Does an Odd Economic Tidbit Reveal Surging Optimism?

Friday, September 21st, 2012

by Joseph Carson, AllianceBernstein

The Philadelphia Fed Index, a leading measure of US economic activity, beat analysts’ expectations. But what caught our eye—and many others’ as well—was a detail within the survey: the future index jumped more sharply than it has since February 1991, when the first Gulf War ended unexpectedly quickly.

The Philly Fed Index, released this morning, declined at a rate of 1.9 in September, compared to its 7.1 rate of decline in August. While that’s still weak (it indicates continued contraction in manufacturing for the region), it’s relatively good news that manufacturing is contracting less rapidly. Some other details are very soft: a sharp decline in shipments is probably capturing some of the production decline we’ve seen in industrial production data.

But the future index rose from 12.5 to 41.2, its best reading since January and its largest spike in nearly 22 years. That’s significant. Of what?

The future index reflects manufacturers’ optimism about the next six months. That covers the November election and the fiscal cliff, two major sources of uncertainty manufacturers have been grappling with.

We think a surge in optimism of that magnitude is very possibly an indication that manufacturers expect the fiscal cliff to be averted.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AllianceBernstein portfolio-management teams.

Joseph G. Carson is US Economist and Head of Global Economic Research at AllianceBernstein.

Copyright © AllianceBernstein

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Tuning in To Your Total Portfolio

Friday, September 21st, 2012

by Sue Thompson, iShares

Often when we hear about “investment portfolios” our minds go to stocks, bonds, cash, ETFs and mutual funds.  We think about our 401(k) and IRA. In other words, we think about investable assets, and we pretty much stop there.

But I would argue that there’s more to your portfolio than just the securities in your brokerage account.  The reason we look at portfolios as a whole is to assess the overall risk/return characteristics in order to determine whether we can meet our financial goals.  Because of that, it’s important to take a broader approach when assessing your total portfolio and the risks it may be susceptible to.

Housing is a great example.  Anyone who owned a home in the hot real estate market of 2004-2006, and then suffered the dramatic decline in value in subsequent years, perhaps started thinking of their house as part of their overall portfolio.

But I would argue that doesn’t go far enough.

Let me give another example.  Let’s take a couple that seems like they’re doing everything right.  They did a careful analysis of whether to rent or buy and, given today’s low interest rates, have purchased a home that they can easily afford the mortgage on.  They max out their 401(k) contributions, have a “rainy day fund”, limited exposure to student loan/credit card/auto debts and are currently saving 10% of their after tax salaries in additional long term savings.  They’ve even started a 529 plan for their baby.  Their investments are well diversified, representing domestic equity, international equity and some fixed income, generally in the weights that are commensurate with market cap weighted indices.  So, they’ve appropriately planned for the potential risks to their portfolio… or have they?

Now, let’s add a few more salient facts.

Let’s say that one spouse is a petroleum engineer working for an energy company, living in an area of Texas that is heavily dependent on the energy sector.  And that the other spouse is a CPA, specializing in oil & gas taxation.  Just by adding these facts, we instinctively know that if oil prices drop to $30 a barrel, this couple’s financial future could be derailed.  By defining their portfolio too narrowly, they failed to see some of the biggest risks to their financial future.

Your financial advisor should be assessing these risks for you and determining whether a different asset allocation is warranted.  In my opinion, this is one sign of a good advisor, and something I’ve asked about in my own search for a financial professional.

Perhaps in the case of our hypothetical couple, their advisor could suggest they invest none of their financial assets in the energy sector and perhaps even overweight investments in areas that are negatively correlated to the energy sector.

Whatever the investment outcome, taking the step of identifying your “total portfolio” and its inherent risks is one strategy that can keep the financial surprises at bay.

Copyright © iShares

Tags: energy, ETF, ETFs, Natural Gas, oil
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As Bonds Evolve, So Too Does the Aggregate

Friday, September 21st, 2012

Fixed income might have the word “fixed” in its name, but there is nothing truly “fixed” about it – it’s actually a very dynamic asset class that is constantly growing and evolving.

While it’s one thing to say that, it’s another to see it in action, and you can do that by looking at the Barclays US Aggregate index. The Aggregate is the most commonly used fixed income benchmark by US investors, according to Morningstar and BlackRock data as of July 31. It is also the stated benchmark for a range of mutual funds and ETFs — both index and active. Think of it as the bond market’s equivalent of the S&P 500 index. The same way you wouldn’t expect the S&P 500 index to hold the same companies it did when it was first published in 1957 (anyone remember Gimbel Brothers or Montgomery Ward?), you wouldn’t expect the Aggregate to look the same today as it did when it was launched.

If you were tracking the Aggregate since its inception, what would you have seen in the past 26 years? Let’s take a look back in time.

History of the Barclays US Aggregate Index

Bond market indices appeared on the scene in the 1970s. The first indices were comprised of government and corporate bonds, while sectors like mortgage and asset-backed securities were still in their infancy. The Government Credit index was the first flagship benchmark; it was designed for pension plans and other taxable investors to be a benchmark for their bond portfolios. In 1986 mortgage backed securities were added to the Government Credit index to create a new benchmark and the Aggregate was born. Over time, the index rules for the Aggregate have evolved to reflect changes in market composition, bond issuance sizes and the sectors deemed investible by investors.

The Barclays US Aggregate Index is a market value weighted index, so as more bonds are issued in a sector or industry, the weight of that sector will increase in the index. In addition, as the price of a particular bond or sector changes, so too does its weight in the index. (Keep in mind that the Aggregate index only includes the taxable US bond market, meaning muni bonds are excluded.)

How do these rules play out in the real world? Well, let’s look at Treasuries. We are all very aware of the increase in government debt that we have seen in the past few years. This issuance has driven the Treasury component of the Aggregate up from 21% in 2002 to 36% today. But look at the chart below. Despite this recent surge, this weighting is still far below what we saw in the 1980s and 1990s, when Treasuries reached a peak of 56%. In the 1990s the Treasury began buying back their outstanding debt, while Corporate and MBS issuers continued to bring new bonds to the market. As a result, the weighting of Treasuries fell in the Aggregate, while we saw the weightings of Corporates and MBS rise.

The chart shows other ways in which the history of the financial market in general and the bond market in particular are echoed in the Aggregate. We can see that securitized assets such as mortgage-backed securities (MBS) jumped in index weighting from 2006 until 2008, as more mortgage loans were originated to fuel the housing boom. But once the housing bubble burst, fewer mortgages were originated and the weight of MBS in the index dropped.

Let’s look at US Agency securities. These securities were originally included in the Government index until a stand-alone agency index was created in 1994. From there, we saw their issuance and index weight rise steadily in the Aggregate for the next decade. But that trend ended in 2009, when the two largest issuers in the index, Fannie Mae and Freddie Mac, entered government conservatorship and began to reduce the size of their balance sheets. With smaller balance sheets, their borrowing needs have declined and so too has the weighting of government agencies in the Aggregate index. Today, Agencies represent only 6.6% of the Aggregate.

As you can see, since 1986 the Aggregate index has remained anything but static. An investor holding an Aggregate-based fund will see that fund morph over time to reflect the economic realities of the day. Despite all of these changes, the Aggregate index has maintained a correlation with the S&P 500 index of 0.002 in the past 10 years, according to BlackRock and Bloomberg data as of July 31. That allows the index to provide diversification against riskier asset classes in a broad portfolio, and Aggregate-based funds can offer core bond market exposure. But just as the Aggregate has evolved, so too have bond funds. Investors looking for more customized exposure can mix and match segments of the Aggregate and combine them with other fixed income exposures to create a portfolio tailored to their investment needs.

Matt Tucker, CFA is the iShares Head of Fixed Income Strategy and a regular contributor to the iShares Blog. You can find more of his posts here.

Bonds and bond funds will decrease in value as interest rates rise. Bond funds are subject to credit risk, which refers to the possibility that the debt issuers may not be able to make principal and interest payments or may have their debt downgraded by ratings agencies.

Tags: ETF, ETFs
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Mañana Mañana Mañana

Friday, September 21st, 2012

by Peter Tchir, TF Market Advisors

Full of Sound and Fury, Signifying Nothing

It feels so long ago that we woke up to so many stories about Europe pushing risk around (it was less than 2 weeks ago). Spain is allegedly in talks to get the bailout. ESM is on track to launch in October and Greece may get some government help. I’d like to get excited, but I just can’t.

I find the attitude in Spain particularly troubling. The last minute solutions forced upon by market weakness, followed by interminable delays, is just not working. It may be helping the stock market but it isn’t helping the economy.

This summer, when everyone was talking about Euro 2012 – the soccer tournament, not the collapse, the Spanish government got a deal to recapitalize the banks. Rajoy promptly got on a plane and went to watch the football. Here we are, 3 months later (or is it 4), and nothing has been done. In theory, Bankia was supposed to get money in July. It didn’t. There is at least 1 MOU, 2 Committees, and 10 new acronyms, but no actual money. In the meantime, Spanish banks continue to bleed deposits on a daily basis.

The situation in Greece is would be comical if it wasn’t so bad. Every round of new lending is delayed. The ECB and EU insist on getting paid when anyone with even half a brain can see that the debt burden is not sustainable. Rather than the extend the maturity on the loans made so far, drop the coupon, or even reduce the notional, the Troika has done nothing. Eventually they will do something because Greece and the Euro are in no position for a Grexit, but by the time they do, Greece will have gone through at least 6 months of economic woe while the politicians bicker. Neo Nazi parties have gained popularity, in no small part because of this futile attempt to pretend that the “bailout” was anything other than secured lending that Greece couldn’t handle. And maybe I’m the only one who remembers, but the banks were supposed to be recapitalized in March, after PSI, what happened with that?

Will OMT be MIA?

Then there is OMT. The ECB maneuvered as best as it could, “within its mandate” to come up with a plan that could squeak by. It isn’t ideal by German standards. It isn’t ideal by Spanish standards, but it had a chance of working. The problem is that the longer they delay implementation, the less likelihood a real workable deal gets approved.

The hardliners in Spain don’t want a plan like Greece got and the current state of the markets gives them confidence. As politicians they are likely to interpret current Spanish bond yields as a sign that they have done something right, rather than understand they are only trading halfway decently because of expected ECB intervention.

The hardliners in Germany don’t want a plan like Greece either. At least they have that in common, but the Germans want to go the other direction. They want to provide less aid and more restrictions than Greece got. So every day of delay creates more risk that Draghi’s “meet in the middle plan” meets real opposition.

The French seem to have no opinion which is scary in its own right. How can the second largest country seem to not care? I’m not sure I liked Sarkozy’s efforts, but Hollande seems invisible and completely oblivious to any risk to his own country’s credit.

The Finns continue to voice the most opposition, which is nice, but in all honesty, they are small enough, no one will care that much in the end, and when you think of a map of “Europe” most people leave out Finland anyways. They remain one of my favorites for being first to leave.

So, OMT, while likely to get done, might not. While meant to be long term, it may have so many conditions that nothing happens. Worse than that, even if the countries get some money, there is almost no indication that they will then focus on growth and coming up with a sustainable long term plan.

Is a Bird in the Hand Worth More than 2 in the Bush?

It doesn’t really matter if the birds are worm infested pigeons.

I am growing increasingly concerned that the OMT plan doesn’t take off. That Spanish bank bailouts don’t occur. I thought it was relatively low risk a month ago, and I’d now put it is a medium level risk.

But even if those events occur, what will happen? We will get a brief pop on the implementation, but since we have had so many rallies on the ECB plan, it isn’t likely to be much. We may even see some diffusion index readings that look good (it is almost physically impossible for each month to be worse than the prior month). That would add to stock gains if it happens, but the reality I fear, and now think is most likely is that Europe will squander the opportunity.

Rather than rushing to implement bank recapitalizations, take advantage of the cheap funding to do some balance sheet repair, and to implement some growth projects to kick-start the economy, they will bicker and squabble. They will argue over terms. They will wonder if they will pass the next inspection day. They will debate how to recap banks, and the entire efforts will have gone to naught.

Even in the U.S. it took a long time (and many 100′s of S&P points) before we hit bottom from the TARP announcement, and that was with intensive government intervention at all levels. I had been thinking that Europe was in March 2009, but I am growing more concerned by the day that it is just another October 2007 moment.

I am solidly bearish, across asset classes. The situation in Europe seems to be getting worse rather than better, and it is because of their inaction. Their willingness to put off until tomorrow, what could be done today is a real concern, and I don’t see that attitude changing. I thought it might, but I now don’t.

Next up, looking back at market performance during QE’s and trying to determine if QE drove the market or other co-incident factors were really what pushed the markets along. That is critical for any bear case here.

Copyright © TF Market Advisors

Tags: Qe, Quantitative Easing
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How Does Quantitative Easing Create Jobs?

Friday, September 21st, 2012

by The Trader

With QE supposed to save the world, let’s review what QE actually does to jobs. Courtesy Omid Malekan.

Federal Reserve Chairman Ben Bernanke recently announced the central bank will now undertake open ended Quantitative Easing until the economy gets significantly better. Specifically he said: If we do not see substantial improvement in the labor market, we will continue our asset purchases.

Although the first two rounds of QE have failed (if they hadn’t there would be no need for a third) the Federal Reserve has now decided to go all in on its signature program. Instead of taking finite action and waiting to see the results, going forward the Fed will take action every month until we get lots of job creation. To see how all these “asset purchases” are supposed to create jobs, lets study the mechanics.

Quantitative Easing is a fancy way of saying printing money and using it to buy stuff. In this iteration, the Fed will buy securitized mortgages. So every month it will create $40 Billion out of thin air and give that money to the big banks in exchange for mortgage bonds. According to Ben, these actions will lower rates, spur the housing market and make stocks go up, and as a result jobs will be created.

The idea of lowering rates further being a major benefit to housing is farcical. Since the peak of the housing market 6 years ago, the interest rate on 15 year mortgages has been cut in half, from over 6% in 2006 to less than 3% today. Today’s rates are the lowest ever, but housing is still in the gutter. The reasons are obvious to anyone who has tried to buy a house. Unemployment is high, incomes are low, bank lending standards are tight, people’s credit histories have been damaged, and there is still a large inventory of foreclosures. If you didn’t qualify for a mortgage at 4% interest last year, you probably won’t qualify for a 3% loan this year, and rates falling to 2.5% going forward means nothing to you. Ironically not that long ago Fannie and Freddie, the same mortgage entities whose bonds the Fed will be buying, announced tighter lending standards.

Copyright © The Trader

Tags: Qe, Quantitative Easing
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Bullish Sentiment Rises for Seventh Week in Ten

Friday, September 21st, 2012

by Bespoke Investment Group

This week’s bullish sentiment survey from the American Association of Individual Investors (AAII) rose to 37.5% for the seventh weekly increase in the last ten weeks.  As shown in the chart, however, even though the S&P 500 is at bull market highs, bullish sentiment remains off of its high from just a few weeks ago, and it is actually still below the 37.9% average bullish reading that we have seen during this bull market.

Copyright © Bespoke Investment Group

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Gold’s Golden Cross, and TSX Momentum – What’s in Store?

Friday, September 21st, 2012

by Don Vialoux, EquityClock.com

Upcoming US Events for Today:

• Quadruple Witching

Upcoming International Events for Today:

1. Canadian Consumer Price index for August will be released at 8:30am EST. The market expects a year-over-year increase of 1.3%, consistent with the previous report. Core CPI is expected to show an increase of 1.6% versus 1.7% previous.

The Markets
Markets ended around the flatline on Thursday as manufacturing numbers from Europe and China weighed on investor confidence. Manufacturing PMI data in China and Europe remains below 50, a level that marks the dividing line between expansion and contraction. US manufacturing data did not fare much better with the Philadelphia Fed Index remaining below zero at –1.9, although an improvement from the last report at –7.1. October typically marks an important low on a seasonal basis for manufacturing. Improvement in manufacturing data between October through to June is typical, influencing strength in the economy and equity markets in the process.

Gold has received a bit of attention of over the last couple of days as a significant technical event leads to speculation of further gains ahead. The price of bullion has produced a Golden Cross, whereby the 50-day moving average crosses above the 200-day, suggesting improving intermediate-term strength. But aside from this upbeat technical achievement, the price of the metal has met up with trend-line resistance around the 1780 level. The level of resistance stretches back to highs last seen around this time last year and provides indication of reluctance to buy the precious metal at levels near $1800 an ounce. The price of gold is significantly overbought and sufficiently stretched away from significant moving averages, such as the 50-day, that the probability of a pullback over the short-term is high. Seasonal tendencies for Gold temporarily turn negative in the month of October before resuming an upward trend into the end of the year.

Sentiment on Thursday, as gauged by the put-call ratio, ended bullish at 0.85. Today is Quadruple Witching, the day on which contracts for stock index futures, stock index options, stock options and single stock futures all expire. Trading activity during the week to follow September expiration is known to have a negative bias with 16 of the last 21 periods showing a negative outcome for the Dow Jones Industrial Average.

S&P 500 Index

Chart Courtesy of StockCharts.com

TSX Composite

Chart Courtesy StockCharts.com

Horizons Seasonal Rotation ETF (TSX:HAC)

• Closing Market Value: $12.64 (up 0.16%)
• Closing NAV/Unit: $12.67 (up 0.18%)

Performance*

* performance calculated on Closing NAV/Unit as provided by custodian

Click Here to learn more about the proprietary, seasonal rotation investment strategy developed by research analysts Don Vialoux, Brooke Thackray, and Jon Vialoux.

Copyright © EquityClock.com

Tags: Bullion, ETF, ETFs, Gold, TechTalk
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Dalio On Gold: Buffett Is Making A Big Mistake

Friday, September 21st, 2012

We discussed Bridgewater’s Ray Dalio in depth late last week and his historical perspective on the world we are living through. It appears CNBC has found this intriguing too and the largest hedge fund manager in the world has been espousing his views all morning.

Most notably he’s very concerned at the possibility for social unrest (just as we have pointed out again and again) highlighting the rise of Hitler in 1933 and its parallels to the current social disruptions around the world as global economies sufffer painful deleveragings. His suggestion is that gold “should be part of everybody’s portfolio” as he explains the reality of the endgame of fiat monetary systems.

As far as Warren Buffett’s distaste for the yellow metal, he opines “I think he is making a big mistake.”

Tags: Dalio, Gold
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U.S. Credit Formation And Destruction Since The Second Great Depression

Friday, September 21st, 2012

On September 15, 2008 (aka Q3) 2008 everything broke. What happened next has been a piecemeal triage by one (then all) central banks to stop the crunch in the world’s credit markets, by monetizing the bulk of public issuance (i.e., creating money out of thin air), and thus keeping GDP from collapsing, while private sector debt creation has stalled and in many cases has been put in reverse.

And while the US household balance sheet which we showed earlier is important from a stock perspective of asset, liability and wealth allocation, as everyone knows money (if not wealth) comes from credit, and should the credit formation system be shuttered it means game over. So what, according to the Fed’s Flow of Funds, has been the credit creation, and destruction, since Q3 2008, i.e., during the neverending Great Depression Ver 2.0? Well, of the $2.8 trillion in total debt created (table L.1 in Z.1), $5.8 trillion or 208% has come from, you know it, Uncle Sam: this is the amount by which US Treasurys have risen, and will continue to rise as long as the two key sectors continue to delever. These sectors are the Household at $855 billion in deleveraging in the past 4 years, but most importantly the Financial Sector who have unwound a whopping $2.9 trillion in debt since Q3 2008. Which brings up an interesting question: why has the Financial Sector refused to lever, and why did it delever by $162 billion in Q2 2012 – the most since Q2 2010?

Simple – regulations such as Basel III (which will eventually be scrapped) and lack of confidence in a system, in which the central counterparty is and will be the central bank. In other words, the more Treasury issuance is monetized by the Fed, the greater the penetration of central-planning, the lower the confidence in the system, the greater the deleveraging by everyone else, until finally, as David Rosenberg predicted, the Fed owns everything! Is this the biggest Catch 22 of the modern Depressionary market? You bet.

And this is how the quarterly change in credit has looked like in the past 6 years.

Tags: David Rosenberg, Gluskin Sheff, Rosenberg, Rosie
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