, and a paltry market for collateralized mortgage obligations. Real estate will probably continue to decline through 2008, as builders cut back on new projects. The number of housing starts many economists feel are needed to lessen the glut is about 500,000 per year, down from 2.6 million at the peak of the housing boom.
This should be an interesting election year as politicians pander to the plight of the plethora of homeowners facing foreclosure in 2008.
Mutual Fund Performance For 2007 VS 2006 And 5 Year Average
The list of funds below is a representative sample of client’s holdings recommended over the years. Many of you will recognize core holdings and sector funds from your account. Notice how returns fluctuate year to year, but the 5 year average remains very strong.
Is The Time Right For a 529 Plan?
Are you a parent or grandparent with a newborn or young school-aged child in the family? Saving money for college expenses is a goal I hear many young parents express, and one of the best ways to build tax-advantaged savings for college is the 529 plan. A 529 plan is a tax-advantaged savings plan designed to encourage saving for future college costs.
The 529 plan, legally known as a “qualified tuition plan,” is sponsored by states, state agencies, or educational institutions and is authorized by Section 529 of the Internal Revenue Code. Changes in the tax code were made in 2006 making permanent the provision that earnings in a 529 plan are tax free upon withdrawal when used for education expenses. This has resulted in eliminating any change in status for earnings for the 529 plan and made it the premier savings vehicle for college savers.
There are two types of 529 plans: pre-paid tuition plans and college savings plans. All fifty states and the District of Columbia sponsor at least one type of 529 plan. In addition, a group of private colleges and universities sponsor a pre-paid tuition plan. There are differences between pre-paid tuition plans and college savings plans, and each individual family needs to determine which plan may be right for their needs. Pre-paid tuition plans generally allow college savers to purchase units or credits at participating colleges and universities for future tuition and, in some cases, room and board. Most prepaid tuition plans are sponsored by state governments and have residency requirements. Many state governments guarantee investments in pre-paid tuition plans that they sponsor.
College savings plans generally permit a college saver (also called the “account holder”) to establish an account for a student (the “beneficiary”) for the purpose of paying the beneficiary’s eligible college expenses. An account holder may typically choose among several investment options for his or her contributions, which the college savings plan invests on behalf of the account holder. Investment options often include stock mutual funds, bond mutual funds, and money market funds, as well as, age-based portfolios that automatically shift toward more conservative investments as the beneficiary gets closer to college age. Withdrawals from college savings plans can generally be used at any college or university. Investments in college savings plans that invest in mutual funds are not guaranteed by state governments and are not federally insured.
DOLLAR COST AVERAGING through a systematic savings plan is an excellent way to build up an account without a sizeable minimum investment. This is the way many company retirement plans function. Saving a portion of our pay each month is very important. Company sponsored pension plans are one method to save and should be used for retirement. Other systematic investment accounts, SUCH AS ROTH IRA’S, TRADITIONAL IRA’S, COVERDELL ACCOUNTS, 529 PLANS, BROKERAGE ACCOUNTS AND ANNUITIES can be opened, some for as little as $50 per month, and debited directly from your checking or savings account. For more information, just call to set up an appointment. REFERRALS ARE ALWAYS WELCOME.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
After a year of increased volatility and some major financial upheavals, the stock market still managed to finish in positive territory, despite some setbacks along the way. Overall, it was a year that saw many actively managed funds surpass the indices, index related mutual funds and ETF’s.
The Dow Jones Industrial Average ended 2007 with a gain of 6.4% at 13,264.82, while the S&P 500 only managed a gain of 3.4% to close at 1,468.36. The NASDAQ Composite was up 9.8% for the year, closing at 2,652.28 while the NASDAQ 100, an index of primarily technology stocks, managed to turn in the best performance of the year with an 18.7% gain. The Dow Jones Utility Average also had a stellar performance adding 16.6% for the year, while the Russell 2000, which had been on fire recently, had a –2.7% return for 2007.
The market reacted to the Fed’s latest 25 basis points cut in interest rates with a thud in December, mainly because traders wanted a 1/2 point cut. It seems like the traders might have missed the bigger point, because historically, the third in a series of rate cuts by the Fed is a charm for the market. In the year after three successive rate reductions by the Fed, the DJIA has gained an average of 18%. This has happened 14 times since 1921, according to Ned Davis Research. Stocks have risen with striking consistency after three rate cuts, except in 1930, at the onset of the Great Depression, when the Dow fell nearly 40% that year. Let’s hope history is on our side in 2008.
There has recently been a great deal of talk about the possibility of a recession, characterized by two or more successive quarters of negative GDP growth. According to a recent article in the Wall Street Journal, most economists polled put the risk of recession at around 38%, while John Lonski, chief economist at Moody's says, "The odds of a recession right now are just under 50-50." Gary Pollack a Managing Director at Deutsche Bank Private Wealth Management says," The economy will skip a recession because the decline in housing will be offset by increases in exports and government spending." As you can see from the various opinions it is almost impossible to know when or if the economy will slip into recession. Recessions are generally confirmed after the fact, so the best thing investors can do is be aware of the possibility of recession and understand the implications for their investments. Markets usually decline during recessions and assets can be bought at lower prices. If you don't NEED to sell anything during a market downturn, think about adding to and diversifying your investments.
The new year should see further volatility in the markets as investors reassess the risks they are willing to take with their investments. You can be sure there will be fewer subprime mortgages underwritten, and a paltry market for collateralized mortgage obligations. Real estate will probably continue to decline through 2008, as builders cut back on new projects. The number of housing starts many economists feel are needed to lessen the glut is about 500,000 per year, down from 2.6 million at the peak of the housing boom.
This should be an interesting election year as politicians pander to the plight of the plethora of homeowners facing foreclosure in 2008.
Mutual Fund Performance For 2007 VS 2006 And 5 Year Average
The list of funds below is a representative sample of client’s holdings recommended over the years. Many of you will recognize core holdings and sector funds from your account. Notice how returns fluctuate year to year, but the 5 year average remains very strong.
Is The Time Right For a 529 Plan?
Are you a parent or grandparent with a newborn or young school-aged child in the family? Saving money for college expenses is a goal I hear many young parents express, and one of the best ways to build tax-advantaged savings for college is the 529 plan. A 529 plan is a tax-advantaged savings plan designed to encourage saving for future college costs.
The 529 plan, legally known as a “qualified tuition plan,” is sponsored by states, state agencies, or educational institutions and is authorized by Section 529 of the Internal Revenue Code. Changes in the tax code were made in 2006 making permanent the provision that earnings in a 529 plan are tax free upon withdrawal when used for education expenses. This has resulted in eliminating any change in status for earnings for the 529 plan and made it the premier savings vehicle for college savers.
There are two types of 529 plans: pre-paid tuition plans and college savings plans. All fifty states and the District of Columbia sponsor at least one type of 529 plan. In addition, a group of private colleges and universities sponsor a pre-paid tuition plan. There are differences between pre-paid tuition plans and college savings plans, and each individual family needs to determine which plan may be right for their needs. Pre-paid tuition plans generally allow college savers to purchase units or credits at participating colleges and universities for future tuition and, in some cases, room and board. Most prepaid tuition plans are sponsored by state governments and have residency requirements. Many state governments guarantee investments in pre-paid tuition plans that they sponsor.
College savings plans generally permit a college saver (also called the “account holder”) to establish an account for a student (the “beneficiary”) for the purpose of paying the beneficiary’s eligible college expenses. An account holder may typically choose among several investment options for his or her contributions, which the college savings plan invests on behalf of the account holder. Investment options often include stock mutual funds, bond mutual funds, and money market funds, as well as, age-based portfolios that automatically shift toward more conservative investments as the beneficiary gets closer to college age. Withdrawals from college savings plans can generally be used at any college or university. Investments in college savings plans that invest in mutual funds are not guaranteed by state governments and are not federally insured.
DOLLAR COST AVERAGING through a systematic savings plan is an excellent way to build up an account without a sizeable minimum investment. This is the way many company retirement plans function. Saving a portion of our pay each month is very important. Company sponsored pension plans are one method to save and should be used for retirement. Other systematic investment accounts, SUCH AS ROTH IRA’S, TRADITIONAL IRA’S, COVERDELL ACCOUNTS, 529 PLANS, BROKERAGE ACCOUNTS AND ANNUITIES can be opened, some for as little as $50 per month, and debited directly from your checking or savings account. For more information, just call to set up an appointment. REFERRALS ARE ALWAYS WELCOME.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Tuesday, December 18, 2007
How Much Was That Partridge?
As we began the week the Dow Jones Industrial Average was still up 7.03% for the year, while the NASDAQ was holding onto a 9.13% gain and the S&P 500 managed to hang on to a 3.5% year to date gain, but concerns about flaggng growth and rising prices extended last week's losses into the final week of trading before the Christmas Holiday. The Dow Jones Industrial Average fell 172.65 points on Monday and all the major indexes lost at least one percent. A speech Sunday night by former Fed Chairman Alan Greenspan added to the market's ill humor. Greenspan said "stagflation", when inflation accelerates and the economy weakens, is a growing possibility, given last week's data showing spiking consumer prices. With inflation on the rise, the Fed, which has reduced the target federal funds rate three times since the summer, might feel less inclined to lower rates again.
Meanwhile, PNC Wealth Management released its tongue in cheek Christmas Price Index based on the items in the song "The 12 Days of Christmas". According to PNC, the total cost of the items in the song is now $19,507.00, which takes into account the 3.5% increase in the Consumer Price Index so far this year. The $395 cost of 5 gold rings reflects the 21.5% increase in the price of gold over 2006. Even though the Fed primarily looks at core inflation, which excludes food and energy price increases, the overall CPI rate of 3.5% is well above their target level of a 1% to 2% rate of inflation.
The market reacted to the Feds 25 basis points cut in interest rates with a thud last week, mainly because traders wanted a 1/2 point cut. It seems like the traders might have missed the bigger point, because historically, the third in a series of rate cuts by the Fed is a charm for the market. In the year after three successive rate reductions by the Fed, the DJIA has gained an average 18%. This has happened 14 times since 1921, according to Ned Davis Research. Stocks have risen with striking consistency after three rate cuts, except in 1930, at the onset of the Great Depression, when the Dow fell nearly 40% that year. Let's hope history is on our side in 2008!
There has recently been a great deal of talk about the possibility of a recession, characterized by two or more successive quarters of negative GDP growth. According to an article in Monday's Wall Street Journal, most economists they have polled put the risk of recession at around 38%, while John Lonski, chief economist at Moody's says, "The odds of a recession right now are just under 50-50." Gary Pollack a Managing Director at Deutsche Bank Private Wealth Management says," The economy will skip a recession because the decline in housing will be offset by increases in exports and government spending." As you can see from the various opinions it is almost impossible to know when or if the economy will slip into recession. Recessions are generally confirmed after the fact, so the best thing investors can do is be aware of the possibility of recession and understand the implications for their investments. Markets usually decline during recessions and assets can be bought at lower prices. If you don't NEED to sell anything during a market downturn, think about adding to your investments.
Overall, the comparison of earnings in the coming year to earnings in 2007 could surprise on the upside, because they will be compared to weaker numbers from the preceding year. Whether we can avoid a recession and have another soft landing, similar to the first quarter of 2007 remains to be seen. As a student of history, I like the odds of a market gain for 2008 in the context of three Fed rate reductions, especially when the mainstream media has begun to talk about the possibility of recession. Enjoy the Holidays and let's hope the markets can stabilize and add to the meager gains for the year.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Meanwhile, PNC Wealth Management released its tongue in cheek Christmas Price Index based on the items in the song "The 12 Days of Christmas". According to PNC, the total cost of the items in the song is now $19,507.00, which takes into account the 3.5% increase in the Consumer Price Index so far this year. The $395 cost of 5 gold rings reflects the 21.5% increase in the price of gold over 2006. Even though the Fed primarily looks at core inflation, which excludes food and energy price increases, the overall CPI rate of 3.5% is well above their target level of a 1% to 2% rate of inflation.
The market reacted to the Feds 25 basis points cut in interest rates with a thud last week, mainly because traders wanted a 1/2 point cut. It seems like the traders might have missed the bigger point, because historically, the third in a series of rate cuts by the Fed is a charm for the market. In the year after three successive rate reductions by the Fed, the DJIA has gained an average 18%. This has happened 14 times since 1921, according to Ned Davis Research. Stocks have risen with striking consistency after three rate cuts, except in 1930, at the onset of the Great Depression, when the Dow fell nearly 40% that year. Let's hope history is on our side in 2008!
There has recently been a great deal of talk about the possibility of a recession, characterized by two or more successive quarters of negative GDP growth. According to an article in Monday's Wall Street Journal, most economists they have polled put the risk of recession at around 38%, while John Lonski, chief economist at Moody's says, "The odds of a recession right now are just under 50-50." Gary Pollack a Managing Director at Deutsche Bank Private Wealth Management says," The economy will skip a recession because the decline in housing will be offset by increases in exports and government spending." As you can see from the various opinions it is almost impossible to know when or if the economy will slip into recession. Recessions are generally confirmed after the fact, so the best thing investors can do is be aware of the possibility of recession and understand the implications for their investments. Markets usually decline during recessions and assets can be bought at lower prices. If you don't NEED to sell anything during a market downturn, think about adding to your investments.
Overall, the comparison of earnings in the coming year to earnings in 2007 could surprise on the upside, because they will be compared to weaker numbers from the preceding year. Whether we can avoid a recession and have another soft landing, similar to the first quarter of 2007 remains to be seen. As a student of history, I like the odds of a market gain for 2008 in the context of three Fed rate reductions, especially when the mainstream media has begun to talk about the possibility of recession. Enjoy the Holidays and let's hope the markets can stabilize and add to the meager gains for the year.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Thursday, December 6, 2007
Poised For The Christmas Rally?
Since experiencing the late November 10% market correction, when stocks fell from their October high of 14,164.53 to 12,743.44, investors have been looking for a reason to believe the current bull market was not on its way to extinction. Wednesday's data gave plenty of reasons to believe there is still some upside potential in this market. While the disruptions in the housing and credit markets during the late summer and fall are still very much in the picture, I am sure the Fed has got to feel it has some breathing room, insofar as monetary policy is concerned, going forward.
On Wednesday, the U. S. stock market added 196.23 points for the day after data released in the morning cast a more optimistic light on the U.S. economy, while leaving intact hopes of another interest-rate cut next week. Before the opening bell rang, major stock index futures had extended early gains after ADP reported hiring in the private sector expanded at a faster pace in November, gaining 189,000 jobs after a revised 119,000 jump in October. The latest monthly hike is well above forecasts calling for a rise of 60,000. In another report, the Labor Department said productivity in the nonfarm business sector rose at a 6.3% annual rate in the third quarter, an upward revision from the 4.9% tally a month ago. Also, the government revised unit labor costs down, showing a 2% annual decline compared to a 0.2% drop estimated a month ago, which signals milder inflationary pressure than previously thought. Later in the morning, the Commerce Department said orders for U.S. made factory goods climbed 0.5% in October, its biggest increase in three months. The Institute for Supply Management repoted its nonmanufacturing index declined to 54.1% in November from 55.8% in October, with the drop larger than expected. "The economic news that we got today was quite positive. We saw factory orders go up and we saw the non-manufacturing sector continue to grow," said Peter Cardillo, chief market economist at Avalon Partners.
A great article in the Wall Street Journal recently dicussed some of the lessons that were hopefully learned by investors during this wild year. Dan Fuss, of Loomis, Sayles and Co., stated one of the lessons investors should have learned this year is that "The worst thing you can do is get into frequent asset reallocations. There's a financial cost going from fund A to fund B. The more important cost is that it messes up your thinking about what it is you want to accomplish with these funds". John Bogle of Vanguard Group feels the lesson learned this year is "Don't let your emotions drive your investment program, because you will be thinking of getting in and out. For investors the best rule by and large is to ignore daily moves of the stock market". Jeremy Siegle of the Wharton School of Business opined, "It's very important not to be caught up in the prevaling sentiment, because usually those are not good times to sell when the market is going down. In fact, this is really an illustration of the importance of what we call dollar-cost averaging".
Disciplined, non-emotional investing has been my mantra over the years and is definitely the way to go for investors. Dollar-cost averaging works quite well in volatile markets like we have seen this year, because the chance of buying shares on sale increases when monthly purchases are made in a volatile year. It is fantastic to have such respected business and investment colleagues reinforcing what you've always believed.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
On Wednesday, the U. S. stock market added 196.23 points for the day after data released in the morning cast a more optimistic light on the U.S. economy, while leaving intact hopes of another interest-rate cut next week. Before the opening bell rang, major stock index futures had extended early gains after ADP reported hiring in the private sector expanded at a faster pace in November, gaining 189,000 jobs after a revised 119,000 jump in October. The latest monthly hike is well above forecasts calling for a rise of 60,000. In another report, the Labor Department said productivity in the nonfarm business sector rose at a 6.3% annual rate in the third quarter, an upward revision from the 4.9% tally a month ago. Also, the government revised unit labor costs down, showing a 2% annual decline compared to a 0.2% drop estimated a month ago, which signals milder inflationary pressure than previously thought. Later in the morning, the Commerce Department said orders for U.S. made factory goods climbed 0.5% in October, its biggest increase in three months. The Institute for Supply Management repoted its nonmanufacturing index declined to 54.1% in November from 55.8% in October, with the drop larger than expected. "The economic news that we got today was quite positive. We saw factory orders go up and we saw the non-manufacturing sector continue to grow," said Peter Cardillo, chief market economist at Avalon Partners.
A great article in the Wall Street Journal recently dicussed some of the lessons that were hopefully learned by investors during this wild year. Dan Fuss, of Loomis, Sayles and Co., stated one of the lessons investors should have learned this year is that "The worst thing you can do is get into frequent asset reallocations. There's a financial cost going from fund A to fund B. The more important cost is that it messes up your thinking about what it is you want to accomplish with these funds". John Bogle of Vanguard Group feels the lesson learned this year is "Don't let your emotions drive your investment program, because you will be thinking of getting in and out. For investors the best rule by and large is to ignore daily moves of the stock market". Jeremy Siegle of the Wharton School of Business opined, "It's very important not to be caught up in the prevaling sentiment, because usually those are not good times to sell when the market is going down. In fact, this is really an illustration of the importance of what we call dollar-cost averaging".
Disciplined, non-emotional investing has been my mantra over the years and is definitely the way to go for investors. Dollar-cost averaging works quite well in volatile markets like we have seen this year, because the chance of buying shares on sale increases when monthly purchases are made in a volatile year. It is fantastic to have such respected business and investment colleagues reinforcing what you've always believed.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Monday, November 26, 2007
Morningstar Stock Investor: Seven Different Investing Perspectives
Recently, Paul Larson, an equities strategist with Morningstar, described seven ways in which his investment strategy differs from the conventional wisdom and academia ("Seven Different Investing Perspectives"). Mr. Larson definitely uses a long term strategy for investing, which is also my approach. Taking into consideration the views and strategies of a variety of advisors and analysts can be very helpful in shaping your investment strategy. A synopsis of Larson’s "seven investing perspectives" is included below for you to review.
Morningstar Stock Investor: Seven Different Investing Perspectives
1. Focus on the next decade, not the next quarter.
Most Wall Street analysts who publish research for public consumption spend a lot of their energy focusing on near-term tax rates, weekly inventory trends, and so on, which really do not matter in the long term.
The army of analysts on Wall Street serve an exploding number of hedge funds, entities whose investors demand performance - and demand it now - given the exorbitant fees usually being paid. Many hedge funds cannot afford to think about the long term, because if they suffer even a little in the short term, they might not be around for the long term.
Luckily, those willing and able to take a long-term perspective can gain an edge in this short-term-focused world, and that's exactly what I and our analysts do here at Morningstar. We spend a lot of our time thinking about where a company is going to be many years from now, because this is what drives intrinsic value. We try to minimize the short-term noise to pick out the secular trends that will really matter.
2. Price volatility does not equal risk.
If you go to business school, you are likely to be taught that risk in the stock market can be defined as the historical volatility in a stock's price. Risk is usually thought of and measured in terms of beta, a statistical measure that represents a stock's past volatility relative to an index. Frankly, I just do not understand the relevance of beta when thinking about ways I might lose money. Not only is it backward-looking, but its connection to intrinsic business value is tenuous at best.
When thinking about a stock's risk rating, Morningstar analysts do not focus on the past stock price movements of a company. Rather, we focus on the fundamental business factors - competition, litigation, financial leverage, and so on - to try to figure out what sort of margin of safety to apply to a company before buying it.
3. Price volatility is a good thing.
Not only do I think stock price volatility is a silly way to measure risk, but I actually like volatility. When stock prices whip around, it creates more opportunities to buy things when they go on sale. Moreover, volatility can fling stocks well above their intrinsic values, creating selling opportunities.
I think two of the more famous Warren Buffett nuggets of wisdom apply here. (Though Buffett is as mainstream now as he has ever been, he is still seen as a heretic in many academic circles.) According to Buffett, one of the cornerstones of his strategy is, "Be fearful when others are greedy, and greedy when others are fearful." The other Buffett quote that backs up my favorable opinion of volatility is: "Look at market fluctuations as your friend rather than your enemy; profit from folly rather than participate in it."
4. Concentration has its benefits, overdiversity its downfalls.
It seems that whenever I hear financial advisors speak, they are always preaching the benefits of diversity. While I agree every portfolio should have some level of diversity to prevent any single mistake from causing financial doom, I do not think the downside of diversity gets enough attention. Specifically, the wider you spread your portfolio around, the less you will know about any single investment, and the greater the chance you will miss something that is wrong. Call it the risk of ignorance.
In other words, I agree that it is good advice to not put all your eggs in one basket, but do not forget about the risks of trying to carry too many baskets. Or, to use our "fat pitch" metaphor, don't swing at the marginally decent pitches, because then your swings at the truly fat pitches will be diluted.
5. Bottom-up is better than top-down.
There are two basic ways to look at stocks. The first way (and what we do here at Morningstar) is to look at an individual company - its competitive positioning, profitability, growth prospects, and so on - to come up with an intrinsic value estimate for the business. We then compare this fair value estimate with the current stock price to come up with our Morningstar Rating for stocks (the star rating).
The other way is to try to pick out macroeconomic trends and generate investment ideas from these trends. Some examples might include ideas regarding the aging population, interest-rate movements, global-warming regulations, changes in consumer-spending patterns, and so forth. Some investors might choose to overweight or underweight their portfolios in certain sectors based upon their views of some of these trends.
The problem I see is that there are often too many logical links between the ideas and the actual stock investments. Even if your idea is correct, you could still select the wrong stock for that idea. Another pitfall of looking top-down is forgetting the importance of valuation and paying too much for a stock.
I also do not try to "fill the box" when managing the [stock portfolio]. What I mean by this is deciding on some sort of asset allocation - either by sector or stock style - and then picking stocks to try to fit my target allocation. To me, this is putting the cart before the horse.
What I do instead is look at each stock on a case-by-case basis, and I then let the cards fall where they may with respect to the sectors and styles of my holdings. Only at the extremes might I get worried (such as having more than half a portfolio invested in a single narrow industry).
6. Increased portfolio activity does not create higher returns.
In the real world, the more activity you have in a given area, the greater the return in that area, in general. For example, the more you exercise, the more weight you lose. The more you play golf, the better your swing will get and the lower your handicap will go, and so on. But when trading stocks, the exact opposite is true. In general, the more you trade, the lower your returns will be.
There are the frictional costs of taxes, trading spreads, and commissions that will eat into your capital every time you trade. Of even greater importance in my mind is the amount of thought that goes into each trading decision. It seems that the greater the thought-per-transaction ratio, the better our results should be, all else equal. I spend hours upon hours considering each transaction in the Tortoise and Hare, but spend mere minutes interacting with our broker doing the mechanical transactions, worrying about nickels and dimes. I get the impression that too many investors have this ratio reversed.
7. Focus on value, not price.
It strikes me that many in the market know the price of everything and the value of nothing. I will admit that there are scores of companies for which I know what the stock price has done, but have no clue about the value of the underlying business. But before I invest in something, there is no way I would put a single penny in without having some idea what the underlying business is worth. Knowing price without knowing value means knowing nothing.
I recently was asked if I had in place any stop-loss orders for positions in the Tortoise and Hare. The answer is a resounding "no." Making decisions based on historical prices makes no sense to me. Moreover, assuming that the intrinsic value of a business is unchanged, when its stock price goes down, that is the time to get more excited and consider buying more, not time to cut bait.
Of course, the key phrase is "assuming the intrinsic value of a business is unchanged." We are continually questioning our theses and projections for the companies we cover, always digging deeper for pieces of confirming or contradictory evidence. These fundamental factors - not stock prices or ideas about future market sentiment - are what drive our fair value estimates.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Morningstar Stock Investor: Seven Different Investing Perspectives
1. Focus on the next decade, not the next quarter.
Most Wall Street analysts who publish research for public consumption spend a lot of their energy focusing on near-term tax rates, weekly inventory trends, and so on, which really do not matter in the long term.
The army of analysts on Wall Street serve an exploding number of hedge funds, entities whose investors demand performance - and demand it now - given the exorbitant fees usually being paid. Many hedge funds cannot afford to think about the long term, because if they suffer even a little in the short term, they might not be around for the long term.
Luckily, those willing and able to take a long-term perspective can gain an edge in this short-term-focused world, and that's exactly what I and our analysts do here at Morningstar. We spend a lot of our time thinking about where a company is going to be many years from now, because this is what drives intrinsic value. We try to minimize the short-term noise to pick out the secular trends that will really matter.
2. Price volatility does not equal risk.
If you go to business school, you are likely to be taught that risk in the stock market can be defined as the historical volatility in a stock's price. Risk is usually thought of and measured in terms of beta, a statistical measure that represents a stock's past volatility relative to an index. Frankly, I just do not understand the relevance of beta when thinking about ways I might lose money. Not only is it backward-looking, but its connection to intrinsic business value is tenuous at best.
When thinking about a stock's risk rating, Morningstar analysts do not focus on the past stock price movements of a company. Rather, we focus on the fundamental business factors - competition, litigation, financial leverage, and so on - to try to figure out what sort of margin of safety to apply to a company before buying it.
3. Price volatility is a good thing.
Not only do I think stock price volatility is a silly way to measure risk, but I actually like volatility. When stock prices whip around, it creates more opportunities to buy things when they go on sale. Moreover, volatility can fling stocks well above their intrinsic values, creating selling opportunities.
I think two of the more famous Warren Buffett nuggets of wisdom apply here. (Though Buffett is as mainstream now as he has ever been, he is still seen as a heretic in many academic circles.) According to Buffett, one of the cornerstones of his strategy is, "Be fearful when others are greedy, and greedy when others are fearful." The other Buffett quote that backs up my favorable opinion of volatility is: "Look at market fluctuations as your friend rather than your enemy; profit from folly rather than participate in it."
4. Concentration has its benefits, overdiversity its downfalls.
It seems that whenever I hear financial advisors speak, they are always preaching the benefits of diversity. While I agree every portfolio should have some level of diversity to prevent any single mistake from causing financial doom, I do not think the downside of diversity gets enough attention. Specifically, the wider you spread your portfolio around, the less you will know about any single investment, and the greater the chance you will miss something that is wrong. Call it the risk of ignorance.
In other words, I agree that it is good advice to not put all your eggs in one basket, but do not forget about the risks of trying to carry too many baskets. Or, to use our "fat pitch" metaphor, don't swing at the marginally decent pitches, because then your swings at the truly fat pitches will be diluted.
5. Bottom-up is better than top-down.
There are two basic ways to look at stocks. The first way (and what we do here at Morningstar) is to look at an individual company - its competitive positioning, profitability, growth prospects, and so on - to come up with an intrinsic value estimate for the business. We then compare this fair value estimate with the current stock price to come up with our Morningstar Rating for stocks (the star rating).
The other way is to try to pick out macroeconomic trends and generate investment ideas from these trends. Some examples might include ideas regarding the aging population, interest-rate movements, global-warming regulations, changes in consumer-spending patterns, and so forth. Some investors might choose to overweight or underweight their portfolios in certain sectors based upon their views of some of these trends.
The problem I see is that there are often too many logical links between the ideas and the actual stock investments. Even if your idea is correct, you could still select the wrong stock for that idea. Another pitfall of looking top-down is forgetting the importance of valuation and paying too much for a stock.
I also do not try to "fill the box" when managing the [stock portfolio]. What I mean by this is deciding on some sort of asset allocation - either by sector or stock style - and then picking stocks to try to fit my target allocation. To me, this is putting the cart before the horse.
What I do instead is look at each stock on a case-by-case basis, and I then let the cards fall where they may with respect to the sectors and styles of my holdings. Only at the extremes might I get worried (such as having more than half a portfolio invested in a single narrow industry).
6. Increased portfolio activity does not create higher returns.
In the real world, the more activity you have in a given area, the greater the return in that area, in general. For example, the more you exercise, the more weight you lose. The more you play golf, the better your swing will get and the lower your handicap will go, and so on. But when trading stocks, the exact opposite is true. In general, the more you trade, the lower your returns will be.
There are the frictional costs of taxes, trading spreads, and commissions that will eat into your capital every time you trade. Of even greater importance in my mind is the amount of thought that goes into each trading decision. It seems that the greater the thought-per-transaction ratio, the better our results should be, all else equal. I spend hours upon hours considering each transaction in the Tortoise and Hare, but spend mere minutes interacting with our broker doing the mechanical transactions, worrying about nickels and dimes. I get the impression that too many investors have this ratio reversed.
7. Focus on value, not price.
It strikes me that many in the market know the price of everything and the value of nothing. I will admit that there are scores of companies for which I know what the stock price has done, but have no clue about the value of the underlying business. But before I invest in something, there is no way I would put a single penny in without having some idea what the underlying business is worth. Knowing price without knowing value means knowing nothing.
I recently was asked if I had in place any stop-loss orders for positions in the Tortoise and Hare. The answer is a resounding "no." Making decisions based on historical prices makes no sense to me. Moreover, assuming that the intrinsic value of a business is unchanged, when its stock price goes down, that is the time to get more excited and consider buying more, not time to cut bait.
Of course, the key phrase is "assuming the intrinsic value of a business is unchanged." We are continually questioning our theses and projections for the companies we cover, always digging deeper for pieces of confirming or contradictory evidence. These fundamental factors - not stock prices or ideas about future market sentiment - are what drive our fair value estimates.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Friday, November 23, 2007
How Much Should I Save Per Paycheck to Reach My Retirement Goals?
Here is another investment blog I've read recently by Hank, and I thought I'd include it, because he makes some good points about how important compounding is for young investors. The younger you are when you start saving, the larger the nest egg will be when you reach retirement age. Here is Hank's post:
This question is another tricky one because it depends on who is asking it. If you’re 18 and asking this question, well, I’d say you’re starting off right by asking, and if you are putting away 10% - even if you’re only making $20,000 per year, you’re saving $2,000/year and in 50 years you’d be sitting on about $2,500,000 at 10% (yes, that is 2 MILLION off someone that makes $20,000 per year). You’d have put in $100,000 and interest would have accounted for the other $2,400,000 of it. Ridiculous how compoud interest works, eh?
If you bump it to 15%, you’d be investing $150,000 and your egg would be almost 66% larger at $3,800,000! Obviously this is taking some big assumptions, being that you’re going to continue making $20,000 for the next 50 years (which I hope you’d get a raise in there at some point), the return will be 10% (this can go up and down, but it’s a safe figure to estimate by, as another tangent, if your return is 15%, and investing $2,000 per year, you’re looking at almost $16,000,000), and it isn’t taking into account inflation (usually around 3% which would peg that 16MIL down to about 4.5MIL). But that’s all you really CAN do with 50 years to play with, however, that’s the big thing, get in early.
If you’re 40 years old and wondering where to start, you’re going to certainly need some catch up against the 18 year old putting in 10%; to match with the 18 year old investing $2000/year, you’re going to need to put in $17,000 per year to hit that 2.5million plateau. Attainable yes, but preferred, probably not. Even at 40 years old and investing $2000/year you’re still going to be looking at $300,000 by 68, which isn’t bad, and is much better than $0.
A good rule of thumb I’ve read is 10% minimum, and 15-25% preferred of your salary should go to retirement. But that, of course is an estimate and should vary depending on your age - I’d say a better breakdown would be:
18-30 years old - 10-15% of your salary
30-40 years old - 12-18% of your salary
40-50 years old - 18-25% of your salary
50+ - 25% or more of your salary
Again, they’re estimates based on a lot of generalization, but the big key is start stuffing something, even if it’s not much. It’s amazing what time can do to the almighty $.
Author: hank
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
This question is another tricky one because it depends on who is asking it. If you’re 18 and asking this question, well, I’d say you’re starting off right by asking, and if you are putting away 10% - even if you’re only making $20,000 per year, you’re saving $2,000/year and in 50 years you’d be sitting on about $2,500,000 at 10% (yes, that is 2 MILLION off someone that makes $20,000 per year). You’d have put in $100,000 and interest would have accounted for the other $2,400,000 of it. Ridiculous how compoud interest works, eh?
If you bump it to 15%, you’d be investing $150,000 and your egg would be almost 66% larger at $3,800,000! Obviously this is taking some big assumptions, being that you’re going to continue making $20,000 for the next 50 years (which I hope you’d get a raise in there at some point), the return will be 10% (this can go up and down, but it’s a safe figure to estimate by, as another tangent, if your return is 15%, and investing $2,000 per year, you’re looking at almost $16,000,000), and it isn’t taking into account inflation (usually around 3% which would peg that 16MIL down to about 4.5MIL). But that’s all you really CAN do with 50 years to play with, however, that’s the big thing, get in early.
If you’re 40 years old and wondering where to start, you’re going to certainly need some catch up against the 18 year old putting in 10%; to match with the 18 year old investing $2000/year, you’re going to need to put in $17,000 per year to hit that 2.5million plateau. Attainable yes, but preferred, probably not. Even at 40 years old and investing $2000/year you’re still going to be looking at $300,000 by 68, which isn’t bad, and is much better than $0.
A good rule of thumb I’ve read is 10% minimum, and 15-25% preferred of your salary should go to retirement. But that, of course is an estimate and should vary depending on your age - I’d say a better breakdown would be:
18-30 years old - 10-15% of your salary
30-40 years old - 12-18% of your salary
40-50 years old - 18-25% of your salary
50+ - 25% or more of your salary
Again, they’re estimates based on a lot of generalization, but the big key is start stuffing something, even if it’s not much. It’s amazing what time can do to the almighty $.
Author: hank
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Wednesday, November 21, 2007
The Desolate Wilderness and the Fair Land
I usually write the bulk of the material that appears on my blog, but every now and then I feature other authors who have a flair for great writing. This is a piece that is an annual ritual in a national publication that corresponds with the Thanksgiving Holiday season. It does a nice job of reminding the reader of the reasons to be thankful and to whom we owe that gratitude. I hope you enjoy it
The Desolate Wilderness
Here beginneth the chronicle of those memorable circumstances of the year 1620,as recorded by Nathaniel Morton, keeper of the records of Plymouth Colony, based on the account of William Bradford, sometime governor thereof:
So they left that goodly and pleasant city of Leyden, which had been their resting place for above eleven years, but they knew that they were pilgrims and strangers here below, and looked not much on these things, but lifted up their eyes to Heaven, their dearest country, where God hath prepared for them a city (Heb. XI, 16), and
therein quieted their spirits. When they came to Delfs-Haven they found the ship and all things ready, and such of their friends as could not come with them followed after them, and sundry came from Amsterdam to see them shipt, and to take their leaves of them. One night was spent with little sleep with' the most, but with friendly entertainment and Christian discourse, and other real expressions of true Christian love.
The next day they went on board, and their friends with them, where truly doleful was the sight of that sad and mournful parting, to hear what sighs and sobs and prayers did sound amongst them; what tears did gush from every eye, and pithy speeches pierced each other's heart, that sundry of the Dutch strangers. that stood on the Key as spectators could not refrain from tears. But the tide (which stays for no man) calling them away, that were thus loath to depart, their Reverend Pastor, falling down on his knees, and they all with him, with watery cheeks commended them with the most fervent prayers unto the Lord and His blessing; and then with mutual embraces and many tearsthey took their I leaves one of another, which proved to be the last leave to many of them.
Being now passed the vast ocean, and a sea of troubles before them in expectations,
they had now no friends to welcome, them, no inns to entertain or refresh them, no houses, or much less towns, to repair unto tb seek for succour; and for the season
it was winter, and they that know the winters of the country know them to be sharp and violent, subject to cruel and fierce storms, dangerous to travel to known places, much more to search unknown coasts. Besides, what could they see but a hideous and desolate wilderness, full of wilde beasts and wilde men? and what multitudes of them there were, they then knew not: for which way soever they turned their eyes (save upward to Heaven) they could have but little solace or content in respect of any outward object; for summer being ended, all things stand in appearance with a weatherbeaten face, and the whole country, full of woods and thickets, represented a wild and savage hew. If they looked behind them, there was a mighty ocean which they had passed, and was now as a main bar or gulph to separate them from all the civil parts of the world.
And This Fair Land
Anyone whose labors take him into the far reaches of the country, as ours lately have done, is bound to mark how the years have made the land grow fruitful. This is indeed a big country, a rich country, in a way no array of figures can measure and so
in a way past belief of those who have not seen it. Even those who journey through its Northeastern complex, into the Southern lands, across the central plains and to its Western slopes can only glimpse a measure of the bounty of America.
And a traveler cannot but be struck on his journey by the thought that this country, one day, can be even greater. America, though many know it not, is one of the great underdeveloped countries of the world; what it reaches for exceeds by far what it has grasped.
So the visitor returns thankful for much of what he has seen, and, in spite of everything, an optimist about what his country might be. Yet the visitor, if he is to make an honest report, must also note the air of unease that
hangs everywhere.
For the traveler, as travelers have been always, is as much questioned as questioning. And for all the abundance he sees, he finds the questions put to him ask where men may repair for succor from the troubles that beset them.
His countrymen cannot forget the savage face of war. Too often they have been asked to fight in strange and distant places, for no clear purpose they could see and for no accomplishment they can measure. Their spirits are not quieted by the thought that the good and pleasant bounty' that surrounds them can be destroyed in an instant by a single bomb. Yet they find no escape, for their survival and comfort now depend on unpredictable strangers in far off corners of the globe.
How can they turn from melancholy when at home they see young arrayed against old,
black against white, neighbor against neighbor, so that they stand in peril of social discord. Or not despair when they see that the cities and countryside are in need of repair, yet find themselves threatened by scarcities of the resources
that sustain their way of life. Or when, in the face of these challenges, they turn for leadership to men in high places-only to find those men as frail as any others.
So sometimes the traveler is asked whence will come their succor. What is to preserve their abundance, or even their civility? How can they pass on to their children a nation as strong and free as the one they inherited from their forefathers? How is their country to endure these cruel storms that beset it from without and from within?
Of course the stranger cannot quiet their spirits. For it is true that everywhere men turn their eyes today much of the world has a truly wild and savage hue. Noman, if he be truthful, can say that the specter of war is banished. Nor can he say that when men or communities are put upon their own resources they are sure of solace; nor be sure that men of diverse kinds and diverse views can live peaceably together
in a time of troubles.
But we can all remind ourselves that the richness of this country was not born in the resources of the earth, though they be plentiful, but in the men that took its measure. For that reminder is everywhere in the cities, towns, farms, roads,
factories, homes, hospitals, schools that spread everywhere over that wilderness.
We can remind ourselves that for all our socialdiscord we yet remain the longest enduring society of free men governing themselves without benefit of kings or dictators. Being so, we are the marvel and the mystery of the world, for that enduring liberty is no less a blessing than the abundance of the earth.
And we might remind ourselves also, that if those men setting out from Delftshaven had been daunted by the troubles they saw around them, then we could not this autumn be thankful for a fair land.
These editorials have appeared annually in the Wall Street Journal since 1961.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
The Desolate Wilderness
Here beginneth the chronicle of those memorable circumstances of the year 1620,as recorded by Nathaniel Morton, keeper of the records of Plymouth Colony, based on the account of William Bradford, sometime governor thereof:
So they left that goodly and pleasant city of Leyden, which had been their resting place for above eleven years, but they knew that they were pilgrims and strangers here below, and looked not much on these things, but lifted up their eyes to Heaven, their dearest country, where God hath prepared for them a city (Heb. XI, 16), and
therein quieted their spirits. When they came to Delfs-Haven they found the ship and all things ready, and such of their friends as could not come with them followed after them, and sundry came from Amsterdam to see them shipt, and to take their leaves of them. One night was spent with little sleep with' the most, but with friendly entertainment and Christian discourse, and other real expressions of true Christian love.
The next day they went on board, and their friends with them, where truly doleful was the sight of that sad and mournful parting, to hear what sighs and sobs and prayers did sound amongst them; what tears did gush from every eye, and pithy speeches pierced each other's heart, that sundry of the Dutch strangers. that stood on the Key as spectators could not refrain from tears. But the tide (which stays for no man) calling them away, that were thus loath to depart, their Reverend Pastor, falling down on his knees, and they all with him, with watery cheeks commended them with the most fervent prayers unto the Lord and His blessing; and then with mutual embraces and many tearsthey took their I leaves one of another, which proved to be the last leave to many of them.
Being now passed the vast ocean, and a sea of troubles before them in expectations,
they had now no friends to welcome, them, no inns to entertain or refresh them, no houses, or much less towns, to repair unto tb seek for succour; and for the season
it was winter, and they that know the winters of the country know them to be sharp and violent, subject to cruel and fierce storms, dangerous to travel to known places, much more to search unknown coasts. Besides, what could they see but a hideous and desolate wilderness, full of wilde beasts and wilde men? and what multitudes of them there were, they then knew not: for which way soever they turned their eyes (save upward to Heaven) they could have but little solace or content in respect of any outward object; for summer being ended, all things stand in appearance with a weatherbeaten face, and the whole country, full of woods and thickets, represented a wild and savage hew. If they looked behind them, there was a mighty ocean which they had passed, and was now as a main bar or gulph to separate them from all the civil parts of the world.
And This Fair Land
Anyone whose labors take him into the far reaches of the country, as ours lately have done, is bound to mark how the years have made the land grow fruitful. This is indeed a big country, a rich country, in a way no array of figures can measure and so
in a way past belief of those who have not seen it. Even those who journey through its Northeastern complex, into the Southern lands, across the central plains and to its Western slopes can only glimpse a measure of the bounty of America.
And a traveler cannot but be struck on his journey by the thought that this country, one day, can be even greater. America, though many know it not, is one of the great underdeveloped countries of the world; what it reaches for exceeds by far what it has grasped.
So the visitor returns thankful for much of what he has seen, and, in spite of everything, an optimist about what his country might be. Yet the visitor, if he is to make an honest report, must also note the air of unease that
hangs everywhere.
For the traveler, as travelers have been always, is as much questioned as questioning. And for all the abundance he sees, he finds the questions put to him ask where men may repair for succor from the troubles that beset them.
His countrymen cannot forget the savage face of war. Too often they have been asked to fight in strange and distant places, for no clear purpose they could see and for no accomplishment they can measure. Their spirits are not quieted by the thought that the good and pleasant bounty' that surrounds them can be destroyed in an instant by a single bomb. Yet they find no escape, for their survival and comfort now depend on unpredictable strangers in far off corners of the globe.
How can they turn from melancholy when at home they see young arrayed against old,
black against white, neighbor against neighbor, so that they stand in peril of social discord. Or not despair when they see that the cities and countryside are in need of repair, yet find themselves threatened by scarcities of the resources
that sustain their way of life. Or when, in the face of these challenges, they turn for leadership to men in high places-only to find those men as frail as any others.
So sometimes the traveler is asked whence will come their succor. What is to preserve their abundance, or even their civility? How can they pass on to their children a nation as strong and free as the one they inherited from their forefathers? How is their country to endure these cruel storms that beset it from without and from within?
Of course the stranger cannot quiet their spirits. For it is true that everywhere men turn their eyes today much of the world has a truly wild and savage hue. Noman, if he be truthful, can say that the specter of war is banished. Nor can he say that when men or communities are put upon their own resources they are sure of solace; nor be sure that men of diverse kinds and diverse views can live peaceably together
in a time of troubles.
But we can all remind ourselves that the richness of this country was not born in the resources of the earth, though they be plentiful, but in the men that took its measure. For that reminder is everywhere in the cities, towns, farms, roads,
factories, homes, hospitals, schools that spread everywhere over that wilderness.
We can remind ourselves that for all our socialdiscord we yet remain the longest enduring society of free men governing themselves without benefit of kings or dictators. Being so, we are the marvel and the mystery of the world, for that enduring liberty is no less a blessing than the abundance of the earth.
And we might remind ourselves also, that if those men setting out from Delftshaven had been daunted by the troubles they saw around them, then we could not this autumn be thankful for a fair land.
These editorials have appeared annually in the Wall Street Journal since 1961.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Friday, November 16, 2007
Black Friday Looms Large
As we head into the final weekend before Thanksgiving, poised for Black Friday and all of its ramifications, a bewildering array of terms are bombarding investors from various sources on a daily basis. Cutting through all of the clutter can be a daunting task as we try to ascertain the direction of the US economy. Terms like recession, credit crunch, housing debacle, inflation and that scourge of the 1970's know as stagflation are on the lips of many journalists, commentators and economists as this very mature expansion plods along midway through the 4th quarter of 2007.
Meanwhile, the race for the White House is in high gear, while Congress drags its feet searching for a solution to fix the Alternate Minimum Tax trap before it ensnares too many middle class voters this year. Gold is at an all time high, home values are imploding, food prices are soaring, the dollar is getting pummelled and oil prices are significantly higher now than in January, although at just under $94 a barrel, the surge toward $100 a barrel oil seems to have abated somewhat. Whether this is a peak in a commodity bubble, or a plateau before another another leg up is anyone's guess at this point. Suffice it to say there are enough things to worry about and that has been evidenced by the volatility of the major indices recently.
At this juncture it is difficult to say with any certainty whether or not the economy will weather the current circumstances and keep growing, so it is probably better to try to keep an eye on the big picture, rather than focus on the day to day sound bites. According to Peter Coy of Business Week, the big picture consists of several indicators which should help us keep a pulse on the direction of the economy through 2008. First of all if unemployment remains under 5%, consumers should be able to continue spending. If inflation stays benign, the Federal reserve will be able to make further rate cuts, if not on December 11, then at some future time if economic growth stalls. The holiday shoppping season is extremely important, and big retailers are already discounting prices. Once again, the consumer is a large player in the retail story and the impact of falling home values could put a damper on spending plans. However, if lower housing prices entice buyers back into the market, then that would be a good thing.
Another indicator to watch is the willingness of banks to continue lending. Already standards have been tightened, but if banks cut back further on small and midsized businesses, economic growth could be negatively impacted. Finally, Wall Street's reaction to all of the economic uncertainty will be the focus of quite a bit of attention, because a large drop in the stock market preceded the 2001 recession by a year. At the present time there has been no such drop, but there has been more than one 300 plus swoon lately. Of course 300 points up or down based on a 13,000 point Dow Jones Industrial Average is only 2.3%, just to keep things in perspective!
So my advice for the immediate future is to enjoy your Thanksgiving turkey, focus on the big picture and continue to dollar cost average into your accounts. The volatility provides buying opportunities for those of us who remember that a drop in the stock market is like buying retail items on sale. While painful, recessions are not the end of the world and I certainly do not believe we are by any means teetering on a precipace ready to plunge into the abyss. With the election year politics in full swing, all of the candidates have their own recipe for the salvation of this great land. Thankfully, the founding fathers created a union that has endured much folly by politicians and I think we will survive our current set of circumstances. Maybe this time the bankers will get it right!
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Meanwhile, the race for the White House is in high gear, while Congress drags its feet searching for a solution to fix the Alternate Minimum Tax trap before it ensnares too many middle class voters this year. Gold is at an all time high, home values are imploding, food prices are soaring, the dollar is getting pummelled and oil prices are significantly higher now than in January, although at just under $94 a barrel, the surge toward $100 a barrel oil seems to have abated somewhat. Whether this is a peak in a commodity bubble, or a plateau before another another leg up is anyone's guess at this point. Suffice it to say there are enough things to worry about and that has been evidenced by the volatility of the major indices recently.
At this juncture it is difficult to say with any certainty whether or not the economy will weather the current circumstances and keep growing, so it is probably better to try to keep an eye on the big picture, rather than focus on the day to day sound bites. According to Peter Coy of Business Week, the big picture consists of several indicators which should help us keep a pulse on the direction of the economy through 2008. First of all if unemployment remains under 5%, consumers should be able to continue spending. If inflation stays benign, the Federal reserve will be able to make further rate cuts, if not on December 11, then at some future time if economic growth stalls. The holiday shoppping season is extremely important, and big retailers are already discounting prices. Once again, the consumer is a large player in the retail story and the impact of falling home values could put a damper on spending plans. However, if lower housing prices entice buyers back into the market, then that would be a good thing.
Another indicator to watch is the willingness of banks to continue lending. Already standards have been tightened, but if banks cut back further on small and midsized businesses, economic growth could be negatively impacted. Finally, Wall Street's reaction to all of the economic uncertainty will be the focus of quite a bit of attention, because a large drop in the stock market preceded the 2001 recession by a year. At the present time there has been no such drop, but there has been more than one 300 plus swoon lately. Of course 300 points up or down based on a 13,000 point Dow Jones Industrial Average is only 2.3%, just to keep things in perspective!
So my advice for the immediate future is to enjoy your Thanksgiving turkey, focus on the big picture and continue to dollar cost average into your accounts. The volatility provides buying opportunities for those of us who remember that a drop in the stock market is like buying retail items on sale. While painful, recessions are not the end of the world and I certainly do not believe we are by any means teetering on a precipace ready to plunge into the abyss. With the election year politics in full swing, all of the candidates have their own recipe for the salvation of this great land. Thankfully, the founding fathers created a union that has endured much folly by politicians and I think we will survive our current set of circumstances. Maybe this time the bankers will get it right!
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Wednesday, November 7, 2007
Free Ways to Advertise Your Business
For many companies and individuals, advertising a new business is a
challenge. Budgeting funds to cover advertising costs can drain away
capital needed for operating expenses, but without advertising many times nobody will know your business exists. If your business has a website, there are several methods you can use to get free advertising.
First of all, create a directory of web sites on a specific topic.
Give people the option of adding the directory to their web site by
linking to it. Put your business advertisement at the top of the
directory's home page. This technique will get lots of people to link
to your web site and give you free advertising.
Secondly, you can use bonus advertising. Do you have a product or service that doesn't sell very well? Offer it as a free bonus for someone else's product or service. Get free advertising by placing your web site or business ad on the product or in the product package.
Another method of free advertising involves your autoresponder. Trade autoresponder ads with other businesses. If both of you send out information with autoresponders just exchange a small classified ad to put at the bottom or top of each other's autoresponder message.
Starting a free tip line can also generate free advertising. Offer a free daily, weekly, or monthly tip recorded on your voice mail or embedded in your email. The tips should be related to your business. Include your ad for your web site or business at the beginning or end of your message.
Finally, you can use content swap as a way to generate free advertising. Exchange content with other web sites and ezines. You could trade articles, top ten lists, etc. Both parties could include a resource box at the end of the content.
John Kaighn
Jersey Benefits Advisors
John Kaighn's Guidance Website
challenge. Budgeting funds to cover advertising costs can drain away
capital needed for operating expenses, but without advertising many times nobody will know your business exists. If your business has a website, there are several methods you can use to get free advertising.
First of all, create a directory of web sites on a specific topic.
Give people the option of adding the directory to their web site by
linking to it. Put your business advertisement at the top of the
directory's home page. This technique will get lots of people to link
to your web site and give you free advertising.
Secondly, you can use bonus advertising. Do you have a product or service that doesn't sell very well? Offer it as a free bonus for someone else's product or service. Get free advertising by placing your web site or business ad on the product or in the product package.
Another method of free advertising involves your autoresponder. Trade autoresponder ads with other businesses. If both of you send out information with autoresponders just exchange a small classified ad to put at the bottom or top of each other's autoresponder message.
Starting a free tip line can also generate free advertising. Offer a free daily, weekly, or monthly tip recorded on your voice mail or embedded in your email. The tips should be related to your business. Include your ad for your web site or business at the beginning or end of your message.
Finally, you can use content swap as a way to generate free advertising. Exchange content with other web sites and ezines. You could trade articles, top ten lists, etc. Both parties could include a resource box at the end of the content.
John Kaighn
Jersey Benefits Advisors
John Kaighn's Guidance Website
Thursday, November 1, 2007
Balancing Upside And Downside Risks
"The Committee judges that, after this, the upside risks to inflation roughly balance the downside risks to growth". With that statement, the Federal Reserve summed up the decision to lower the Federal Funds rate by 1/4 point to 4.50% at the October Federal Open Market Committee Meeting. The Fed figures that rising commodity prices, especially oil, pose as great a risk of igniting inflation as the risk of lower growth of the economy created by the credit crunch and struggling housing market.
The continued downward trend of the dollar, a result of lower interest rates, added to the tension the Fed's decision has created as it walked the tightrope of maintaining employment and growth without increasing the likelihood of a new round of inflation. Data from the Bureau of Labor and Statistics indicated the economy was growing at a higher that expected annual rate of 3.9% in the third quarter, but the purchasing manager's survey showed weak manufacturing data for the month of October. Initially, the market took the Feds move with a bullish move on Wednesday climbing 137 points, but as the reality of the severity of the economic situation became evident, the market subsequently sold off 362 points on Thursday.
A report from the Commerce Department indicated consumers scaled back their spending in September as worries mounted about a worsening housing market and further credit market turmoil. A trade group reported that manufacturing in the U.S. grew in October at the weakest pace since March. This combination of factors led investors to pull back sharply from Wednesday's rally, after the Fed said the economy had weathered the summer's credit crisis.
With the market's growing pessimism about the economy, the Labor Department's report on October jobs creation, scheduled to be released Friday morning, will be taking on even more importance than usual. The combination of no more rate reductions, rising oil prices, continued credit concerns and slower economic growth indicates a need for investors to be cautious in their risk assessment going forward. While I don't see definite indications of recession, caution is always prudent during times of market duress.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
The continued downward trend of the dollar, a result of lower interest rates, added to the tension the Fed's decision has created as it walked the tightrope of maintaining employment and growth without increasing the likelihood of a new round of inflation. Data from the Bureau of Labor and Statistics indicated the economy was growing at a higher that expected annual rate of 3.9% in the third quarter, but the purchasing manager's survey showed weak manufacturing data for the month of October. Initially, the market took the Feds move with a bullish move on Wednesday climbing 137 points, but as the reality of the severity of the economic situation became evident, the market subsequently sold off 362 points on Thursday.
A report from the Commerce Department indicated consumers scaled back their spending in September as worries mounted about a worsening housing market and further credit market turmoil. A trade group reported that manufacturing in the U.S. grew in October at the weakest pace since March. This combination of factors led investors to pull back sharply from Wednesday's rally, after the Fed said the economy had weathered the summer's credit crisis.
With the market's growing pessimism about the economy, the Labor Department's report on October jobs creation, scheduled to be released Friday morning, will be taking on even more importance than usual. The combination of no more rate reductions, rising oil prices, continued credit concerns and slower economic growth indicates a need for investors to be cautious in their risk assessment going forward. While I don't see definite indications of recession, caution is always prudent during times of market duress.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Saturday, October 27, 2007
Tech's Resurgence
It seems as though investors are realizing a great rotation has been underway over the last year, as money continues to move out of the real estate and financial services sectors and into the health care and technology sectors. Due to the collapse of the mortgage and housing markets, financial services companies replete with CDO's & CMO's are writing down these assets with regularity. As a result, investors looking for returns are rotating their money into tech stocks with a fervor.
Commodities, which have enjoyed a boom along with real estate in recent years are still flying high, but oil prices seem to be getting ahead of themselves and may be headed for a bust. Even though oil has rocketed to $90.00 a barrel recently, the price of gasoline at the pump has barely budged since Labor Day. This leads me to believe there is a great deal of speculation in the oil futures markets and some of these high bidders may be left holding some very expensive contracts, especially if there is a milder than usual winter.
While the resurgence of technology has lifted the NASDAQ 100 by roughly 25% year to date, it is important to point out some research by Doug Kass of Seabreeze Partners, which was featured in Alan Abelson's Up & Down Wall Street Article today. Kass reminds us that 50% of the gain in the NASDAQ 100 was provided by three stocks. These stocks were Apple, Research In Motion and Google. His point in the article was that this is a very narrow bull market in tech and may not be sustainable.
While money will undoubtedly continue to pour into technology over the next year, I feel it is extremely important to point out that much of the advance in technology has already happened. That is why I continue to advise my clients to be diversified in various sectors of the economy. If you have a diversified portfolio, you would already have investments in the tech sector and would have enjoyed the full gains to date and not be trying to play catch up.
Of course there are those who feel there is quite a bit of room for the technology sector to continue to boom going forward, as consumers continue to snap up computer game consoles, flat screen TV's, notebook computers, MP3 players, cell phones and digital HD recorders. Corporations are also trying to harness advances in technology, such as blogging, instant messaging and e-commerce and use them to improve communication and productivity. This will require continued IT spending into 2008.
Paul Wick, manager of the Seligman Communications and Information Fund, when commenting on technology returns topping the broad market's performance said, "This might be the start of a trend". It has been six years, but it seems as though the bitter memory of the dot com bust is finally fading. I just hope the lessons of chasing returns and diversification of assets are not forgotten.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Commodities, which have enjoyed a boom along with real estate in recent years are still flying high, but oil prices seem to be getting ahead of themselves and may be headed for a bust. Even though oil has rocketed to $90.00 a barrel recently, the price of gasoline at the pump has barely budged since Labor Day. This leads me to believe there is a great deal of speculation in the oil futures markets and some of these high bidders may be left holding some very expensive contracts, especially if there is a milder than usual winter.
While the resurgence of technology has lifted the NASDAQ 100 by roughly 25% year to date, it is important to point out some research by Doug Kass of Seabreeze Partners, which was featured in Alan Abelson's Up & Down Wall Street Article today. Kass reminds us that 50% of the gain in the NASDAQ 100 was provided by three stocks. These stocks were Apple, Research In Motion and Google. His point in the article was that this is a very narrow bull market in tech and may not be sustainable.
While money will undoubtedly continue to pour into technology over the next year, I feel it is extremely important to point out that much of the advance in technology has already happened. That is why I continue to advise my clients to be diversified in various sectors of the economy. If you have a diversified portfolio, you would already have investments in the tech sector and would have enjoyed the full gains to date and not be trying to play catch up.
Of course there are those who feel there is quite a bit of room for the technology sector to continue to boom going forward, as consumers continue to snap up computer game consoles, flat screen TV's, notebook computers, MP3 players, cell phones and digital HD recorders. Corporations are also trying to harness advances in technology, such as blogging, instant messaging and e-commerce and use them to improve communication and productivity. This will require continued IT spending into 2008.
Paul Wick, manager of the Seligman Communications and Information Fund, when commenting on technology returns topping the broad market's performance said, "This might be the start of a trend". It has been six years, but it seems as though the bitter memory of the dot com bust is finally fading. I just hope the lessons of chasing returns and diversification of assets are not forgotten.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
John Kaighn's Guidance Website
Thursday, October 4, 2007
Housing Market Continues To Struggle
As we begin the fourth quarter of 2007, the housing market continues to cast a troubling shadow over the economic outlook. Even though builders have been giving huge discounts, sales of new homes in August fell to their lowest level in seven years. New home sales dropped 8.3% in August from July, and year over year from August 2006 to August 2007, new home sales dropped a staggering 45% from 11,000 sold in August 2006 to 6,000 sold in August 2007. To see how this is affecting builders, KB Home, a Los Angeles builder, reported a loss of $35.6 million for the quarter ending August 31, 2007 as compared to a $153.2 million net profit a year earlier. Jeffrey Mezger, KB’s president said “We see no signs that the housing market is stabilizing and believe it will be some time before a recovery begins”.
Another troubling sign with the housing market is the declining value of homes, which will be sure to affect consumer spending. Standard & Poor’s Case-Shiller Home Price index, which measures home prices in 20 major cities, showed prices down 3.9% in July from a year ago, which was faster than June’s 3.4% drop. Just as sales of new homes were down in August, sales of existing homes were down 4.3% from July, and the time needed to sell houses on the market has increased to 10 months, which is the highest in 20 years.
Even though employment in the construction, real estate, mortgage and financial services industries is taking a hit due to the housing downturn, overall unemployment has actually shown a drop in claims. Despite an anticipated wave of layoffs expected in the mortgage sector alone, initial claims for unemployment fell 15,000 in the latest report by the Labor Department, the second weekly decline in a row and the lowest level since May. According to David Resler, chief economist at Nomura Securities, “The jobless report helps bolster forecasts that the housing slump may brake growth, but the economy will not degenerate into a full-fledged recession”.
The government also reported in the last week of September that the nation’s gross domestic product expanded by 3.8% in the April to June quarter, and this was a bit less than the estimated 4% economists had expected. With the difficulties the economy faced in August and September, many economists expect the GDP to have slowed to 2% in the third quarter. With growth slowing, hopefully the Fed has bought some time to alleviate the credit crunch with its half a point rate reduction, which may allow for an orderly decline in housing prices and sales, as opposed to a free fall. Even though housing prices are expected to continue to fall by some estimates through 2008, and possibly until 2010, an easing as opposed to a rout is always less troubling.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
Another troubling sign with the housing market is the declining value of homes, which will be sure to affect consumer spending. Standard & Poor’s Case-Shiller Home Price index, which measures home prices in 20 major cities, showed prices down 3.9% in July from a year ago, which was faster than June’s 3.4% drop. Just as sales of new homes were down in August, sales of existing homes were down 4.3% from July, and the time needed to sell houses on the market has increased to 10 months, which is the highest in 20 years.
Even though employment in the construction, real estate, mortgage and financial services industries is taking a hit due to the housing downturn, overall unemployment has actually shown a drop in claims. Despite an anticipated wave of layoffs expected in the mortgage sector alone, initial claims for unemployment fell 15,000 in the latest report by the Labor Department, the second weekly decline in a row and the lowest level since May. According to David Resler, chief economist at Nomura Securities, “The jobless report helps bolster forecasts that the housing slump may brake growth, but the economy will not degenerate into a full-fledged recession”.
The government also reported in the last week of September that the nation’s gross domestic product expanded by 3.8% in the April to June quarter, and this was a bit less than the estimated 4% economists had expected. With the difficulties the economy faced in August and September, many economists expect the GDP to have slowed to 2% in the third quarter. With growth slowing, hopefully the Fed has bought some time to alleviate the credit crunch with its half a point rate reduction, which may allow for an orderly decline in housing prices and sales, as opposed to a free fall. Even though housing prices are expected to continue to fall by some estimates through 2008, and possibly until 2010, an easing as opposed to a rout is always less troubling.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
Saturday, September 29, 2007
Newsletter Fall 2007
MARKET WATCH
The third quarter provided a bit of excitement for investors, and generated a heightened concern for both the state of the economy and the direction of the markets going forward. As the quarter opened, the Fed was on hold with interest rates, the Dow Jones Industrial Average catapulted from 13,408.62 to 14,000.41 by July 19 and leverage was fashionable. Within six days, The Dow, Nasdaq and S&P 500 had given up 5% of their value, as fears concerning the economy began to rock the market. As foreclosures throughout the country continued to mount and mortgage lenders began to succumb to a lack of liquidity in the system, the Fed held the federal funds rate at 5.25% in early August, but by mid month it was quite evident the credit markets were under severe stress and the Fed lowered the discount rate, the rate banks can borrow from the Federal Reserve, to 5.75%.
The Dow crossed the 10% correction threshold in intraday trading on Thursday, August 16th, but managed to close in somewhat better shape and rallied on Friday after the Fed decision to lower the discount rate. While the S&P 500 was down as much as 12% from its July peak intraday on August 16th, it also managed to recover late in the day and rose back to 1,445 by the close on Friday, August 17. The equity markets settled somewhat through late August and over the Labor Day Holiday, but the credit markets were still in flux and the lack of liquidity was evident worldwide as central banks continued to pump billions of dollars into money market funds.
In a move that surprised nearly everyone, the Fed lowered the federal funds rate to 4.75% and the discount rate to 5.25% at the FOMC meeting in late September. These actions by the Fed were an attempt to give confidence to the credit markets and boost their willingness to provide liquidity. While the effects of the rate decrease will take time to make any real difference in the growth of the economy, the psychological results have been quite visible in the stock market, which has posted significant gains following the rate cuts. While the 50 basis point cut in rates has had a euphoric effect on the markets in the short term, it doesn’t necessarily bode well for the market in the long term. When the Fed cut rates 50 basis points in January 2001, the DJIA rose 2.8% and the NASDAQ had its best day ever, rising 14.2%, but by September 10, a day before the terrorist attacks, the indices were well below their January levels.
But for now, all we can do is look at where we have been and try to ascertain, as best we can, where things are heading. The Dow closed the quarter at 13,895.63 and is up 11.49% year to date. The S&P 500 finished at 1,526.75, which is a 7.65% gain for the year and the NASDAQ sits at 2,701.50 at quarter’s end, posting a year to date gain of 11.85%. For such a volatile year, these gains would be quite acceptable as a year end result.
On September 26th, I had the opportunity to hear an Economic Update from Jerry Webman, the Chief Economist with Oppenheimer Funds. His opinion was one of optimism for the economy and its ability to avoid a recession. He felt the moves by Bernanke were bold enough to relieve the credit crunch and shouldn’t be inflationary, due to subdued employment numbers and lower economic growth. While oil prices over $80 a barrel and rising gold prices are unsettling, the Fed’s willingness to raise rates if inflation increases is calming.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
The third quarter provided a bit of excitement for investors, and generated a heightened concern for both the state of the economy and the direction of the markets going forward. As the quarter opened, the Fed was on hold with interest rates, the Dow Jones Industrial Average catapulted from 13,408.62 to 14,000.41 by July 19 and leverage was fashionable. Within six days, The Dow, Nasdaq and S&P 500 had given up 5% of their value, as fears concerning the economy began to rock the market. As foreclosures throughout the country continued to mount and mortgage lenders began to succumb to a lack of liquidity in the system, the Fed held the federal funds rate at 5.25% in early August, but by mid month it was quite evident the credit markets were under severe stress and the Fed lowered the discount rate, the rate banks can borrow from the Federal Reserve, to 5.75%.
The Dow crossed the 10% correction threshold in intraday trading on Thursday, August 16th, but managed to close in somewhat better shape and rallied on Friday after the Fed decision to lower the discount rate. While the S&P 500 was down as much as 12% from its July peak intraday on August 16th, it also managed to recover late in the day and rose back to 1,445 by the close on Friday, August 17. The equity markets settled somewhat through late August and over the Labor Day Holiday, but the credit markets were still in flux and the lack of liquidity was evident worldwide as central banks continued to pump billions of dollars into money market funds.
In a move that surprised nearly everyone, the Fed lowered the federal funds rate to 4.75% and the discount rate to 5.25% at the FOMC meeting in late September. These actions by the Fed were an attempt to give confidence to the credit markets and boost their willingness to provide liquidity. While the effects of the rate decrease will take time to make any real difference in the growth of the economy, the psychological results have been quite visible in the stock market, which has posted significant gains following the rate cuts. While the 50 basis point cut in rates has had a euphoric effect on the markets in the short term, it doesn’t necessarily bode well for the market in the long term. When the Fed cut rates 50 basis points in January 2001, the DJIA rose 2.8% and the NASDAQ had its best day ever, rising 14.2%, but by September 10, a day before the terrorist attacks, the indices were well below their January levels.
But for now, all we can do is look at where we have been and try to ascertain, as best we can, where things are heading. The Dow closed the quarter at 13,895.63 and is up 11.49% year to date. The S&P 500 finished at 1,526.75, which is a 7.65% gain for the year and the NASDAQ sits at 2,701.50 at quarter’s end, posting a year to date gain of 11.85%. For such a volatile year, these gains would be quite acceptable as a year end result.
On September 26th, I had the opportunity to hear an Economic Update from Jerry Webman, the Chief Economist with Oppenheimer Funds. His opinion was one of optimism for the economy and its ability to avoid a recession. He felt the moves by Bernanke were bold enough to relieve the credit crunch and shouldn’t be inflationary, due to subdued employment numbers and lower economic growth. While oil prices over $80 a barrel and rising gold prices are unsettling, the Fed’s willingness to raise rates if inflation increases is calming.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
Thursday, September 20, 2007
Reflection On Fed's Rate Reduction
Federal Reserve Chairman Ben Bernanke and Treasury Secretary Henry Paulson are scheduled to testify before the House Financial Services Committee at 10:00 AM today in regard to the mortgage and credit markets. After the surprise half-point cut in both the Federal Funds Rate to 4.75% and the Discount Rate to 5.25% at the FOMC meeting, the testimony will be focused on the actions by the Fed as an attempt to give confidence to the credit markets and boost their willingness to provide liquidity. While the effects of the rate decrease will take time to make any real difference in the growth of the economy, the psychological results have been quite visible in the stock market, which has posted significant gains the last two days.
As the actions by the Fed are digested going forward, questions will surface regarding just how bad the economic situation is that it warranted a 50 basis point decrease in rates. Also, if the inflation data is stronger in the next few months, as the rally in gold and oil seem to be indicating, will the Fed be willing to raise rates to maintain price stability, which is their directive. The polar evils of declining growth and increasing inflation are constantly being analyzed by the Fed as they make their policy decisions. With somewhat benign producer and consumer inflation reports in August, it seems Mr. Bernacke chose to make a dramatic move to boost confidence and increase economic growth in the short term. I just hope it doesn't serve to reignite speculative excesses in another asset class.
Meanwhile, more delinquencies and foreclosures can be expected in the subprime, adjustable-rate mortgage market as borrowers face interest-rate resets, according to Federal Reserve Chairman Ben Bernanke's prepared testimony to the House Financial Services Committee today. Bernanke also said that the market for those mortgages has "adjusted sharply," and that markets "do tend to self-correct." He outlined steps the Fed is taking to help reduce the risk of foreclosure and stressed the need to beef up underwriting practices. The Fed chief said he's opposed to raising the conforming loan limit for Fannie Mae and Freddie Mac and said that the central bank stands ready to foster price stability and sustainable economic growth.
The dollar was higher against most major currencies from previous lows, trading at 115.98 yen, down from 116.07 yen in late trading Tuesday. The euro was at $1.3962, down from $1.3977. On the New York Mercantile Exchange, oil remained near $82 a barrel, close to the prior day's intraday record of $82.38. In more recent trading, crude futures were up 54 cents at $82.05, ahead of Tuesday's record close of $81.51. In other commodities trading at the NYME, December gold gained $5.80 to close at $729.50 an ounce. Weakness in the dollar is cited as the catalyst for gold's strength.
US Treasury Bonds and Notes continued their slide, which resulted in higher yields, as inflation fears continued in the wake of the Fed's interest rate cut. The benchmark 10-year note was down 14/31 at 101 25/32, and its yield has risen to 4.526%. As we begin the trading day on Thursday, the DJIA starts off at 13,815.56, while the S&P 500 begins trading at 1529.03, and the NASDAQ opens at 2666.48. After two positive days following the Fed rate reduction, today could result in some profit taking.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
As the actions by the Fed are digested going forward, questions will surface regarding just how bad the economic situation is that it warranted a 50 basis point decrease in rates. Also, if the inflation data is stronger in the next few months, as the rally in gold and oil seem to be indicating, will the Fed be willing to raise rates to maintain price stability, which is their directive. The polar evils of declining growth and increasing inflation are constantly being analyzed by the Fed as they make their policy decisions. With somewhat benign producer and consumer inflation reports in August, it seems Mr. Bernacke chose to make a dramatic move to boost confidence and increase economic growth in the short term. I just hope it doesn't serve to reignite speculative excesses in another asset class.
Meanwhile, more delinquencies and foreclosures can be expected in the subprime, adjustable-rate mortgage market as borrowers face interest-rate resets, according to Federal Reserve Chairman Ben Bernanke's prepared testimony to the House Financial Services Committee today. Bernanke also said that the market for those mortgages has "adjusted sharply," and that markets "do tend to self-correct." He outlined steps the Fed is taking to help reduce the risk of foreclosure and stressed the need to beef up underwriting practices. The Fed chief said he's opposed to raising the conforming loan limit for Fannie Mae and Freddie Mac and said that the central bank stands ready to foster price stability and sustainable economic growth.
The dollar was higher against most major currencies from previous lows, trading at 115.98 yen, down from 116.07 yen in late trading Tuesday. The euro was at $1.3962, down from $1.3977. On the New York Mercantile Exchange, oil remained near $82 a barrel, close to the prior day's intraday record of $82.38. In more recent trading, crude futures were up 54 cents at $82.05, ahead of Tuesday's record close of $81.51. In other commodities trading at the NYME, December gold gained $5.80 to close at $729.50 an ounce. Weakness in the dollar is cited as the catalyst for gold's strength.
US Treasury Bonds and Notes continued their slide, which resulted in higher yields, as inflation fears continued in the wake of the Fed's interest rate cut. The benchmark 10-year note was down 14/31 at 101 25/32, and its yield has risen to 4.526%. As we begin the trading day on Thursday, the DJIA starts off at 13,815.56, while the S&P 500 begins trading at 1529.03, and the NASDAQ opens at 2666.48. After two positive days following the Fed rate reduction, today could result in some profit taking.
John Kaighn
Jersey Benefits Advisors
Plug In Profit
John Kaighn's Web Business Review
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