TAG | Economics
13
How the Euro Crisis is Good for Your Portfolio
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How the Euro Crisis is Good for Your Portfolio
by Alexander Green, Investment U Chief Investment Strategist
Monday, December 12, 2011: Issue #1662
I’ve been a table-pounding bear on the euro for almost two years now. With each passing day, that currency looks more and more like a failed government experiment.
Painful, structural changes are needed – and the profligate Greeks need to be booted out. And, even then, the euro is likely to continue its decline against other major currencies.
But the euro, perhaps in altered form, will survive. So don’t believe the doomsters who say we’re headed for another world financial calamity like we faced in 2008.
Too many investors are nervously sitting on the sidelines, missing great opportunities in today’s market. If you understand how the euro crisis is a good thing, you can start making serious money again. Here’s why…
Aside from being Chief Investment Strategist for Investment U, I also oversee the investment decisions of The Oxford Club – an exclusive community of like-minded investors. As I write, we currently have 21 open positions in our Oxford Trading Portfolio. Our average gain on open positions is 36 percent, even though our average holding period is 197 days.
During this volatile year, we also stopped out of 17 other positions. Five of these were sold at a loss. The other 12 were profitable. Our average total return on these 17 trades was 21 percent. (By comparison, the S&P 500 is up two percent for the year.)
One of the reasons we’ve prospered is that we ignored all the macro-economic squawking from week to week and focused instead on finding great businesses selling at compelling prices.
“That all sounds well and good,” an investor told me the other day. “But what are you going to do when the Eurozone collapses?”
Despite all the gloomy forecasts, that won’t happen.
One of the main reasons is Germany. Officials and citizens there aren’t panicking about the problems in the Eurozone because, in some important ways, they see it as an opportunity.
Yes, problems there are serious. Greece is a complete basket case. Italy, Spain, Portugal and Ireland have too much debt, too. But their problems are more manageable.
Germany knows this – and understands what’s at stake in the Eurozone. Germany is a world-class exporter. Yet because it shares a currency with weaker nations, its currency is cheaper and so, too, are its exports. The currency union has been like rocket fuel for Germany’s exports.
However, Germany doesn’t want to be put on the hook for bailing out smaller, spendthrift nations. And the country is particularly sensitive to criticism that it’s attempting to dominate Europe politically or economically.
So Germany is hanging back, treating the crisis much as the Republicans treated the debt-ceiling impasse earlier this year. The Germans see this as an opportunity to secure important policy concessions rather than an emergency to be solved at all costs.
Who can blame them? German unemployment is seven percent and falling. Deficits there are coming down. Germans don’t want to dictate to other union members. They want them to take responsibility and make serious reforms to their unemployment insurance system, their healthcare sector and other pieces of the welfare state.
Politically, these measures will be tough to swallow. That’s why we seen so much leadership turnover in Europe lately. But the time for half-measures is over. Even Sarkozy had told French citizens the uncomfortable truth: The state is simply unable to provide existing generous benefits much longer.
Once Europeans understand this in their bones, the necessary reforms can be made. And then, who knows, Americans may get serious about entitlement reform, too.
So don’t expect a financial catastrophe in Europe. These problems are serious and will take time to work out. But the currency crisis is a much-needed catalyst for important changes.
Recognize that and you can return to world equity markets with confidence – and start meeting your investment goals again.
Good Investing,
Alexander Green
25
The Best Trade You Can Make in November
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The Best Trade You Can Make in November
by Alexander Green, Investment U Chief Investment Strategist
Thursday, November 24, 2011: Issue #1650
In December 1996, I sold some shares of Best Buy (NYSE: BBY) to offset gains elsewhere in my portfolio.
I still consider it the most boneheaded investment move I ever made. A year later, the stock was up more than five-fold. A few years further on, it was up more than thirty-fold.
The worst part is that I didn’t dislike the business prospects for Best Buy at the time. Quite the contrary, in fact. I sold it only because I had substantial capital gains and was cleaning out my portfolio to offset them.
I don’t always do that any more. And you shouldn’t necessarily, either. Despite what your tax advisor may tell you, you should never sell an investment for tax reasons alone. Nor do you have to.
Here’s why…
The IRS allows you to offset realized gains with realized losses each calendar year. If you do, however, you must wait at least 30 days before buying the same shares back. (Otherwise you run afoul of the wash-sale rule.)
Offsetting gains at the end of the year is often a sensible move. Most stocks aren’t appreciably higher 30 days later. And if you still like them, you can buy them back then.
There is a risk, however, and it’s called the January effect. The first month of the year is traditionally a strong one for the market. A lot of pension and IRA money gets invested early each year. Plus, there’s often a rebound from the tax-loss selling that goes on each December.
If a stock you own soars in January, there’s a natural reluctance to buy it back. The temptation is to wait until it comes back down. But what if it doesn’t? You’ve taken a limited loss but sold an investment with unlimited upside potential.
There’s a way around this problem, however. And you can take advantage of it – but only if you’re willing to move this week.
In late November each year, I look at my entire portfolio for any companies that are trading below my entry price but NOT near my trailing stops. If I still like a stock, I often make the decision to double down on it for 30 days.
Why? Because I can sell the original shares at the end of December for a tax loss. And if the stock rallies in January, it’s not a problem. After all, thanks to my purchase in November, I own the same number of shares as I bought originally.
What if you don’t have the cash to double down on your position? Use margin. Again, I’m recommending this only for a 30-day period. Your margin interest charge will be minimal.
The risk, of course, is that your shares will be worth less in late December and you will have a paper loss on the second purchase.
However, just the opposite may happen. Remember, the January effect is often preceded by the Santa Claus rally, the tendency of the stock market to do well in the second half of December. As a result, you could end up with a smaller loss in your original shares and a paper gain on your second purchase.
(The Santa Claus rally is never certain, of course, and another reason why you should only add to those companies whose earnings prospects remain strong.)
Bear in mind, when selling for tax purposes, the IRS requires that you buy those identical shares AT LEAST 30 days before you sell the others. So if you want to use this strategy for 2011, you must act this week.
If we have the traditional mid-December to early February rally, you’ll thank me. And then perhaps again on April 15.
Good investing,
Alexander Green
by Alexander Green, Investment U’s Chief Investment Strategist
Monday, April 25, 2011: Issue #1498
“Buy Japan now?” a friend asked recently. “Are you nuts?”
His sentiment is understandable. Aside from the unfathomable human suffering in Japan over the past several weeks, there have been enormous economic setbacks as well.
Sendai, the biggest port in northeast Japan and a major exporter of auto parts, machinery and marine products, was virtually wiped off the map. Half a dozen oil refineries in the same area, representing a third of the nation’s entire refining capacity, are shut down. Roads, bridges, railways and other major infrastructure have been destroyed. And the Japanese economy – already limping along for most of the past two decades – is also beset with the world’s highest public debt relative to GDP (225%) and a rapidly aging population.
Why would anyone want to invest here?
In my experience, those words accompany virtually every great buying situation. But it takes more than just a lack of interest to create a true contrarian opportunity. Both sentiment and valuations have to be at an extreme.
And that’s certainly the case here…
Japanese Stock Prices Are Less Than Book Value
The average Japanese stock is selling for less than 14 times its annual profit. That’s cheap, and Japanese accounting methods also tend to understate earnings. An even better indicator is found in book values (assets minus liabilities). Stocks around the world (including the United States, Europe and China) currently sell for approximately two times book value. In Japan, they sell for less than book value. By this measure, U.S. stocks are twice as expensive as Japanese stocks.
What will turn Japan’s market around? For starters, the enormous rebuilding that will be required over the next few years. Devastated areas account for seven percent of Japan’s economy and a substantial portion of its land mass. A lot of businesses will receive substantial contracts as a result of the catastrophe.
History shows that Japan is adept at rebounding from catastrophe. (Take World War II or the 1995 Kobe earthquake as examples.) And when Tokyo enters a bull market, it can look like the Silver Spurs Rodeo. For example, if you invested $10,000 in the S&P 500 in 1970, two decades later it would have been worth more than $76,000. Not bad.
But the same amount invested in the Nikkei 225 would have turned into more than $600,000.
How to Buy into Japan’s Advanced Economic Power
Although China’s economy has now eclipsed Japan’s in size, Japan is still Asia’s most advanced economic power, with world-leading technologies and an unmatched infrastructure.
The cost of doing business in Japan has decreased dramatically in recent years, as well. Land prices, office rents and labor costs have come way down. So have taxes and tariffs. And the government has instituted serious banking reforms.
The nation also sits on a mountain of personal financial assets – more than $100,000 for every man, woman and child. After a decade of negative stock market returns, most of this capital is sitting in low-yielding bank deposits. Even a small fraction of these assets returning to the equity market could give it a serious jolt.
So how do you play a rebound? Consider a Japan ETF or some of the country’s unloved blue chips like Toyota (NYSE: TM), Mitsubishi Financial (NYSE: MTU), Canon (NYSE: CAJ), or NTT DOCOMO (NYSE: DCM).
The healing there will take time, of course. But just as the U.S. stock market rebounded from the recent financial crisis quicker than almost anyone expected, things in Japan may look dramatically different in six to 12 months from now.
Of course, very few people believe that. But, in one sense, that’s a good thing. Negative sentiment and low valuations are the defining characteristics of contrarian investing.
Bottom fishermen, cast your nets.
Good investing,
Alexander Green
Why the Sun is Setting on Gold
by Alexander Green, Investment U’s Chief Investment Strategist
Tuesday, February 22, 2011
Six weeks ago, I wrote a column advising short-term speculators to sell their gold.
Since that time, the metal has drifted lower. But the brunt of the decline is likely still ahead.
As I’ve said before, gold is difficult to value under the best of circumstances. It pays no interest, has no earnings, provides no rent. What gold will be worth next week or next month is whatever buyers will pay for it at the time. And that, in technical terms, is a guess.
I’ve heard gold bugs make their case. Some are based on emotion. Others are based on political fantasies about the Federal Reserve turning us into the Weimar Republic circa 1923, or modern-day Zimbabwe.
What I rarely hear them talking about is pedestrian stuff like supply and demand…
When Buyers Become Sellers, Look Out Below
Billions of dollars have been spent building gold mines over the last few years, so it’s not inconceivable that supply could begin to outstrip demand.
Of course, demand itself is fickle.
In 2005, investors made up just 16% of total demand for gold. Today, it’s more than 40%. Gold ETFs have taken in more than $50 billion since 2004.
What will happen to the price of gold when these buyers become net sellers, as many will when it becomes clear that the party is over? Paulson & Co., a hedge fund, now holds more than $4 billion in the SPDR Gold Trust ETF (NYSE: GLD). I wouldn’t want to be standing in front of his eventual liquidation. And, like most hedge fund managers, Paulson is not a “buy-and-hold” investor.
Some bulls justify buying gold at these levels because it briefly traded at more than $800 an ounce in 1980. And they say if you simply adjust for inflation, gold should be trading at $2,300 today.
That’s weak. Here’s why…
Don’t Be Blinded by the Gold Light
Gold badly underperformed inflation – not to mention stocks, bonds, real estate and burying your money in a hole – for 20 years after 1980. Why is it suddenly destined to catch up now?
Or look at it another way: On August 25, 1999, gold traded at $252.55 an ounce. Adjusting for inflation, gold should be trading at $339.65 an ounce today.
Granted, my starting point is the 30-year-low. But then, a calculation based on the 1980 high is just as arbitrary.
It’s understandable that gold spiked during the 2007-2009 financial crisis. Gold is an excellent barometer of investor anxiety. But that crisis is over. The recession – defined as two straight quarters of negative GDP growth – ended in June 2009. And inflation is running at just 1.2%.
So why is gold still in the stratosphere?
What to Do With Your Gold Holdings Now
Yes, I know the price of food, gasoline, health care and college tuition are all going up much faster than the official inflation rate. But let’s also concede that the price of cars, computers, appliances, electronics, furniture and, not insignificantly, homes – the biggest asset most consumers will ever buy – is coming decidedly down.
Experienced investors know that after an asset has made a huge run, the little guy – forever a day late and a dollar short – starts clamoring for a piece of the action. At that point, the bloom is off the rose. It’s too late to buy and generally high time to sell.
Take my old neighbors, Sam and Brian. They lost their shirts in Internet stocks in 2000-2002. Now they’re stuck with huge negative equity in Florida condos that they bought pre-construction – a “no-brainer” in 2005.
So what are they doing with their rapidly vanishing capital today?
You guessed it. Now that gold is up five-fold in the last 10 years and three-fold in the last five years, they’re convinced that a big move lies just ahead.
Maybe. But what’s certain is that one lies just behind.
My advice? Keep your gold bullion and blue-chip mining stocks that you own as an inflation-hedge or part of your long-term asset allocation.
But if you’re counting on gold to dash higher, note that the last time investors bought into a gold mania it took more than 25 years for them to break even – not counting inflation.
As Mark Twain famously said, “History may not repeat itself. But it rhymes.”
Good investing,
Alexander Green
28
Here's a Hot "TIP" You Shouldn't Buy
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Here’s a Hot “TIP” You Shouldn’t Buy
by Alexander Green, Investment U’s Chief Investment Strategist
Thursday, October 28, 2010: Issue #1376
Six months ago, I made a strong case for buying inflation-adjusted Treasuries, better known as TIPS.
I suggested that Washington’s massive fiscal stimulus, plus record-low interest rates, might ultimately prove inflationary.
So far, they haven’t. But investors clearly feel that inflation – the thief that robs us all – is just around the corner.
Look at the traditional inflation harbinger – gold. The metal has hit one new high after another this year.
TIPS (Treasury Inflation-Protected Securities) have soared, too. In fact, they’ve rallied so far that for the first time ever, five-year TIPS were sold at auction earlier this week with a yield of minus 0.5%.
That’s right… they guarantee a negative yield. Yet investors are gobbling them up anyway.
What’s going on here? Let’s start at the beginning…
The Inside Track on TIPS
Here are some Treasury Inflation-Protected Securities (TIPS) characteristics…
- They pay interest every six months, just like a regular Treasury bond.
- Unlike traditional bonds, your principal increases each year by the amount of inflation, as measured by the consumer price index (CPI). The semi-annual interest payments also increase by the amount of inflation.
- The interest you receive is exempt from state and local income taxes (but not federal).
- TIPS are less volatile than traditional bonds.
- TIPS are excellent diversifiers.
But can TIPS possibly be worth holding, even when they sport a negative yield?
Perhaps for long-term investors (as I’ll explain in a moment). But not for short-term traders. Here’s why…
Think Twice Before Buying TIPS for the Short-Term
Current yields of less than zero on TIPS are due to rock-bottom Treasury rates and fears of higher inflation just over the horizon.
It’s simple math. Five-year Treasuries are yielding a paltry 1.2%. Given the weak dollar and Washington’s addiction to spending, traders and investors are betting that inflation will run at 1.7% or more.
That makes five-year TIPS just as attractive as five-year bonds, since 1.7% minus the 0.5% negative yield equals 1.2%.
Inflation or Disinflation?
Of course, the financial markets are a bit schizophrenic right now. Inflation protectors like gold and TIPS have rallied. But so have inflation-sensitive investments like investment grade bonds. Investors can’t seem to decide whether we’re in for inflation or disinflation.
And of course, nobody knows for sure. But TIPS have rallied by 10% over the last year, with no uptick in inflation. If the folks betting on disinflation – or its more severe cousin, outright deflation – are right, these bonds could undergo a serious price adjustment, giving investors a haircut in the process.
TIPS investors aren’t just guaranteed negative yields right now. They may also experience a negative total return for several years in a row.
So why shouldn’t long-term investors sell them outright?
How to Tackle TIPS if You’re a Long-Term or Short-Term Investor
Some would be prudent to do just that. The only catch is this: What if the inflation hawks are right?
If they are, TIPS will give a higher future return than traditional fixed-income investments – and with the highest degree of safety. (They are, after all, obligations of the U.S. government.)
True, there are other inflation alternatives. But gold has already quintupled over the last decade. And that other famous inflation hedge – your home – is likely to remain mired in quicksand for years to come, thanks to the overhang of foreclosures and other unsold properties.
The bottom line is this:
- Long-term investors – those with a time horizon of five years or more – should hold onto their TIPS.
- But traders and other investors with a shorter time horizon should probably give them a miss.
History shows that once an asset class turns hot – whether it’s stocks, bonds, gold, real estate or TIPS – it rarely delivers the kind of returns it did when it was heating up.
This time could be different, of course. But that’s how investors always rationalize their investments at the top.
The oldest advice is still the best: Caveat emptor.
Alexander Green
18
The Four Investment Risks You Can't Avoid
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The Four Investment Risks You Can’t Avoid
by Alexander Green, Chief Investment Strategist
Monday, October 18, 2010: Issue #1368
We’re making money hand over fist – locking in significant double- and triple-digit gains – in our Oxford Trading Portfolio, Seven Deadly Sins Portfolio, Oxford All-Star Portfolio, Momentum Portfolio, Insider Portfolio and our New Frontier Portfolio.
Yet I still talk to investors every day who tell me they’re completely out of the market. When I ask them why, they always give me some variation of the same answer: They just can’t take the risk.
These investors need to wake up and smell the java. There has never been – and never will be – a time when stocks aren’t volatile and the economic outlook isn’t uncertain.
Yet nothing gives a better return over time than great stocks…
Four Wealth-Building Barriers
What these investors may not realize is that by sitting out the stock market rally, they’re taking four significantly greater risks:
- Purchasing Power Risk
Low inflation isn’t a problem now, but it’s like having a slow leak in your swimming pool. At some point, you’re likely to jump off the diving board and hit concrete.
Even low inflation is slowly draining your purchasing power. You may feel safe sitting in cash, but you’re virtually guaranteeing that inflation will outpace your asset growth. And thanks to our gargantuan budget deficit, we may face sharply higher inflation in the years ahead.
- Interest Rate Risk
Ben Bernanke and Co. took short-term interest rates to near zero. The average money market account now pays a microscopic .05%. (It will take your money more than 1,400 years to double at that rate.)
And if the Fed decides to raise rates by even one point, it will knock 3% off the value of your Treasury bonds, essentially erasing a year’s worth of returns. Bonds are not a great bet right now.
- Timing Risk
Every market timer would like to believe that he or she will be in the market for the rallies and out for the corrections. Never did the phrase “more easily said than done” ring truer.
I still talk to investors every week who are waiting for the market’s “final capitulation.” Final capitulation? The Dow is up 70% from the lows of last March. This is a bull market by any definition. Yes, it will end at some point. But if you didn’t catch the lows last year, what are the odds you’ll pick the top of this bull, which may last for years?
- Shortfall Risk
This is your single greatest investment risk – the possibility that you won’t have enough money to reach your financial goals or support yourself the way you’d like in retirement.
Talk to elderly investors who are counting nickels and the story is virtually always the same. They didn’t save enough and (depending on personality type) they were either too conservative or too aggressive with their money. It’s a sad thing when your golden years are tin-plated and it’s way too late for a do-over.
So what’s the solution?
Think Ahead and Grow Rich
In short, don’t let the perma-bears and the gloom-and-doomers talk you out of achieving your financial goals.
Yes, you should own some gold, some bonds, even some real estate. But if you don’t own stocks, where are you going to generate the returns you need to live the lifestyle you want?
No one can say where the stock market will be 15 days or 15 weeks from now. But think about your retirement. Fifteen years from now, the market will almost certainly be a lot higher.
So stop fretting over the short-term outlook and start putting money to work in great stocks to meet your long-term goals. Financial freedom is about managing investment risk… not avoiding it.
Good investing,
Alexander Green
23
How The Oxford Club Beat The Financial Crisis… And What We See Now
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How The Oxford Club Beat The Financial Crisis… And What We See Now
by Alexander Green, Investment U’s Chief Investment Strategist
Thursday, September 23, 2010: Issue #1351
Investment forecasting is an inherently humbling business.
No matter how many good calls you make, there is always the possibility of getting it wrong the next time. Unexpected events happen. Markets turn on a dime. And an investment advisor often learns – in the cold reality of hindsight – that just when he felt like sticking his chest out he should have been covering his privates instead.
Yet there is a time for celebration too. And there is no denying that The Oxford Club and its members just came through the biggest financial crisis and the nastiest economic downturn in modern history with flying colors.
Perhaps the most surprising part is this: We can’t claim we foresaw how it would all unfold. If we had, we might have told readers to plow their money into bonds before the stock market meltdown and then switch back into stocks at the very bottom.
Unfortunately, there’s only one type of investor who does this consistently. You may have heard of them. They’re called liars.
So how did we succeed when tens of millions of investors stumbled?
Guesswork, Forecasting, Market Timing: Three Things You DON’T Need to Invest Successfully
Our investment system is built on the fundamental premise that to a large extent, the future is unknowable. Seasoned investors agree but then insist, “But of course you have to guess.”
No, you don’t.
We’ve taken the guesswork out of investing. For long-term investors, we use a proprietary asset allocation model, rebalance annually and keep taxes and investment costs to the absolute minimum.
No economic forecasting or market timing required.
Our short-term traders focus on buying great companies that are likely to beat consensus earnings estimates by a wide margin and run trailing stops behind them to protect both their principal and their profits.
How has this worked? You be the judge…
How We Notched a 28% Average Return Amid the Chaos of 2008
2008 was one of the worst years on record for the S&P 500. It posted a return of -38.5%. That caused us to stop out of 45 stocks in our Oxford Trading Portfolio. Here is the entire list. Nothing has been omitted. Although we took some lumps like everyone else that year, the average return on our closed positions was 28.6%.
With the financial crisis unfolding, we set aside our market neutral position. Why? Because you shouldn’t be afraid to aggressively buy or sell when market sentiment and valuations reach extremes. (That means either extreme optimism and sky-high valuations or extreme pessimism and rock-bottom valuations.)
Going into 2009, most investors were scared out of their pants. Stock market players were cashing in their chips. Bank depositors were running down to their local branch to withdraw their savings. The world seemed on the edge of financial collapse. And so did the markets.
Yet the headline on our annual forecast issue was: “Our No. 1 Prediction for 2009: Economic Disaster AND a Soaring Stock Market.”
Bear in mind, almost no one was saying this at the time. But that’s exactly what investors got. While the economic slump only deepened in 2009, the S&P 500 came roaring back – and our recommended stocks outperformed it handily.
If the Market Gives You Lemons… Don’t Get Sour, Just Suck Up Profits
This year we’ve maintained our optimistic stance on equities and have been rewarded with even more big profits.
While the S&P is only up 4% year-to-date, we’ve already realized gains of 229% on La-Z-Boy (NYSE: LZB), 103% on Tiffany & Co. (NYSE: TIF) and 54.7% on Emergency Medical Services (NYSE: EMS).
We’re also sitting on current gains of 321% on the Vanguard Emerging Markets Index (VEIEX), 299% on the Templeton Dragon Fund (NYSE: TDF) and 94% in Discovery Communications (Nasdaq: DISCA).
Yet over the past year and a half, at investment conferences around the world, I’ve heard almost nothing but talk of stagnation, double-dip recession and gallons of gloom and doom.
This week the National Bureau of Economic Research reported that the longest and most severe recession since the Great Depression is over. That doesn’t mean we’re out of the woods yet. We’re likely to have high unemployment and low economic growth for many months – and perhaps the next three years.
But we’re fully prepared for that, too. In fact, we’re already capitalizing on it. Perhaps that’s why the independent Hulbert Financial Digest ranks our Oxford Club Communiqué among the top investment letters in the nation for 10-year performance.
In short, we’ve taken the lemons the market handed out during the financial crisis and turned it into a Tom Collins with a fruit slice and a maraschino cherry.
If this sounds a little brash, I apologize. But we’ve enjoyed enormous success during the toughest economic period in more than 80 years.
And as Dizzy Dean famously said: “It ain’t bragging if you can do it.”
And if you want to do it, too, consider joining The Oxford Club and we’ll show you exactly how in our five model portfolios.
Good investing,
Alexander Green
7
Investing in Stocks: Ignore the Negatives, Embrace Your Contrarian Side and Buy Stocks Now
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Investing in Stocks: Ignore the Negatives, Embrace Your Contrarian Side and Buy Stocks Now
by Alexander Green, Investment U’s Chief Investment Strategist
Tuesday, September 7, 2010: Issue #1338
When the Dow bottomed near 6,500 in the thick of last year’s financial crisis, few investors thought it was a good time to buy stocks. Sentiment was overwhelmingly bearish.
So when the market bounced higher, the consensus was that it was a “dead-cat bounce,” a bear-market trap. But it wasn’t.
As the rally gained speed, investors began to think that perhaps the worst of the financial crisis was indeed over and they would buy some stocks on a retracement or when the market tested its lows.
But that didn’t happen either. In fact, the Dow didn’t tire until it crossed 11,000 in May. By then, the market was up over 70% in just 14 months.
That was pretty depressing to investors sitting on the sidelines, earning microscopic yields on their cash. Many were so busy licking their wounds from the sell-off that they made little or no new investments during the rebound.
So what should you do now?
Investing in Stocks: Follow the Earnings
Since the market high four months ago, the Dow has lurched back and forth. But the primary direction has been down. No surprise here. After a rally of this magnitude, a correction is not unusual.
But don’t be like last year’s investors and miss the next rally. Now is a good time to put money to work in high-quality stocks.
In fact, the market is almost as cheap today as it was during the depths of despair in March 2009.
How is that possible when the Dow is more than 3,500 points higher?
Because a stock or index price doesn’t tell you anything about valuation. What matters are earnings and the multiple that the market puts on them.
Three Reasons Why You Should Buy Stocks Today
When measured by profits, the market is almost as cheap today – at 14.9 times trailing earnings and 12.2 times prospective earnings – as it was in March last year.
That’s because earnings are up. Way up. Second quarter profits at U.S. companies hit an all-time record.
A year and a half ago – when investors should have been buying stocks – the media was busy telling them about The Great Recession and how the world was coming apart at the seams.
Today, it provides saturation coverage of home foreclosures, personal bankruptcies and endless political carping. And because we’re blanketed with bad news, few investors see the positives. Consider, for example:
- The Fed has taken interest rates to near zero. That makes it cheaper for consumers and businesses to borrow. It also makes ultra-low-yielding cash a horrible investment.
- Inflation – the great bane of both stock and bond investors – is M.I.A. With the consumer price index showing virtually no increase, businesses don’t have to battle rising costs.
- Around the globe, most stocks are unloved and undervalued. Historically, when the P/E of the S&P 500 has dropped dramatically – as it has since the highs of May – it isn’t long before the market puts on a significant rally.
A Leaner Corporate America Could Drive the Next Rally
I know analysts are saying that earnings won’t be anything great. But they could be wrong – yet again – for two key reasons.
- Businesses have tightened up their cost structure, laid off unnecessary personnel and refinanced debt at lower levels. Even a modest uptick in sales could deliver surprisingly good bottom-line growth.
- It’s so cheap for businesses to borrow right now that I expect we’ll see many of them issuing debt to buy back their own shares. This could lead to robust growth in earnings per share, even if growth in gross earnings is less dramatic.
The bottom line?
Investing in Stocks: The Ultimate Contrarian Indicator Right Now
Stocks today are almost as cheap as they were when the Dow hit 6,500 18 months ago. And the macro-economic picture – while always cloudy – is a heck of a lot better now than it was then.
As an investor, look at your options. Cash pays next to nothing. Treasuries yield little more and could easily drop precipitously. Real estate is a non-starter, due to illiquidity, a flood of foreclosures and tough new lending rules.
But stocks offer excellent potential. And if you know anything about contrarian indicators, the fact that so few believe it only confirms it.
Good investing,
Alexander Green
26
Long-Term Treasury Bonds: Consider Yourself Warned…
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Long-Term Treasury Bonds: Consider Yourself Warned…
by Alexander Green, Chief Investment Strategist
Monday, July 26, 2010: Issue #1309
The brickbats are starting to pour in.
For months, I’ve warned readers about the bubble developing in long-term Treasury bonds.
Yet what was the top-performing asset class in the first half of 2010?
You guessed it: Long-term Treasury bonds, with a total return – price gains plus interest – of 13.2%.
Why is this happening? Two reasons…
- U.S. stocks performed poorly over the first six months of 2010 – down 5.6%. That’s driving many to the perceived safety of Treasuries.
- The anemic euro is making U.S.-dollar-denominated securities attractive to international investors. And Treasuries are the traditional choice for those fearful of equities.
So does this mean there isn’t a bubble after all? Hardly. In fact, the risk now is greater than ever…
1999: An Internet Odyssey
In the fall of 1999, I belonged to a ritzy tennis club – a time when Internet and technology stocks were all the rage.
My playing partners knew I was in the money management business, so there was plenty of chatter among them about “the New Era” and how “the Internet changes everything.”
Occasionally, one of my buddies would ask which Internet stocks I was buying.
“None,” I said. (I was early to get into the sector and early to get out.) The valuations were outrageous and I didn’t think it would end well.
They were surprised by this view, but kept enthusiastically buying and trading Internet stocks like almost everyone else. And, indeed, those stocks kept right on going up.
As the weeks went by, a familiar ritual developed. I’d walk up to the group and – knowing I didn’t own any – they’d ask how my Internet stocks were doing.
Laughs all around.
This went on week after week, month after month. And judging by the guffaws, the question was funnier each week than the week before.
Until one day it wasn’t funny at all.
2000: Nightmare on Wall Street
In March of 2000, the Nasdaq started coming apart and Internet stocks nosedived. As I approached their courtside table one morning, they abruptly stop talking.
“Morning, guys,” I said. “How are your Internet stocks doing?”
Funny… that line was hilarious before. Now it generated obscene gestures, as well as various suggestions for me and “the horse you rode in on.” Hmm.
What is the lesson here (other than that we shouldn’t laugh at the misfortunes of others)?
It’s that you cannot make a rational judgment about when irrational behavior will end.
The “Twin Demons in the Distance” For Treasury Bonds
Internet stocks went up longer than any logical analysis would predict. So did home prices a few years ago.
And the situation with long Treasury bonds right now also defies analysis. Unless, of course, we’re headed into a massive, deflationary period. But if that’s the case, why are gold and inflation-adjusted Treasuries (TIPS) moving up, too?
Either buyers of gold and TIPS are wrong – or buyers of long-term Treasuries are wrong. I think you know where I stand.
As The Wall Street Journal reported on July 6: “The huge stimulus the Federal Reserve and U.S. government have provided to the economy over the past few years will inevitably push up both interest rates and consumer prices. While the threat isn’t imminent, it’s not too early to take steps to protect the bond part of your portfolio from those twin demons in the distance.”
Consider yourself warned.
Good investing,
Alexander Green
12
Why Burton G. Malkiel is More Right Than Wrong
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Why Burton G. Malkiel is More Right Than Wrong
by Alexander Green, Chief Investment Strategist
Monday, July 12, 2010: Issue #1299
At FreedomFest in Las Vegas last week, I debated Burton G. Malkiel, author of the investment classic A Random Walk Down Wall Street.
Malkiel is one of just a few men alive who has profoundly affected modern investment thinking. And his position is straightforward.
He believes that rational, self-interested investors take all public information and immediately incorporate it into the price of stocks. (This is where we get the term “efficient market.”)
He therefore concludes that market timing and security analysis is foolhardy… that it’s simply not possible to beat the market over the long term… and that you’d be well advised to give up that dream and just own a broad selection of index funds.
I actually agree with much of what Malkiel says. Much… but certainly not all.
Irrational Exuberance
For starters, you can count on investors to be self-interested. But rational? Not always. Just take a look at recent history…
- How rational were investors 10 years ago when they bid Internet and technology stocks to the skies, forgoing sales and earnings for financial metrics like “eyeballs” and “web hits?”
- How rational were investors five years ago when they put themselves deeply in hock to flip land, rental properties, vacation homes and condos because “real estate always goes up?”
- How rational were investors when they dumped stocks en masse 16 months ago – with the Dow at 6,500 – and plunked the proceeds into money market funds just as yields reached an all-time low?
It’s true that most investors behave rationally most of the time.
But it’s certainly not true that all (or even most) investors behave rationally all the time. And that creates opportunity.
Let’s take a look at another flaw in the “random walk” argument…
Get the Insider Advantage
Malkiel mentions that investors incorporate all “public information” into the price of stocks. But how about non-public information?
Most investors don’t have access to non-public information, that’s true. But that doesn’t mean no one has access to it.
Some of the best trades I’ve ever made have resulted from visiting a retailer and asking the manager how regional and national sales are going. Are they supposed to talk about these things? Absolutely not. But do they?
Sometimes they do. Gaining a bit of key information by talking to customers, suppliers, competitors and employees can give you an edge.
And how about company insiders? Officers and directors have access to all manner of material, non-public information. That gives them an enormous advantage over ordinary investors. And that’s also why Uncle Sam requires them to file a Form 4 with the SEC, divulging the details of their buys and sells.
If you watch what the insiders are doing, you won’t access the non-public information that they possess. But you’ll certainly know whether they think their companies’ shares are overvalued or undervalued. And that’s crucial information.
A 10-Year Market-Beating Performance
In short, Malkiel is right that it’s difficult to beat the market. But does that mean it’s futile to try?
Not only have men like Warren Buffett and Peter Lynch put the lie to that line of thinking, so has our own Oxford Club Trading Portfolio. The independent Hulbert Financial Digest confirms that we’ve beaten the market by a wide margin over the past decade.
But while Malkiel is wrong on some crucial points, he is absolutely right on several others. For example…
- He believes it’s a fool’s errand to try to time the market. I agree.
- He insists that an index fund will outperform the vast majority of actively managed funds over time. He’s right. They have and almost certainly will.
- He argues that index funds provide a big performance boost due to cost-efficiency and tax-efficiency. Right again – and this is far more important over the long haul than most investors realize.
In short, I agree with Malkiel far more than I disagree with him. His research – and similar work by John Bogle, William Bernstein and others – has had a profound impact on the development of my own investment philosophy. In fact, our Gone Fishin’ Portfolio is the very embodiment of much of what he espouses.
And Malkiel may be surprised to learn that this portfolio has beaten the S&P 500 – with far less risk than being fully invested in stocks – every year for over a decade.
I’d call that a non-random success.
Good investing,
Alexander Green
