Commentary for the week ending 8-20-10

This week saw a large gain and subsequent large loss in the markets, producing mixed results among the major indices. For the week, the Dow lost 0.9% and the S&P 500 fell 0.7%, while the Nasdaq was higher by 0.3%. Oil continued to fall and gold continued its rise, up 1.0% this week.

Source: MSN Moneycentral

Merger activity picked up this week, which is typically a positive sign for the stock market. On Tuesday, it was announced that BHP Billiton was looking to acquire the fertilizer maker, Potash, for a significant premium over their current stock price. The news drove Potash Corp’s stock price higher by nearly 35% and the market shot higher, as well.

What was interesting was the comments coming directly from those companies. BHP felt the stock was significantly undervalued, so it made the bid. Potash felt that the bid, even at that high level, was too low. That tells us that these companies think their current stock prices are too low, so for investors like us, it would be a good time to buy stocks in general. Remember, buy low.

Putting a damper on this enthusiasm, new economic reports continue to disappoint. Weekly initial unemployment numbers showed that 500,000 people filed claims last week. Manufacturing data looks extremely weak, too. Despite the good news coming from individual companies, the poor economy has the attention of investors. This is clearly evident in the market performance this week.

Actually, investors are more concerned about the policies coming out of Washington than anything else. Until a business-friendly agenda is adopted, businesses will not look to expand, job losses will rise, and investors will continue to pull money out of stocks.

Next Week

Economic and earnings data will be relatively light next week. We will get some housing info and GDP revisions, though, and both look weak.

The Treasury will again be issuing over $100 billion in bonds next week, and we will see if investors still have an appetite for U.S. debt. We believe the sale will go great, as always, since the Fed will step in and pick up any slack. Yes, one government agency will purchase these bonds from another government agency.

A story from Zerohedge this week shows that the Fed already owns $777 billion in US debt, making them the third largest debt-holder, behind China and Japan. Basically this is a giant scam and the long-term effects will be extremely damaging. Currently, there is little concern, since it will likely take several years to appear. At that point, though, we believe a severe inflation spike will be the result.

Where are we investing now?

Again, little change here. Like before, earnings continued to be decent and revenues are satisfactory. Companies with a large overseas presence (especially Asia) have shown especially solid growth. The overall economy is weak, though, and that is what investors are focusing on at this time.

Our big-picture outlook remains the same, as we are modestly optimistic through the end of the year. Low interest rates and the remaining stimulus will push the markets higher. The higher interest rates down the road, higher taxes, increasing government involvement in the private sector, and a still-high unemployment rate have us worried for the longer term.

In equities, we are focused on higher-quality and multi-national stocks, but some smaller stocks look promising, as well. 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. Unfortunately this has not been the case recently.

Commodities remain a longer term favorite, as inflation will also impact prices to the upside. Government policies will weaken the dollar over time, but it is currently benefiting from a flight to safety. Municipal bonds will play a more important 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 (excluding China) are areas we favor.