Warren Buffett’s Letter to Shareholders 2009

Sunday, February 28th, 2010

Warren Buffett shares his letter to shareholders just ahead of this year’s Annual General Meeting of Berkshire Hathaway.

Berkshire Hathaway Annual Report - via BRK
Warren Buffett’s Letters to Shareholders - via BRK

Here are some of this year’s nuggets. Buffett discusses how he and Charlie Munger, apply Charlie’s thinking to investing.

• Charlie and I avoid businesses whose futures we can’t evaluate, no matter how exciting their products may be. In the past, it required no brilliance for people to foresee the fabulous growth that awaited such industries as autos (in 1910), aircraft (in 1930) and television sets (in 1950). But the future then also included competitive dynamics that would decimate almost all of the companies entering those industries. Even the survivors tended to come away bleeding.

• Just because Charlie and I can clearly see dramatic growth ahead for an industry does not mean we can judge what its profit margins and returns on capital will be as a host of competitors battle for supremacy. At Berkshire we will stick with businesses whose profit picture for decades to come seems reasonably predictable. Even then, we will make plenty of mistakes.

• We will never become dependent on the kindness of strangers. Too-big-to-fail is not a fallback position at Berkshire. Instead, we will always arrange our affairs so that any requirements for cash we may conceivably have will be dwarfed by our own liquidity. Moreover, that liquidity will be constantly refreshed by a gusher of earnings from our many and diverse businesses.

• When the financial system went into cardiac arrest in September 2008, Berkshire was a supplier of liquidity and capital to the system, not a supplicant. At the very peak of the crisis, we poured $15.5 billion into a business world that could otherwise look only to the federal government for help. Of that, $9 billion went to bolster capital at three highly-regarded and previously-secure American businesses that needed - without delay - our tangible vote of confidence. The remaining $6.5 billion satisfied our commitment to help fund the purchase of Wrigley, a deal that was completed without pause while, elsewhere, panic reigned.

• We pay a steep price to maintain our premier financial strength. The $20 billion-plus of cash- equivalent assets that we customarily hold is earning a pittance at present. But we sleep well.

• We tend to let our many subsidiaries operate on their own, without our supervising and monitoring them to any degree. That means we are sometimes late in spotting management problems and that both operating and capital decisions are occasionally made with which Charlie and I would have disagreed had we been consulted. Most of our managers, however, use the independence we grant them magnificently, rewarding our confidence by maintaining an owner- oriented attitude that is invaluable and too seldom found in huge organizations. We would rather suffer the visible costs of a few bad decisions than incur the many invisible costs that come from decisions made too slowly - or not at all - because of a stifling bureaucracy.

• With our acquisition of BNSF, we now have about 257,000 employees and literally hundreds of different operating units. We hope to have many more of each. But we will never allow Berkshire to become some monolith that is overrun with committees, budget presentations and multiple layers of management. Instead, we plan to operate as a collection of separately-managed medium- sized and large businesses, most of whose decision-making occurs at the operating level. Charlie and I will limit ourselves to allocating capital, controlling enterprise risk, choosing managers and setting their compensation.

• We make no attempt to woo Wall Street. Investors who buy and sell based upon media or analyst commentary are not for us. Instead we want partners who join us at Berkshire because they wish to make a long-term investment in a business they themselves understand and because it’s one that follows policies with which they concur. If Charlie and I were to go into a small venture with a few partners, we would seek individuals in sync with us, knowing that common goals and a shared destiny make for a happy business “marriage” between owners and managers. Scaling up to giant size doesn’t change that truth.

• To build a compatible shareholder population, we try to communicate with our owners directly and informatively. Our goal is to tell you what we would like to know if our positions were reversed. Additionally, we try to post our quarterly and annual financial information on the Internet early on weekends, thereby giving you and other investors plenty of time during a non-trading period to digest just what has happened at our multi-faceted enterprise. (Occasionally, SEC deadlines force a non-Friday disclosure.) These matters simply can’t be adequately summarized in a few paragraphs, nor do they lend themselves to the kind of catchy headline that journalists sometimes seek.

• Last year we saw, in one instance, how sound-bite reporting can go wrong. Among the 12,830 words in the annual letter was this sentence: “We are certain, for example, that the economy will be in shambles throughout 2009 - and probably well beyond - but that conclusion does not tell us whether the market will rise or fall.” Many news organizations reported - indeed, blared - the first part of the sentence while making no mention whatsoever of its ending. I regard this as terrible journalism: Misinformed readers or viewers may well have thought that Charlie and I were forecasting bad things for the stock market, though we had not only in that sentence, but also elsewhere, made it clear we weren’t predicting the market at all. Any investors who were misled by the sensationalists paid a big price: The Dow closed the day of the letter at 7,063 and finished the year at 10,428.

• Given a few experiences we’ve had like that, you can understand why I prefer that our communications with you remain as direct and unabridged as possible.

The complete letter is available here.

Tags: American Businesses, Annual General Meeting, Berkshire Hathaway, Brilliance, Brk, Business World, Cardiac Arrest, Charlie Munger, Competitive Dynamics, Competitors Battle, Dramatic Growth, Fallback Position, Gusher, Img Src, Kindness Of Strangers, Letter To Shareholders, liquidity, Nuggets, Openx, Profit Margins, Random Number, Supplicant, Television Sets, Warren Buffett
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David Fuller (Fullermoney): Concentrate Long-term Investments in Low-Risk Countries

Sunday, February 28th, 2010

“There has been a great deal of discussion in the financial press about whether Greece will successfully navigate the crisis it now finds itself in, if the Eurozone will survive a sovereign debt default should one occur and if there is a risk of contagion for countries such as the UK, Japan and the US. These are all important questions which we will have definitive answers for in the coming months and years but to my mind there is a more important question that needs to be addressed first.

“All the issues facing these governments are in essence related to a problem with too much debt and leverage and not enough tax receipts to pay it down. The questions so far have focused on how one country or another might survive this crisis but from the perspective of a judge at an international beauty contest do we want to invest in these countries at all since there are plenty more where these problems are relatively minor if they exist at all?

“Commodity producers such as Australia and Canada have come through this crisis comparatively unharmed. Most of the others are primarily in the so-called emerging markets. Brazil is now a net creditor, China has the biggest foreign currency reserves in the world. Large numbers of countries in Latin America and Asia run trade surpluses. If we look at the world with a broader perspective we see clearly where risk and leverage are concentrated.

“The outcome of the major challenges facing the US, UK, Eurozone and Japan are crucial because of the effect they have on the global market. However, we do not have to invest in the debt, currencies or equities of these countries. Others are better equipped to deal with these issues from a position of strength. They have shown to be credible managers of their economies in a truly testing era and it is surely in these countries one should concentrate long-term investments.”

Source: David Fuller, Fullermoney, February 24, 2010.

Tags: Canada, Commodity Producers, Contagion, Countries In Latin America, Creditor, Currency Reserves, David Fuller, Debt Default, Definitive Answers, Emerging Markets, Eurozone, Foreign Currency, Fullermoney, Global Market, International Beauty Contest, Large Numbers, Leverage, Sovereign Debt, Tax Receipts, Term Investments, Trade Surpluses
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Index Summary and U.S. Equity Highlights

Sunday, February 28th, 2010

Index Summary

• The major market indices were mixed this week. The Dow Jones Industrial Index fell 0.74 percent. The S&P 500 Stock Index declined 0.42 percent, while the Nasdaq Composite finished 0.25 percent lower.
• Barra Growth underperformed Barra Value as Barra Value finished 0.08 percent lower while Barra Growth fell 0.76 percent. The Russell 2000 closed the week with a loss of 0.48 percent.
• The Hang Seng Composite finished higher by 3.36 percent; Taiwan was down 0.08 percent and the Kospi advanced 0.04 percent.
• The 10-year Treasury bond yield closed at 3.62 percent, down 16 basis points for the week.

Domestic Equity Market

The figure shows the performance of each sector in the S&P 500 Index for the week. The best-performing sector was financials, up 1.5 percent. Other top-performing sectors included consumer discretion and industrials. Materials, utilities and energy underperformed.

KeyCorp was the best-performing stock within the financials sector, up 5 percent. The other top-five performers were Bank of America, JP Morgan Chase, BB&T and PNC Financial Services Group.

Strengths

• The retail apparel group was the best-performing group for the week, up 5 percent. The two largest members of the group, TJX Companies and The Gap, both reported quarterly earnings in excess of the analyst consensus estimate. They also both issued positive guidance for their respective fiscal years.
• The managed healthcare group outperformed, rising 5 percent. Late Friday of the last week, the federal agency that administers government-run medical insurance programs announced an almost 4 percent increase for the baseline payment rate of Medicare Advantage plans for next year.
• The diversified supply services group was among the outperformers, gaining 5 percent. The group was led by Iron Mountain. The records management company reported earnings above the consensus estimate and raised its revenue guidance for 2010. The company also announced a $150 million stock buyback program and initiated a cash dividend.

Weaknesses

• The special consumer services group was the worst performer led down 18 percent by its only member, H&R Block Inc. The tax preparer said 2010 results will be lower than expected. It believes industry tax return filings are down due to the recession and sustained, high levels of unemployment, with more people turning to do-it-yourself services due to the weak economy.
• The fertilizer & agricultural chemicals group was the second-worst performer, falling 8 percent. Monsanto, the group’s largest member, reaffirmed its earnings guidance for 2010 at an industry conference this week but information in the presentation caused some brokerage analysts to lower earnings estimates.
• The homebuilding group was among the underperformers, dropping 5 percent. On Wednesday the Commerce Department reported that new home sales fell 1.2 percent in January from December to a seasonally adjusted annual sales pace of 309,000, below the consensus estimate. The results were probably affected by poor winter weather in January.

Opportunities

• There may be an opportunity for gain in M&A (merger & acquisition) transactions in 2010. Corporate liquidity is high with over 10 percent of corporate assets in cash and short-term investments, a record high for at least the last forty years, thereby providing the means to pursue acquisitions.

Threats

• Should investors’ expectations for an improving economy not come to fruition on a reasonable time frame, it could be a threat to stock prices.
• As governments around the world begin to wind down the monetary and fiscal stimulus programs put in place during the economic crisis, it will likely present a headwind for stocks.

Tags: 10 Year Treasury, 10 Year Treasury Bond, Analyst Consensus, Consensus Estimate, Dow Jones Industrial, Dow Jones Industrial Index, Financial Services Group, Index Summary, Jp Morgan, Jp Morgan Chase, Major Market Indices, Medical Insurance Programs, Nasdaq Composite, Performing Group, Pnc Financial Services, Pnc Financial Services Group, Quarterly Earnings, Revenue Guidance, Tjx Companies, Treasury Bond Yield
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Economy and Bond Market Highlights

Sunday, February 28th, 2010

The Economy and Bond Market

Consumer confidence took a dive this month, highlighting the fragile nature of the economic recovery. Most of the economic news out this week from consumer confidence, to housing and concerns regarding European stability had a negative bias to it.

Strengths

• Fed Chairman Bernanke reiterated his view that record low interest rates would be maintained for some time while the economy recovers from the recession.
• Fourth-quarter GDP, fueled by business spending, was revised higher to 5.9 percent from 5.7 percent.
• The Congressional Budget Office (CBO) estimated the emergency fiscal stimulus created more than 2 million jobs and boosted the economy more than many had expected.

Weaknesses

• New home sales hit a new record low, falling to just 309,000 annualized units.
• Existing home sales were also weak, falling 7.2 percent in January.
• Weekly initial jobless claims rose to 496,000 and hit the highest level in three months. This is a sign the economic recovery remains uneven.

Opportunities

• If financial markets are a good mechanism for discounting the future, the future appears relatively robust. The markets have been able to shake off bad news relatively easily this week, probably a good sign for the economic recovery.

Threats

• If one of the eurozone countries were to seriously threaten default, the whole eurozone system comes into question and threatens global financial stability.

Tags: Bad News, Bond Market, Bonds, Congressional Budget Office, Consumer Confidence, Economic News, Economic Recovery, European Stability, Eurozone Countries, Existing Home Sales, Fed Chairman Bernanke, Financial Markets, Fiscal Stimulus, Fourth Quarter, Fragile Nature, Global Financial Stability, Initial Jobless Claims, Low Interest Rates, Negative Bias, Quarter Gdp, Recession
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Gold Market Highlights (February 28, 2010)

Sunday, February 28th, 2010

Gold Market

For the week, spot gold closed at $1,117.60 per ounce down $1.60 or 0.14 percent. Gold equities, as measured by the XAU Gold & Silver Index (XAU) fell 1.85 percent for the week. The U.S. Trade-Weighted Dollar Index (DXY) fell 0.36 percent.

Strengths

• Gold and equities were able to rebound as Federal Reserve Chairman Ben Bernanke appeared before Congress and reaffirmed that short-term interest rates would remain low for an extended period of time and predicted the economic recovery would remain slow.
• Desjardins Securities said copper stockpiles in China are declining swiftly and that many in the market are wrong in thinking that speculation, rather than fundamental demand, has underpinned imports of copper into China. The company also said fundamental demand far exceeds general expectations.
• The Bombay Bullion Association said India’s gold imports in February are most likely between 30-35 tonnes. This is at least a 280 percent increase year-over-year when compared to 2009 imports of 7.9 tonnes during the month of February.

Weaknesses

• Weaker-than-expected consumer confidence and new home sales reports set the mood earlier in the week as traders and investors remained on the sidelines.
• Investors remain risk averse after ratings agency Fitch downgraded Greece’s largest banks ahead of Greece’s 10-year bond auction. Gold has been under pressure as of late due to a strengthening dollar primarily due to a weakening euro.
• The National Energy Regulator of South Africa has approved Eskom’s 28 percent tariff increases in 2010 and nearly 26 percent the next two years. With the South African economy is still in recovery mode, tariff increases on power utility will impact mining and the wider economy.

Opportunities

• Platinum Guild International has released a report stating young women are spurring demand for platinum jewelry demand in China. The report states that two-thirds of platinum jewelry buyers in China are women between 18 and 34 years old.
• The Financial Times reported the London Metals Exchange will be launching derivatives contracts on cobalt and molybdenum. The new offerings come as investor appetite for commodities continually increases as strong consumption in China drives demand and higher prices.
• JPMorgan said the dollar may fall against Japan’s currency to as low as 87 yen as investors reduce bets that the Federal Reserve will further tighten monetary policy in the near future.

Threats

• The Commodities and Futures Trading Commission (CFTC) will discuss position limits for gold, silver and copper futures markets next month.
• America’s third largest bank recently notified customers that effective April 1, 2010, they reserve the right to require seven days advance notice before permitting a withdrawal from all checking accounts.
• In efforts to ease the housing debacle, the Obama Administration may ban all foreclosures on home loans unless they have been screened and rejected by the government’s Home Affordable Modification Program.

Tags: Bond Auction, Consumer Confidence, Dollar Index, Dxy, Economy Opportunities, Energy Regulator, Federal Reserve Chairman, Federal Reserve Chairman Ben Bernanke, Fundamental Demand, Gold, Gold Equities, Gold Imports, Gold Market, Jewelry Buyers, Platinum Guild International, Platinum Jewelry, Recovery Mode, Report States, Silver Index Xau, South African Economy, Spot Gold
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Energy and Natural Resources Market Highlights (February 28, 2010)

Sunday, February 28th, 2010

Energy and Natural Resources Market

Strengths

• The Baker Hughes weekly rig count climbed by 28 rigs in the United States to a 52-week high of 1,373 drilling rigs.
• U.S. crude steel output totalled 1.66 million short tons last week, up 0.9 percent, with mills operating at an average capability utilization rate of 68.6 percent. This was the highest weekly total since late-October 2008.
• Global steel production increased by 2.1 percent on a sequential basis to 109.2 million metric tons for the month of January or the equivalent of 1.286 billion metric tons annualized. This is compared with 107.0 million metric tons during the month of December or 1.259 billion metric tons on an annualized basis.

Weaknesses

• A key leading indicator of non-residential construction in the domestic market, the American Institute of Architects (AIA) Billings Index declined to a reading of 42.5 for January from 45.4 in December.

Opportunities

• Bloomberg news reported Indian Finance Minister Pranab Mukherjee said that the country will spend about $1.1 billion on expanding electricity capacity in the year ending March 2011. It also plans to introduce a coal regulatory authority. Over 75 percent of the country’s electricity is powered by coal.
• China Industry news reported that China will likely add another 85 gigawatts of installed power generation this year to bring the country’s total to about 950 gigawatts by year-end.

Threats

• South African state-owned power generator Eskom has been granted permission to annually raise electricity prices by 25 percent over a three-year period, following protracted negotiations.

Tags: American Institute Of Architects, Baker Hughes, Billion Metric Tons, Capability Utilization Rate, China Industry, Commodities, Crude Steel, Drilling Rigs, Electricity Prices, Eskom, Gigawatts, Global Steel, Indian Finance Minister, Institute Of Architects, Leading Indicator, Market Strengths, Million Metric Tons, oil, Pranab Mukherjee, Rig Count, Sequential Basis, Steel Output
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Emerging Markets Highlights (February 28, 2010)

Sunday, February 28th, 2010

Emerging Markets

Strengths

• Taiwan’s GDP grew 9.2 percent year-over-year in the fourth quarter of 2009, exiting a recession which started in late 2008. Not only were exports and investment on the rise, but private consumption registered the strongest quarterly increase in the last 20 years.
• Thailand’s fourth quarter GDP rose 5.8 percent from a year earlier, accelerating from a 2.7 percent contraction during the third quarter. The change came as private consumption and government spending more than offset still anemic investment constrained by political uncertainty.
• January wireless data for Brazil indicated net additions of 1.6 million and a 16 percent year-over-year increase in total subscriber base. Vivo accounted for 43 percent of new subscriber additions, followed by Claro (América Móvil) with 25 percent and Telecom Italia Mobile with 24 percent. Brazil wireless penetration currently stands at 92 percent compared with 76 percent in Mexico, 116 percent in Argentina, 98 percent in Chile, 81 percent in Colombia and 68 percent in Peru.
• Unemployment in Brazil rose to 7.2 percent during January, up from 6.8 percent in December due to a seasonal effect but was better than the market expected.
• According to Troika Dialog metals and mining analysts, Russian gold mining companies boast output growth that is among the highest on the global landscape, while appearing attractive on valuation grounds.

Weaknesses

• Initial public offerings launched by Chinese companies in the U.S. during the fourth quarter declined 4.8 percent on average in the first month of trading. The loss deteriorated to 6.7 percent for IPOs in January and February, the longest slump in five years, as investor continued to trim risk exposure and sentiment remained weak.
• Results from Brazilian toll road operator Companhia de Concessões Rodoviárias (CCR) came in weaker than anticipated due to higher costs.
• Murray and Roberts, the largest engineering firm from South Africa, provided a murky outlook for its operations. While the company was positive about its long-term outlook, its short-term future is foggy—particularly with respect to operations in the Middle East.
• Price expectations for residential buildings in Czech Republic remain stagnant even after a significant recession, according to Citi research. The chart shows realized prices significantly below offer prices, while expectations from a business survey point to further weakness.

Opportunities

• Expanded urbanization and regional development are expected to be confirmed as a major policy focus in China in the upcoming annual plenary session of the National People’s Congress. Supportive policies may be created to empower local governments to develop infrastructure and attract capital because of the role urbanization plays in promoting consumption. Indeed, even global luxury brands have spread their presence beyond coastal China into second- and third- tier cities to position for tomorrow’s growth.

• As uncertainty related to global policy actions in both the developed and emerging worlds continues to rise, Russia could become a spot of relative stability, according to Bank Credit Analyst research. The chart shows that equity valuations are still low compared with the emerging market universe.

Threats

• Domestic sugar prices in China have been on the rise so far this year as drought in southern China affected cane production. There are also news reports about labor shortages, especially in the Pearl River Delta area where some migrant workers chose not to return to work after the Chinese New Year because of unattractive wages compared with inland regions. There could be inflation going forward if these developments persist.
• Although an announcement of higher bank reserve requirements in Brazil had been expected, some market participants may view it as ambiguous with respect to the impact on the banks’ top and bottom lines. We do not expect a detrimental impact on the profitability of Brazil’s banks because they will still be earning interest on the reserves at the SELIC rate—the overnight lending rate set by Brazil’s central bank.
• Political tensions in Turkey have escalated this week following new arrests related to an alleged 2003 military coup against the ruling Justice and Development party. The uncertainty related to the outcome of a likely referendum on controversial judiciary reform may also contribute to further market volatility.

Tags: Ccr, Chinese Companies, Contraction, Emerging Markets, Engineering Firm, Fourth Quarter, Global Landscape, Gold Mining Companies, Initial Public Offerings, Political Uncertainty, Private Consumption, Quarter Gdp, Quarterly Increase, Risk Exposure, Seasonal Effect, Subscriber Base, Telecom Italia, Telecom Italia Mobile, Toll Road, Troika Dialog
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Changing as Markets Change

Sunday, February 28th, 2010

By Frank Holmes
CEO and Chief Investment Officer

I had the chance to listen to a prominent MIT finance professor talk about how market participants make their decisions, and I came away thinking that his big-brain ideas validate the approach that we’ve been using for years.

Andrew Lo, the MIT professor, has developed what he calls the “adaptive markets hypothesis” (AMH) as a more sophisticated framework than the long-standing “efficient markets hypothesis” (EMH).

I won’t go into a lot of detail, but the EMH assumes that all market participants act rationally at all times, and that all available information is immediately reflected in market prices.

In Lo’s AMH, market participants are not always perfectly rational, he says – they often make bad decisions. They learn from those bad decisions and, driven by competition, the survivors constantly innovate. Those who don’t adapt don’t last.

At U.S. Global, we have long viewed markets as “complex adaptive systems”—they are made up of many moving parts that are interconnected across a global network, and they learn from experiences and change accordingly.

In our case, we use a matrix of top-down macro models and bottom-up micro stock selection models to determine weighting in countries, sectors and individual securities. We believe government policies are a precursor to change, and as a result, we keep tabs on the fiscal and monetary policies of the G-7 and what we call the “E-7” — the world’s developing nations by population.

We also focus on historical and socioeconomic cycles, and we apply both statistical and fundamental models to identify companies with superior growth and value metrics. We overlay these explicit knowledge models with the tacit knowledge obtained by domestic and global travel for first-hand observation of local and geopolitical conditions, as well as specific companies and projects.

During his San Antonio visit, Lo contrasted “fear and greed” with “rational thinking” – the former being reactive and emotional, while the latter is measured and opportunistic. We use oscillators, like the one above showing gold and the dollar, to help us determine when fear or greed may be taking hold in a market.

I’m a big believer in globalization, urbanization and major technological breakthroughs as key drivers of change in the world. These factors have an enormous impact on infrastructure creation around the world, which in turn greatly affects commodities demand.

Back in the early 1970s, when gold resumed free-trading status in the U.S., China and India were both inward-looking and had very small economic footprints – now their economic engines are lifting tens of millions of people into middle-class prosperity each year.

“I’d be a bum on the street with a tin cup if the markets were always efficient,” Warren Buffett once said. In other words, opportunities come to those (like us) who are able to navigate increasingly complex markets.

Tags: Amh, Bad Decisions, Chief Investment Officer, Complex Adaptive Systems, Efficient Markets Hypothesis, Explicit Knowledge, Finance Professor, Fiscal And Monetary Policies, Frank Holmes, Fundamental Models, Hand Observation, Individual Securities, Knowledge Models, Macro Models, Market Participants, Micro Stock, Selection Models, Specific Companies, Stock Selection, Tacit Knowledge
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David Darst - Robert Kessler - Interview Transcript (Feb. 19)

Sunday, February 28th, 2010

Connie Mack recently interviewed David Darst, chief investment strategist for Morgan Stanley Smith Barney, and Robert Kessler, head of Kessler Investment Advisors, which runs portfolios for institutional investors and governments around the world. This is a MUST view/read interview. The complete transcript follows.

CM: David Darst is known as a master of the art of asset allocation. He is the chief investment strategist for Morgan Stanley Smith Barney. David is also a teacher and prolific author, and his latest book is The Little Book that Saves Your Assets . And it’s great to have you both here. Thanks so much for joining us on WealthTrack.
Robert Kessler, U.S. Treasuries, you make your living in investing and managing portfolios of U.S. Treasuries, and as long as I’ve known you, they have been denigrated by most of the competition except in this most recent period when everyone rushed to Treasuries, but now the naysayers are back again. So why are they wrong again about Treasuries?

ROBERT KESSLER: It’s not a question of being wrong or right. A Treasury is really a benchmark to almost every other asset class. So as a benchmark, you can’t be wrong or right about a benchmark. It’s just simply matter of spread between what other asset classes are selling at. So in the Treasury market, we’re lucky enough to be able to have a choice of overnight Treasuries, which is cash, or longer-term Treasuries. And longer term Treasuries are really based on whether you believe inflation is going to be an issue or whether disinflation will be an issue.
So right now we’re in what we call a credit crisis. We’re in a credit recession. And during credit periods of time, you don’t want to own risk assets, and if you don’t want to own risk assets, you want to go to something that has very little risk, which is a Treasury. Now the question becomes: do you own Treasuries as bills overnight or do you really believe that rates are going to come down because there’s very little inflation in the world? So since we believe rates will come down because there is very little inflation, then Treasuries become very attractive.

CONSUELO MACK: All right. So let me stop you there and we’re going to follow up on that in a couple of minutes. David Darst, as a global strategist first and as an asset allocator second, how do you view this?

DAVID DARST: It’s a great point because really, inflation is a monetary phenomenon. We have a big war going on between this monetary phenomenon called inflation potential down the road.

CONSUELO MACK: Right.

DAVID DARST: And deflation is a credit phenomenon. And right now credit is contracting. The latest month figure for December showed it contracted, consumer credit, Consuelo, by $2.5 billion. That’s 11 months in a row the government has been keeping these numbers since 1943. It’s never contracted for 11 months in a row. So right now we have this epic, titanic struggle between the deflation phenomenon, credit contracting and the inflation phenomenon, which is the government attempting to pump up the money supply, add liquidity to the system, which people, makes them worry about inflation down the road. So we feel that maybe Treasury bonds, Treasury securities, you can have them in the portfolio right now, you need to have a little offense as well as a little defense. Treasury securities are a defensive investment in our opinion. Last two years ago they were up 20%. They were up 20% in 2008 when the stock market went down 37%. Last year, ten-year Treasuries lost 9.9% on a total return basis.
I’m very receptive. For a person basically to say stay away from Treasuries means they think interest rates are going to rise. That means the consumer is going to come back. That means that credit is going to stop contracting and we’re going to worry about inflation. But over the next 12 months, I’m not so sure those things are going to be an issue, Consuelo.

CONSUELO MACK: So short term at any rate, next 12 months, Treasuries are probably a good place to be defensive.

DAVID DARST: I think you can have some in the portfolio. We are underweight. We are underweight. Normal is 16%. We’re 7%. That’s our largest single underweight. We are very underweight because we’re worried about the health of sovereign credit finance about the condition of the U.S., the U.K., the European community and so forth, the condition of these finances. So much money has been issued.

CONSUELO MACK: Okay. How do you answer that argument because, in fact, as you know, that most people who are looking at U.S. Treasuries are saying, we’ve got a record deficit; we have to finance that record deficit. If we are basically having to sell a lot of Treasury bonds, that is going to mean that the value of the dollar of our securities is going to go down. And then, in fact, that means that it’s going to be inflationary for the U.S. So how do you respond to that argument? Why aren’t you worried about the size of the deficit and what we have to finance being inflationary?

ROBERT KESSLER: Let me answer two questions. The first question is this concept of the deficit. There is this constant talk of deficits lead to inflation. We don’t really have any indication that that’s true. In the Depression in the United States, we had huge deficits, of course, and we had no inflation. We had deflation. Japan has gone through 20 years now of deficits that are far, far higher than ours, and they have deflation. So we don’t know anything about the inflation side of it. What’s really important is that if people can’t raise prices and there’s an awful lot of excess capacity in the world and wages are going down and unemployment keeps staying kind of sticky at these very, very high levels, it’s very difficult to have inflation.
And so there is no inflation. That’s not our issue. The real issue is– television was interesting today because not only are we dealing with Greece, Greece is very interesting because we’re bailing out Greece and bailing out perhaps Portugal next, but we’re probably going to bail out New Jersey after that. Because New Jersey just announced today that they’re running into a huge deficit, too.

CONSUELO MACK: As are a lot of states.

ROBERT KESSLER: As are a lot of states. So we have states having problems, lowering wages, firing people; very, very difficult to raise prices and consequently, very difficult to have inflation.

CONSUELO MACK: All right. So you think we’re deflationary. You think the credit contraction you think which is extraordinary is actually, we’re in the beginning stages of it. You’re not thinking a year down the road, you’re thinking for inflation, you’re thinking, what three, four, five…

ROBERT KESSLER: It sounds like I’m being very pessimistic.

CONSUELO MACK: You’re a bond person.

ROBERT KESSLER: No, no but I don’t want to be pessimistic. We just got back from the Middle East. I have to tell you, not only is everything for rent in the Middle East, not only are buildings completely unoccupied, but banks, since we deal with banks, banks right now are doing one trade. They’re doing what we call a carry trade, meaning they’re buying their sovereign debt, either U.S. sovereign debt or their sovereign debt short term and they’re carrying it at very low cost.

CONSUELO MACK: Because they can borrow it at very low cost.

ROBERT KESSLER: Because they can borrow at very low cost, as is JP Morgan in the United States and as is Morgan Stanley and everyone else. So the fact of the matter is when people say we’re in a bear market in Treasuries, it’s ridiculous. Last year, even though David is correct, the ten-year Treasury was down 9%. The fact of the matter is we made more money last year in two-year Treasuries than any year I can think of because everyone was carrying a two-year Treasury at zero and getting a point. Now, in bank talk…

CONSUELO MACK: So they were borrowing at lower than 2% and then they were buying the two years… So they made?

ROBERT KESSLER: They do it at a very high leverage level because they don’t need to do very much with a capital question. So the fact of the matter is you have this bull market going on and yet everyone is saying, anything but Treasuries. Tell that to JP Morgan.

CONSUELO MACK: Right. So David, not to completely focus on Treasuries, but as far as asset allocation, you said that your biggest underweight is U.S. Treasuries right now.

DAVID DARST: It’s sovereign credit, Consuelo.

CONSUELO MACK: Across the board.

DAVID DARST: It would include U.K., it would include Canada, it would include Europe.

CONSUELO MACK: And the reason for that is what?

DAVID DARST: Well, the sovereign… we believe there’s so much issuance of sovereign debt; we do believe that the balance sheet of the Fed has ballooned from $900 billion to $2.2 trillion. We do see the deficits as being quite large on out into the future. And we do believe that these trillion dollar and trillion and a half dollar deficits are going to have to be bought and to entice people, which will cause higher interest rates. So that’s why Morgan Stanley’s economists have a big out-of-consensus call, which Robert is very familiar with. And by the way, the word Robert means bright fame. His name means bright fame. Now Robert is familiar with this- Morgan Stanley is expecting 5.5%. And every conversation I get into, I have to argue we think that inflation fears will be higher towards the end of 2011. We see all this slack. But there’s concern. Supply, which you mentioned, that is the excess issuance by the Treasury, and also the Fed, and I know there’s a lot of disagreement over this, we expect them to begin their exit strategy later this year, second half of this year.

CONSUELO MACK: And exit strategy could mean raising the federal funds rate?

DAVID DARST: Higher short-term interest rates, and that means we think higher long-term interest rates. We take a little bit of respectful issue with Robert Kessler’s brilliance over here. But we believe the essence of our underweight versus sovereign debt is because of enormous supply and people’s concern. Inflation is the biggest… The biggest inflations of all times have all come from fighting deflation. In the 1946 to 1949 period in Germany, in communist China, in the 1920s and 1923 period of Weimar Germany, the biggest inflations have all come from fighting deflation.

CONSUELO MACK: So what’s interesting is the common ground is here. Right now we are fighting deflation, which is actually positive at least for the next 12 months, possibly for…

DAVID DARST: Steroids, financial steroids. Mark McGuire has admitted to it and the Fed is taking financial steroids.

ROBERT KESSLER: Let me be a little contrary for a second.

CONSUELO MACK: For a second?

ROBERT KESSLER: All right, for 30 seconds. The fact of the matter is we talk about this exit strategy all the time about the Fed. I’m into the entrance strategy. I am trying to figure out how we’re going to help out 8.5 million people who don’t have jobs. It’s probably closer to 17 million because that’s really a more correct figure.

CONSUELO MACK: The ones who have been discouraged and not looking for jobs anymore.

ROBERT KESSLER: Why we’re talking about exit strategies is very, very disconcerting to me.

CONSUELO MACK: Because the Fed is actually. Bernanke is talking about it, right.

ROBERT KESSLER: What we’re talking about again is Wall Street and the banking industry. When you get to, excuse me, the middle of the United States, at least where I live.

DAVID DARST: Right, you live in Denver.

ROBERT KESSLER: In Denver. People don’t have a clue to what JP Morgan is doing or Morgan Stanley is doing. What they’re looking for is their job, and when someone says, excuse me, I think it will be a good idea to raise interest rates, they can’t even borrow money; not only can’t they borrow money, no one will lend them any money. So they’re really…

CONSUELO MACK: Like the credit contraction you were talking about.

ROBERT KESSLER: So the issue is why are we talking about exiting the strategy?

DAVID DARST: The reason we’re talking about exit strategy is psychological. It’s the use of Shakespearean language and words to try to divert people from worrying about the debasement of the currency, internally and externally. And that’s why he’s saying it. And I agree with you. I don’t see rates jacking way up very quickly. This is going to be gradual, but we went from $900 billion Fed balance sheet to $2.2 trillion. And it is very, very important.
Sarkozy, during the last four weeks– opening speech at the World Economic Forum said that in 2011 France is going to be head of the G7 and the G20 and he says his number-one agenda item is to create a new world monetary system, a new system without the United States dollar as the primary reserve currency. The reason they talk about exit strategy, Robert, is to keep people from going to this new currency.

CONSUELO MACK: So how concerned are you about the fact that the dollar could be replaced as the reserve currency?

ROBERT KESSLER: First of all, for a second I’m going to represent Main Street as opposed to Wall Street, and Main Street doesn’t have a clue to what we’re talking about.

CONSUELO MACK: Right.

ROBERT KESSLER: Believe me. This all gets very, very complicated to talk about.

CONSUELO MACK: And our viewers are investors.

ROBERT KESSLER: They’re investors, so my answer to all of this is the United States will continue to be the reserve currency. There’s nothing wrong with the dollar. Everyone will put money into the dollar, as we’re doing today. Today is a very, very good example. We had a 30-year auction today. What was exciting about it, even though it didn’t go over very big as an auction, didn’t go well, but what was exciting about it is 23% of the auction was bought by Americans. What we call direct investors.

CONSUELO MACK: We’ve seen a trend here where the direct investors, Americans are buying more and more of their Treasury securities.

ROBERT KESSLER: And so when you look at the American dollar, as you can look at the Japanese yen- the reason the yen has stayed strong for so long is because the Japanese support their own country.

DAVID DARST: Internal savings, financing.

ROBERT KESSLER: And in the United States, we are beginning to do the same thing. And so even though we have a deficit, if we’re willing to pay for it, then frankly there’s nothing so terrible about the deficit.

DAVID DARST: Your legion of viewers in the aggregate have 25% stocks, 25% their home and 7% bonds. That’s why, as you’ve pointed out on the show, Consuelo, over the nine months from March through December, they, we all put $315 billion net into bond funds and ETFs, $35 billion into non-U.S. stocks and minus $24 billion into U.S. stocks. So there has been this trend. 1982, the average baby boomer, the median age was 25 years old. Today it’s the reverse of the digits- 52 years old. People have been killed by the dot com meltdown, the housing price meltdown and the financial stock meltdown and that want to set aside some money. So your point is an excellent point, Robert. They want to put this money and maybe some of the buyers will be U.S. households.

ROBERT KESSLER: Let me add one more statistic.

CONSUELO MACK: Very quickly because we have to get to the One Investment.

ROBERT KESSLER: The statistic being, that if Americans begin to invest in Treasuries the way they have in the past, then there would be no deficit. There would be simply no deficit.

DAVID DARST: We’re sitting on $8 trillion of cash right now. And they need only $1.5 trillion, but we need higher rates, Robert, to entice us to take it out of the cookie jar and the mattress and put it in Treasuries.

CONSUELO MACK: So one quick question for you, David Darst, and this is put your asset allocation hat on again. What are you overweighting, in a minute or less?

DAVID DARST: We’re overweighting corporate credit to summarize quickly. That would be high yield bonds, and high grade bonds.

CONSUELO MACK: Because of the yield.

DAVID DARST: The yield is more attractive. We are overweight in real estate investment trust, which have a nice yield to them.

CONSUELO MACK: Right.

DAVID DARST: We’re overweight in emerging market stocks and Canadian stocks, Australian stocks, and in small cap stocks. They have basically taken a little gas in the first part of this year. We think that’s a pause, a healthy, needed correction that we will believe as the economies grow around the world- we just jacked up our China forecast to above 10% for this year- and we think probably world growth will surprise to the up side. Maybe that’s why yields will surprise to the up side, too. Interest rates.

CONSUELO MACK: Very interesting. And so let’s go to the One Investment for our investor viewers out there, and Robert Kessler, guess what you’re recommending.

ROBERT KESSLER: A quick comment.

CONSUELO MACK: Yes.

ROBERT KESSLER: A quick comment. I am so weary of people who wear white suits and recommend emerging markets. Now, David’s not.

DAVID DARST: White suits?

ROBERT KESSLER: White suits.

DAVID DARST: Tom Wolf.

ROBERT KESSLER: Right.

CONSUELO MACK: I don’t understand that.

ROBERT KESSLER: Consequently, what I’m saying is I think you want to be in everything that is risk-averse. And therefore I would suggest that a Treasury, whether it’s overnight money or it’s ten or a 30-year Treasury, I think the ten year will probably outperform everything this year, and that’s a way-out kind of a call, but I do think that rates are going to substantially come down, and they do usually the second or third year after a recession, and since we’re only a year into this, we have a long ways to go, and I think you’ll see the ten-year Treasury probably back at 2% range or lower. And that’s a big move.

CONSUELO MACK: Wow. And David Darst, you’re thinking defensive action, too.

DAVID DARST: I am, Consuelo. Procter & Gamble (PG), which I’ve recommended on the show before- they have 23 products with over $1 billion in annual sales, and they have 20 products in addition with over $500 million in annual sales. They just changed leaders. Robert McDonald takes over from A.G. Lafley. McDonald has been with them for 29 years. He sold Folgers Coffee. He’s selling off the pharma area to focus on personal care, on household products and human well-being, okay. We see three billion people every day out of six billion in the world that are touched by a Procter & Gamble product.

CONSUELO MACK: Wow.

DAVID DARST: He wants it to go up to four billion. Only 30% of their revenues are outside the U.S. and Europe. Stock sales are 14 times last year’s earnings. It yields 2.9%. They’ve not been buying stocks in a year and a half. They’ve just begun to buy stocks, and the last thing is it was only up 1% last year with its lag to market. It went down less than the market. It went down 14 in ‘08 when it went 37 down, up 1% last year. We think this is a company that’s been a defensive stock about to go on the offense.

CONSUELO MACK: So we have a diversified portfolio right here between the two of you. Robert Kessler from Kessler Investment Advisors, thank you so much for coming in from Denver and from New York, it’s great to have you regardless, David Darst from Morgan Stanley Smith Barney, thanks so much for joining us.
At the conclusion of every WealthTrack, we tried to leave you with one action to take to build and protect your wealth over the long-term, as well. This week we’re revisiting a retirement income theme that we and many of our guests have emphasized over the years. This week’s Action Point is: lock in some retirement income for life.
How do you do that? The Obama administration recently came out in support of annuities as a tool to deliver a form of “guaranteed lifetime income.” Specifically, President Obama has called for a change in federal rules to allow adding annuities to 401(k) retirement plans.
Until that becomes a reality, one way to assure a stable flow of income that you can count on for life is to buy the simplest, plain vanilla version, an immediate fixed annuity, also known as a single premium immediate annuity. You turn over a one-time payment to an insurance company, and it in turn will provide you with a predictable and guaranteed monthly income as long as you live. To make sure it’s there, that it is as long as you live, only work with life insurance companies that have the highest credit ratings, and don’t put all your eggs in one basket.
The financial advisors we have talked to recommend investing only a portion, no more than one-third of your retirement assets, in annuity products, and also recommend consider staggering the amount you put in over a number of years, so you can adjust your income stream as you need it. To get an idea of what kind of monthly income a given amount will return, go to immediateannuities.com for a quote.
Now what troubles many people about these immediate fixed annuities is that you might die before you have recovered your investment, your heirs don’t get any benefit, and inflation can eat away at the value of the income stream. So the insurance industry, in its infinite wisdom, has responded with variations on immediate annuities that address these concerns. The tradeoff is the adjustments reduce the monthly income. Annuities are not right for everyone, but as a vehicle to create your own guaranteed pension plan for life, an immediate fixed annuity is definitely worth considering.
That concludes this edition of WealthTrack. Join us for one of our Great Investors series next week. I’ll sit down with Steven Romick, portfolio manager of the FPA Crescent Fund, a finalist for Morningstar’s Domestic Equity Fund Manager of the Decade award. In the meantime, to watch this program again, please go to our website, wealthtrack.com. Starting Monday, you can see it as streaming video or a podcast. Thank you for visiting with us. And make the week ahead a profitable and a productive one.

Source: Consuelo Mack, WealthTrack, February 19, 2010
http://www.wealthtrack.com/transcript_02-19-2010.php

Tags: Asset Allocation, asset class, Asset Classes, Bonds, Chief Investment Strategist, Connie Mack, Credit Crisis, David Darst, Disinflation, Institutional Investors, Interview Transcript, Kessler Investment Advisors, Morgan Stanley, Naysayers, Prolific Author, Recession, Robert Kessler, Smith Barney, Stanley Smith, Treasuries, Treasury Market
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WealthTrack: Romick’s Contrarian Views

Sunday, February 28th, 2010

This week on Wealthtrack, Consuelo Mack sits down with Steven Romick, the founder and portfolio manager of the five star FPA Crescent Fund. Romick’s contrarian views and go anywhere, invest in anything style have put him in the top one percent of all money managers over the last decade and earned him a finalist slot for Morningstar’s new “Fund Manager of the Decade Award”.

Note: The transcript of this interview is not available yet, but will be posted here as soon as it arrives.

Source: Wealthtrack, February 25, 2010.

Tags: Consuelo Mack, Contrarian Views, Crescent, Decade Award, Five Star, Last Decade, Money Managers, Morningstar, Portfolio Manager, Wealthtrack
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Words from the (Investment) Wise (February 28, 2010)

Sunday, February 28th, 2010

As investors vacillated about the impact of developments in Greece, together with the uncertainty of strong fourth-quarter economic data possibly not carrying over to the first quarter, stock markets experienced two sharp sell-offs and two rebound rallies, limping to small gains on Friday but ending the week modestly down.

Renewed fears over Greece’s debt woes, disappointing German business confidence statistics and lower-than-expected US consumer confidence data tempered investor optimism for risky assts, triggering haven demand for government bonds and the Japanese yen.

Fed Chairman Ben Bernanke provided some support for stock markets on Wednesday by indicating in his testimony to the US House Financial Services Committee that the fed fund rate will remain at exceptionally low levels for an extended period. However, the flip side of the coin is his gloomy picture of the economy still battling high unemployment and a weak housing sector.

“Greece hasn’t gotten so much press since 146 BC when the Romans took over,” said Paul Kasriel (Northern Trust). In news after the close of the markets, the Financial Times reported: “Germany’s biggest banks are looking at a rescue plan for Greece under which they would buy Greek debt backed by financial guarantees from Berlin. One senior German bank official said serious thought was being given to a plan for the German government, working through KfW, its development bank, to issue guarantees to banks that bought Greek debt.”

Source:  Patrick Blower, Guardian

The past week’s performance of the major asset classes is summarized in the chart below - a set of numbers indicating that a degree of risk aversion has crept back into financial markets. Interestingly, unlike equities, both investment-grade and high-yield corporate bonds ended the week in the black. “We believe investors can capture attractive yields and excess spread in the high-yield market with relatively low default risk,” Andrew Jessop, high-yield portfolio manager at Pimco, said in a note on the company’s website (via MoneyNews).

Source: StockCharts.com

A summary of the movements of major global stock markets for the past week and various other measurement periods is given in the table below.

It was essentially a flat week, with the MSCI World Index declining by 0.1%, but the MSCI Emerging Markets Index managing to eke out a positive return of 0.3%. With the Chinese returning from the lunar holiday, Hong Kong (+3.6%) put in one of the better performances among important markets, whereas mainland China (+1.1%) also closed the week in the black.

Notwithstanding the huge rally since the March lows, only the Chile Stock Market General Index has been able to reclaim its 2007 pre-crisis peak and is now trading 9.4% higher. Mexico could be the next country to eliminate the bear market losses.

Click here or on the table below for a larger image.

Top performers among stock markets this week were Ukraine (+4.5%), Greece (+3.7%), Hong Kong (+3.6%), Cyprus (+3.2%) and Thailand (+3.0%). At the bottom end of the performance rankings, countries included Turkey (‑6.8%), Malta (-5.7%), Austria (-5.2%), Argentina (-4.9%) and Latvia (-4.2%). Turkey suffered from tensions between the government and the military. Debt-ridden European countries such as Italy (-3.2%), Spain (-3.2%), Ireland (-3.2%) and Portugal (-2.1%) featured strongly at the bottom end of the performance ranking.

Of the 96 stock markets I keep on my radar screen, 33% recorded gains, 60% showed losses and 7% remained unchanged. The performance map below tells the past week’s somewhat bearish story.

Emerginvest world markets heat map

Source: Emerginvest (Click here to access a complete list of global stock market movements.)

Eight of the ten economic sectors of the S&P 500 Index closed lower for the week, with Financials and Consumer Discretionary the only two sectors not under water. (Who would have guessed the Conference Board’s Consumer Confidence Index would fall to its lowest level since July 2009 on Tuesday?)

Source: US Global Investors - Weekly Investor Alert, February 26, 2010.

John Nyaradi (Wall Street Sector Selector) reports that as far as exchange-traded funds (ETFs) are concerned, the winners for the week included Vanguard Extended Duration Treasury (EDV) (+4.3%), iShares MSCI Thailand (THD) (+3.9%) and CurrencyShares Japanese Yen (FXY) (+3.1%).

At the bottom end of the performance rankings, ETFs included iShares MSCI Turkey (TUR) (-8.8%), Claymore/MAC Global Solar Energy (TAN) (-7.2%) and United States Natural Gas (UNG) (down 5.1%).

Referring to a regulatory report released on Tuesday by the Federal Deposit Insurance Corp (FDIC), the quote du jour this week comes from Addison Wiggin, co-author of Financial Reckoning Day Fallout and The New Empire of Debt. He said in a column on The Daily Reckoning site: “The FDIC is even more broke than it was three months ago. The fund the FDIC uses to ‘insure’ your bank account went $20.9 billion in the red during the fourth quarter of 2009. That’s more than twice the deficit reported when the fund first entered negative territory in the previous quarter. Incredibly, the FDIC is still trying to reassure us that all is well because it’s collecting three years of advance payments on the annual assessments paid by its member banks. The fees total $45 billion - barely twice the amount of the current deficit. Yeah, we feel better.

“On top of that, the FDIC’s list of ‘problem banks’ grew during the fourth quarter from 552 to 702. That’s the highest number since 1993 (when, we presume, more independently owned banks were around, so it’s worse than it sounds). Hmmm, let’s see. The number grew 27% in just one quarter. At this pace, every bank in the country will be on the problem list by the fourth quarter of 2012. Another tidbit from the FDIC’s report: Bank lending last year dropped at the biggest clip since 1942. Of course, in that year, the entire economy was shifting to a war footing. So it’s safe to say what we’re seeing now is another unprecedented postwar occurrence.”

Next, a quick textual analysis of my week’s reading. This is a way of visualizing word frequencies at a glance. “Bank”, “debt”, “economy”, “Fed”, “rate” and “market” all featured prominently, but it was somewhat surprising to see “China” commanding more media mentions than “Greece”.

The major moving-average levels for the benchmark US indices, the BRIC countries and South Africa (where I am based in Cape Town when not traveling) are given in the table below. With the exception of the Dow Jones Transportation Index, the Nasdaq Composite Index and the Russell 2000 Index, the indices in the table are all trading below their 50-day moving averages, but all the indices are still above their respective key 200-day moving averages. However, a red light is starting to flash regarding the Shanghai Composite Index, which is within striking distance (20 basis points) of this key support line.

Click here or on the table below for a larger image.

Commenting on the technical picture of the S&P 500, Kevin Lane (Fusion IQ) said: “The Index hit minor resistance a few trading sessions back near the 1,112 level. Until this level is taken out the near-term directional bias remains neutral. Lower down, the key level to watch is in the 1,072 area. This support level represents a much more significant uptrend line and if violated would suggest a bigger correction.

“Sentiment indicators are neutral at present, which is a positive, while market breadth remains a mixed bag. Clearly the recent trading activity suggests volatility will be more present in day-to-day trading than over the past few months.”

On the topic of charts, when considering S&P 500 monthly data, going back to 1998, three momentum-type oscillators (RSI, MACD and ROC) all still signal a bullish trend (see chart below). According to Yahoo Finance - Tech Ticker, Barry Ritholtz (The Big Picture) is not as bullish as he was last March when he called the market bottom, but is sticking with stocks. “The easy thing to do now would be to go to cash,” he said, “[But] I rarely find the easy trade is the one that makes you money.” (Incidentally, the long-term chart for US government bonds is in bearish mode.)

Source: StockCharts.com

David Rosenberg, chief economist and strategist of Gluskin Sheff & Associates, said: “Let’s face it, the surprise two months into the year is that the stock market is down more than 1% and 10-year Treasury yields are also down 20bps. It is still early in the year to be sure but it also seems clear that the economic data are starting to show some fragility. The S&P 500 has done little more than hover around the 1,100 mark now for six months in what can only be classified as a major topping formation. The VIX index is at 20, not 40; market vane sentiment is closer to 60 than 30; the US dollar is strong, not weak; policies are moving tighter, not easier; and the government is now aiming to curtail the banks whereas a year ago it was all about saving them.

“With a V-shaped earnings recovery already priced in and economic houses, like MacroEconomic Advisors, calling for 4% GDP growth for 2010, it certainly is difficult to highlight where the upside surprises for the market are going to be.”

From across the pond, David Fuller (Fullermoney) adds the following perspective: “Do we have a real crisis today? It is real enough for Southern European countries and obviously heightens sovereign debt concerns from Greece to the USA via the UK, but is this another global crisis? I do not think so, at least not yet although the OECD countries’ problems are far from resolved.

“The loss of upside momentum by most stock markets and many commodities, including precious metals, clearly indicates that global investors have reduced leveraged exposure in the last three months. Whether this is a normal correction (our previously stated 40% possibility) or likely to become a self-feeding and more significant pullback (also a 40% possibility) is hard to gauge, but action near the 200-day moving averages will be revealing. Even in the latter instance, I do not think the global economic background justifies a resumption of bear markets (20% possibility), which were discounting near-depression conditions between 4Q 2008 and 1Q 2009.”

I side with Fuller on his conclusion, but am also cognizant of the 12-month momentum of the S&P 500 narrowly tracking the US GDP-weighted PMI (see graph below). Current levels of the S&P 500 indicate the market is expecting a GDP-weighted PMI in excess of 60.0 vs a current level of 52.3. If the S&P 500 maintains its current levels around 1,100, the 12-month momentum will drop to 39% at the end of March and 27% at the end of April this year. Even this drop in momentum requires the GDP-weighted PMI to rise to 55 and higher. Although not impossible, it seems improbable given the sub-par economic recovery. It can therefore be deduced that the US equity market is somewhat overpriced even if the GDP-weighted PMI should improve to 55. Understandably, Marc Faber suggests (via a Financial Times interview) “investors should make 2010 the year of ‘capital preservation’”.

Source: Plexus Asset Management (based on data from I-Net Bridge).

For more discussion on the economy and financial markets, see my recent posts “Montier: Was it all just a bad dream? Or, ten lessons not learnt“, “Barry Ritholtz sticks with stocks, especially emerging markets“, “Q4 earnings in perspective“, “Face to face with Marc Faber” and “Is the credit malaise really over?” (And do make a point of listening to Donald Coxe’s webcast of February 26, which can be accessed from the sidebar of the Investment Postcards site.)

Twitter and Facebook
I regularly post short comments (maximum 140 characters) on topical economic and market issues, web links and graphs on Twitter. For those readers not doing so already, you can follow my “tweets” by clicking here. You may also consider joining me as a friend on Facebook.

Economy
“Business sentiment has improved markedly since hitting bottom about a year ago. This improvement has been about the same across the globe, with South Americans somewhat more optimistic and North Americans somewhat less so,” according to the results of the latest Survey of Business Confidence of the World by Moody’s Economy.com. Businesses are most upbeat when responding to broader questions about current conditions and the outlook into this summer, but remain cautious when responding to specific questions regarding the strength of sales, pricing, inventories and hiring.

Source: Moody’s Economy.com

Meanwhile, the Ifo Business Survey for industry and trade in Germany clouded over somewhat in February. For the first time in ten months, the business climate index has not risen, blaming especially the situation in retailing, which experienced a setback in February. On the whole, the firms have assessed their current business situation somewhat more unfavorably than in the previous month.

Source: Ifo Business Survey, February 23, 2010.

A snapshot of the week’s rather mixed US economic reports is provided below. (Click on the dates to see Northern Trust’s assessment of the various data releases.)

Friday, February 26
• Existing home sales and inventories disappoint
• Minor revisions of Q4 real GDP

Thursday, February 25
• Have durable goods orders and shipments turned the corner?
• Total continuing claims remain at elevated level

Wednesday, February 24
• Chairman Bernanke repeats “Fed fund rate to remain exceptionally low for an extended period”
• Sales of new homes post new record low
• As Greece goes, so goes the US?

Tuesday, February 23
• Consumer confidence slips in February
• Case-Shiller Home Price Index records seventh monthly gain

Monday, February 22
• Fed’s Yellen underscores that removing monetary accommodation now is inappropriate
• Chicago Fed Index advances in January

Referring to Fed Chairman Bernanke’s testimony, Asha Bangalore (Northern Trust) said: “The most important message from Chairman Bernanke’s testimony is that the federal fund rate will be held at 0%-0.25% for an extended period. In light of the higher discount rate (0.75% vs. 0.50%) announced on February 18, 2010, market participants obtained confirmation from the Chairman that the change in the discount rate was a removal of emergency accommodation put in place to address the financial crisis and not a sign of tightening of the monetary policy stance.”

“I don’t think the Fed dares increase the fed fund or policy rate in the face of unemployment at double-digit type of levels. This is more of a technical maneuver,” Bill Gross of Pimco told Reuters (via MoneyNews).

In related news, the Treasury said on Tuesday that it would bolster its Supplementary Financing Program by selling $200 billion in short-term debt and storing the proceeds at the central bank, thereby helping the Fed remove reserves from the financial system.

Summarizing the growth outlook, Bangalore said: “Going forward, the US economy is predicted to show moderate growth in the first three quarters of 2010 and strong growth in the final three months of 2010, with the virtuous cycle of real and financial recovery working together to lift economic growth.”

Bespoke highlights a daily Life Evaluation Poll conducted by Gallup.com and Healthways in which participants are asked whether they are “thriving”, “struggling” or “suffering”. As shown below, 56% now say they’re thriving, while 41% say they’re struggling (3% are suffering, which is not shown on the chart). ”These readings are at just about the widest spread we’ve seen since the markets’ recovery began,” remarked Bespoke.

Source: Bespoke, February 26, 2010.

Week’s economic reports
Click here for the week’s economy in pictures, courtesy of Jake of EconomPic Data.

Source: Yahoo Finance, February 26, 2010.

Click here for a summary of Wells Fargo Securities’ weekly economic and financial commentary.

Next week sees interest rate announcements by the Bank of England (BoE) and the European Central Bank (ECB) (Thursday, March 4). In addition, US economic data reports for the week include the following:

Monday, March 1
• Personal income
• Personal spending
• PCE prices
• Construction spending
• ISM Manufacturing Index

Tuesday, March 2
• Auto sales
• Truck sales

Wednesday, March 3
• Challenger job cuts
• ADP employment
• ISM Services Index
• Fed’s Beige Book

Thursday, March 4
• Jobless claims
• Productivity
• Factory orders
• Pending home sales

Friday, March 5
• Nonfarm payrolls
• Consumer credit

Markets
The performance chart obtained from the Wall Street Journal Online shows how different global financial markets performed during the past week.

Source:Wall Street Journal Online, February 26, 2010.

Final words

Sam Stovall, chief investment strategist for Standard & Poor’s Equity Research Services, said: “If everyone is forecasting something, then you know it won’t come true.” (Hat tip: Charles Kirk.) Let’s hope the news items and quotes from market commentators included in the “Words from the Wise” review will assist readers of Investment Postcards in guarding against popular (and often wrong) market views.

That’s the way it looks from Cape Town with its sun-drenched days.

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Source: Adam Zyglis, Comics.com

Real World Economics Review Blog: Greenspan, Friedman and Summers win Dynamite Prize in Economics
“Alan Greenspan has been judged the economist most responsible for causing the Global Financial Crisis. He and 2nd and 3rd place finishers Milton Friedman and Larry Summers, have won the first - and hopefully last - Dynamite Prize in Economics.

“They have been judged to be the three economists most responsible for the Global Financial Crisis. More figuratively, they are the three economists most responsible for blowing up the global economy.

“More than 7,500 people voted - most of whom were economists themselves - from the 11,000 subscribers to the real world economics review. With a maximum of three votes per voter, a total of 18,531 votes were cast.

“This blog established the prize in response to attempts by economists to evade responsibility for the crisis by calling it an unpredictable, ‘Black Swan’ event. In reality, the public perception that economic theories and policies helped cause the crisis is correct.”

Source: Real World Economics Review Blog, February 22, 2010.

BCA Research: Sowing the seeds of the next fiscal crisis?
“Mushrooming government indebtedness has reemerged to the forefront as a major issue. “Global policymakers learned from the volatility during the first half of the 20th century: when faced with an adverse economic shock, the natural tendency for a modern economy with leverage is to deflate and undergo an Austrian-style cleansing process. Thus, there is an incentive for authorities to reflate each time economic and financial problems break out, encouraging a further buildup of debt and leverage in the economy (i.e. push today’s problems forward to the next generation).

“We have coined this the Debt Supercycle. Unfortunately, the dramatic increase in the policy response needed to end the current recession suggests that the Debt Supercycle is nearing an end. In fact, we would argue that the household sector in the US, UK, and many parts of the euro area have already moved beyond their natural debt ceilings, due in part by lax bank lending standards in recent years.

“Given that authorities have reached the limit of their ability to convince households to take on more leverage, governments have instead been forced to leverage themselves to prevent a deflationary economic adjustment. In addition, the nature of the synchronized global downturn meant that substantial currency depreciation was not a viable reflation option for policymakers. As such, monetary and fiscal policy had to do the heavy lifting. Sizable deficits were a necessary evil if authorities wanted to avoid a sustained period of debt-deflation.”

Source: BCA Research - Daily Insights, February 26, 2010.

David Fuller (Fullermoney): Concentrate long-term investments in low risk countries
“There has been a great deal of discussion in the financial press about whether Greece will successfully navigate the crisis it now finds itself in, if the Eurozone will survive a sovereign debt default should one occur and if there is a risk of contagion for countries such as the UK, Japan and the US. These are all important questions which we will have definitive answers for in the coming months and years but to my mind there is a more important question that needs to be addressed first.

“All the issues facing these governments are in essence related to a problem with too much debt and leverage and not enough tax receipts to pay it down. The questions so far have focused on how one country or another might survive this crisis but from the perspective of a judge at an international beauty contest do we want to invest in these countries at all since there are plenty more where these problems are relatively minor if they exist at all?

“Commodity producers such as Australia and Canada have come through this crisis comparatively unharmed. Most of the others are primarily in the so-called emerging markets. Brazil is now a net creditor, China has the biggest foreign currency reserves in the world. Large numbers of countries in Latin America and Asia run trade surpluses. If we look at the world with a broader perspective we see clearly where risk and leverage are concentrated.

“The outcome of the major challenges facing the US, UK, Eurozone and Japan are crucial because of the effect they have on the global market. However, we do not have to invest in the debt, currencies or equities of these countries. Others are better equipped to deal with these issues from a position of strength. They have shown to be credible managers of their economies in a truly testing era and it is surely in these countries one should concentrate long-term investments.”

Source: David Fuller, Fullermoney, February 24, 2010.

Financial Times: Experts eye possible Greek bail-out
“As Greece battles to stop its public finances from drowning in debt, technical experts in eurozone capitals are already looking at the shape of a possible bail-out - despite a chorus of governments insisting that no plans for such a move exist.

“Even Berlin has become so worried about the stability of the euro - and of German banks holding Greek debt - that officials have begun toning down Germany’s “No financial aid for Greece” mantra.

“One senior German official said Berlin and other eurozone governments were prepared to lend Athens money or buy its sovereign bonds, should the Greek administration run into trouble rolling over debt on the markets.

“Lorenzo Bini Smaghi, of the European Central Bank’s executive board, told Italian television that it was ‘possible that money will be needed’ to help Greece. But it would be a sum ‘much more limited’ than the figure of about €20bn ($27bn) discussed by eurozone officials this month.

“Athens has about €20bn in debt coming due in April and May, which will need to be refinanced. Eurozone nations hope that current Greek reforms will convince investors to buy its bonds - with the eurozone only covering any shortfall.

“German officials have said any funding gap the zone might have to fill could well prove ‘quite small’. Berlin might push for the symbolism of all euro nations chipping in modest amounts to meet this shortfall, according to these officials.

“A tried-and-tested allocation key under consideration for this approach is based on the gross domestic product and population-weighted shareholdings of the European Central Bank. By this measure, Berlin would cover 28 per cent of Greece’s funding gap, Paris 21 per cent and Rome 18.

“The bigger the Greek funding need, however, the more this would strain other budgets also under pressure in Italy, Spain, Portugal and Ireland. For this reason, a French official said helping Athens could yet be voluntary.

“In a sign that any help would be decided in an ad hoc manner, a German official said measures would be agreed ‘on a case-by-case basis’. It would be up to each country to decide for itself how to structure its contributions.”

Source: Gerrit Wiesmann and Peggy Hollinger, Financial Times, February 23, 2010.

The Wall Street Journal: Greek debt crisis - Athens choked by general strike
“A massive general strike to protest EU-mandated austerity measures closed banks, government offices and post offices, crippling the Greek capital on Wednesday. The Wall Street Journal’s Andy Jordan reports from the streets of Athens.”

Source: The Wall Street Journal, February 24, 2010.

MartinKronicle: Greece and California death match
“The spreads between Greece/German bunds and California/30-yr Treasuries are widening. Investors are demanding more for carrying the risk. The downgrade in CA paper yesterday will give the Greek bonds a run for their Drachmas …

“According to a Reuters report, the spread between 10-year Greek government bonds and the benchmark Euro zone German bunds has risen to an 11-month high of 298 bps, up from 265 the day before. The high is 300 bps set about a year ago. The equivalent for Spanish bonds is trading at 81 bps premium over German bunds.

“According to an article in Bloomberg, the spreads between CA debt and the 30-year bond are also widening and PIMCO was quoted as saying that the CA debt crisis is headed back to disaster levels.

“Bloomberg: ‘A taxable California bond that matures in 2039 traded today for an average yield of 7.79 percent in blocks of more than $1 million, the highest since December 28, according to Municipal Securities Rulemaking Board data. That opened a gap of 3.15 percentage points between California’s bond and 30-year Treasuries, according to Bloomberg data.’

“Yikes …!

“Add to that the fact that S&P downgraded California’s debt rating to AA- from AA … not that I hold S&P in any esteem - I don’t. But the fact is that CA will now have to pay higher coupon payments on the issuance of new debt thanks to the downgrade. They deserved it.”

Source: MartinKronicle, February 24, 2010.

Financial Times: Goldman role in Greek crisis probed
“The US central bank is looking into Goldman Sachs’s role in arranging contentious derivatives trades for Greece, which helped the country to massage its public finances, Ben Bernanke, chairman of the Federal Reserve, revealed on Thursday.

“‘We are looking into a number of questions relating to Goldman Sachs and other companies and their derivatives arrangements with Greece,’ Mr Bernanke said, apparently referring to Greek currency transactions structured by Goldman.

“Testifying before Congress, Mr Bernanke also responded to concerns that instability in markets for Greek debt and other securities has been heightened by trading in other derivatives, known as credit default swaps, which compensate investors in case of default.

“Mr Bernanke said default swaps are ‘properly used as hedging instruments’ and that ‘using these instruments in a way that intentionally destabilises a company or a country is counterproductive’.

“The Securities and Exchange Commission is ‘examining potential abuses and destabilising effects related to the use of credit default swaps and other opaque financial products and practices’, said a spokesman.

“Separately, Phil Angelides, chairman of the US Financial Crisis Inquiry Commission, told the Financial Times he was concerned about the practice of creating securities and ‘fully betting against them’ - and about Goldman’s role in particular. Goldman declined to comment.”

Source: Alan Rappeport, Tom Braithwaite and David Oakley, Financial Times, February 25, 2010.

Financial Times: Bernanke signals US rates to be kept low
“US interest rates will remain at exceptionally low levels for an ‘extended period’ in spite of the ‘nascent’ economic recovery, Ben Bernanke, chairman of the Federal Reserve, told Congress on Wednesday.

“Mr Bernanke painted a gloomy picture of the economy, still struggling with high unemployment and a weak housing market. Inflationary pressures, the main driver of tighter monetary policy, were likely to remain ’subdued’, he said.

“Facing lawmakers for the first time in his second term as Fed chairman, he told the House financial services committee: ‘The Federal Open Market committee continues to anticipate that economic conditions - including low rates of resource utilisation, subdued inflation trends and stable inflation expectations - are likely to warrant exceptionally low levels of the federal funds rate for an extended period.’

“The insistence that rate rises are months away will damp fears that last week’s increase in the discount rate - at which commercial banks can borrow emergency cash from the central bank - from 0.5 per cent to 0.75 per cent heralds a swifter tightening of monetary policy.

“Fed officials, including Mr Bernanke, have indicated it was simply a move to unwind emergency liquidity measures put in place during the crisis, as a result of improving conditions in the financial markets, and not a tightening move. Goldman Sachs economists said it was ‘crystal clear’ the Fed did not anticipate raising rates soon.

“Nevertheless, the Fed this month began to lay out its vision for the sequence of measures that it expects to take to withdraw reserves from the financial system once the economic recovery is sufficiently strong. Although the economy grew at an annualised rate of 5.7 per cent in the fourth quarter of 2009, economists are expecting the pace of growth to slow over the course of the year. The Fed is expecting growth of 3 per cent to 3.5 per cent this year.

“‘A sustained recovery will depend on continued growth in private sector final demand for goods and services,’ said Mr Bernanke.

“Mr Bernanke also addressed the fallout from the financial crisis. He said the US central bank would step up surveillance of financial institutions and agreed that congressional investigators should be allowed to audit the emergency facilities put in place during the crisis.”

Source: James Politi, Financial Times, February 24, 2010.

MoneyNews: Pimco - Fed move isn’t start of tightening cycle
“The Federal Reserve’s surprise move on Thursday to raise the interest rate it charges banks for emergency loans does not mean that a full-fledged tightening cycle has begun, the manager of Pimco, the world’s biggest bond fund, told Reuters.

“‘I don’t think it’s the beginning, really, of a tightening from the standpoint of monetary policy,’ Bill Gross told Reuters soon after the Fed’s decision.

“‘I don’t think it is the beginning of an increase in the fed funds rate or in terms of interest on reserves that has been discussed as well.’

“The US central bank took pains to draw the distinction between the discount rate and its target for the overnight interbank rate, its main monetary policy tool. That rate remains unchanged near zero percent as a fragile US economic recovery struggles to gain traction.

“‘Like the closure of a number of extraordinary credit programs earlier this month, these changes are intended as a further normalization of the Federal Reserve’s lending facilities,’ the Fed said in a statement.

“‘The modifications are not expected to lead to tighter financial conditions for households and businesses and do not signal any change in the outlook for the economy or for monetary policy,’ it said.

“‘I don’t think the Fed dares increase the fed funds or policy rate in the face of unemployment at double-digit type of levels. This is more of a technical maneuver,’ said Gross.

Source: MoneyNews, February 19, 2010.

Financial Times: Fed efforts boosted by Treasury’s $200 billion debt plan
“The Federal Reserve’s ability to drain excess liquidity from the financial system received a boost on Tuesday when the Treasury revived a plan to sell $200bn in short-term debt and store the proceeds at the central bank.

“The move comes as the Fed lays the groundwork to shrink its balance sheet in preparation for the time when the economy is sufficiently strong to require a tightening of monetary policy.

“By bolstering its Supplementary Financing Programme, the Treasury would help the Fed remove $200bn in reserves from the financial system. Some economists said that this would help bring the Fed’s main interest rate closer to the upper end of its current 0-0.25 per cent target.

“‘This move does mean there will be $200bn fewer reserves in the banking system, which could provide a little bit of lift to the effective fed funds rate,’ said Michael Feroli of JPMorgan. ‘As such, it could be seen as a first step in putting the Fed in position to raise rates.’

“However, the move was described as a ‘purely technical adjustment in liquidity’ by Joseph Abate of Barclays Capital. He said: ‘The $200bn worth of reserves drained … is unlikely to have a noticeable effect on the effective funds rate, which remains locked under 15 basis points.’

“The Fed did not comment on the move, but Ben Bernanke, chairman, could address the issue when he faces Congress on Wednesday. The Treasury programme was introduced during the crisis to help the Fed better manage its balance sheet.

“It had been wound down since last September, when the government’s borrowing capacity ran up against the US debt ceiling. Congress recently agreed to raise the debt ceiling to $1,900bn, making it possible to revive the programme.”

Source: James Politi, Financial Times, February 24, 2010.

TheStreet.com: Stiglitz says beware of double dip
“Joseph Stiglitz, Nobel prize winning economist and the author of Freefall, says the worst effects of the credit crisis may be behind us, but the American economy remains highly vulnerable to a double dip recession.”

Source: TheStreet.com, February 24, 2010.

Asha Bangalore (Northern Trust): Minor revisions of Q4 real GDP
“Real gross domestic product grew at an annual rate 5.9% in the fourth quarter of 2009, slightly higher than the previously reported increase of 5.7%. Upward revisions of inventories, exports, structures, and equipment and software more than offset downward revisions of consumer spending, government spending, and residential investment expenditures to yield a higher headline reading compared with the advance estimate.

“At the cost of reiterating, the fourth quarter headline GDP number is large but not strong because real final sales increased only 1.9% in the fourth quarter, while inventories accounted for nearly seventy percent of the increase in real GDP during the fourth quarter.

“Going forward, the US economy is predicted to show moderate growth in the first three quarters of 2010 and strong growth in the final three months of 2010, with virtuous cycle of real and financial recovery working together to lift economic growth.”

Source: Asha Bangalore, Northern Trust - Daily Global Commentary, February 26, 2010.

Asha Bangalore (Northern Trust): Total continuing claims remain at elevated level
“Initial jobless claims rose 22,000 to 496,000 in the week ended February 20. Essentially, initial jobless claims established a bottom in January and have once again resumed an upward trend, which is very worrisome. Continuing claims, which lag initial claims by one week, were virtually steady at 4.617 million and the insured unemployment rate was unchanged at 3.5%.

“Total continuing claims, inclusive of claims under special programs, fell slightly to 10.29 million during the week ended February 6 from 10.56 million in the prior week. Total continuing claims have risen 3.95 million over the past year. The labor market remains the biggest concern of the FOMC, competing closely with the housing market.”

Source: Asha Bangalore, Northern Trust - Daily Global Commentary, February 25, 2010.

Clusterstock: The unemployment chart you’ll love and hate
“Here’s an unemployment chart you’ll both love and hate, from Citi’s Steven Wieting.

“As shown below, since 1980, employment (in red) has fallen after corporate profits (in black) have risen, and vice versa. The relationship is very clear.

“Problem is, there’s about a one-year lag between the two trends. This highlights what should simply make sense - companies hire people once they see profits rebounding, and more importantly once they believe that adding more people will lead to higher profits. Still, this fact of economics isn’t fun for the unemployed.

“But here’s the good news. Given the recent rebound in corporate profits the US has already experienced, there is a very high chance that employment will get better over the coming twelve months. One can’t stress enough the fact that employment is a lagging indicator.”

Source: Vincent Fernando and Kamelia Angelova, Clusterstock - Business Insider), February 25, 2010.

Financial Times: US senate moves ahead on $15 billion jobs bill
“The US Senate on Monday voted to move forward on a $15 billion jobs bill proposed by Harry Reid, leader of the Democratic majority in the Senate.

“The 62-30 vote in favour of ending ‘cloture’ prevents a Republican filibuster and came as an exception to the months of gridlock in Congress. It will pave the way for a jobs bill to clear the Senate, just as other critical employment benefits are set to expire.

“Democrats needed to secure two Republican votes to block the filibuster and one came thanks to Scott Brown, making his first vote since he filled Edward Kennedy’s former seat in Massachusetts.

“‘I hope this is the beginning of a new day in the Senate,’ Mr Reid said, invoking Mr Brown by name for his bipartisanship.

“The scaled-back measure is expected to create 250,000 jobs through an array of tax credits and payroll tax exemptions to stimulate hiring. The bill frees businesses from payroll taxes on workers who are hired after more than 60 days of unemployment and gives them a tax credit of $1,000 for new hires that they keep for more than a year.

“The bill also provides funding for highway and transportation projects, allows companies to write-off equipment purchases as expenses and expands the Build America bond scheme to help subsidise school and energy projects.”

Source: Alan Rappeport, Financial Times, February 22, 2010.

Standard and Poors’: Home prices continue to send mixed messages
“Data through December 2009, released today by Standard & Poor’s for its S&P/Case-Shiller Home Price Indices, the leading measure of US home prices, show that the US National Home Price Index fell in the fourth quarter of 2009 but has improved in its annual rate of return, as compared to what was reported in the third quarter.

“The chart above depicts the annual returns of the US National, the 10-City Composite and the 20-City Composite Home Price Indices. The S&P/Case-Shiller US National Home Price Index, which covers all nine US census divisions, recorded a 2.5% decline in the fourth quarter of 2009 versus the fourth quarter of 2008. This is a significant improvement over the annual rates reported in the first, second and third quarters of the year, at -19.0%, -14.7% and -8.7%, respectively. In December, the 10-City and 20- City Composites recorded annual declines of 2.4% and 3.1%, respectively. These two indices, which are reported at a monthly frequency, have seen improvements in their annual rates of return every month since the beginning of the year.

“‘As measured by prices, the housing market is definitely in better shape than it was this time last year, as the pace of deterioration has stabilized for now. However, the rate of improvement seen during the summer of 2009 has not been sustained,’ says David Blitzer, Chairman of the Index Committee at Standard & Poor’s.”

Source: Standard and Poors’, February 23, 2010.

VisualEconomics: Cost of home ownership
“The last three years have seen a significant drop in the cost of housing in the United States; bringing prices back down from once astronomical levels.”

Source: VisualEconomics, February 23, 2010.

Asha Bangalore (Northern Trust): Existing home sales and inventories disappoint
“Sales of all existing homes fell 7.2% to an annual rate of 5.05 million units in January after a 16.2% drop in December. Sales of existing single-family homes declined 6.9% to an annual rate of 4.43 million units. Purchases of existing single-family homes have risen nearly 9.0% from the trough in January 2009. Sales of existing homes fell in all four regions across the nation during January. It appears that the extension of the first-time home buyer tax credit program is yet to translate into increased sales; the program expires in April 2010.

“The median price of an existing single-family home was down 0.4% from a year ago to $163,600. There is a gradual stabilization of home prices visible in latest movements of the median price of an existing single-family home but the recent increase in inventories of unsold homes casts a shadow on projections of further improvements on the price front.

“The seasonally adjusted inventory-sales ratio of single-family existing homes rose to 8.4-month supply during January from a 7.6-month mark in December.”

Source: Asha Bangalore, Northern Trust - Daily Global Commentary, February 26, 2010.

Asha Bangalore (Northern Trust): Consumer confidence slips in February
“The Conference Board’s Consumer Confidence Index fell to 46.0 in February from 56.5 in the prior month. This is the lowest since July 2009. Sluggish employment conditions are seen to be a major reason for the loss of confidence in February after a string of three monthly gains. The Present Situation Index (19.4 vs. 25.2 in February) and the Expectations Index (63.8 vs. 77.3 in February) declined in February.

“The number of respondents indicating that ‘jobs are to hard to get’ rose in February (47.7% vs. 46.5% in January), while the number claiming that ‘jobs are plentiful’ fell (3.6% vs. 4.4% in January). The net of these two indexes tracks the unemployment rate closely. The difference between these two indexes widened to 44.1 in February from 42.1 in January, suggesting that the jobless rate is most likely to inch higher in February.”

Source: Asha Bangalore, Northern Trust - Daily Global Commentary, February 23, 2010.

Asha Bangalore (Northern Trust): Have durable goods orders and shipments turned the corner?
“The headline number for orders of durable goods in January (+0.3%) is strong. But, shipments of durable goods edged down 0.2% after a 2.4% increase in the prior month. The durable goods numbers always show big swings because of large ticket items. The January increase in orders was lifted by the 126% increase in orders of aircraft, with orders excluding transportation posting a 0.6% drop. One way to sort out the large deviations of month-to-month data is to look at year-to-year changes. On a year-to-year basis, orders (+9.9%) and shipments (+1.5%) of durable goods posted gains in January, after an extended period of declines going back to early-2008. This change in trend is noteworthy and warrants close watching.”

Source: Asha Bangalore, Northern Trust - Daily Global Commentary, February 25, 2010.

Financial Times: Foreclosures in the US
“Aline van Duyn, US markets editor of the Financial Times, says that a number of American homeowners whose houses are worth less than their mortgages are choosing to let their homes go into foreclosure and let the banks suffer the losses.”

Source: Financial Times, February 22, 2010.

Clusterstock: Bankers getting paid a lot to sit on their hands and do nothing
Yesterday we pointed you to the latest data from the St. Louis Fed showing that bank lending continues to plunge. Rather than ply businesses with loans, banks are instead opting to hoard cash and buy Treasuries.

“And yet despite the lending shutdown, bonuses are back up, per fresh data out today from the New York Comptroller. In other words, sitting on your hands and doing nothing is a pretty lucrative gig.”

Source: Joe Weisenthal and Kamelia Angelova, Clusterstock - Business Insider, February 23, 2010.

Financial Times: Number of US “problem” banks soars
“The number of problem banks in the US continued to soar in last year’s fourth quarter, hitting their highest level since 1993, according to a regulatory report released on Tuesday.

“The findings by the Federal Deposit Insurance Corp suggest that, although the US economy is on the mend, the financial industry, bedevilled by souring residential and commercial real estate loans, will take longer to recover.

“The FDIC said 702 banks were considered troubled at the end of 2009, up from 552 three months earlier. Problem assets totalled $402.8bn in the final period, compared with $345.9bn in the third quarter. By contrast, Lehman Brothers listed $639bn in assets at the time of its bankruptcy filing in September 2008.

“No longer confined to Wall Street, the financial crisis has cascaded over to regional and community banks that are feeling a disproportionate amount of the pain. ‘The great recession has very much become a Main Street problem,’ said Richard Brown, the FDIC’s chief economist.

“Although bank earnings showed a slight improvement in the fourth quarter, totalling $914m against a $37.8bn loss in the year-ago period, they still remain below historical highs. Any improvement in earnings, the FDIC said, was concentrated among the largest institutions.

“For the full year, banks earned $12.5bn, up from $4.5bn in 2008 but far below the $100bn recorded in 2007.

“Loan losses jumped for the 12th consecutive quarter to total $53bn, an increase of 37 per cent over the year-ago period. On an annualised basis the rate of losses accounted for in the quarter was the highest in more than two decades.

“Losses rose in all significant categories, including residential mortgage loans and credit card debt. One of the fastest growing categories for uncollectable debt was commercial real estate.

“Although the level of bank failures is alarming, it pales against the troubles of the savings and loan crisis. At the height of that meltdown, in 1987, some 2,165 banks were considered troubled and problem assets totalled $833bn.

“But the full weight of the current crunch has yet to be felt. The FDIC took over 140 banks in 2009 and analysts expect more to follow. The FDIC said on Tuesday it set aside another $17.8bn in the fourth quarter for bank failures. It expected total bank failures to cost $100bn from 2008 to 2013.”

Source: Suzanne Kapner, Financial Times, February 23, 2010.

John Authers (Financial Times): US yield curve
“We ignore the yield curve at our peril. That is one of the lessons from the financial implosion that started in 2007, but how do we apply it now?

“The yield curve is the popular name for the spread between the yields on 10-year and two-year Treasury bonds. Usually, investors require a bigger yield to compensate them for the greater risks that come with lending money over a longer term.

“When short-term yields rise above long-term ones, then market jargon holds that the yield curve is “inverted”. This has been a great recession indicator, as it implies the market thinks short-term interest rates must imminently be cut. Each of the past seven recessions was preceded by a brief period when the yield curve was inverted and there has only been one false signal.

“But what happens when the yield curve gets very steep? That is happening now and there are few, if any, precedents. Last week, 10-year yields exceeded two-year ones by 2.94 percentage points, the highest figure since the Federal Reserve’s records for this indicator began in 1976.

“Its previous peaks were at about 2.5 percentage points in October 2003, when a brief bull market in equities was gathering pace, and October 1992, when years of expansion for both markets and the economy lay ahead.

“Should this, then, be regarded as a big reason for optimism? Perhaps not. An implicit bet that rates will rise over the next 10 years is not daring when rates are virtually at zero. Neither is a call for an intermediate economic recovery after a savage recession.

“In any case, the extremes that financial markets have touched in the past few years make it dangerous to read any indicator with too much confidence. But it does seem to suggest that the market is more convinced than economists both that central banks will be raising rates sooner rather than later and that the US economy is enjoying a true recovery.”

Source: John Authers, Financial Times, February 22, 2010.

MoneyNews: Rogers - China will keep dumping US Treasuries
“China will continue to sell US Treasuries in the future, says Jim Rogers, co-founder of the Quantum Fund.

“China will unload more debt as the ‘euro scare’ continues, he said.

“The government reported that appetite for Treasuries declined by the largest amount in December as China reduced its allocation by $34.2 billion to $755.4 billion. Japan made a similar move and lowered its amount by $11.5 billion to $768.8 billion.

“‘I am surprised China has not dropped more,’ Rogers told CNBC.

“The United States should be concerned about this change in investments, he said.

“‘The US should be worried about everyone lightening up - not just China,’ Rogers said.

“Lawrence Summers, director of the White House National Economic Council, said the paring back is not a concern, CNBC reported.

“‘The truth is that these numbers fluctuate and that there’s a wide range of holders of Treasury debt. What’s been very clear from the market responses over the last two years is that the United States is seen as a major source of quality and a place people run to when they’re uncertain,’ he said.

“Other analysts said the amount of US government debt held by the Chinese is likely to be a larger amount since they also buy anonymously via banks in Switzerland, Britain and other countries, the Associated Press reported.

“‘We do not believe that the Chinese are dumping Treasuries. What they are doing is diversifying the channels through which they make these purchases so that it is much more difficult for the market to ascertain what they are doing,’ said Arthur Kroeber, managing director of GaveKal Dragonomics, a Beijing research firm.”

Source: Ellen Chang, MoneyNews, February 25, 2010.

MoneyNews: Pimco - junk bonds may post double digit returns in 2010
“US high-yield bonds could post investment returns in the high single digits to the low double digits this year after their record 58 percent return in 2009, Pimco, the world’s biggest bond fund, said in a new report.

“With yields still attractive and the risk of a financial system collapse largely in the past, ‘we believe investors can capture attractive yields and excess spread in the high-yield market with relatively low default risk,’ Andrew Jessop, high-yield portfolio manager at Pacific Investment Management Co, said in a note on the company’s website.

“High-yield bonds also look attractive compared with equities, which typically depend on faster growth to perform well at this point in the economic cycle, Jessop said.

“However, Pimco’s forecast is that slower economic growth will become the ‘New Normal’ amid broad deleveraging trends, increased regulation and deglobalization, he said.

“‘In that environment, many investors believe equities could continue to underperform high-yield’ bonds, he said.”

Source: MoneyNews, February 24, 2010.

Bespoke: Country and region ETFs
“Below we highlight the recent action in a number of country and region ETFs. For each ETF, we provide its 5-day price change, its percentage from its 50-day moving average, and its percentage overbought or oversold. An ETF is overbought if it’s trading more than one standard deviation above its 50-day, and the percentage number shown indicates how far the ETF is trading above its overbought level. One standard deviation below represents the oversold level.

“As we highlighted in our prior post, the US has been outperforming emerging markets recently. Where the various country ETFs are trading versus their 50-days shows a similar trend. The S&P 500 tracking SPY ETF is one of just four ETFs highlighted below trading above its 50-day moving average. The only other country ETFs trading above their 50-days are Australia (EWA), Canada (EWC), and Mexico (EWW). All of North America is doing well. If we look at the various regional ETFs (Europe, Emerging Markets, Asia, etc.), all of them are still trading below their 50-days.”

Source: Bespoke, February 22, 2010.

Bespoke: Welcome back - USA back in style
“In the charts below, we show the performance of ETFs which track the S&P 500 (SPY) and the MSCI Emerging Market Index (EEM). The third chart shows the relative strength of emerging markets versus the S&P 500. In the relative strength chart, a rising line indicates that emerging markets are outperforming the US, while a falling line indicates the US is outperforming.

“Based on the performances of both ETFs over the last several years, investors have become conditioned to the theme that when equities are rising, emerging markets typically outperform the US. On the other side of the coin, during periods when equities are weak, US stocks have typically held up better than their emerging market peers. As seen on the relative strength chart, the only period where US stocks meaningfully outperformed emerging markets was during the credit crisis (red line in all three charts).

“The existence of this long-term trend makes recent developments all the more interesting. Since the recent lows in early February, equity markets around the world have all recovered to some degree. However, unlike prior rebounds, emerging markets have been underperforming. In fact, while the major US averages (S&P 500, DJIA and Nasdaq) closed above their 50-day averages on Friday, all four BRIC countries (Brazil, Russia, India, and China) had yet to achieve that milestone. Whether or not this trend fizzles out or is an early warning sign for the global economy is debatable, but in either case, emerging market investors would be wise to be on alert.”

Source: Bespoke, February 22, 2010.

Bespoke: S&P 500 sector stats
“As shown below, Consumer Discretionary and Consumer Staples are currently trading the farthest above their 50-day moving averages of the ten sectors. The other two sectors currently above their 50-days are Industrials and Financials. Below we provide the year-to-date change, % from 50-DMA, dividend yield, P/E ratio, price to sales ratio, and price to book ratio for the various sectors. Across the board, we use red to green as the color code from lowest to highest, but obviously for ratios, the lower the better.

“While it used to have one of the highest yields, the Financial sector currently has the second lowest yield at 1.15%. It also has the highest P/E ratio at 66.44, but it has the lowest price to book at 1.14. Consumer Staples, Consumer Discretionary and Telecom have the lowest price to sales ratios, while Technology has the highest. Technology also has the highest price to book.”

Source: Bespoke, February 24, 2010.

Bespoke: Retail sector closes at new bull market high
“Yesterday’s weak Consumer Confidence report has many worried that the consumer is still down in the dumps. If so, no one has told the consumer sectors of the stocks market. As shown below, the S&P 500 Retail sector actually made a new bull market high today. The S&P 500 still has a ways to go to get back to new highs. While the Consumer Confidence report is indicating a weak consumer, the market still seems to be predicting strength from the consumer. If it weren’t for groups like retail, the overall market would be doing worse.”

Source: Bespoke, February 24, 2010.

Bespoke: Percentage of stocks above 50-day moving averages
“As shown below, 55% of stocks in the S&P 500 are currently trading above their 50-day moving averages. The index itself is still trading below its 50-day, so breadth in this case is strong. Looking at sectors, Energy and Consumer Discretionary have the highest percentage of stocks above their 50-days at 69%. Consumer Staples ranks third at 64%. Technology, Materials, Utilities, and Telecom are the four sectors with readings that are still below 50%.”

Source: Bespoke, February 19, 2010.

Bespoke: Final earnings season stats
“The fourth quarter earnings season came to an end yesterday with Wal-Mart’s report. Below we highlight the final earnings and revenue beat rate for all US companies that reported this earnings season. For the third quarter in a row, 68% of companies beat earnings estimates. The revenue beat rate was really strong this quarter at 70% - the highest reading since Q4 ‘04. Does this put the ’strong bottom line, but weak top line’ bearish argument to rest?”

Source: Bespoke, February 19, 2010.

MoneyNews: Biggs - US, Asian stocks will rally higher
“Stocks have further room to rise, thanks to buoyant global economic growth, says Barton Biggs, managing partner at hedge fund firm Traxis Partners.

“‘There is every reason to believe the US is in a strong recovery, and Asia is in a very strong recovery,’ he says.

“While Europe’s growth has been a bit disappointing, the Greek crisis could actually help economies on the continent by pushing the euro down, he told Bloomberg.

“‘A little weakness in the euro is probably good for European exports and for the European economy.’

“Biggs thinks the European Union is handling the Greek situation properly.

“‘The Europeans sent the right message, saying if you can convince us you’re going to practice some discipline, then we’ll take care of you. And I think that’s going to happen.’

“Biggs also approves of China’s steps to deflate its credit bubble.

“‘The Chinese authorities are doing the right thing in terms of gradually tightening. … In all probability China is going to have a soft landing.’

“So what does all this mean for stocks?

“‘On balance, … I’m pretty bullish here,’ Biggs said.”

Source: Dan Weil, MoneyNews, February 22, 2010.

BCA Research: Hot money flows are driving the US dollar trend
“Recent data shows that speculative flows have been a major driver of the bounce in the dollar, especially versus the euro. ‘Hot money’ positions have now reached levels where marginal dollar buyers will be increasingly scarce. For the dollar’s recovery to persist and to be a genuine cyclical advance, it needs the tailwind of long term capital inflows.

“Foreign flows into US equities and Treasury bonds have accelerated smartly and net sales of agency bonds have come to a halt. But capital flows should be analyzed alongside trade and current account deficit positions. While foreign portfolio flows into the US are improving, the US trade account is deteriorating anew. Moreover, capital outflows by US-based investors have resumed. The sum of net long term portfolio inflows and the trade deficit, a monthly proxy for the basic balance, remains well below the 2002 - 2007 average, which was a period of steady dollar weakness.

“Over the coming months, the cyclical economic recovery and the record low national savings rate should keep the US current account deficit on a widening path. This will make it difficult for the basic balance to improve. Indeed, the healthiest environment for the dollar is when the current account deficit is financed by private sector capital inflows. This is typically a sign of strong US growth and attractive expected returns.

“History shows that whenever the US becomes reliant on foreign monetary authorities, the dollar has been under pressure. Foreign reserve accumulation can prevent a dollar crash, but it has never led to sustainable dollar strength. Bottom line: Trends in long term capital flows suggest that the dollar is not yet in a sustainable bull trend.”

Source: BCA Research, February 25, 2010.

MoneyNews: Soros - euro’s future in question even if Greece saved
“A makeshift assistance should be enough to rescue Greece but bigger problems facing Europe would leave the future of the euro currency in question, billionaire investor George Soros said.

“Writing in the Financial Times, Soros said what the European Union needed was more intrusive monitoring and institutional arrangements for conditional assistance.

“He said a well organized euro bond market was desirable.

“‘A makeshift assistance should be enough for Greece, but that leaves Spain, Italy, Portugal and Ireland. Together they constitute too large of a portion of euro land to he helped in this way,’ Soros said.

“‘The survival of Greece would still leave the future of the euro in question.’

“Greece’s deficit swelled to 12.7 percent of gross domestic product in 2009, way above the EU’s cap of 3 percent.

“Greece has pledged to reduce its budget deficit to 8.7 percent in 2010.”

Source: MoneyNews, February 22, 2010.

Bespoke: Commodity snapshot
“Below we highlight the year-to-date change for ten key commodities. As shown, orange juice has gotten off to a nice start (+13.15%), while natural gas has once again resumed its seemingly perpetual decline (-13.75%). Platinum is the second best performing commodity shown with a gain of 5.34%, followed by gold at +1.59%, and oil at +0.34%. While gold and platinum are up in 2010, silver is down 2.69%.”

Source: Bespoke, February 26, 2010.

Reuters: India seen as potential buyer for IMF gold
“India’s central bank, which has increased its gold holdings to diversify its reserves, looks set to be a buyer again when the International Monetary Fund begins selling 191.3 tonnes of the precious metal amid volatility in major currencies.

“The uncertain outlook for two of the world’s major reserve currencies - the dollar and euro - provides a spur for central banks, including India’s, to buy gold. India’s gold holdings lag those of major economies despite a big purchase in October.

“‘India is no stranger to gold. They are gearing up for growth and want to recalibrate their reserves,’ said Mark Pervan, senior commodities analyst at ANZ.

“‘They can’t lift their gold holdings from domestic output, unlike China. And they have shown an appetite to buy in the past.’

“Reserve Bank of India officials declined to comment on their gold plans but some said the central bank considered gold to be a safe investment strategy.

“The IMF said last Wednesday it would soon begin selling the gold in the open market in a phased manner to avoid disrupting the market.

“The sale is part of an IMF programme announced last year to sell a total of 403.3 tonnes of gold, or about one-eighth of its total stock.

“China, with about $1.6 trillion in reserves, is a producer of gold and is unlikely to buy the gold being offered by the IMF, the official China Daily reported on Wednesday.”

Source: Abhijit Neogy and Suvashree Dey Choudhury, Reuters, February 24, 2010.

BusinessWeek: Soros more than doubled gold ETF stake in Q4
“Billionaire George Soros’s Soros Fund Management LLC more than doubled its holding in the biggest gold exchange-traded fund in the fourth quarter after bullion advanced 8.9 percent to a record.

“The $25 billion New York-based firm became the fourth-largest holder in the SPDR Gold Trust, adding 3.728 million shares valued at $421 million, according to a filing with the US Securities and Exchange Commission yesterday. Its investment was worth about $663 million, the fund’s largest single investment, as of December 31.

“Soros joined China Investment Corp. and central banks including those in China and India in acquiring gold. China Investment, the $300 billion sovereign wealth fund based in Beijing, took a 1.45 million-share stake in the SPDR Gold Trust worth $155.6 million, according to a SEC 13F filing posted on February 5.

“SEC filings are done quarterly, with a 45-day lag, so Soros could have sold some or all of the position since then. Soros, speaking last month at the World Economic Forum in Davos, called gold the ‘ultimate asset bubble’ and said the price could tumble, according to a report in the UK’s Daily Telegraph newspaper.”

Source: Katherine Burton and Glenys Sim, BusinessWeek, February 17, 2010.

MoneyNews: Credit Suisse - gold set to surge to $1,227
“Credit Suisse analyst David Sneddon says the price of gold is poised to move sharply higher.

“‘If we look at the (rising) momentum chart … it suggests to us that price should follow suit,” he told CNBC.

“‘We think gold is going all the way back up to $1,227.’

“Gold denominated in euros shows a much more bullish position than denominated in dollars, Sneddon says. ‘Gold in euros has moved to an all time high with all the euro weakness that’s been going on,’ Sneddon observes.

“Gold priced in euros reached a record today as European Union finance ministers failed to agree on measures to help Greece reduce its budget deficit, Bloomberg reports.

“The precious metal climbed to a four-week high in New York, before paring gains, on speculation that wider Greek budget deficits will spur demand for the metal as an alternative to holding currency.”

Source: Julie Crawshaw, MoneyNews, February 23, 2010.

Financial Times: China taps more Saudi crude than US
“Saudi Arabia’s oil exports to the US last year sank below 1m barrels a day for the first time in two decades just as China’s purchases climbed above that level, highlighting a shift in the geopolitics of oil from west to east.

“The drop in US demand for oil from the kingdom, traditionally one of its primary sources, is the result of overall lower energy consumption but also greater reliance on imports from Canada and Africa.

“China’s economic growth, meanwhile, is prompting Beijing to buy more Saudi oil, a trend Riyadh has encouraged through refinery joint ventures.

“‘China offers demand security, something that for a long time the oil-producing countries including Saudi Arabia have called for,’ said John Sfakianakis, chief economist at Banque Saudi Fransi in Riyadh. ‘As global demand has been picking up in the east … Saudi Arabia has been looking east.’

“Barack Obama, US president, wants to reduce US dependence on foreign oil and encourage renewable fuels. Meanwhile, Saudi Arabia wants stable markets for its oil reserves.

“The divergence will provide the backdrop as Steven Chu, US energy secretary, visits Riyadh on Monday. His agenda reflects Washington’s focus, with an emphasis on technology research rather than oil politics.”

Source: Gregory Meyer, Financial Times, February 21, 2010.

Financial Times: Harsh winter hits European recovery hopes
“Severe winter weather could have hit economic growth significantly in continental Europe, and especially Germany, at the start of this year, dealing another blow to the region’s recovery hopes.

“Disruption in the construction, retail and leisure industries caused by exceptionally low temperatures and persistent snow is likely to have set back further an economic turnround that had already shown signs of losing momentum in the final months of last year - before the bitter weather took grip.

“In Germany, growth in the first quarter of this year could have been reduced 0.3 percentage points, according to Frankfurt-based Commerzbank. January’s weather was the coldest since 1987 and the 12th coldest January since 1900, according to the German weather service.

“Axel Weber, Bundesbank president, told Reuters this month that German gross domestic product ‘could move sideways or even contract slightly in the first quarter’.

“Jörg Krämer, Commerzbank’s chief economist, said, however, that lost business could be made up, and ‘people’s perceptions of the performance of the German economy are driven by the data on manufacturing - that is, excluding construction’.

“Purchasing managers’ indices on Friday showed that German manufacturing ‘grew strongly’ in February, he added.”

Source: Ralph Atkins, Financial Times, February 21, 2010.

Nationwide: House prices slip in the winter snow during February
“The price of a typical UK property fell by a seasonally adjusted 1.0% month-on-month (m/m) in February, ending a strong run of nine consecutive monthly increases. The relatively smoother three month on three month rate of inflation remained positive at +1.6%, though this is down from +2.0% in January and a peak of +3.7% in September 2009. The annual rate of price inflation still managed to increase from 8.6% to 9.2% year-on-year, as this month’s fall was smaller than the 1.5% m/m decline recorded in February 2009. The average price of a typical property sold in the UK during February was £161,320.

“There is evidence from a range of indicators that the market may have lost momentum in early 2010 as the stamp duty holiday ended and house hunters were obstructed by the icy weather. New buyer enquiries dropped sharply in the New Year and there was also an associated drop in the number of new mortgages taken out by homebuyers in January. This drop in demand seems to have fed into agreed prices during February.

“Judging from the fall in retail sales during January, however, the housing market does not appear to be the only sector of the economy to have experienced a setback related to adverse weather and the expiry of economic stimulus measures. At this stage, it is difficult to gauge how much of the drop in housing activity is attributable to one-off factors and therefore whether February’s fall in prices is just a temporary blip or the start of a new trend.”

Source: Nationwide, February 26, 2010.

Nouriel Roubini (Forbes): Easy money in China
“When will Beijing tighten monetary policy?

“A credit-fueled investment boom successfully boosted China’s growth to 8.7% in 2009, but cheap money drove up asset prices as well, especially in property markets. As China’s output gap closes, loose money is now set to become inflationary, particularly if China’s potential growth rate has come down slightly, as we think it has. The People’s Bank of China (PBoC) has twice hiked banks’ required reserve ratios (RRR) in 2010, following a return to net liquidity reductions through open-market operations in October 2009, but we suspect that the tightening moves have had little effect. China’s monetary policy has shifted toward a neutral stance in recent months, but it will have to tighten further if inflation and the property bubble are to be contained.

“China has not yet started to tighten liquidity significantly, nor has it laid out a clear path for its exit from the extraordinarily loose monetary conditions put in place at the end of 2008. The recent RRR hike, which came into effect on Feb. 25, will drain just over 300 billion renminbi (RMB) in liquidity, but in the first two weeks of February, the PBoC injected a net RMB 508 billion into the banking system through open-market operations to ensure that banks had enough cash on hand for last week’s Chinese New Year holiday. It is widely expected that the bank will drain this liquidity after the holiday, and the RMB300 billion withdrawn through the RRR hike will prove helpful but insufficient in this effort. Tuesday’s RMB 17 billion one-year bill sale suggests that the central bank may be waiting to see the effect of the RRR hike before moving to a more aggressive tightening stance. It will be difficult, however, for the central bank to tighten very much, even if it had the political backing to do so.

“Other sources of liquidity make this task harder. There are RMB 1.2 trillion in central bank bills and repurchase agreements set to expire in the next two months. In March alone, RMB 680 billion in bills will expire, more than double the RMB 290 billion monthly average over the past four months. Banks are already thought to be holding about 1.5% of deposits in additional excess reserves at the PBoC, dulling the impact of the RRR hike even further.

“The political will to tighten monetary conditions looks weak in China, particularly concerning any appreciation of the RMB. On Monday President Hu Jintao headed a Politburo meeting on economic issues that reiterated the ‘active’ fiscal and ‘moderately loose’ monetary policies put in place at the end of 2008. On March 5 Premier Wen Jiabao will present the government’s work plan to the National People’s Congress (nominally China’s highest government authority), likely reiterating this stance.

“Still, we expect the gradual tightening of monetary policy will continue in the coming weeks and months. Rising inflationary pressures are likely to push China’s policymakers to tighten monetary conditions in Q2. This will cause some pain to important interest groups this year, and in our view, policymakers will look to distribute the pain, including by allowing higher consumer inflation.”

Click here for the full article.

Source: Nouriel Roubini, Adam Wolfe and Rachel Ziemba, Forbes, February 25, 2010.

Financial Times: Japan exports jump on Asian recovery
“Strong shipments to Asia helped Japan report the biggest increase in exports in almost 30 years in January, underlining the strength of the country’s economic recovery.

“The value of exports increased 40.9 per cent last month from a year earlier, the fastest pace since February 1980, according to the Ministry of Finance. The increase, however, has been helped by a plunge in exports in the same period a year ago as a result of the global financial crisis.

“Shipments to Asia, which accounted for more than half of total exports, were up 68.1 per cent on the previous year while exports to China, its biggest trading partner, rose 79.9 per cent.

“Like other Asian economies, Japan has benefited from the robust recovery of China, which spurred demand for everything from cars to cement.

“In January, shipments of motor vehicles were up 342.8 per cent while the value of auto parts sales rose 156.6 per cent.

“China’s expanding manufacturing sectors also led to strong demand for chemicals from Japan, which jumped 107.5 per cent, and machinery, which rose 68.8 per cent.

“Japan’s trade data came after Taiwan and Thailand reported unexpectedly strong economic growth this week due to solid exports to China. Taiwanese exports to China, its biggest trading partner, rose 45 per cent year-on-year in the fourth quarter. In Thailand, January’s exports to China grew 94 per cent year-on-year.

“Economists warned that the pace of increase in exports was likely to moderate in the coming months.

“‘Fiscal stimulus programs that supported auto exports in 2009 have now expired in China, the US and EU economies. The boost from inventory adjustment abroad is also beginning to wane,’ said Nikhilesh Bhattacharyya at Moody’s Economy.com.

“‘This should result in slower growth in exports, which would be reflective of the weak growth now being seen in advanced economies across the globe,’ he said.

“In January, imports rose for the first time since October 2008, rising 8.6 per cent. Japan posted a trade surplus of Y85.2bn last month.”

Source: Justine Lau, Financial Times, February 24, 2010.

Financial Times: Toyota’s damaged reputation
“Spencer Jakab, Lex columnist of the Financial Times, says Toyota’s slow response to addressing safety problems brought the world’s largest carmaker to its knees.”

Source: Financial Times, February 24, 2010.

Tags: Ben Bernanke, Biggest Banks, Business Confidence, Consumer Confidence Data, Debt Woes, Default Risk, Excess Spread, Fed Fund Rate, Financial Guarantees, Financial Services Committee, German Bank, Government Bonds, High Yield Corporate Bonds, House Financial Services Committee, Investor Optimism, Japanese Yen, Paul Kasriel, Quarter Stock, Risk Aversion, Risk Equities, Sell Offs
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India - Markets give thumbs up to Budget 2010

Friday, February 26th, 2010

Markets give thumbs up to Budget 2010

Courtesy of Equitymaster.com

The Union Budget 2010 brought some cheers to the Indian markets, which had been reeling under fear for the past few days with respect to the government’s stimulus withdrawal. However, the Finance Minister did not tinker much with the stimulus but for partially rolling back some excise duty benefits. However, much of this seemed in line with what the markets had been expecting. Anyways, realty, auto, and metals stocks led today’s gains.

The BSE Sensex and NSE Nifty closed with gains of around 175 points (1.1%) and 65 points (1.4%) respectively. Mid and small cap stocks also closed with gains. The BSE Midcap and BSE Smallcap indices closed higher by 1.5% and 1.1% respectively. On the broader BSE, one stock lost today for every two that closed in the positive.

Among other key Asian markets, while China closed marginally in the red, Hong Kong (up 1%) and Japan (up 0.2%) were among the gainers. European markets have opened today on a positive note.

Apart from just a small rollback of the stimulus, one of the key reasons for today’s gains was the clear roadmap announced by the government with respect to reducing its fiscal deficit over the next 3-4 years. As against an estimated figure of 6.9% and 5.5% of GDP in FY10 and FY11 respectively, the rolling targets for fiscal deficit are pegged at 4.8% and 4.1% for FY12 and FY13 respectively. Also, as the Budget notes, taking into account the various other financing items for fiscal deficit, the actual net market borrowing of the government in FY11 would be around Rs 3,450 bn, which would leave enough space to meet the credit needs of the private sector.

Auto stocks gained strongly today, Key gainers here included Bajaj Auto, Tata Motors, and Ashok Leyland. A lower than expected rollback of excise duty seemingly enthused investors in these stocks. Then there was the lowering of personal income taxes that we believe might foster increased spending by consumers on discretionary items like automobiles. But for the increase in the ad valorem component of excise duty on large cars and multi-utility vehicles by 2% points to 22%, today’s was a positive budget for the auto sector as a whole. We also believe that the extension of R&D benefits will encourage more investments in the sector and will make it competitive in the long run.

Realty stocks were amongst the biggest gainers on the broader markets today. The BSE-realty index closed up by almost 3%. Key gainers here included HDIL, DLF, and Unitech. These gains were on the back of some relief provided by the Budget to real estate companies. As the Finance Minister announced, with a view to provide one time interim relief to the housing and real estate sector that was impacted by the global recession, the government has allowed pending projects to be completed within a period of five years instead of four years for claiming a deduction on their profits. The Budget has also proposed to relax the norms for built-up area of shops and other commercial establishments in housing projects to enable basic facilities for their residents. The realty firms couldn’t have asked for more!

This is given that these companies have already been amongst the biggest beneficiaries of the government’s fiscal stimulus programme that has helped them restructure their strained balance sheets. The interesting thing is that these realty companies have come back to their greedy ways by not lowering property prices by keeping them artificially inflated through hoarding. Some like Deepak Parekh of HDFC have come out heavily on these companies’ tactics. But now, given that the Finance Minister has allowed them some more time to relax, real estate companies and their investors are making merry.

Key India Budget Highlights

Courtesy of L&T Mutual Funds, India, here are the budgetary highlights for FY11.

• Total expenditure proposed for FY11 stands at Rs.1108749 cr (US$239.6-billion) up by 8.6%. Plan expenditure up by 15%. Non plan expenditure up by 6%.Fiscal Deficit estimated at 5.5% for FY11 (from 6.9%FY10), 4.8% in FY12 and 4.1% in FY13.Direct tax proposals in form of lower income tax slabs would lead to a loss of Rs.26,000cr. (US$5.6-billion)
• Indirect tax proposals would lead to a gain of Rs.46,500 cr. (US$9.8-billion)
• Total tax revenue and other receipts would lead to Revenue Gain of Rs.20,500cr. (US$4.4-billion)
• Corporate Tax: MAT increased from 15% to 18%
• Surcharge on corporate tax reduced from 10% to 7.5%.
• Need to review stimulus, move to fiscal prudence, says FM
• Partial withdrawal of fiscal stimulus measures through roll back of excise duties
• Excise duty on all non oil products increased from 8% to 10%.
• GST and DTC to be introduced together by April 2011.
• Service Tax rate retained at 10%
• Subsidy to oil companies to be given in cash and included in budgetary estimates.
• Subsidy on Fertilisers to be reduced.
• Divestment receipts expected to be more than Rs.25,000 cr (US$5.39375-billion) in FY10. Disinvestment targets for FY11 to the tune of Rs. 40000 crs. (US$8.63-billion)
• To provide Rs 165 bln (US$3.58-billion) to PSU (Public Sector Undertaking, or State-run) banks
• Infrastructure spending pegged at Rs. 1,73,552 crs (US$37.4-billion), which is 46% of plan outlay.
• Net borrowing for FY11 set at Rs 3,45,000 cr (US$74.4-billion) ; Gross borrowing at Rs 4,57,000 cr (US$98.6-billion)

Equity View

• Hike in excise duty has been on expected lines.
• Increase in MAT would impact some corporates.
• Increase in tax slabs for individuals will give more in hand of consumers, key positive as it would enhance consumption.
• Hike in petrol prices by ~Rs. 2.50 on account of increase in duties would lead to inflation spike in near term.
• Overall we believe budget would push higher consumption and over period private capex would pick up. Economy would thrive without the requirement of large government expenditure over medium term.

Fixed Income View

• Net borrowing number of Rs 3.45 lakh crores (US$74.4-billion) a reasonable number. Bond markets expected to take it positively.
• However divestment and 3G auction revenue estimates on higher side for FY11. There could be risk of not meeting these targets as planned. Risk of fiscal deficit slippage (increasing from budgeted 5.5%) exists.
• Discontinuing practice of issuing bonds for oil and fertilizer companies and giving cash a positive fiscal consolidation measure. Will reduce interest burden in the long run.
• Fuel price hike due to increase in duties lead to inflationary effect and negative for bonds
• Continued support to PSU banks through capital infusion to help maintain their credit quality for issuance of CDs and Bonds.

Tags: Ascii, Ashok, Ashok Leyland, Asian Markets, Auto Stocks, Bse Sensex, Cambria, Div, Emerging Markets, Enough Space, European Markets, Excise Duty, Finance Minister, Fiscal Deficit, Font Definitions, Font Format, Footer, Gainers, India, India Markets, Indian Markets, Lt, Midcap, Mso, Orphan, Panose, Paper Source, Personal Income Taxes, Pitch, Props, Rollback, Sans Serif, Small Cap Stocks, Smallcap, Stimulus, Style Definitions, Style Name, Style Type, Tata Motors, Theme Font, Times New Roman, Union Budget
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