It was a rather quiet week for the stock market, however, bonds sold-off strongly. For the week, the Dow only rose 0.3%, the S&P fared much better at 1.3%, and the Nasdaq notched a new three-year high, rising 1.8% this week. Many commodities lost ground this week, with oil down 1.6% and gold off 1.5%.
Source: MSN Moneycentral
Dominating headlines this week was the agreement by president Obama to extend all tax rates for the next two years. In the chart above, you can see where the market opened much higher on Tuesday based on the news. Like many other people, we were not surprised that the rates were extended, but were surprised that President Obama was the one making the compromise in a welcomed shift to the middle.
As Tuesday progressed, though, it became more apparent that this was not a done deal as Congressional democrats balked at the idea of a compromise. In fact, the market sold off rather sharply during Obama’s speech on this subject, as you can see in the chart above.
It appeared that this new, bipartisan, centrist, Obama was, in fact, not. The speech was one of the most churlish, un-Presidential speeches we have ever seen, especially when republicans were referred to as hostage takers. Doubts on the passage of these tax rates arose and grew throughout the week. It looks like the bill will pass, but only after it gets loaded with pork.
Situations like this always make us cringe at the lack of economic knowledge among our leaders. Aside from the fact that the government has actually collected more money in taxes at lower rates, unemployment benefits do not have a stimulative effect on the economy. Money is taken from one group of people and given to another. This is not sitmulative, and actually has the opposite effect. We even heard that unemployment benefits are one of the best ways to stimulate the economy. Perhaps we should all be unemployed then? Imagine the stimulus effect it will have!
The other big story of the week was the bond market. It was one of the biggest weekly drops in bond prices in over a year (that means bond yields are increasing), so investors in bond funds experienced a loss this week. Yields have been so low for so long, that a reversal was bound to happen. The strength of the sell-off is what surprised many investors.
Several factors likely contributed to the drop in bond prices: the looming budget deficit (we reached the highest deficit on record last month), the tax rate debate and future austerity measures, inflation expectations, and Fed chief Ben Bernanke. Yes, Ben Bernanke.
Last Sunday’s episode of 60 Minutes featured an interview with the head of the Federal Reserve Bank. He indicated that the initial $600 billion in QE2 could just be a starting point for future stimulus and nothing was set in stone (even more likely is that this was just a figure pulled out of thin air). He also indicated that he was 100% confident that he has inflation under control. Many traders got a chuckle out of his hubris and are voicing their reservations over his policies. No one is 100% certain about anything, especially in the markets.
It looks like the 60 Minutes interview and those other reasons lured the bond vigilantes out of their shell to start pushing back against these Fed actions. In the quantitative easing process, his bond purchase program was supposed to keep prices high and, therefore, yields low. Since the announcement in early November, they have done just the opposite.
This week may have been a turning point in this long bond rally. Longer term bonds should be avoided (if they haven’t already) and lower duration bond funds should be considered. We can’t forget that the Fed has scheduled for hundreds of billions in new purchases in the coming weeks and months, which will try to drive prices higher (and therefore, yields back lower). So unlike Mr. Bernanke, we are not 100% certain on the future of bonds.
Next Week
After a light week last week, it will be pretty busy next week, both in economic data and corporate earnings. For economic data, we will receive both the PPI and CPI, retail sales, industrial production, housing data, and leading economic indicators.
Many companies will be releasing earnings next week, most notably: Best Buy, FedEx, General Mills, Oracle, and Research in Motion. They will give us a good idea on the strength of the economy and will have the potential to move the market. Friday will be more volatile than usual due to quadruple witching (where futures and options contracts expire), so we could get a lot of movement in the market next week.
The Fed will be meeting on Tuesday to set interest rates, which are expected to remain at these record lows. They will also be evaluating the QE2 program to this point. We are unsure if any changes will be made since it has been in effect for such a short time, but any changes will move the market.
Lastly, China will be important to watch early next week. Just this weekend it was reported that inflation in China was much higher than expected, rising over 5% in the last year (although just this week Wikileaks showed how manipulated Chinese figures actually were-but what country doesn’t manipulate this data?). If China takes measures to slow down their economy, the effects will be felt world-wide. If this happens, we will see a sell-off in the U.S. markets.
Where are we investing now?
No change here. With the markets continuing to go up and the Fed there to make sure that it does, it is hard to bet against it. Economic data has been rather poor, yet improving slightly. Corporate earnings have been relatively decent. However, growing government involvement in the private sector and new regulations have us worried. There has been a very strong rise the past couple months and the market is overdue for a sell-off. In normal times we would be betting against the market here. With the Fed ramping up its printing press, though, you just can’t be bearish (pessimistic) here.
We can’t forget about investment managers that have missed the rise and need to get some good returns for the year-end. This will push the markets higher as new money enters the market.
In order to avoid the market manipulation by the Fed, the high frequency traders, and hedge fund algorithms, we are increasingly turning to smaller individual stocks. The lack of correlation to these other factors is a nice change. By no means is this a major portion of our portfolios, but something we have been pleased with.
For the rest of our portfolio, in equities, we are focused on higher-quality and multi-national stocks. We continue to avoid banking and insurance sector stocks. TIPs are important as we expect inflation to increase in the future, while U.S. treasuries are a sector we are very bearish (pessimistic) on as yields will increase over time.
Commodities remain a longer term favorite, with metals, agriculture, and now energy showing solid gains that we believe will continue. Municipal bonds will play a larger role in our portfolios over the coming months and years as higher tax rates take effect. Finally, we are optimistic about international stocks, as emerging markets (with certain sectors in China) are areas we favor. This sector has had an incredible run this year, so caution is warranted as the odds of a sell-off are increasing.
Source: MSN MoneycentralDominating headlines this week was the agreement by president Obama to extend all tax rates for the next two years. In the chart above, you can see where the market opened much higher on Tuesday based on the news. Like many other people, we were not surprised that the rates were extended, but were surprised that President Obama was the one making the compromise in a welcomed shift to the middle.
As Tuesday progressed, though, it became more apparent that this was not a done deal as Congressional democrats balked at the idea of a compromise. In fact, the market sold off rather sharply during Obama’s speech on this subject, as you can see in the chart above.
It appeared that this new, bipartisan, centrist, Obama was, in fact, not. The speech was one of the most churlish, un-Presidential speeches we have ever seen, especially when republicans were referred to as hostage takers. Doubts on the passage of these tax rates arose and grew throughout the week. It looks like the bill will pass, but only after it gets loaded with pork.
Situations like this always make us cringe at the lack of economic knowledge among our leaders. Aside from the fact that the government has actually collected more money in taxes at lower rates, unemployment benefits do not have a stimulative effect on the economy. Money is taken from one group of people and given to another. This is not sitmulative, and actually has the opposite effect. We even heard that unemployment benefits are one of the best ways to stimulate the economy. Perhaps we should all be unemployed then? Imagine the stimulus effect it will have!
The other big story of the week was the bond market. It was one of the biggest weekly drops in bond prices in over a year (that means bond yields are increasing), so investors in bond funds experienced a loss this week. Yields have been so low for so long, that a reversal was bound to happen. The strength of the sell-off is what surprised many investors.
Several factors likely contributed to the drop in bond prices: the looming budget deficit (we reached the highest deficit on record last month), the tax rate debate and future austerity measures, inflation expectations, and Fed chief Ben Bernanke. Yes, Ben Bernanke.
Last Sunday’s episode of 60 Minutes featured an interview with the head of the Federal Reserve Bank. He indicated that the initial $600 billion in QE2 could just be a starting point for future stimulus and nothing was set in stone (even more likely is that this was just a figure pulled out of thin air). He also indicated that he was 100% confident that he has inflation under control. Many traders got a chuckle out of his hubris and are voicing their reservations over his policies. No one is 100% certain about anything, especially in the markets.
It looks like the 60 Minutes interview and those other reasons lured the bond vigilantes out of their shell to start pushing back against these Fed actions. In the quantitative easing process, his bond purchase program was supposed to keep prices high and, therefore, yields low. Since the announcement in early November, they have done just the opposite.
This week may have been a turning point in this long bond rally. Longer term bonds should be avoided (if they haven’t already) and lower duration bond funds should be considered. We can’t forget that the Fed has scheduled for hundreds of billions in new purchases in the coming weeks and months, which will try to drive prices higher (and therefore, yields back lower). So unlike Mr. Bernanke, we are not 100% certain on the future of bonds.
Next Week
After a light week last week, it will be pretty busy next week, both in economic data and corporate earnings. For economic data, we will receive both the PPI and CPI, retail sales, industrial production, housing data, and leading economic indicators.
Many companies will be releasing earnings next week, most notably: Best Buy, FedEx, General Mills, Oracle, and Research in Motion. They will give us a good idea on the strength of the economy and will have the potential to move the market. Friday will be more volatile than usual due to quadruple witching (where futures and options contracts expire), so we could get a lot of movement in the market next week.
The Fed will be meeting on Tuesday to set interest rates, which are expected to remain at these record lows. They will also be evaluating the QE2 program to this point. We are unsure if any changes will be made since it has been in effect for such a short time, but any changes will move the market.
Lastly, China will be important to watch early next week. Just this weekend it was reported that inflation in China was much higher than expected, rising over 5% in the last year (although just this week Wikileaks showed how manipulated Chinese figures actually were-but what country doesn’t manipulate this data?). If China takes measures to slow down their economy, the effects will be felt world-wide. If this happens, we will see a sell-off in the U.S. markets.
Where are we investing now?
No change here. With the markets continuing to go up and the Fed there to make sure that it does, it is hard to bet against it. Economic data has been rather poor, yet improving slightly. Corporate earnings have been relatively decent. However, growing government involvement in the private sector and new regulations have us worried. There has been a very strong rise the past couple months and the market is overdue for a sell-off. In normal times we would be betting against the market here. With the Fed ramping up its printing press, though, you just can’t be bearish (pessimistic) here.
We can’t forget about investment managers that have missed the rise and need to get some good returns for the year-end. This will push the markets higher as new money enters the market.
In order to avoid the market manipulation by the Fed, the high frequency traders, and hedge fund algorithms, we are increasingly turning to smaller individual stocks. The lack of correlation to these other factors is a nice change. By no means is this a major portion of our portfolios, but something we have been pleased with.
For the rest of our portfolio, in equities, we are focused on higher-quality and multi-national stocks. We continue to avoid banking and insurance sector stocks. TIPs are important as we expect inflation to increase in the future, while U.S. treasuries are a sector we are very bearish (pessimistic) on as yields will increase over time.
Commodities remain a longer term favorite, with metals, agriculture, and now energy showing solid gains that we believe will continue. Municipal bonds will play a larger role in our portfolios over the coming months and years as higher tax rates take effect. Finally, we are optimistic about international stocks, as emerging markets (with certain sectors in China) are areas we favor. This sector has had an incredible run this year, so caution is warranted as the odds of a sell-off are increasing.
