Investing legend, Jim Rogers, says that he is not buying any stocks in China right now nor is he selling any, but says he will buy more Chinese stocks when they collapse. Stocks have doubled in 9 months. Instead, he says the best way to invest in China is via commodities.
No matter what, the Chinese will pay all their bills because they absolutely need to buy all the commodities they don't produce themselves. Cotton, Nickel, iron ore, steel, and Agricultural Commodities are among their biggest requirements.
Click to view this July 27, 2009 interview with Bloomberg.
Jim Rogers was interviewed by the Globe and Mail on July 30, 2009 and re-iterated his convictions about commodities:
So you see commodities, even after a 10-year bull run, as still offering the best investment opportunities? Isn't that dependent on a global economic recovery?
If the world economy is going to get better, commodities will lead the way, because of the shortages. I cannot imagine a better place to be. When you come off periods like this, you want to be in the things where the fundamentals are getting better – those are the ones that always lead the next bull market.
If the economy is not going to improve, commodities are still the best place to be … because governments are printing huge amounts of money all over the world.
Throughout history, when people have printed lots of money, it has always led to higher prices. Throughout history, when governments printed, the money has to go somewhere. Historically, it has always gone into real assets, as people try to protect themselves. … It's not going to go into people buying new cars, it's going to go into wheat and silver and oil first. It may go into new cars eventually, but it's going to go into real stuff first – at least it always has. I'd rather own commodities than just about anything I can think of in a period when the whole world is debasing paper money.
Source: Bloomberg, Youtube | Globe and Mail, July 30, 2009
This post is a guest contribution by MarketFolly.com. MarketFolly.com compiles an excellent compendium of the profiles and activities, and tracking the SEC filings of the most prominent hedge funds, shedding light on the activities of some of this era's most successful investors.
This is the latest edition in a new series of posts we're doing here at Market Folly entitled, 'hedge fund news summaries.' And, as as the title obviously states, the goal is to give you the quick hits of everything that is happening in hedge fund land. So far, reader response has been very positive and we thank you for the feedback. As such, we will continue posting them since many have found them useful. You can check out our most recent hedge fund news summary to catch up to speed as well.
Seth Klarman (Baupost Group) — The value master himself has recently been "up to no good." And, by that, we simply mean he has been active making investments. Intriguingly enough, Klarman's latest target has been CIT Group (CIT). Before you avid Klarman-ites become appalled and outraged at this move, settle down... this is a pretty good deal for him. (Obviously, right? Why else would he do it?) Klarman's hedge fund Baupost Group was part of the assembly of funds that provided financing for CIT. Baupost joined Centerbridge Partners, Oaktree Capital Management, Pacific Investment Management, and Silver Point Capital, among others. The reason this deal was so enticing to Klarman and others is that the deal was heavily over-collateralized. Supposedly, the loan is backed by $30 billion worth of assets. Additionally, Klarman and the others will be receiving an enticing interest rate of Libor + 10 points with a 3% floor. Later, it was also revealed that this group of lenders also received an upfront 5% fee. So, what's not to love about that deal? CIT was desparate for help, and they got it. We ponder if this is another situation where a prominent investor gives his 'stamp of approval' to a company in return for a great return on capital. While we think this specific situation is more-so due to CIT's dire situation, we're sure they don't mind being associated with Klarman & Baupost. In other recent Baupost news, we saw that they sold completely out of their Omnova (OMN) position. You can check out the rest of Baupost's portfolio here.
Pav Sethi (Gladius Investment Group) — Pav formerly worked as the head of volatility arbitrage at Citadel Investment Group and will be starting his own firm Gladius. With Pav also goes Rajesh Kedia and Bertrand Divet as Citadel loses a few more team members. They will be focused on what they excelled in at Citadel: volatility.
Paul Tudor Jones (Tudor Investment Corp) — Back in 1987 a documentary was filmed on Paul Tudor Jones and his hedge fund entitled 'Trader: The Documentary.' This film has become scarce and almost a form of trader contraband as Jones reportedly bought almost all available copies in the 1990's since he didn't want the flick floating around anymore. But, as with all great information, this video wanted to be set free. As such, the film was recently leaked onto the web and we posted it up yesterday. So, if you missed it, you can watch and/or download the video here.
5:15 Capital — In our last hedge fund update we mentioned the formation of a new hedge fund by some Brevan Howard alums. Named after a song from 'The Who', 5:15 has recently gotten an injection of $50 million from Man Group, one of the largest hedge fund managers on the globe. As part of the setup, Man Group will take a portion of 5:15's revenue. The Man Group sees 5:15 stepping into a nice niche in terms of hedge fund strategies, as the crisis has left the field relatively empty in their type of arbitrage.
Warren Buffett (Berkshire Hathaway) — We aren't limiting our hedge fund updates to just hedge funds, as we're now also covering gurus and market strategists. Obviously, Buffett falls into this category. Buffett recently filed a 13D on Moody's (MCO) that disclosed he had sold 7,986,300 shares of the company ranging in prices from $26.59-$28.73. Despite the sales, Buffett still owns well over 40 million shares of the company. But, this filing is interesting to note because Buffett had previously championed the ratings agencies in public as solid investments. Has he had a change of heart? We'll continue to monitor the filings to see if he sells even more. Our immediate reaction was to wonder if he had been chatting with fellow value player David Einhorn of hedge fund Greenlight Capital. Einhorn recently presented the case for shorting Moody's at the Ira Sohn investment conference. It's always interesting to see a difference of opinion among smart minds, so that's why Buffett's selling becomes all the more curious. For further interesting reading, you can view Berkshire Hathaway's Annual Report here and investment ideas from hedge fund managers at the Ira Sohn conference here.
John Burbank (Passport Capital) — We just covered Passport's recent investor letter and saw some interesting developments in their portfolio. Most notably, we found out that they had been playing with interest rate bets including a curve steepener. Additionally, they have started to bet on the Japanese Yield Spread via 5-year CMS caps (calls), anticipating a rise in 10-year rates. Passport also likes Healthcare stocks as they are at the highest allocation in the fund's history. To read about the latest from Passport Capital, check out their latest investor letter update.
Jim Rogers (ex-Quantum Fund) — The market guru himself has been out and about in the media talking about his usual theses and positions. So, we don't really have a whole lot of new information to report in this regard. We just want to point out that (yet again) Rogers is very bullish on commodities.
Fortress Investment Group — The massive $27 billion hedge fund Fortress Investment Group is on the prowl for potential investments. However, they're not looking for market investments in the typical sense. Instead, they're looking to acquire other hedge funds and financial firms. Daniel Mudd, Fortress' new CEO, has said they will try to acquire money managers, banks, insurers, hedge funds, and the like. The industry in general has definitely seen a contraction as the weak fall by the wayside during the crisis. Since there have been many opportunities in the markets throughout the course of the crisis, it will be interesting to see if Fortress finds any 'deals' in the hedge fund landscape.
Andreas Halvorsen (Viking Global) — A few days ago we also covered Viking Global's latest investor letter. In the letter, we found out that they had lagged the market in the 2nd quarter of 2009 due to their short positions. More interestingly though, was the fact that they added a ton of new positions over the past quarter, 68 in all. They warned that all the new additions were not a bet on rising markets, but rather a result of their fundamental, bottom-up analysis. Their top 10 long positions as of the end of June were Invesco, Mastercard, Visa, Unilever, DirecTV, Google, JPMorgan Chase, Walt Disney, Bank of America, and Qualcomm. To find out what Viking Global has been up to, check out their portfolio update.
The Fine Violins Fund — No, we are not joking. Florian Leonhard is trying to raise capital for a Fine Violins Fund. Leonhard is a well-known violin restorer from London and has so far raised 16 million euros for the fund. He hopes to raise 60 million euros in total and seeks to invest in pre-19th century violins, primarily from Italy. Leonhard is targeting a portfolio of 50 violins and he will loan the violins out at no charge to musicians. In the past, we've touched on other obscure investment funds, such as a fund that invests in wine, a few funds that are investing in lawsuits, and another fund that invests in guitars. The musical instrument theme seems to be picking up steam and we'll have to see if a Trombone fund pops up next. Let us know if there are any other interesting funds out there that we might be missing out on. These types of funds are the definition of the term 'alternative asset class'.
David Rosenberg (Gluskin Sheff & Associates) — In our last article on Rosenberg, we noted his fondness for corporate bonds and his thoughts that the stock market in general already had a bunch of good news priced in. Rosenberg has been re-iterating his call on corporate bonds, this time saying that "they are still pricing in a very bad economic and financial market scenario. Moreover, the yield spread is still wider than at any point during the 2001 or 1990 recessions of the 1998 LTCM/Russian debt default freeze-up. In fact, history suggests that the corporate default rate would have to rise well above 7% for corporate bonds to deliver negative returns with yields as high as they are at around 7.25%." Additionally, in media appearances over the past month or so, we wanted to point out that Rosenberg indeed sees inflation as a threat. However, he says that threat is many years away. He also thinks we easily go through past unemployment levels of 10.8% and that from March to May, the stock market has essentially seen a 40% 'dead cat bounce'.
Hugh Hendry (Eclectica Fund) — Hugh is focused on the deflation versus inflation debate lately and he notes that he has never seen such a 'crowded trade' with people so confident that inflation is in our future. He favors bonds over equities and he thinks that deflation is the bigger risk here. Hugh says that, "It's almost as if we have this flood, but people are buying fire insurance." He is actually in favor of government bonds and notes that this is due to his contrarian nature. He is not too focused on the equity markets currently but says he will 'prod them' around August or September to see what is really going on there. We've covered Hugh's thoughts on the blog in the past and you can view his past investor letter here.
Michael Steinhardt (WisdomTree Investments, ex-Steinhardt Partners) — Hedge fund legend Michael Steinhardt sat down and talked with Bloomberg back in early June. While this is obviously not as recent as some of the other developments we've pointed out, we are highlighting it due to the excellent content in the interview. He talks about returns in equity markets going forward, the current stock market, the role of hedge funds, and what people should be investing in these days. We highly recommend watching the interview and you can view the video embedded below. (RSS& Email readers will need to come to the blog to view the video). In the past, we've also covered Michael Steinhardt's view on treasuries, as he says they are foolish.
Thanks for checking out our updates and stay tuned for more daily coverage of hedge fund land. In the mean time, make sure to also check out our recommended reading lists and our hedge fund portfolio tracking series.
Initial Jobless Claims were 9k more than expected. But Continuing Claims were 103k less than expected. As we have regularly noted, Street spinmeisters ignore Continuing Claims when they are worse than expected but herald the rebound in the job market when they are better than expected.
We noted almost two months ago that Continuing Claims were set to decline appreciably but it would NOT be a sign of a jobs rebound. It would be Americans exhausting their unemployment benefits.
Over the past month numerous pundits and the media have reported on the increasing number of people that have exhausted benefits or were about to exhaust their unemployment benefits.
Bloomberg: The unemployment rate among people eligible for benefits, which tends to track the jobless rate, held at 4.7 percent in the week ended July 18. [This suggests the Continuing Claims decline is due to benefits exhaustion.]
The ‘Exhaustion Rate’ [of unemployment benefits] jumped to 49.77 in June, up .60 from May. This suggests that about 400k people (Continuing Claims) exhausted their unemployment benefits in June.
And we can reason that x-hundred thousand people exhausted their benefits as July progressed. This would account for virtually the entire decline from the Continuing Claims peak of 6.9m – regardless of seasonal adjusting chicanery.
Is this a reason to rally? Of course not!
So why the big rally on Thursday? We addressed this a few days ago when we opined that July performance gaming should commence late on Wednesday. And we regularly note that performance gaming is most intense on the penultimate day of the marking period, which was yesterday.
We also remarked that anxiety over Friday’s GDP report would induce traders to insure that markets received maximum gaming on Thursday.
It was amusing to watch the financial media, especially the TV networks, try to explain Thursday’s rally on fundamentals. Some tried to attribute the rally to Motorola’s smaller than expected loss!
Please make some notation on your calendars that highlights expiration week and the penultimate day of the month. These are the periods of maximum upward manipulations of stocks.
PS – Trading sources said Goldman bought 1000 SPUs after the open yesterday.
This article courtesy of Validea's GuruInvestor Blog:
The Financial Times recently interviewed several top strategists about the viability of “buy-and-hold” investing, and found that some are espousing more of a “buy-cheap-and-hold” approach.
Robert Arnott, founder of Research Affiliates: “Basically, we have an industry which has developed a cult of equities — a notion that if you buy stocks you will win, if you’re patient,” he says. “The reality is something very different, and that is that stocks do win over the very long run… but they win over spans measured in generations, not measured in years. And they win in fits and starts.”
Arnott says the only reliable route to long-term success is to buy shares that are cheap — not simply buy and index fund, the Times says.
That makes for something of a contrarian outlook: “It matters tremendously what you pay for an asset,” he said. “If you buy an asset when it’s cheap, you’ll likely to be pleased very soon. If you buy it when it’s expensive and popular and trendy and everyone loves it, you’re likely to have to wait a long time. The best way to invest is to do a contra trade against what has done best and is most popular, and into what is done worst and is most loathed. And it’s very hard to do.”
Paul Marsh, London Business School: Marsh thinks the equity risk premium is alive and well. “[Equities] are more rewarding in an expectational sense,” he said. “In other words, you are going to expect to get a higher return from equities. Probably, in our view, something like 3–3.5 per cent per annum more, but the reason you’re going to get that is because of risk.”
James Montier, GMO: He agrees with Arnott’s point about value, but says that investors need to be careful when assessing what “cheap” means. “One of the hallmarks of what we have seen in the last few years has been rather simplistic approaches to value — price/earnings ratios, price to book value,” he said. “We need to reconsider the role of balance sheets. Trying to think about value without the context of the balance sheet side of the equation, to my mind, is pretty meaningless.”
Right now, Montier said the market is attractive from a valuation perspective. “If you could buy a set of stocks today and bury them for five years, you would be laughing!” he said. “From my perspective, it is very simple — you buy when the market is cheap and the UK and European markets fall into that definition right now.”
According to the Economist.com, world trade, which collapsed last year, is not yet showing signs of recovery. Global stimulus efforts have only succeeded at steadying the value of trade. It is too early to tell where trade growth will come from:
Consumption has yet to recover:
But for a sustainable recovery in trade, global demand has to recover on its own steam. It is not clear where demand might come from. American consumers have lost much of their astonishing appetite for goods ranging from clothes to iPods to computers. American households are now saving 5% of their incomes, up from essentially nothing a year ago. Unemployment in America and elsewhere will continue to rise. The International Labour Organisation estimates that the global jobless tally will increase by between 21m and 50m this year.
More people out of work will mean a further fall in global demand. China's boom (GDP grew by 7.9% in the second quarter) is fuelled by government investment and by the stimulus, not a rise in private consumption. Nor are other consumers stepping in. Without a move towards more private consumption in countries such as Germany and China, the world is in for a prolonged period of slow growth and correspondingly sluggish trade.
July 28, 2009 — This is perhaps the most important thing I learned over my years working on Wall Street, including as a managing director at Goldman Sachs: Numbers lie. In a normal time, the fact that the numbers generated by the nation's biggest banks can't be trusted might not matter very much to the rest of us. But since the record bank profits we're now hearing about are essentially created by massive federal funding, perhaps it behooves us to dig beneath their data. On July 27, 10 congressmen, led by Rep. Alan Grayson (D-Fla.), did just that, writing a letter to Federal Reserve Chairman Ben Bernanke questioning the Fed's role in Goldman's rapid return to the top of Wall Street.
To understand this particular giveaway, look back to September 21, 2008. It was a frenzied night for Goldman Sachs and the only other remaining major investment bank, Morgan Stanley. Their three main competitors were gone. Bear Stearns had been taken over by JPMorgan Chase in March, 2008, Lehman Brothers had just declared bankruptcy due to lack of capital, and Bank of America had been pushed to acquire Merrill Lynch because the firm didn't have enough cash to survive on its own. Anxious to avoid a similar fate, hat in hand, they came to the Fed for access to desperately needed capital. All they had to do was become bank holding companies to get it. So, without so much as clearing the standard five-day antitrust waiting period for such a change, the Fed granted their wish.
Bank holding companies (which all the biggest financial firms now are) come under the regulatory purview of the Fed, the Office of the Comptroller of the Currency, and the FDIC. The capital they keep in reserve in case of emergency (like, say, toxic assets hemorrhaging on their books, or credit derivatives trades not being paid) is supposed to be greater than investment banks'. That's the trade-off. You get access to federal assistance, you pony up more capital, and you take less risk.
Goldman didn't like the last part. It makes most of its money speculating, or trading. So it asked the Fed to be exempt from what's called the Market Risk Rules that bank holding companies adhere to when computing their risk.
Keep in mind that by virtue of becoming a bank holding company, Goldman received a total of $63.6 billion in federal subsidies (that we know about—probably more if the Fed were ever forced to disclose its $7.6 trillion of borrower details). There was the $10 billion it got from TARP (which it repaid), the $12.9 billion it grabbed from AIG's spoils—even though Goldman had stated beforehand that it was protected from losses incurred by AIG's free fall, and if that were the case, would not have needed that money, let alone deserved it. Then, there's the $29.7 billion it's used so far out of the $35 billion it has available, backed by the FDIC's Temporary Liquidity Guarantee Program, and finally, there's the $11 billion available under the Fed's Commercial Paper Funding Facility.
Tactically, after bagging this bounty, Goldman asked the Fed, its new regulator, if it could use its old risk model to determine capital reserves. It wanted to use the model that its old investment bank regulator, the SEC, was fine with, called VaR, or value at risk. VaR pretty much allows banks to plug in their own parameters, and based on these, calculate how much risk they have, and thus how much capital they need to hold against it. VaR was the same lax SEC-approved risk model that investment banks such as Bear Stearns and Lehman Brothers used, with the aforementioned results.
On February 5, 2009, the Fed granted Goldman's request. This meant that not only was Goldman getting big federal subsidies, but also that it could keep betting big without saving aside as much capital as the other banks. Using VaR gave Goldman more leeway to, well, accentuate the positive. Yes, Goldman is a more risk-prone firm now than it was before it got to play with our money.
Which brings us back to these recent quarterly earnings. Goldman posted record profits of $3.4 billion on revenues of $13.76 billion. More than 78 precent of those revenues came from its most risky division, the one that requires the most capital to operate, Trading and Principal Investments. Of those, the Fixed Income, Currency and Commodities (FICC) area within that division brought in a record $6.8 billion in revenues. That's the division, by the way, that I worked in and that Lloyd Blankfein managed on his way up the Goldman totem pole. (It's also the division that would stand to gain the most if Waxman's cap-and-trade bill passes.)
Since Goldman is trading big with our money, why not also use it to pay big bonuses? It's not like there are any strings attached. For the first half of 2009, Goldman set aside $11.4 billion for compensation—34 percent more than for the first half of 2008, keeping them on target for a record bonus year—even though they still owe the federal government $53.6 billion, a sum more than four times that bonus amount.
But capital is still key. Capital is the lifeblood that pumps through a financial organization. You can't trade without it. As of June 26, 2009, Goldman's total capital was $254 billion, but that included $191 billion in unsecured long-term borrowing (meaning money it had borrowed without putting up any collateral for it). On November 28, 2008 (4Q 2008), it had only $168 billion in unsecured long-term borrowing. Thus, its long-term unsecured debt jumped 14 percent. Though Goldman doesn't disclose exactly where all this debt comes from, given the $23 billion jump, we can only wonder whether some of it has come from government subsidies or the Fed's secret facilities.
Not only that, by virtue of how it's set up, most of Goldman's unsecured funding comes in through its parent company, Group Inc. (Think the top point of an umbrella with each spoke being a subsidiary.) This parent parcels that money out to Goldman's subsidiaries, some of which are regulated, some of which aren't. This means that even though Goldman is supposed to be regulated by the Fed and other agencies, it has unregulated elements receiving unsecured funding—just like before the crisis, but with more of our money involved.
As for JPMorgan Chase, its profit of $2.7 billion was up 36 percent for the second quarter of 2009 vs. the same quarter last year, but a lot of that also came from trading revenues, meaning its speculative endeavors are driving its profits. Over on the consumer side, the firm had to set aside nearly $30 billion in reserve for credit-related losses. Riding on its trading laurels, when its consumer business is still in deterioration mode, is not a recipe for stability, no matter how much cheering JPMorgan Chase's results got from Wall Street. Betting is betting.
Let's pause for some reflection: The bank "stars" made most of their money on speculation, got nearly $124 billion in government guarantees and subsidies between them over the past year and a half, yet saw continued losses in the credit products most affected by consumer credit problems. Both are setting aside top-dollar bonuses. JPMorgan Chase CEO Jamie Dimon mentioned that he's concerned about attracting talent, a translation for wanting to pay investment bankers big bucks—because, after all, they suffered so terribly last year, and he needs to stay competitive with his friends at Goldman. This doesn't add up to a really healthy scenario. It's more like bad déjà vu.
As a recent New York Times article (and many other publications in different words) said, "For the most part, the worst of the financial crisis seems to be over." Sure, the crisis may appear to be over because the major banks of Wall Street are speculating well with government subsidies. But that's a dangerous conclusion. It doesn't mean that finance firms could thrive without the artificial, public-funded assistance. And it certainly doesn't mean that consumers are any better off than they were before the crisis emerged. It's just that they didn't get the same generous subsidies.
In an FT.com editorial, "I’ve been an optimist on China. But I’m starting to worry," Stephen Roach, Chairman, Morgan Stanley Asia, opines that he is starting to worry about China, and its bank-led financing stimulus, and wonders if China has not learned from this era's mistakes:
On the surface, China appears to be leading the world from recession to recovery. After coming to a virtual standstill in late 2008, at least as measured quarter-to-quarter, economic growth accelerated sharply in spring 2009.
A back-of-the envelope calculation suggests China may have accounted for as much as 2 percentage points of annualised growth in inflation-adjusted world output in the second quarter of 2009. With contractions moderating elsewhere, China's rebound may have been enough in and of itself to allow global gross domestic product to eke out a small positive gain for the first time since last summer.
That's the good news. The bad news is that China's recent growth spurt comes at a steep price. Fearful that its recent economic short– fall would deepen, Chinese policymakers have opted for quantity over quality in setting macro-strategy, the centrepiece of which is an enormous surge in infrastructure spending funded by a burst of bank lending.
Are we done with this recession? I missed this discussion of a few days ago, featuring an economist, Nouriel Roubini of New York University, an historian, Niall Fergusson of Harvard, and a billionaire, real estate investor Mort Zuckerman, debating what is to come. Rather late than never, as the clip makes for good viewing material.
Ever since Richard Russell (Dow Theory Letters) called a “Dow Theory bull signal” last Thursday, the debate has been rekindled as to whether the US stock markets are experiencing a primary (secular) bull market or a rally within a primary bear market, i.e. a secondary or so-called cyclical bull phase.
As mentioned previously, Russell views the March 9 low as a secondary low, saying: “We are now in a cyclical bull market as opposed to a secular or primary bull market. In effect, we’re in an extended bear market rally. The true bear market bottom lies somewhere ahead.”
Irrespective of terminology, 64% of the readers of the Investment Postcards blog see the current phase as one characterized by “irrational exuberance”, as cleaned from a quick poll a few days ago.
As always, there are various signals pointing in different directions. The 200-day moving average of the S&P 500 Index just three days ago turned up for the first time since January 2008, after having been breached upwards by the Index in early June. The 200-day line is generally seen as a key indicator distinguishing between a primary bull and market.
Also, when considering monthly data, three momentum-type oscillators (RSI, MACD and ROC) are reversing course for the first time since the sell signals of 2007 and now either indicate buy signals (or are getting close to a signal in the case of MACD).
Amid the uncertainty, the highly rated Ned Davis (Ned Davis Research) has just completed a research project in which he identified seven dimensions one could use to compare the March 9 low with secular lows of the past. His findings, as reported by Mark Hulbert on MarketWatch (hat tip: The Big Picture), were as follows.
(1) “Monetarily, money should be cheap and amply available”: Neutral. You might think that this factor should be rated as “bullish”, given how accommodative the Federal Reserve is currently. But Davis notes that banks are also significantly tightening their lending standards. Given the heavy debt load of both consumers and corporations suffer (see next criterion), banks are finding it “increasingly hard to find ‘credit-worthy’ borrowers”.
(2) “Economically, the debt structure should be deflated”. Bearish. This is the most negative of any of Davis’ seven dimensions, since the debt structure is by no means deflated. On the contrary, Davis calculates that the total credit-market debt load right now is nearly four times the size of gross domestic product, and that it takes more than $6 of new debt for our country to produce just $1 of GDP growth. That’s almost double the amount of debt required in the 1990s.
(3) “There should be a large pent-up demand for goods and services”. Bearish. Davis acknowledges that there has been improvement in this dimension from where things stood at the beginning of the bear market. But he is particularly worried by the ratio of total Personal Consumption Expenditure to Non-Residential Fixed Investment, which currently stands at a record high. At the secular bear market low in 1982, in contrast, this ratio was at a record low.
(4) “Fundamentally, stocks should be clearly cheap based upon time-tested, absolute valuation measures”. Neutral. Though the stock market “got undervalued at the March lows”, it never became “dirt cheap”.
(5) “Psychologically, investors should be deeply pessimistic, both in terms of the stock market and the economy.” Bullish. Davis says that past secular market lows were accompanied by extreme pessimism, and his indicators show a similar extreme existed earlier this year.
(6) “Technically, major investor groups should have below-average stock holdings and large cash reserves”. Neutral. While foreign investors have record-low stock holdings, according to Davis, household holdings — while low — are not nearly as low as they were at prior secular bear market lows. And institutional investors’ stock holdings “are only down to an average weighting historically”.
(7) “A fully oversold longer-term market condition in terms of normal trend growth and in terms of time”. Neutral. Davis believes that, though many of the excesses of the real-estate bubble have been worked off, some still exist. That’s particularly a problem, he says, given that the stock market bubble of the late 1990s never completely deflated either. “As we saw in Japan after 1990, a double bubble in stocks and real estate leaves it difficult to put ‘humpty dumpty’ together again.”
The research shows that only one of the seven criteria indicates that a secular bull is in place, whereas three are neutral and three are bearish. Although Davis believes the nascent rally has more upside potential, he concludes, like Richard Russell, that we are dealing with an extended rally (cyclical bull phase) within a secular bear market.
Looking at the next few weeks, I take a somewhat different perspective and am of the opinion that stock markets have run away from fundamental reality and that a pullback/consolidation looks likely. Taking a slightly longer-term view, I think we are in a (possibly lengthy) bottoming-out phase as far as slow-growth (OECD) countries are concerned, but already in new (potentially volatile) uptrends regarding high-growth emerging and commodities-related markets. Above all, I believe one should be careful of over-analyzing broad indices and at this stage of the cycle focus more strongly on selecting individual stocks with strong balance sheets and dividend-paying potential.
Bill Gross shares his latest take on markets, the economy and investing in his August 2009 investment outlook, "Investment Potions."
Here are a few excerpts:
On price vs. performance — getting the potion you paid for...
But my point is that those who sell investment "potions" must wrap their product with an extra large ribbon because history is not on their side. Common sense would dictate that the industry as a whole cannot outperform the market because they are the market, and long-term statistics revealing negative alpha for the class of active managers confirms it. Yet, what a price investors are willing to pay! A recent Barron's article pointed out that stock funds extract an average 99 basis points or virtually 1% a year in fees from an investor's portfolio. Bond managers are more benevolent (or less pretentious) at 75 basis points, and many money market funds manage to subsist at a miserly 38. Still, those 38 basis points are as deceptive as the pea that disappears beneath the shell of a street-side con game.
What investors need to do in this new normal market...
Investors looking for love potions or successful investment strategies in this new normal economy dominated by deleveraging and reregulation must focus on some very macro-oriented ingredients as opposed to typical news-dominated minutiae. The latest quarterly earnings report from Goldman Sachs may be an indicator that the financial sector is getting some color in its cheeks, but it doesn’t really let you know what needs to happen in order for the real economy to stabilize as well.
Read the whole newsletter here, or click on the image below.
For many investors, beating the market is the holy grail of investing. In fact, google the phrase "beating the market" and you get 14 million hits, more than seven times "passive investing". Yet, beating the market over the long-term is extremely difficult. By definition, the market includes all stock owners and hence, investors as a group earn the market return – for every winner there must be a loser. In confirmation, a litany of studies has found that fund managers in aggregate achieve market-like returns less fees and costs.
However, the potential to beat the market does exist. Over the past several decades, the painstaking examination of historic stock performance in numerous countries has pointed the way to outpacing the market. The findings indicate that value stocks — those low-priced in relation to earnings, dividends and book value — have higher expected returns than growth stocks — those high-priced in relation to earnings, dividends and book value. Over the long-run, value investors are the winners; they earn a premium to growth investors who are the losers.
This premium is evidenced in the following graph which illustrates the growth of $1.00 U.S. invested in large value stocks (in red) compared to large growth stocks (in green)
and to the S&P 500 (in blue) from August 1927 to May 2009. The investment in value stocks grew to $4,454 — more than four times the $868 of the growth stocks and nearly three times the $1,578 of the S&P 500 which, although growth-tilted, contains both value and growth stocks.
The historic outperformance of value stocks is not restricted to the U.S. market. In a study on the United Kingdom stock market from 1900–2000, Dimson, Marsh and Staunton (DMS) found that value stocks achieved an annual return of 11.5 percent, a 2.9 percent premium to the 8.6 percent return of growth stocks and a 1.4 percent premium to the market overall. They conclude that "over the long term, the historical record of value investing has been positive ... we now know that value stocks did better than growth stocks in the earlier as well as later parts of the twentieth century."
In fact, in a sweeping review of the research on the value premium in international markets, DMS found that value stocks outperformed growth stocks in thirteen out of fourteen countries including Canada. Italy was the only exception. The value premium is therefore a global phenomenon.
But this begs the question … why? Without a meaningful explanation, it is possible (although not probable given the length and breadth of its occurrence) that the value premium is a statistical fluke or worse, an historic anomaly now widely known, avidly pursued by knowledgeable investors and hence as prices are bid up, no longer available to future investors.
Economic theory offers us two explanations for the value premium. First, behavioural finance experts argue that cognitive biases hardwired into the human psyche often lead to the systematic mispricing of value stocks. David Dreman, a leading apostle of this view, believes that investors routinely overreact to recent news concerning a given stock. If it is good news, they tend to project a continuance of this favourable trend and bid up the price of the stock. When bad news confronts investors, an opposite reaction is triggered. Believing a negative trend to be firmly in place, investors either hold or sell and the stock price subsequently languishes. Yet, inevitably, some negative event occurs to cause the higher-priced growth stocks to tumble while conversely, enough positive surprises occur to send the value stocks spiralling upwards.
Investors appear to naively extrapolate recent earnings trends and only adjust their expectations slowly as recurrent surprises occur. One study by Fuller, Huberts and Levinson
found that while high-priced glamour stocks initially have much stronger earnings growth rates than low-priced value stocks, after five years or so this difference becomes negligible. As the market slowly adopts scaled-down earnings expectations as the new norm, value stocks enjoy superior returns as their price moves up at a relatively faster pace than that of the slackening growth stocks.
Another behavioral view holds that investors often confuse the characteristics of a good company (e.g. powerful brand, positive image, superior growth) with the elements of a good stock (i.e. a price that is low in relation to discounted future cash flows). One study found that the stocks of companies considered "excellent" according to the standards outlined in the best-seller In Search of Excellence materially underperformed the stocks of "unexcellent" companies!
The second explanation for the value premium comes from the efficient market school of thought. Under the efficient market hypothesis, the prices of stocks reflect all available information and hence, higher expected returns must rationally reflect higher risk. Originally, efficient market supporters did not believe there was sufficient evidence of a value premium. Then, in a 1992 landmark study covering the period 1963–1990, Professors Eugene Fama and Ken French found that value stocks outperformed growth stocks by a statistically significant margin. In 2000, a second study covering 1929–1963 contributed strong out-of-sample confirmation of the existence of a value premium.
According to Fama & French, however, value stocks are generally shares of companies that are in comparatively worse financial shape than companies whose shares are growth stocks. Investors demand a higher return for their investment in value stocks because of the greater risk the company will deteriorate financially or even go bankrupt. This is no different from bankers or bondholders who charge a higher rate of interest to companies in poor financial shape. The poor performance of value stocks during the Great Depression may be indicative of this risk.
Both the behavioral and efficient market explanations for the value premium are compelling. In academia, a vociferous debate exists as to which is the foremost cause of the value premium. From an investor's perspective, however, the critical aspect of both explanations is that each supports an enduring value premium that is unlikely to disappear. However, the exploitation of the value premium rests on one key characteristic – patience — since the premium is highly volatile and can disappear or even go negative for years.
This volatility is evidenced in the following graph which depicts the 36-month rolling average annual return of the Fama-French Large Value Premium (i.e. the return of large value stocks minus large growth stocks) for the U.S. market for the period August 1929 to May 2009. Although value stocks outperformed growth stocks by an average annualized 3.24 percent, there are intermittent periods where growth stocks outperformed, sometimes by a significant margin, and some of these periods can persist for a number of years, such as occurred through much of the 1930's and 1990's.
To the thoughtful investor, the volatility of the value premium is reassuring. A premium which showed up with any regularity would disappear almost immediately since it would be arbitraged away by traders. Instead, the value premium is available to patient, long-term investors who are interested in beating the market. Impatient investors will need to look elsewhere.
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I published the first three chapters of Richard Karn’s e-book, Credit and Credibility, in a post a few days ago. In this fascinating book, Karn, author of the Emerging Trends Report, gives his assessment of today’s financial turmoil and what he considers to be the five most pressing issues the global economy will face in the years ahead.
Chapter 4, “The report of my death was an exaggeration“, is now available and details Karn’s contention the world has had its fill of US “financial innovation”, and the only way the US economy will recover will be through its traditional strengths in agriculture, manufacturing, invention, and hard work.
This home-made clip features Hugh Hendry, founder of Eclectica Asset Management, walking around the streets of China (Central Business District, Guangzhou), earlier this year, March, and pointing out numerous empty buildings. Huge debt must have been incurred in erecting these buildings and without tenants there is no prospect of servicing the debt. What’s more, the workmanship also seems shoddy as a nearly-completed 13-story building in Shanghai collapsed last month.
Who will pick up the tab for creating all the overcapacity in the Chinese economy?
Hendry has perhaps looked at only a limited sample, but the video provides food for though in the greater economic scheme of things.
Ten years ago in his book The Return of Depression Economics, Paul Krugman* warned of the problems that would lead to the current crisis. Last year the professor and trenchant columnist was awarded the Nobel Prize for Economics. In the interview below with Daniel Huber, Credit Suisse’s Head of Publications, he talks of the reasons for the crisis, the lessons to be learned, and life as a winner of the Nobel Prize.
Daniel Huber: There are very few winners emerging from this crisis, but you seem to be one of them, because foreseeing this crisis a decade ago probably won you the Nobel Prize for Economics. Paul Krugman: Well, I think I’m enough of a humanitarian to wish things hadn’t turned out this way.
Would you consider yourself a pessimist or a realist?
In my view, it seems they’re the same thing right now. But over the course of my career I have become focused on crises, as they have always interested me. I look at the current situation through this lens too. In other words, I’m more interested in a potential problem than the possible upside. I think I’m a realist, but with a pessimistic streak in the things I focus on.
Why did nobody listen when you first warned of an emerging global economic crisis 10 years ago?
First of all, the housing bubble helped to make things look good for quite a while. People were very reluctant to question that bubble for a variety of reasons. Part of it was just a general tendency to assume that the market must be right, while some of it was an unwillingness to quarrel with what looked like a successful model. When people are making lots of money, to tell them that their success is based on unsound foundations is not a popular thing. When you get through a crisis, as we did in the late nineties, the natural inclination is to pat yourself on the back and persuade yourself that it was your own wisdom and foresight that got you through it. But privately you say to yourself: Oh my God, that was a close miss.
Looking back, where do you see the major cause of the current economic crisis?
For me this is quite clearly the steady expansion of debt, particularly in the United States. But this is actually a trend that dates back around 25 years. The indicator I use most often is household debt relative to income, which had been stable for a generation until the beginning of the 1980s, when it began rising inexorably and eventually reached 100% of GDP on the eve of the crisis. However, this alarming development was even welcomed by many people, who saw it as a confirmation of markets functioning properly. But in retrospect you have to say that people were taking on much more than they could handle. It is worth nonetheless recalling some of the excesses of recent years in particular: The limitless granting of credit, the excesses in Eastern Europe, and other developments that have now come home to roost with a vengeance.
Have we already passed the nadir of the crisis?
Short-term economic forecasting is a bit like staring into a crystal ball. But nonetheless it appears that the pace of decline has now slowed, and that the worst of the crisis is over. You no longer have to brace yourself for yet more horrible news when you turn on your computer in the morning. There are still negative surprises, of course, but there are also now positive ones. Overall, it still does look like things are getting worse, but at a slower pace than before. That’s an important step forward, but it doesn’t mean that we can now say we’re on the road to recovery. We have a long way to go before we reach that stage. The falling-off-the-cliff stage may have been stopped for now, but that doesn’t mean that normal times are just around the corner. The current economic situation can be compared to a patient who has been rushed to the emergency room in critical condition and only just saved. Sure, we may have succeeded in warding off the Great Depression version 2.0, but that doesn’t mean the patient is ready to leave the hospital. Quite the opposite: He’s still very sick and we have no idea when he will recover.
Are they any examples from the past that could point a way out of the current crisis for us?
The answer to that is rather depressing, as there are no good historical role models for recovering from this kind of slump. The only appropriate example is Japan, which experienced a lost decade of economic stagnation, and then had a quite convincing recovery from 2003 onward on the back of a strong surge in exports. However, this recovery was almost exclusively driven by a growing trade surplus thanks to exports to China and the United States. This time the whole world is caught in a slump, so unless we can find another planet to absorb our global trade surplus, that’s not a route out. Going back further, you have the historical precedent of the Great Depression, which was ended by a very large job creation program better known as World War II. Two observations can be made here with respect to the current crisis: First, that any program of any comparable size in the modern era would be impossible, except in the event of another major military conflict. Second, governments came into the last world war in relatively good economic shape in terms of their debt levels. So they had more leeway to pursue an expansive economic policy.
* Paul Krugman was born in New York on February 28, 1953. He is Professor of Economics at the University of Princeton, a highly respected columnist for the New York Times (on Mondays and Fridays), and the author of various works on economics. Last year he was awarded the Nobel Prize for Economics on the basis of his “analysis of trading structures and centers of economic activity,” according to the official wording of the Royal Swedish Academy of Sciences. In addition to his academic work, Krugman has continually been in demand as a consultant, including in 1982 on Ronald Reagan’s Council of Economic Advisers, as well as a decade later during the presidential candidacy of Bill Clinton. He is believed to have declined an appointment to the White House following Clinton’s victory, however.
Reporters of the Wall Street Journal have produced a three-part video series on the crisis on the Street, looking at “What happened”, “Why it happened” and “What happens next”.
This is an excellent overview of the financial malaise.
Chapter one:What happened
How the housing bubble inflated and burst, and why easy money led to the collapse of Wall Street’s biggest financial institutions.
Chapter 2: Why it happened
What was going through the minds of CEOs, corporate boards, fund managers and mortgage lenders as they created hard-to-understand derivatives Warren Buffett once called “weapons of financial mass destruction”.
Chapter 3: What happens next
This final chapter tells the story of the $700 billion bailout and looks at what’s ahead for the global economy.
There was a great deal of interest in my recent post “Dow Theory calls a bull market“. Readers had many questions on what brought about the Dow Theory bull signal, and specifically whetherRichard Russell, “Mr Dow Theory” and author of the Dow Theory Letters, was the last bear standing when he replaced the bear on the first page of his daily newsletter with a long-horned Texas bull.
Who better to ask for more background on his thinking than the R man himself? The paragraphs below are excerpts from his latest newsletter.
“For four frustrating months or ever since the March lows, this writer [Russell] has been in a state of perplexity, better known as confusion. Now, at last the picture has clarified. I would like my subscribers to study the following explanation carefully. I’m going to explain why the trend of the stock market has turned clearly bullish under Dow Theory. The fooler was that this pattern did not occur immediately off the March lows — but it took place part-way up the rally and four months after the March lows.
“Please, refer to the charts of the Industrial and Transportation Averages below.
(1) The Industrials (top chart) recorded a low in May at 8230.
(2) The Transports also established a low in May at 2971.
(3) Next, both Averages rallied to June peaks, the Dow to 8877 and the Transports to 3434.
(4) Both Averages then turned down, with the Dow breaking support and declining to 8087. But important — note that the Transports held support and did not confirm the Dow weakness.
(5) After the Transport non-confirmation, both Averages rallied, and both Averages broke out above their June peaks.
“This was a classic Dow Theory bull market signal! To review — we saw the two Averages decline with one Average (Industrial) breaking to a new low while the other Average (Transports) refused to confirm. Next, we witnessed a rally with both Averages breaking out to new highs.
“Note — Both Averages are now overbought, based on the level of the RSI.”
“The trend of the stock market is now bullish. But this is where interpretation is critical.
“Nowhere during 2008 or 2009 did we see anything typical or characteristic of a major bear market bottom. However, recently we witnessed a Dow Theory bull market signal. My interpretation? We are now in a cyclical bull market as opposed to a secular or primary bull market. In effect, we’re in an extended bear market rally. The true bear market bottom lies somewhere ahead.
“There is no way of knowing how high this bear market rally might carry. The question — is it worth playing this cyclical bull market? My answer is yes, but play it very conservatively and carefully.”
And that is the word according to a long-timer that has spent more than half a century following the ticks on the tape.
As an aside, I have been subscribing to the Dow Theory Letters for more than 26 years and highly recommend them for the stimulative nature of the content.
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Unfortunately the forex market has not escape the impact of global deleveraging and the failure of Lehman Brothers in 2008. Central banks from around the world have released their semi-annual foreign exchange surveys and based upon all of the reports, forex trading volume decreased significantly between April 2008 and April 2009. Investors large and small have reduced risk with carry trades unwound aggressively. The lack of participation may explain why the major currency pairs have been stuck in a range since the beginning of May. In New York for example, forex spot trading volume fell to the lowest level in more than 3 years.
London remains the most active forex trading center followed by NY and Tokyo. The EUR/USD is still the most actively traded currency pair by far.
Here are some stats (all of data is in billions of U.S. dollars):
– Britain is the world’s biggest FX trading hub with over a third of global turnover.
– Average daily turnover in forex products fell 20% since October 2008 to $1,356B, down 25% from April 2008
– Majority of decline was attributed to less activity in spot FX which fell 28%
– The most heavily traded currency pair was euro/dollar, which accounted for 32% of total turnover.
- Daily Foreign Exchange turnover down 21 percent compared to October 2008
Canada (link to report)
– Daily Foreign Exchange turnover down 11.3 percent, lowest volume since April 2007
Jeremy Grantham has released his latest newsletter, "Boring, Fair Price." Grantham's newsletter is a must read, given that he has made some of the most noteworthy and canny calls of the last decade. Grantham called the tech bust, accurately predicted 10 years out, the S&P 500 would revert to a fair value of 950 last fall, give or take a few days, and exited emerging markets last summer. In early March, his letter, presciently titled "Reinvesting when Terrified," was released the day the market turned around.
Here, Grantham writes how he has bitten hard on the energy transition apple, a theme we have covered a great deal throughout the year, and goes to some, but not too much length to explain that higher energy prices loom, and what their impact will be on agriculture and transportation, and how oil will eventually flow (only) to its first and best uses. This one will be near and dear to Canadian investors.
Click the button in the top right corner to full screen the viewer, and use the menu on the left hand topside to print. Or, you may download it here.
July 24, 2009 — David Rosenberg appeared on BNN for a long and worthwhile interview about the Canadian Economy.
Note: He believes the recession in Canada is ending, though he believes Mark Carney's outlook for 3% GDP growth is on the very optimistic side. He says the exogenous shock may be over, but to achieve 3%, there would have to be a sustainable turnaround in the US economy, and he can't see that yet, given its current state.
Stay on top of the latest headlines from the Wall Street Journal Online.
WSJ's What's News Early Edition, May 21, 2012by The Wall Street Journal 21 May 2012 at 9:18am
Some egg on the faces of the Nasdaq Stock Market....Chrysler is recalling some Jeep Wranglers...Apple and Samsung meet Monday
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Jeffrey Saut Daily Audio Comment Raymond James
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Jeff Saut’s Daily Audio Comment is recorded every weekday, except Wednesday, at 9 a.m. ET. It is made available to the public on this Web page at approximately 1 p.m. ET.
July 24, 2009 — David Rosenberg appeared on 
