Don’t Play Monopoly with your Portfolio

Thursday, November 10th, 2011

This Week’s Feature: BMO Equal Weight Utilities ETF ( Ticker: ZUT )

Globally equity markets staged an incredible recovery from their October lows. However, Europe’s ongoing troubles ensure that heightened anxiety will remain. Even more reason to keep a careful eye on risk inside your portfolio.

Major equity indices for the United States, Europe and Emerging Markets rallied by 14% to 20% over the last five weeks. The S&P TSX 60 rose 12.5%. Commodities rallied too, with crude oil and copper up about 19%.

Euro-zone relief drove the rally, just as Euro-zone despair drove the drop. Until the Euro-zone begins to resolve its debt issues, every move it makes will agitate markets. When the Greeks decided to put their debt plan before a referendum last Tuesday, European equity markets fell 5%.

In this volatile environment, investors must be more vigilant in managing portfolio risk. One risk often overlooked is counterparty risk. As the exchange-traded market has developed, more, er…esoteric, ETFs have arisen, some of them with counterparty risk.

First, I should stress that most ETFs invest directly in stocks or bonds. These plain vanilla ETFs pose no counterparty risk. Other ETFs use futures contracts: no counterparty risk here either, but they do have other issues such as leverage that I have discussed before.

Then, there are ETFs that use “over-the-counter” (OTC) derivatives contracts. These are the ones that come with counterparty risk. These ETFs do not invest directly. Instead, they pay a fee to a counterparty, say a bank, and in exchange, the bank pays the ETF the return on some index like the S&P 500. All goes well until the day the bank is unable to pay the return.

How can you tell whether your ETFs have counterparty risk? You must read the prospectus. In a past role as a manager of OTC derivatives for a Bay Street fund manager, I was responsible for controlling counterparty risk. Are most investors ready or willing to do that? Unlikely.

In Europe, institutional investors are selling their OTC ETFs in droves and shifting to plain vanilla ones. France’s second largest bank, Société Générale, has seen outflows of Euro 4.4 billion this year from the OTC ETFs managed by its Lyxor division. There is nothing inherently wrong with the ETFs but investors are worried about SocGen’s exposure to Greek debt. SocGen’s stock price has fallen nearly 60% this year.

In recent notes, I discussed sector diversification and lower-risk, higher-dividend sectors like REITs. Another is the utilities sector.

When we play Monopoly, my sons tend to pass on Water Works and Electric Company in favor of Pacific Ave or Boardwalk. Like them, most Canadians pass on utilities for their portfolios.

That’s largely because the S&P TSX Composite passes on utilities. Three sectors dominate the Composite – financials, energy and materials – with nearly 80% of the weight. Utilities account for just 2%, even though their benefits would seem to mesh well with what most investors want.

Utilities are less volatile than energy, materials and even the Index as a whole. They pay better dividends than the Index and every other sector barring telecoms. Best of all, they are not so closely tied to the events in Europe.

There are a couple of Canadian utilities ETFs available: the iShares S&P TSX Capped Utilities (XUT/TSX) and the BMO Equal Weight Utilities (ZUT/TSX). Of the two, BMO ZUT is larger with about $95 million in assets.

iShares XUT is market cap weighted and holds 11 companies, with Fortis, TransAlta, Emera, Canadian Utilities and Atco making up about 70%. XUT pays a dividend of about 2.9%.

BMO ZUT is rebalanced twice a year to equal weights across 15 companies. It pays a dividend of about 5.3%. ZUT also holds one oil pipeline company, Pembina: not strictly a utility but the same idea.

The high yield will attract longer-term investors. In the near term, keep in mind that valuations are rich. The average price-to-earnings ratio for the companies inside ZUT is 23.4 times, with a price-to-book of about 1.93 times. For the Composite, the values are 15.2 times and 1.84 times.

Some of the premium is justified by the benefits. But a price fall in the near term is possible and that would be a good time to enter.

ZUT is less volatile than XIU, the TSX 60 ETF.

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Chinese Purchases of Gold Leap Six Fold – Country Purchases as Much Gold in 1 Month as Almost Half of 2010

Tuesday, November 8th, 2011

Looks like with the relatively small dip in gold prices (considering the move the past 3-4 years), the Chinese swooped in to load up in September.  In September alone, they bought as much as they did during half of 2010, the FT reports.  With the U.S. working overtime since 2008 to trash its currency, and Europeans most likely eventually forced to, this looks like a logical move.  Also keep in mind how small of a horde of gold has relative to other countries. [Oct 13, 2009: Largest Gold Reserves by Country]

As important for investors, it is good to have such a large buyer providing a floor in the metal.

• Chinese gold imports from Hong Kong, a proxy for the country’s overall overseas buying, leapt to a record high in September, when monthly purchases matched almost half that for the whole of 2010.
• The buying spree follows a sharp drop in the price of the precious metal. After hitting a nominal all-time high of $1,920.30 a troy ounce in September, gold fell to a three-month low of $1,534 an ounce later in the month. Chinese investors snapped up the metal as prices fell.
• Analysts expect the September import surge to continue until the end of the year as Chinese gold buyers snap up gold in advance of Chinese New Year, China’s key gold-buying period.  “In September we saw some bargain hunters come back into the market on the price dip,” said Janet Kong, managing director of research for CICC, the Chinese investment bank.
• China is the world’s second largest gold consumer and demand has grown rapidly over the past year as Chinese investors buy gold to hedge against inflation and consumers buy more gold jewelry. Beijing does not publicly disclose its gold imports, but analysts consider the Hong Kong import figures a good directional proxy for the country’s total gold overseas buying.
• Data from the Hong Kong government showed that China imported a record 56.9 metric tons in September, a sixfold increase from 2010. Monthly gold imports for most of 2010 and this year run at about 10 metric tons, but buying jumped in July, August and September. In the three-month period, China imported from Hong Kong about 140 metric tons, more than the roughly 120 metric tons for the whole 2010.
• China has liberalized regulations for importing gold over the past year, widening the number of banks authorized to import gold. “China’s gold demand will continue to increase as per capita income increases,” said Shi Heqing, a Beijing analyst with Antaike. “There aren’t many investment channels available in China other than the stock market, property market and some commodities.”

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Bill Gross and Mohamed El-Erian in Depth (Part Two)

Monday, November 7th, 2011

Part two of Consuelo’s exclusive double interview with two of the investment world’s biggest stars! Bill Gross and Mohamed El-Erian, Co-Chief Investment Officers of money management powerhouse PIMCO, sit down together to discuss outlook and strategy.

Here is the full transcript for Part Two of this in depth interview with Bill Gross and Mohamed El-Erian.

October 28, 2011

CONSUELO MACK: This week on WealthTrack, part two of WealthTrack’s exclusive interview with two of the world’s most influential investors. PIMCO’s Great Investor Bill Gross and Financial Thought Leader Mohamed El-Erian sit down together to discuss their investment strategies in the “new normal” world- next on Consuelo Mack WealthTrack.
Hello and welcome to this edition of WealthTrack. I’m Consuelo Mack. This week we are continuing our exclusive conversation with PIMCO’s two influential Financial Thought Leaders, Bill Gross and Mohamed El-Erian together. It is a rare occasion to be able to interview them side by side, and as you will see they are a fascinating study on how a successful partnership works. Since 2008, they have been co-chief investment officers of one of the world’s leading money management firms, Pacific Investment Management Company- PIMCO- which Gross co-founded in 1971. El-Erian is also CEO and is expanding the firm from its very large bond roots into stocks, commodities, ETFs, and passive as well as its core active strategies. Gross’ legendary PIMCO Total Return Fund, which he has led to the top of the bond world in performance and size since 1987, will soon have an ETF clone, actively managed by him.
El-Erian a former head of Harvard’s endowment and fifteen year veteran of the IMF, was also a top ranked emerging markets bond fund manager during his early years at PIMCO. He now co-manages the PIMCO Global Multi-Asset Fund which, as its name implies, can invest anywhere in the world, in multiple assets through passive indexes and actively managed PIMCO funds. According to Morningstar, it is the first PIMCO fund to be formally run in a team format and it also has an innovative tail risk hedging strategy to cushion it in down markets- it could be a model for the firm itself!
El-Erian and Gross are hedging their bets in all sorts of ways. They are working overtime to understand what El-Erian calls the string of once unthinkable macro events of recent years, which he and Gross believe are having a huge negative impact on the markets and investment results. They are also preparing for an even weaker “new normal” slow growth and low return environment than they envisioned for the developed world back in 2009. We pick up the conversation discussing this year’s uncharacteristic underperformance of Gross’ PIMCO Total Return Fund. I asked Gross if this time feels different than the few other years when the fund fell behind.

BILL GROSS: Well, the underperformance has been more substantial. Let’s be honest about it. And so it feels different. The problem this year is the Total Return Fund for the first six to seven months was set up for a new normal type of economy and now we’re in the new normal minus and so the shift, which propelled treasury prices and treasury yields lower, was actually very quick and very sudden. It was related, to some extent, to the debt ceiling crisis which occurred a few months ago and the lack of confidence in the United States. Surprisingly, when it was downgraded to double A plus, treasury did the best and that was because, I think, the recognition on the part of investors that the ability to address the deficit, that the ability to basically produce growth going forward was limited, as opposed to new normal-ish. And that was the big problem, I think, that the Total Return Fund had in terms of adjusting so quickly.

CONSUELO MACK: So you’ve rebalanced, as Mohamed said in a recent interview, The Total Return Fund. So the last I looked you had 16% in treasuries. Given what you’ve just told me about the new normal minus, are you increasing your treasury exposure? I mean, what are you overweighting now in the Total Return Fund?

BILL GROSS: Well, we’re overweighting mortgages. The mortgages are “agency guaranteed.” Not an explicit guarantee, but an implicit guarantee that becomes more and more explicit as the years and verbal guarantees go by.

CONSUELO MACK: So like Fannie and Freddie?

BILL GROSS: Fannie and Freddie. Those are mortgages which yield three to 3.5 percent. Sounds very low, but you know, compared to a five year treasury at 1.25 percent, that’s a nice attractive spread. And so mortgages have been over weighted. They’re not treasuries, but they’re treasury related. They’re, in our opinion, very safe double A plus, AAA type of assets and that’s one area where we’re hoping to pick up yield without sacrificing quality.

CONSUELO MACK: So the other stuff like financial services bonds, like Citigroup bonds or some of the emerging market bonds, are those things that you are now underweighting? So have you done a risk off trade pretty much in the Total Return Fund?

BILL GROSS: No. The risk off has basically been evidenced by increasing the treasury overweighting as a counterbalance to the risk. We haven’t really sold our JP Morgan or our Wells Fargo assets in terms of the financially related credits, nor have we sold the emerging market countries. We’re a believer in the emerging market growth. We’ve certainly tried to counterbalance that with a higher concentration of treasuries and I think that’s working out fine.

CONSUELO MACK: You know, Mohamed, I have to ask you, “When Markets Collide” which was your bestselling and really wonderful book that came out several years ago which was, again, very prescient, and one of the things that you talked about on WealthTrack a couple of years ago after that book that came out was that one of the lessons that you’ve learned from the financial crisis is the unthinkable can happen. So when I just hear Bill describing the fact that treasuries rally after the debt is downgraded in the U.S. – so what are the other big, unthinkable things that are happening, that are affecting PIMCO’s investment outlook and strategy?

MOHAMED EL-ERIAN: You know, I used to keep a list of unthinkables, but it got so long that now I keep it to the last three months. Because just think what has happened over the last few months. We’ve had, as Bill said, the US government flirt with default. The biggest bond market in the world. Unthinkable. We’ve lost our AAA from one rating agency. Unthinkable. We have now three European countries in the elite club, the Eurozone, rated as junk. One is rated worse than Pakistan. Unthinkable. We have Switzerland that has made its name as the safe haven to take steps to stop being a safe haven. They say we don’t want to be a safe haven anymore. All these are unthinkables. If we were having this interview a year ago and I said, “in a year’s time this is what would have happened” I would have doubted myself on every single one of them. I would have doubted myself even more on all of them and yet they’ve happened. Why? The system is trying to tell us something. What the system is trying to tell us that there are major global realignments. I tell my wife, “It’s like the tectonic plates shifting.” Okay? You get lots of earthquakes and things and things realign. And we’re going through a major realignment. And it’s happening slowly.

CONSUELO MACK: It is? It feels awfully fast to me.

MOHAMED EL-ERIAN: Well, let me give the example. So let’s take the example of treasuries. This a situation where PIMCO was right on three of the four issues that are critical to the valuation of treasuries, but the fourth one became so large. So treasuries are determined by the outlook for growth. If you remember, consensus was up here, we were down here. Consensus came towards here. Treasuries are dictated by the outlook for policies and we’ve been saying for a long time, don’t expect the Fed to raise rates. It is floor to zero for a long time. That has happened.
Treasuries are also determined by the credit outlook and we’ve been expressing concern about the credit outlook, and sure enough, the U.S. lost its AAA. But there was that fourth element which was the flight to quality. So PIMCO’s view was, why not gain what treasuries give you in AAA countries instead? Why not go to Norway? Why not go to Germany? Why not go to Australia? Why not go to Canada where you can get the same interest rate exposure without credit? And what happened because of all of these unthinkables is that suddenly the flight to quality became dominant. People didn’t care anymore. Bill has this notion of your cleanest dirty shirt- that people are willing to wear their dirty shirt if they view it as the cleanest dirty shirt.

CONSUELO MACK: So the U.S. treasuries are the cleanest dirty shirt?

MOHAMED EL-ERIAN: Are the cleanest dirty shirt. Right. And that is a little bit of a driver of the unthinkable. For us it’s been an important reminder to push ourselves even harder in terms of thinking of what else can happen out there. And I think that that is the challenge for everybody. We’re navigating these major changes. The markets are going to romance very short term things. How else do you explain to someone that in the last 15 minutes of trading the Dow can move by 400 points on a policy headline?

CONSUELO MACK: Try high frequency trading, up to 70% of U.S. market volume now. That’s not policy, that’s technological reality in the markets.

MOHAMED EL-ERIAN: Correct, but lack of conviction, right? So when you don’t have the conviction, when you don’t have the anchors, all it takes is you tip it a little bit and then everybody takes you one way, and then suddenly you tip it the other way and everybody tips it the other way because we’ve lost our anchors. We’ve lost the conviction because the U.S. is going through the unthinkables and Europe is going through the unthinkable. And that is the world that all investors have to navigate through and it’s an uncomfortable world, it takes you out of your comfort zone, but you have no choice. That’s the reality of today’s world.

CONSUELO MACK: So do fundamentals still count, Bill?

BILL GROSS: Well, they do, but fundamentals are being distorted in the financial markets and have been actually for ten or twenty years, but even more so now. You know, fundamentally, you could say that with inflation at 2.5 to 3 percent, that 10 year treasury deserves to be at 3.5 to 4 percent. That would be the historical relation. Fundamentally, you could say that the policy rate that Ben Bernanke’s Fed fund level should be at 2 to 2.5 percent. That would be the historical relation to inflation, but fundamentals have been thrown out the door, certainly because the economy hasn’t recovered. Unemployment is at nine percent, etcetera. The Fed must do something, but also the series of quantitative easings, the One, the Two, the Twist, you know, have produced distortions in the market that are not really relative to historical example or historical fundamentals, so it becomes a question not just of diagnosing value.
You know, we’d be the first to say that treasuries are overvalued relative to what they’re offering the investor class, but in addition, you have to observe where they’re going to be from the standpoint of policy technicals. Will the Fed stay at 25 basis points for the next five years? And if so, then it’s certainly to an investor’s advantage instead of accepting 25 basis points for successive periods of time for the next five years to buy a five year treasury at 1.25 percent. And so it becomes a question not just of fundamentals, but of determining policy maker choices and policy maker decisions going forward and that’s a delicate balance.

CONSUELO MACK: What do you say to individual investors now who have basically grown up thinking that they should be in the stock and the bond markets for their retirement savings and that that’s what we should depend on? Can they depend on it?

MOHAMED EL-ERIAN: So we tell them it’s right to feel unsettled. Right? Because again, you know, we are going through major structural change.

CONSUELO MACK: Right.

MOHAMED EL-ERIAN: Right? And there are these shifts and you’re going to feel uncomfortable. It’s like someone in the middle of an earthquake. They’re going to feel uncomfortable, but the answer is not necessarily abandon the city, but rather understand what’s going on and understand what is fragile and what is valued- because if you understand and have the right mindset, you can navigate. We did something, luckily, on the business side that has helped us a lot. Back in ’08, ’09, we invited a professor from the London Business School to come and speak to us. He made his reputation, his name is Don Sull, by looking at why successful companies split into either remaining successful or not. And it’s really interesting. It’s not because they don’t recognize the paradigm shift. Companies are very good at recognizing when the world is changing. It’s what do they do next. And the biggest trap that a company can fall in, the biggest trap that an investor can fall in is that they recognize the shift, but then they become hostage to what is called “active inertia.” Active inertia is active in the sense that you do something, but inertia you’re doing more of the same, but your world is changing and, therefore, you have to evolve with it. And therefore, you know, the message that we tell investors is you’re right to feel unsettled. Okay? That’s because the world is changing, but understand that that requires you to also evolve with it. I’ll give you an example.

CONSUELO MACK: So tell us how do we adapt as investors? And I know one of your specialties is emerging markets. You ran one of the top emerging market bond funds here for seven years. How do we adapt? What should we be doing with our portfolio today?

MOHAMED EL-ERIAN: I’ll tell you what we did at PIMCO. First, we made sure we have the best sector and country specialists. So you want to have the best people there that are looking at the world from a bottom up perspective. But that’s not enough. You need to compliment it with a top down. You need to ask them every single day, are your choices and what you like and not like consistent with the growth dynamics that we’re seeing? Are they consistent with balance sheet? Balance sheet is absolutely critical to navigate an earthquake. Are they consistent with the policy choices that the policy makers are making right now? So what we try to do is bring the best bottom up expertise complimented with a lot of thinking. Bill and I sit through four days a week, three hours of an investment committee where we discuss these things over and over again to try and get it right. And it’s hard work, but there is no alternative. Right?

CONSUELO MACK: Well, PIMCO is also diversifying into other asset classes, and into equities, and you’re doing ETFs, the Total Return Fund is going to have a new ETF, which is a whole other topic. But back to the original question is how do we as investors- I know how PIMCO is adapting, but how do we as investors adapt our portfolio? What should we be doing differently?

MOHAMED EL-ERIAN: So first, be very clear about what your objectives are. Second, be very clear what your risk tolerance is. Third, recognize that the answer today to your objectives are solutions, not products. Investors make the mistake of thinking only in products space, but you need a more holistic solution. Fourth, be very clear as to how much volatility you’re willing to stomach because volatility has this nasty tendency of encouraging you to do something stupid at the wrong time. Right? Then you can put together a portfolio. It would mean being more global than you are today. Much more global. It would mean understanding that the asset classes are transforming. For example, the S&P today relies to a great extent on what’s happening overseas. It’s no longer domestic.

CONSUELO MACK: Right. Forty percent of revenues are overseas. Right.

MOHAMED EL-ERIAN: And don’t be hostage to the familiar. So we have a tendency of saying, I’m only going to invest in this name because I’ve seen it. Well, you know what? There are certain names, as Bill mentioned, that are coming up in the rest of the world that are as attractive and they are the big names of tomorrow; and therefore, it’s important to target tomorrow as opposed to yesterday.

CONSUELO MACK: So Bill, same question to you. So how do we adapt to the new reality as investors? How should we be positioning our portfolios?

BILL GROSS: As Mohamed is suggesting, you need to go global. You need to think in, to some extent, in non-dollars based. The world revolves around the dollar. The dollar is the reserve currency, but to the extent that it depreciates relative to other currencies and relative to stronger growth economies over time, then other economies and other assets that are in non-dollars base might be a significant advantage. It doesn’t mean, you know, take your entire portfolio and put it into Brazil and into the Brazilian real, but it means an investor probably, if they want a higher return, they’re going to have to go to those parts of the world and those currencies which offer a higher rate of return. So I think that would be critical. And last, as Mohamed has suggested, you simply have to know what your risk parameter is. We’re fond of quoting a phrase from Will Rogers that says, “At certain periods of time, you should be more concerned about the return of your money, as opposed to the return on your money.” We try and do both here, but importantly, during a period of uncertainty, during a period of slow growth in the developed world or no growth in the developed world, certainly the return of your money is critical going forward. You don’t want to lose 10 or 20% of it because you’re behind the eight ball going forward.

CONSUELO MACK: So Mohamed, specifically you co-manage PIMCO’s Global Multi-Asset Fund, a fund of funds. So how are you positioning it? What are you overweighting in PIMCO’s Global Multi-Asset Fund?

MOHAMED EL-ERIAN: So importantly, this is a go anywhere fund.

CONSUELO MACK: Yes.

MOHAMED EL-ERIAN: It can do equities, it can commodities, it can do fixed income all in the liquid space. Even more critically, it’s a fund that has tail hedging in it. Now, tail hedging is something that’s very familiar to people as individuals, but not as investors.

CONSUELO MACK: So explain what it is.

MOHAMED EL-ERIAN: So when we buy car insurance, we tail hedge. We ask the question, “What deductible do you want?” Five-hundred, a thousand, two-thousand? We don’t buy car insurance because we think we’re going to crash the car, because if we’re going to crash the car we shouldn’t be driving. We buy car insurance because there’s a small probability of a really bad event and we want to know whether we can limit our losses in that world.
So the global multi-asset strategies, what they do is they incorporate within the construction of the portfolios this tail hedging. And you see how it worked during the third quarter, which was a terrible quarter and it really does kick in to limit the downside in that. How are we positioned relative to where most people are? We’re much more global. Secondly, we look for equity risk, but very high up the capital structure.

CONSUELO MACK: So senior credit, for instance? I mean, preferreds?

MOHAMED EL-ERIAN: So senior credit. So what a lot of investors sort of don’t think about, they think of equity risk only coming in equity. If you buy commodities, you’d be amazed how much equity risk there is in commodities because commodities are also correlated to growth, just like equities are. So in certain states, commodities can offer you a better claim on the upside than equities do. We are overweight in emerging market bonds. We overweight local bonds in emerging markets where we think that you are earning both a high interest rate and you have a potential for capital appreciation. We are diversified in currency as you can suspect from what Bill just said. And we look at this actively.
So there are three of us who run this fund, Vineer Bhansali, Curtis Mewbourne, and myself, and we’re each responsible for a different part of it, but we consult every single day and position it accordingly. What we’ve been doing recently is we’ve been increasing our gold exposure. We had taken it down significantly as gold peaked. We thought it had gone too far. Now we see potential. We think that we are still in a very volatile period. We are going to have many bouts of risk off. And people are going to look for hedges and increasingly gold is starting to enter as part of an asset allocation, so we have been increasing gold. And we have been shifting out of the U.S., which has outperformed in the equity space, to certain emerging economies that were initially hit hard not by their fundamentals, but by the amount of capital that came out. So this is a continuous repositioning to reflect valuations and also our secular views.

CONSUELO MACK: One Investment for long term diversified portfolio, I ask all our guests this at the end of WealthTrack interviews. So Bill Gross, what should we all own some of in a long term diversified portfolio?

BILL GROSS: Certainly bonds.

CONSUELO MACK: Certainly bonds?

BILL GROSS: Yes.

CONSUELO MACK: Broad category.

BILL GROSS: Because bonds, high grade bonds not necessarily treasuries, but single A and double A corporate bonds, provide an acceptable return relative to inflation. Not an historic return, but an acceptable return relative to inflation. In an uncertain world of slow to no growth in the developed world, it seems to me that investment grade bonds of multinational corporations, single A or double A corporations which yield three to four to five percent, are certainly low, but acceptably high relative to inflation and relative to the alternative. So for a longer term investment, for a five, ten, fifteen year type of investment, a single A or double A corporate bond. And for those that are earning a Wall Street as opposed to Main Street income, municipal bonds in the single and double A category are very attractive as well. They yield more than U.S. treasuries, which is an historical twist, so to speak. So I’d recommend both of those.

CONSUELO MACK: Mohamed, what is your One Investment for a long term diversified portfolio?

MOHAMED EL-ERIAN: So how to supplement Bill without repeating Bill, that’s really hard. Anything that has the three characteristics of very strong balance sheet, exposure to emerging market growth, and income. So either dividends, etcetera. So lots of companies meet that criteria.

CONSUELO MACK: So stocks or bonds?

MOHAMED EL-ERIAN: Right. So think of a Microsoft with a three percent plus dividend, exposed to emerging markets, sitting with a ton of cash would be an example of a company like that. There are many examples of companies like that. There are countries, sovereigns that have these characteristics. Right?

CONSUELO MACK: Such as?

MOHAMED EL-ERIAN: Brazil. Sitting with $300-billion of reserves, having good growth prospects on there, and paying an interesting carry or interest income, if you like- what Bill referred to in terms of high quality companies, high quality municipals. So these characteristics one finds in quite a few different places and you can build a portfolio on that that allows you to sleep at night, gives you income, and also because it has so many buffers in terms of the balance sheet, can navigate this enormous volatility

CONSUELO MACK: So Bill Gross, thank you so much for joining us. Mohamed El-Erian, what a treat to have the Dynamic Duo from PIMCO here on WealthTrack.

BILL GROSS: Thank you for coming.

CONSUELO MACK: Thank you.

MOHAMED EL-ERIAN: Thank you very much.

CONSUELO MACK: At the conclusion of every WealthTrack, we give you one suggestion to help you build and protect your wealth over the long term as well. This week’s Action Point: Consider the investment themes emphasized by Bill Gross and Mohamed El-Erian. First, think international, that’s where the growth is. Second, think quality, of business, balance sheet, and credit, whether it’s a company or a country. Third, consider emerging markets in particular for all asset classes including stocks, bonds and currencies. Both Bill and Mohamed recommend holding local currency bond funds, not dollar denominated ones, to protect against future dollar declines.
Next week we are going to delve deeper into emerging markets with two experts: Matthews Asia Funds’ chief investment officer, Robert Horrocks, and Payden Rygel’s emerging markets bond fund strategist Kristin Ceva. Both are also successful fund managers. Thank you for watching and make the week ahead a profitable and a productive one.

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Gold Market Cheat Sheet (November 7, 2011)

Sunday, November 6th, 2011

Gold Market Cheat Sheet (November 7, 2011)

For the week, spot gold closed at $1,754.65, up $10.90 per ounce, or 0.63 percent. Gold stocks, as measured by the NYSE Arca Gold BUGS Index, rose 1.40 percent. The U.S. Trade-Weighted Dollar Index surged 2.46 percent for the week.

Strengths

• Both gold and the gold stocks tacked on more gains this week despite a surge in value of the U.S. dollar.  The strength in the dollar was not fundamentally driven but came in response to Japan’s policy of currency manipulation to weaken the yen and thus boost the earnings of its companies which are heavily dependent upon export markets.
• A number of companies recorded strong weekly performance driven by quarterly updates on earnings.  Dundee Precious Metals, Inc. rose 9.5 percent, Royal Gold gained 9.3 percent, and Yamana Gold moved 4.6 percent higher.  In addition, Lake Shore Gold Corp. jumped 11.8 percent on high volume and Agnico-Eagle Mines bounced back 3.8 percent on an upgrade to buy from Dalman Rose & Co.
• Ongoing M&A activity continues in the mining industry, with Anglo American announcing its plan to pay $5.1 billion for Oppenheimer’s 40 percent stake in De Beers, increasing the company’s stake to 85 percent in the diamond producer.  This also ends the family’s links to the diamond business almost after a century.  De Beers recorded a 55 percent increase in first-half earnings attributable to record sales in a price increase, driven by China, India and the U.S., which maintains the record for being the world’s largest consumer of diamond jewelry.  Anglo American has been working on the acquisition “for years,” after being the company’s largest shareholder since De Beers became a private company in 2001.  De Beers is tied for the title of the world’s largest diamond producer with Russia’s Alrosa.

Weaknesses

• Alamos Gold fell 11.5 percent on updated earnings which fell 73 percent to $5.4 million, dented by a tax charge related to a weaker Mexican peso, a delayed timeline for development of its properties in Turkey and a shortage of cyanide during the quarter.  Overall, the senior North American gold stock outpaced the junior tiered gold stocks by about 250 basis points which tended to dampen our performance for the week.
• ETF redemptions have picked up recently with investors reducing their holdings in silver ETFs by 320 tons in October.  They now hold 14,182 tons which is down from the peak of 15,633 tons in mid-April.  This 9.3 percent reduction in holdings coincides with a 3.8 percent drop in the gold ETF position.
• The U.S. Department of Justice has been asked to investigate Freeport McMoRan and whether or not the company has violated the Foreign Corrupt Practices Act through alleged bribery of Indonesian security forces.  Currently, Freeport McMoRan continues to be involved in an ongoing strike with Indonesian union workers at the Grasberg operations, one of the world’s largest copper and gold mines.

Opportunities

• The Royal Canadian Mint announced the IPO of Exchange Traded Receipts (ETR) under the Mint’s new Canadian Reserves program, taking the gold ETFs head on.  The new ETR is aimed at eliminating the middleman in direct gold ownership; the owner of the ETR will own the actual gold rather than a unit or share in an entity that owns the gold.  ETR holders will be able to redeem their ETRs for physical gold products in the form of 99.99 percent pure gold bars or coins, or for cash based on the future gold price or market price of the ETRs.  Not to be outdone, Australia unveiled the world’s largest gold coin, weighing 1000 kilograms, or one ton, to mark the visit of Queen Elizabeth II.  The coin is 99.9 percent pure and has a nominal value of $1 million, but the gold itself is worth over $50 million Australian.  Previous to this coin, the Royal Canadian Mint held the record for the largest coin.
• This week central bankers in Europe, the U.S., Canada and Australia all emphasized the potential for further downside risk to the economy given the current uncertainty in economic growth.   Don Coxe highlighted in a recent call that investors will continue to seek safety in gold, where it is increasingly viewed as reliable source of value, as economic concerns persist.
• Rio Tinto’s Chairman Jan du Plessis remains confident about China’s economy and emphasized that despite the country’s economic growth visibly slowing; it would remain fairly resilient to a correction, albeit a sharp one, in developed economies.  Du Plessis went on to say to an audience of business leaders in Sydney that despite signs of a slowdown and softening demand for industrial commodities, domestic demand remains strong.

Threats

• Community and political issues afflicting mining projects have been making headlines more often in recent months.  One of the latest news to hit headlines was Newmont Mining Corp. having to halt its Peru mine works on fears of protestor invasion.  Local community and political leaders worry that Newmont’s project, which would be the biggest investment in the history of Peruvian mining, would cause pollution and sap water supplies used by farmers.  Although protestors are urging the government to issue a decree that would ban the $4.8 billion gold project, this seems unlikely as the new gold mine is projected to generate hundreds of millions of dollars in taxes and royalties to the central government.
• Although Susan Shabangu, South Africa’s Mineral Resources Minister, is traveling to Australia and Britain with the goal of soothing investors’ worries of nationalization within the country, other constraints are affecting investors’ feelings towards South African mining investment.  In addition to fears of nationalization, soaring electricity and labor costs, power shortages and rail and port restrictions are still weighing on the industry.
• Speculation around Australia’s 30 percent mining profits tax is said to hurt the junior minors.  Andrew Forrest, founder of Fortescue Metals Group, says that the tax will force junior miners to shoulder the tax burden while global miners pay nothing. Australia’s small and mid-tier miners made a plea to the government and presented modeling claiming the planned tax would see small and mid-tier miners pay an effective tax rate of 46 percent, while BHP Billiton and Rio Tinto would pay no tax due to the large deductions they are able to claim.

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Tags: Agnico Eagle Mines, Alamos Gold, Alrosa, Anglo American, Canadian, Canadian Market, Commodities, De Beers, Diamond Business, Diamond Jewelry, Diamond Producer, Dollar Index, Dundee Precious Metals, Gold, Gold Bugs, Gold Corp, Gold Market, gold stocks, India, Lake Shore Gold, Largest Diamond, Metals Inc, Nyse Arca, Royal Gold, Spot Gold
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Emerging Markets Cheat Sheet (November 7, 2011)

Sunday, November 6th, 2011

Emerging Markets Cheat Sheet (November 7, 2011)

Strengths

• China’s railway ministry will get an additional 300 billion yuan of bank credit after receiving loan of 200 billion yuan, reports 21st Century Herald. Indeed, CSR Corp. and other rail equipment makers have received billions of payments from the ministry this week for their outstanding accounts.
• China’s finance ministry raised the threshold for payment of value-added and business taxes so that fewer small companies will have to pay the levy, according to a statement posted to its website this week. The new threshold is raised to Rmb 5,000-20,000 from Rmb 2,000-5,000.
• In China, prices of meat, chicken, aquatic products, eggs and vegetables have fallen for the last three weeks, pointing to a lower Consumer Price Index (CPI) number for the month of October. A declining CPI will be a relief for the People’s Bank of China (PBOC), which may provide room for PBOC to relax money supply.
• Indonesia’s consumer prices rose 4.42 percent year-over-year, unexpectedly slowing from previous months.
• Korea’s October CPI rose 3.9 percent year-over-year, missing market expectation for a 4.2 percent gain. Asian countries are showing a clear trend toward decreasing inflation.
• China’s five-year interest-rate swap dropped 5 percent the biggest decline in three years, after the central bank injected cash into the financial system, adding to signs that an easier monetary policy is being pursued.
• Malaysia’s exports grew 16.6 percent year-over-year in September, ahead of both last month’s gains and consensus estimates on higher sales of electronics and commodities.
• Russian oil output hit another post-Soviet record of 10.34 million barrels per day in October. Sluggish or declining output on the brown field is being compensated by robust growth from green fields.
• The Russian Manufacturing PMI index returned into positive territory (50.4) after a pause in the third quarter.  Both new export orders and total new orders have increased.
• Turkish Manufacturing PMI was stronger at 53.3 in October, the highest level in seven months, after 51.5 reading in September.
• In September 2011, passenger traffic at Istanbul International Airport was up 32 percent to 3.89 million passengers (up 29 percent year-over-year in domestic volumes and up 33 percent year-over-year growth in international passengers).

• Japan’s largest brewer, Kirin Holdings Co., will pay $1.35 billion for a 49.54 percent stake in Brazilian Schincariol Participacoes e Representacoes, completing its biggest acquisition as it seeks growth in emerging markets.
• Bloomberg reported that Japanese investors are buying the most South African rand bonds in more than two years and pumping yen into Brazilian real funds, seeking higher yields even as Europe’s debt crisis increases emerging-market currency swings.  Volatility among emerging market currencies are the highest since 2009.  Japan’s two-year government bonds offer yields of 0.14 percent, compared with 5.8 percent in South Africa and almost 11 percent in Brazil.  Foreign-asset buying and Bank of Japan intervention helped weaken the yen against all 25 emerging currencies tracked by Bloomberg this quarter.
• Bloomberg reported that Old Mutual Plc, the third-largest insurer in the U.K., said third quarter revenue rose 8 percent helped by growth in Africa, Asia and Latin America.  CEO Julian Roberts said that, “sales were driven primarily by emerging markets.”  Life assurance sales grew to 358 billion pounds a year from 331 million pounds a year earlier.

Weaknesses

• China’s October PMI dropped to the lowest level since February 2009 to 50.4 versus the market estimate of 51.8.  Although a PMI above 50 still indicates that economic activities are in expansion mode, the sub-indices for new orders, purchase price and new export orders had all fallen from the prior month, while inventory was up. Those sub-indices indicate the Chinese economy is still in the process of slowing.
• Korea’s exports rose 9.3 percent year-over-year in October, climbing at the slowest pace in two years. Imports rose 16 percent. The numbers showed weakening external markets for Korea, and global exporting countries. In particular, Korea’s KOSPI index is highly correlated with the global economy and metal market activities.
• Thailand’s CPI rose 4.19 percent in October, holding above 4 percent for the seventh straight month as food costs soared during the flooding.
• Taiwan’s third-quarter GDP advanced 3.4 percent versus the estimated 3.6 percent.
• The Philippines CPI rose 5.2 percent in October, climbing for the second-straight month after utility and food costs increased.
• Hungarian PMI dropped to 48.2 in October from 50.7.  Spillover risks from the Eurozone are growing and Hungary could face a recession next year.
• Honda Motor Co. plans to reduce production in Brazil, England and the Philippines because of part shortages stemming from the floods in Thailand.  Honda hasn’t decided when the production will resume, Bloomberg reported.
• South Africa’s petrol pump prices rose by 23 cents or 2.2 percent on Wednesday.  Wholesale diesel petrol increased by 3.7 percent.  South Africa is a net importer of oil and adjusts its fuel price each month to account for changes in the rand exchange rate, the international oil price and government levies.

Opportunities

• The graph below by Deutsch Bank shows how China’s increase in new loans drives up the copper imports into the country. China International Capital Corp’s banking team found that the big four banks in China lent Rmb 100 billion in two working days at the beginning of this week, confirming  the increase. The lending speed is consistent with Rmb 600 billion of new loans in October, and Rmb 700 billion in the next two months. For the year, total new loans will likely be Rmb 7.7 trillion, slightly ahead of the full year target of Rmb 7.5 trillion.



• The Central Bank of Turkey allowed banks to keep up to 10 percent of their reserves in gold.
• With luxury goods showing strength in a period of global economic uncertainty, Burberry Group Plc announced that it will open a third store in Brazil.

Threats

• China’s October PMI indicates economic growth is slowing, along with slowing export and money supply growth.  Without easing current tightening monetary policy, China may see an increase in bankruptcy and bad loans by small business and property developers.
• In Poland, the zloty’s steep fall has turned attention to public debt dynamics and inflation.
• Under Argentinean President Cristina Fernandez de Kirchner’s recent re-election, sellers of foreign-made cars are being forced to become exporters of everything from bio-diesel to bottled water in return for access to an auto market that’s growing 30 percent a year.  Argentina introduced the program in March to boost exports, increase investment in local industry and shore up dwindling central bank reserves.  Porsche importer Hugo Pulenta has now promised to ship wine from his family’s vineyards in the Andean foothills in exchange for permits to bring his expensive cars into Argentina. Similarly, Mitsubishi Motor Corp’s representative will export peanuts while imported Subarus will be matched by sales of chicken feed to Chile.
• Roubini Global Economics had revised down their 2011 growth forecast for Thailand to 1.6 percent.  This is considerably lower than the central bank’s recently revised estimate of 2.6 percent, but attributed to the projected 4.1 percent year-over-year contraction in the fourth quarter caused by the effects of flooding on industry and agriculture.
• Brazil is now facing a $100 billion hit in agricultural output if the senate rejects legislation that would forgive farmers for illegally clearing protected rainforest.  If the bill is not approved, farmers would be required to reforest about 70 million hectares of land currently under coffee, oranges and other commodities.  Brazil is the world’s top producer and exporter of coffee and sugar cane, the biggest beef exporter, the largest producer of oranges and the second-largest producer of soy.  The bill would update the 1965 Forest Code, which requires farmers to keep a certain percentage of their land as forest.

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Tags: agricultural, Agriculture, Asian Countries, Bank Of China, Bonds, Brazil, Commodities, Consensus Estimates, Consumer Price Index, Cpi Number, Emerging Markets, Expectation, Export Orders, Finance Ministry, Gold, Index Cpi, Interest Rate Swap, Meat Chicken, Monetary Policy, Money Supply, Oil Output, Pboc, RMB, Robust Growth, Russian Oil, Yuan
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Jim Rogers: Greek Bailout May be Prelude to EU zone Collapse, plus News and Views

Friday, November 4th, 2011

via PivotFarm

Nov. 4 – Jim Rogers tells Reuters the Greek bailout plan merely pushes the debt crisis into the future, and could cause spark an end to the euro zone in five years.

News and Views

U.S. employment climbed in October at the slowest pace in four months, illustrating the “frustratingly slow” progress cited by Federal Reserve Chairman Ben S. Bernanke this week.

The 80,000 increase in payrolls was less than forecast and followed gains in the prior two months that were revised up by 102,000, Labor Department figures showed today in Washington. The unemployment rate fell to a six-month low of 9 percent from 9.1 percent even as the labor force expanded. http://www.bloomberg.com/news/2011-11-04/u-s-payrolls-increased-by-80-000-in-october-as-jobless-rate-falls-to-9-.html

World leaders expressed impatience and irritation with Europe’s inability to defeat its two-year financial crisis as they urged swift resolution for the sake of the global economy.

With Greece’s debt-ridden government at risk of collapsing as soon as today, Group of 20 chiefs meeting in Cannes, France, yesterday pushed European authorities to flesh out and enact a week-old rescue plan that has already shown signs of unraveling.

“We are grappling with a lack of confidence in markets that leaders will act,” Australian Prime Minister Julia Gillard said in the French seaside resort. “It is therefore very important for leaders to act.”

Such calls — echoed by the U.S., Britain, China and Russia — highlight international disappointment that Europe missed the G-20’s deadline of this week to deliver a fix for its fiscal woes. German Chancellor Angela Merkel and French President Nicolas Sarkozy sought to regain the initiative by keeping aid for Greece on ice and demanding Italy accelerate austerity. http://www.bloomberg.com/news/2011-11-03/g-20-leaders-urge-europe-to-quell-debt-crisis-as-greece-government-teeters.html

Greece has dropped its plans to hold a controversial referendum on the country’s euro zone membership, which had threatened to plunge the bloc into a crisis, the country’s finance ministry said on Friday.

Finance Minister Evangelos Venizelos made the pledge in telephone calls made to Eurogroup Chairman Jean-Claude Juncker, European Commission’s Economy and Monetary Affairs chief Olli Rehn and German Finance Minister Wolfgang Schaeuble, the Greek finance ministry said in a statement.

“Venizelos informed his interlocutors about the decision to not hold a referendum,” the statement said. http://www.reuters.com/article/2011/11/04/us-greece-referendum-idUSTRE79U5PQ20111104

Indexes

European stocks pared their gains after Germany’s September manufacturing orders unexpectedly fell, sparking concern that the region’s economic growth is faltering.

The Stoxx Europe 600 Index rose 0.2 percent to 242.61 at 11:14 a.m. in London, after earlier rising as much as 0.6 percent on Greece’s cancellation of a referendum on euro-area’s bailout package. The gauge has retreated 2.6 percent so far this week as the referendum call stunned investors. The MSCI Asia Pacific Index jumped 2.5 percent. Standard & Poor’s 500 Index futures dropped 0.2 percent before a U.S. jobs report.

German factory orders unexpectedly plunged in September as demand from the euro region slumped, adding to signs the region’s debt crisis is damping growth in Europe’s largest economy. http://www.bloomberg.com/news/2011-11-04/stock-index-futures-in-europe-advance-hermes-commerzbank-may-be-active.html

Asian stocks rose for the first time in five days as Greece scrapped a plan to hold a referendum on a bailout package and the European Central Bank cut interest rates, reducing concern the debt crisis will spur a credit crunch.

HSBC Holdings Plc (HSBA), Europe’s No.1 lender by market value, climbed 3.2 percent in Hong Kong. Komatsu Ltd. (6301), Asia’s largest maker of construction equipment by market value, surged 6.9 percent after a report showed orders at American factories increased in September. China Petroleum & Chemical Corp, China’s biggest oil refining company by sales, led the nation’s energy companies higher on speculation the government may allow the mainland’s fuel producers to adjust prices on their own.http://www.bloomberg.com/news/2011-11-04/asian-stocks-climb-for-first-time-in-five-days-on-europe-rate-cut-greece.html

Currencies

Japan’s slide back toward deflation means bond investors are getting some of the highest returns among developed nations even with the world’s lowest yields.

Annual inflation slowed to zero in September, meaning investors in the nation’s benchmark 10-year securities receive the full 0.99 percent yield. That’s the highest so-called real yield for any Group of Seven nation except Italy’s 2.79 percent.

The Bank of Japan cut its inflation forecast last week and said it would buy more government bonds to underpin an economic recovery being threatened by the yen’s surge to a postwar record. The government intervened on Oct. 31 to weaken the currency for the third time this year. With the Federal Reserve discussing more steps to spur its economy and Treasuries yielding less than U.S. inflation, Japan’s efforts may not curb the yen’s strength. http://www.bloomberg.com/news/2011-11-03/deflation-driving-up-real-yield-hampers-effort-to-weaken-yen-japan-credit.html

Canada’s dollar dropped for the first time in three days after a government report showed the jobless rate unexpectedly increased in October as the nation’s employers eliminated positions.

The Canadian currency, nicknamed the loonie for the image of the aquatic bird on the C$1 coin, extended its weekly decline on increased speculation that the Bank of Canada will lower borrowing costs.

“It’s a miss in a very meaningful way,” said Jack Spitz, managing director of foreign exchange at National Bank of Canada in Toronto, in a telephone interview. “This is likely to contribute to some Canada lagging.” http://www.bloomberg.com/news/2011-11-04/canadian-dollar-drops-as-employers-unexpectedly-eliminated-jobs-in-october.html

Commodities

Wheat is heading for the biggest slump in three years as the second-largest harvest on record swells stockpiles, easing shortages that drove global food costs to an all-time high.

Prices that plunged 20 percent to $6.375 a bushel this year in Chicago will probably drop as low as $5.90 before the end of December, according to the median estimate of nine analysts and traders surveyed by Bloomberg. Supply in the 12 months ending June 30 will expand 5 percent to 684 million metric tons, boosting inventories to the highest in a decade, the London- based International Grains Council estimates.

Production is expanding after last year’s 47 percent price rise led farmers to plant more grain, while Russia and Ukraine recovered from drought that ruined crops. Cheaper wheat will reduce strains caused by rising corn and rice prices and add to pressure on United Nations-monitored food costs that have declined 9 percent from a record in February. http://www.bloomberg.com/news/2011-11-03/wheat-plunging-as-decade-high-stockpiles-ease-world-shortages-commodities.html

Gold prices in euros will rise to a record as Europe’s sovereign-debt crisis erodes the appeal of the 17-nation currency and boosts demand for the precious metal as an alternative asset, according to economist Dennis Gartman.

Gold has had an inverse relationship to the euro during the past week, as the metal jumped 3.8 percent and the currency slid 2.6 percent. The euro, which has declined in three of the last four months, may fall below $1.30 from about $1.38 yesterday, Gartman said.

“The driving force in the gold market is the problems in the euro,” Gartman said in a telephone interview from Suffolk, Virginia, where he publishes his Gartman Letter. “Central banks in Europe and individuals will want to lower their euro holdings and buy gold since no one knows what is happening to the euro. The euro is heading towards parity once again.” http://www.bloomberg.com/news/2011-11-03/gartman-sees-gold-in-euros-at-record-as-currency-slides-chart-of-the-day.html

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Tags: Angela Merkel, Australian Prime Minister, Bailout Plan, Bonds, Canadian, Canadian Market, Cannes France, Chancellor Angela Merkel, Commodities, Debt Crisis, European Authorities, Federal Reserve Chairman, Fiscal Woes, French President Nicolas, French President Nicolas Sarkozy, French Seaside Resort, German Chancellor Angela Merkel, Gold, Greece Government, Jim Rogers, Julia Gillard, Lack Of Confidence, Nicolas Sarkozy, President Nicolas Sarkozy, Swift Resolution
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Bloomberg: Bonds Beat Stocks Over Past 30 Years, First Time That’s Happened Since Civil War

Tuesday, November 1st, 2011

If we need any evidence the past thirty years, especially the past twelve or so, have been horrid for investors, this Bloomberg article notes that (government) bond returns have actually beaten stock returns over thirty years.  Ouch.  They say stocks win out in the ‘long run’ but for the average person’s life span, you don’t want to go out forty years to get a superior return.  Obviously this is very atypical – it’s the first time it has happened since the Civil War time frame!

To be fair, yields were very high on government bonds in the early 80s/late 70s as Paul Volcker was fighting off inflation so the starting point for prices was quite low in a relative sense (prices low, yields high), but it’s still an amazing statistic.

Just more evidence we should never stop QE’ing – QE for 30 years and more artificial returns will make us all mad money!

• The biggest bond gains in almost a decade have pushed returns on Treasuries above stocks over the past 30 years, the first time that’s happened since before the Civil War.
• Fixed-income investments advanced 6.25 percent this year, almost triple the 2.18 percent rise in the Standard & Poor’s 500 Index through last week, according to Bank of America Merrill Lynch indexes. Debt markets are on track to return 7.63 percent this year, the most since 2002, the data show. Long-term government bonds have gained 11.5 percent a year on average over the past three decades, beating the 10.8 percent increase in the S&P 500, said Jim Bianco, president of Bianco Research in Chicago.
• The combination of a core U.S. inflation rate that has averaged 1.5 percent this year, the Federal Reserve’s decision to keep its target interest rate for overnight loans between banks near zero through 2013, slower economic growth and the highest savings rate since the global credit crisis have made bonds the best assets to own this year. Not only have bonds knocked stocks from their perch as the dominant long-term investment, their returns proved everyone from Bill Gross to Meredith Whitney and Nassim Nicholas Taleb wrong.
• “The generation-long outperformance of bonds over stocks has been the biggest investment theme that everyone has just gotten plain wrong,” Bianco said in an Oct. 26 telephone interview. “It’s such an ingrained idea in everyone’s head that such low yields should be shunned in favor of stocks, that no one wants to disrupt the idea, never mind the fact that it has been off.”
• Stocks had risen more than bonds over every 30-year period from 1861, according to Jeremy Siegel, a finance professor at the University of Pennsylvania’s Wharton School in Philadelphia, until the period ending in Sept 30.   The last time was in 1861, leading into the Civil War, when the U.S was moving from farm to factory, according to Siegel, author of the 1994 book “Stocks for the Long Run,” in a telephone interview Oct. 25.
• U.S. government debt is up 7.23 percent this year, according to Bank of America Merrill Lynch’s U.S Master Treasury index. Municipal securities have returned 8.17 percent, corporate notes have gained 6.24 percent and mortgage bonds have risen 5.11 percent. The S&P GSCI index of 24 commodities has returned 0.25 percent.

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Tags: Article Notes, Bank Of America, Bianco Research, Bond Returns, Bonds, Civil War Time, Commodities, Credit Crisis, Debt Markets, Fixed Income Investments, Global Credit, Government Bonds, Inflation Rate, Jim Bianco, Life Span, Mad Money, Merrill Lynch, Overnight Loans, Paul Volcker, Relative Sense, Stock Returns, Three Decades
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Ugly Close As 30Y Treasury (TSY) Yield Drops Most Since March 2009

Tuesday, November 1st, 2011

While much was made of the MF Global news today, we suspect that the tipping point for risk assets was more likely driven by the plethora of reality-based analysis of the situation in Europe combined with the afternoon news that Greece is facing a referendum and a lack of demand for the EFSF issue today. Heavy volume arrived into the close to the downside, suggesting asset allocation rotation from equities to bonds, which helped propel TSYs even further down in yield. The entire complex flattened notably with 30Y outperforming -24.5bps, the largest single-day yield move since March 2009, as the much-watched 2s10s30s butterfly has retraced all of last week’s increase. ES closed at its lows (down over 2.5%) only to extend those losses in the evening session as we post.

At over 4 standard deviations, today’s drop in 30Y yields was the highest for a single-day since 3/18/09.The roundtrip in the entire TSY complex from last Wednesday is quite impressive and remains surprising as to how a broad market can interpret what was so clearly no-real-news in such a schizophrenic way without some ‘help’.

35bps sell-off in 30Y at its best early Friday – only to give it all back and some by the close of today – perhaps there is something to our perspective on MF Global and its TSY inventory last week. The drop in TSY yields was initially shrugged off by ES but very quickly it became clear that fears were gathering and ES accelerated to the downside – with IG and HY credit tracking wider also. VWAP acted as natural resistance at every small rally suggesting there was more of an institutional bias to selling today – which again fits with the rotation we would expect after such an aggressive month’s performance in stocks.

As the day wore on, all risk-drivers were reverting back to what is more realistic (as opposed to the intervention-dislocation from the overnight session). EURJPY has retraced almost the entire move and as we closed CONTEXT and ES were back in line – rather surprisingly given the amount of movement (and lack of recalibration) in asset classes today – though we did note earlier that risk-off in broad markets was dominating any correlation-drivers.

Under the surface, HY and HYG underperformed stocks (having not really seen the kind of risk-on moves to bring them back to fair even with last week’s ebullience) but IG was the worst relative-performer (as we suspect low-cost hedges /shorts were laid back out). Financials in the US were not pretty  (even though Materials and Energy underperformed broadly) as CDS widened and stocks tumbled in the majors (e.g. MS -9% and 35bps wider!!). We have to say it was rather quiet and slow to start with – which makes sense given last week’s violence – but by the close equities and credit were losing ground fast once again.

EURUSD lost 1.39 and DXY managed a 2% gain from Friday’s close (as JPY’s 3% loss contributed). PMs slid lower as the dollar rallied and aside from what appeared to be a liquidation (and unique to itself) rip-fest in WTI in the middle of the day, moves in commodities were all negative.

Volumes were in general light until the last hour or so. Whether this was MF related as traders were anxiously re-arranging clearing or a month-end wait to transact is unclear. It is clear, however, that firms are clearly derisking (as IG reaches back to fair-value and HY cheap once again and the European financials and sovereigns face renewed pressures).

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Tags: Asset Allocation, Bonds, Broad Market, Commodities, Dislocation, Downside, Evening Session, Global News, Institutional Bias, Mf Global, Natural Resistance, News Today, Overnight Session, Plethora, Real News, Risk Drivers, Roundtrip, Selling Today, Single Day, Standard Deviations, Tipping Point, Tsy
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Regulators Investigate MF Global for Missing Customer Money

Tuesday, November 1st, 2011

Regulators Investigate MF Global for Missing Customer Money
MF Global Goes Bankrupt Before Making 1st Interest Payment – Corzine’s Achievement Sheet

Today I Congratulate Jon Corzine, CEO of MF Global, for an unheard of combination of rare “achievements”.

Corzine’s Achievement Sheet

• After being forced out as CEO of Goldman Sachs, Corzine spent a record $62 million of his own money on a US Senate campaign and won. The prior record was $28 million.
• During the senate campaign, Corzine refused to release his income tax return records citing a confidentiality agreement with Goldman Sachs.
• In 2000, Corzine denied having paid off African-American ministers, when in fact the foundation controlled by him and his wife had paid one influential black church $25,000.
• While Senator, Corzine decided he would rather be governor of New Jersey and spent $38 million buying the governorship.
• As governor, Corzine spent some $200,000 of his own money on advertisements to promote a referendum on the 2007 New Jersey ballot to borrow $450 million to fund stem cell research. The referendum was rejected although $270 million had previously been approved to build stem cell research centers.
• Corzine, in attempting to pass the 2007 fiscal year budget, said that he would not accept a budget that did not include a hike in the sales tax from 6% to 7%.
• After the legislature failed to pass Corzine’s budget by the deadline of July 1, 2006, he signed an executive order that immediately closed down all non-essential state government services.
• Corzine lost his reelection bid to Republican Chris Christie. It takes rare talent for Democrats to lose in New Jersey.
• In 2010 Corzine was named CEO of MF Global and used 40-1 leverage on foolish bets on European bonds driving the company into bankruptcy.
• MF Global is the first company to go bankrupt in three years while still rated investment grade by rating agency S&P. The previous company was Washington Mutual.
• MF Global is one of very few companies ever to go bankrupt before making its first bond payment.

Corzine in Bed with Union Leaders, Literally

Many of the above facts were from Wikipedia. Here is a lengthy snip on influence peddling.

In the spring of 1999, when Jon Corzine was running for the United State Senate, he met Carla Katz, the then president of Local 1034 of the Communications Workers Corzine and Katz were soon dating, and they began appearing in public as a couple in early 2002, shortly after Corzine’s separation from his wife Joanne. The Corzines divorced the following year. For more than two years Corzine was romantically involved with Katz. She lived with him at his apartment in Hoboken from April 2002 until August 2004.

After Corzine’s breakup with Katz, their lawyers negotiated a financial payout in November 2004. According to press accounts, the settlement for Katz exceeded $6 million, including cash (in part used to buy her $1.1 million condominium in Hoboken), a college trust fund to educate her children, a 2005 Volvo sport utility vehicle, and Corzine forgave a $470,000 loan that he had made to Katz in 2002 so that she could buy out her ex-husband’s share of their home in Alexandria Township.

Corzine later admitted that he had also given $15,000 to Carla Katz’s brother-in-law, Rocco Riccio, a former state employee who had resigned, after being accused of examining income tax returns for political purposes. At the time, Katz was president of the Communications Workers of America Local 1034, which bargains on behalf of many state employees.

In the fall of 2006, during an impasse in contract negotiations between the Corzine administration and the state’s seven major state employee unions (including the CWA), Katz contacted the governor by phone and e-mail to lobby for a renewal of the negotiations. Their relationship and the financial settlement Katz received after their breakup led to criticism of potential conflicts of interest in labor negotiations while Corzine was governor.

A state ethics panel, acting on a complaint from Bogota mayor Steve Lonegan, ruled in May 2007 that Katz’s contact with Corzine during negotiations did not violate the governor’s code of conduct.

Separately, New Jersey Republican State Committee Chairman Tom Wilson filed a lawsuit to release all e-mail correspondence between Corzine and Katz during the contract negotiations. On May 30, 2008, New Jersey Superior Court Judge Paul Innes ruled that at least 745 pages of e-mail records should be made public, but Corzine’s lawyers immediately appealed the decision.

Corzine won his case on appeal, and on March 18, 2009, the New Jersey Supreme Court ruled that it would not hear arguments in the case, effectively ending the legal battle to make his e-mails with Katz public. Corzine spent approximately $127,000 of taxpayer funds to keep the e-mails secret. Despite these efforts, on August 1, 2010, The Star-Ledger published 123 of the Corzine-Katz e-mails, revealing the extent of their personal contact during negotiations over a new state workers contract in early 2007.

Corzine Perfect Fit for MF Global

In spite of that background, (or do I mean because of it), MF Global thought Corzine was a perfect fit.

Indeed, those looking for reckless behavior, massive risk taking, and willingness to bet the farm on marriage, in politics, and in life, Corzine represented rare “impossible to pass up” talent.

MF Global Bonds Fail to Make First Payment

In a rarely achieved feat, MF’s Corzine Key Man Bonds Fail to Make First Payments

Bond investors lent MF Global Holdings Ltd. (MF) $650 million three months ago in a bet Jon Corzine would succeed in turning the futures broker into a mini-version of Goldman Sachs Group Inc. The firm filed for bankruptcy before making its first interest payment on the debt.

The former New Jersey governor and Goldman Sachs co-head was deemed so key to the broker’s success that bondholders demanded an extra percentage point of interest if he left for a post in the Obama administration.

On Oct. 24, Moody’s lowered the firm’s credit ratings in part on concern that the company wasn’t sufficiently managing risk. A day later, the broker reported its largest-ever quarterly loss and disclosed how much its exposure to bonds sold by Italy, Spain, Belgium, Portugal and Ireland had grown.

Assurances that all the European debt MF Global had invested in would mature by December 2012 and that the company had financed the transactions through the life of the bonds didn’t stop its shares from falling 66 percent in four days to $1.20 a share. The broker tapped almost all of a $1.2 billion credit line.

Bondholders are now in line with creditors owed $39.7 billion, according to Chapter 11 papers filed yesterday in U.S. Bankruptcy Court in Manhattan.

Corzine’s Fault

“The fact that Jon Corzine, the ex-head of Goldman Sachs, was at the helm for MF Global gave the company a lot more ability to extend their reach than they ordinarily would,” Sean Egan, president of Egan-Jones Ratings Co., said yesterday on Bloomberg Television’s InBusiness with Margaret Brennan.

The balance sheet reached 40 times the firm’s equity, Egan said.

“They should have been levered in the area of maybe about six-to-one,” he said. “Having only 2.5 percent equity to assets is ridiculous. That means if you have a 2.5 percent downdraft in the balance sheet, which is very likely, then they’re bankrupt.”

MF Global Bankruptcy: The Biggest Losers

The Wall Street Journal reports on MF Global Bankruptcy: The Biggest Losers

1) Fidelity funds, 13.9 million shares or 8.44% of common stock

2) Guardian Life Insurance Co., 12.9 million common shares, or 7.8%

3) Fine Capital Partners, 21.5 million shares, 7.37% *(In a recent SEC filing, Fine Capital reporting owning 12.16 million shares, for a 7.4% stake in MF Global.)

4) Cadian Capital Management, 10.2 million shares, 6.17%

5) TIAA-CREF, 9.5 million shares, 5.77%

Corzine swept in last year to lead MF Global, and he had ambitions to remake the company in the image of his former company, Goldman Sachs. Instead, Corzine’s optimism about investing MF Global’s money in European sovereign debt — over the objections of others, according to today’s Wall Street Journal story — helped imperil the firm.

Over the summer, bond investors apparently thought highly enough of Corzine that they demanded a richer payout from MF Global if Corzine left the firm for a high-ranking government job. Today, such a “key man” clause seems like an antique.

Apart from a dent to his reputation, Corzine also stands to lose financially from the MF Global bankruptcy filing. Corzine’s compensation last year was $14.2 million, including stock options MF Global valued at $11.1 million. Those options pay off at a share price of $9.25, which means they are very likely to be worthless now.

Volcker’s Campaign Against Proprietary Trading

Bloomberg reports MF Exposes Risk Volcker Wants to Curb

Jon Corzine’s risk appetite helped destroy his firm. It also provided an object lesson for Paul Volcker’s campaign against proprietary trading on Wall Street.

Nineteen months after former New Jersey Governor Corzine became chairman and chief executive officer, MF Global Holdings Ltd. (MF) yesterday filed for bankruptcy. Corzine’s decision to boost risk-taking, including a $6.3 billion wager with the firm’s own money on European government debt, triggered the collapse.

“In the wake of 2008, when we all should have learned a lesson, Jon Corzine told me himself that it was a relatively staid, not risk-oriented firm and he needed to ratchet up the risk,” William Cohan, author of “Money and Power: How Goldman Sachs Came to Rule the World,” said on Bloomberg Television. “Well, he does that and it blows up in his face and for the first time he can’t unwind the trade. Honestly I’m still shocked and it should not have happened.”

Corzine, 64, learned the strategy of making big trading bets during his 24 years at New York-based Goldman Sachs, which he ran from 1994 to 1999 before being forced out.

While Corzine sought to recreate the Goldman Sachs that he remembered, the firm’s current management was reducing risk- taking — in part in response to the Volcker rule. It closed Goldman Sachs Principal Strategies, a prop-trading team that bet primarily on equities, and the Global Macro Proprietary Trading desk, which wagered on bonds, currencies and commodities.

The Volcker rule also will require Goldman Sachs to reduce investments in private equity and hedge funds to no more than 3 percent of each of the funds — or 3 percent of Goldman Sachs’s Tier 1 capital. In the latest quarter, such investments were responsible for the firm reporting its second quarterly loss since going public in 1999.

The Volcker rule, as written in the Dodd Frank Act, had “so many different exemptions and exceptions and loopholes that it almost became nearly impossible for the regulators to fashion a rule that can live up to its original intent,” said Barofsky, a Bloomberg Television contributing editor.

Regulators Investigate Missing Money

The New York Times DealBook reports Regulators Investigating MF Global for Missing Money

Federal regulators have discovered that hundreds of millions of dollars in customer money has gone missing from MF Global in recent days, prompting an investigation into the brokerage firm, which is run by Jon S. Corzine, the former New Jersey governor, several people briefed on the matter said on Monday.

The recognition that money was missing scuttled at the 11th hour an agreement to sell a major part of MF Global to a rival brokerage firm. MF Global had staked its survival on completing the deal. Instead, the New York-based firm filed for bankruptcy on Monday.

Regulators are examining whether MF Global diverted some customer funds to support its own trades as the firm teetered on the brink of collapse.

The discovery that money could not be located might simply reflect sloppy internal controls at MF Global. It is still unclear where the money went. At first, as much as $950 million was believed to be missing, but as the firm sorted through its bankruptcy, that figure fell to less than $700 million by late Monday, the people briefed on the matter said. Additional funds are expected to trickle in over the coming days.

In any case, what led to the unaccounted-for cash could violate a tenet of Wall Street regulation: Customers’ funds must be kept separate from company money. One of the basic duties of any brokerage firm is to keep track of customer accounts on a daily basis.

Neither MF Global nor Mr. Corzine has been accused of any wrongdoing. Lawyers for MF Global did not respond to requests for comment.

DealBook stated “the inquiry threatens to tarnish further the reputation of Mr. Corzine”.

Short of uncovering fraud, is that possible?

Copyright © Mike “Mish” Shedlock

http://globaleconomicanalysis.blogspot.com

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Tags: Bonds, Christie, Commodities, Confidentiality Agreement, Executive Order, Gold, Goldman Sachs, Governor Corzine, Governor Of New Jersey, Governorship, Income Tax Return, Interest Payment, Investment Grade, Jon Corzine, Mf Global, Rare Talent, Reelection, Regulators, Senator Corzine, State Government Services, Stem Cell Research, Us Senate Campaign, Washington Mutual
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Gold Market Cheat Sheet (October 31, 2011)

Monday, October 31st, 2011

Gold Market Cheat Sheet (October 31, 2011)

This visual shows the rise of dividends in the gold sector. Both Newmont and Eldorado have sweetened their dividends recently by linking them to the gold price. Newmont will pay an extra $0.35 per share should the gold price rise above $1,700 an ounce. Similarly, Eldorado has promised to increase its dividend by 50 percent should the gold price average $1,500 to $1,649 an ounce.

For the week, spot gold closed at $1,743.75, up $101.37 per ounce, or 6.17 percent. Gold stocks, as measured by the NYSE Arca Gold Miners Index, rose 12.18 percent. The U.S. Trade-Weighted Dollar Index slid 1.71 percent for the week.

Strengths

• With another eventful week, the performance for our gold-oriented funds was in line with the benchmarks and peers. Silver led the precious metals up 17 percent for the week, while gold gained 6 percent. In the silver space, Sabina Gold & Silver surged 38 percent and Silver Wheaton gained 24 percent. Gold stocks gained about 12 percent on average, roughly twice the lift in bullion, which reflects positively upon putting money to work in the stocks.
• Other noteworthy gains for the week among stocks were seen from CB Gold, up 172 percent, and Jaguar Mining, which gained 41 percent. CB Gold recently announced positive drill results and sold a 10 percent stake in the company to Lumina Capital for $10 million on Thursday. CB Gold was not alone in the news for the Colombian space, with IAMGOLD announcing that it would spend around $23 million buying minority stakes in three Colombian-focused exploration companies: Bellhaven Copper & Gold, Tolima Gold, and Colombia Crest Gold.
• Indian demand for gold remains strong despite increasing prices for the precious metal. India’s festival of lights brought a healthy amount of buying into the market while traders noted that people preferred to purchase gold coins this time instead of spending on jewelry.

Weaknesses

• Agnico-Eagle’s share price this week continues to reflect a negative sentiment from last week’s write off of Goldex, Agnico-Eagle’s lowest-grade operating mine. The stock is down 27 percent over the past 20 days despite reporting a record nine-month gold production of 757,668 ounces compared to 731,138 ounces in 2010.
• Agnico-Eagle’s production growth per share has outpaced both Barrick Gold and Newmont Mining for the most recent quarter while its peers both have negative production growth per share over the trailing year. In addition, Agnico-Eagle’s average gold equivalent grade relative to Barrick and Newmont is 192 percent and 230 percent higher, respectively. This implies there is more certainty that a dollar of revenue will fall to the bottom line as profit with Agnico.
• Argentina issued a presidential decree on Wednesday stating that the country will require all oil, gas and mining companies to repatriate export revenue. For the most part, share prices for companies with Argentinean exposure were punished more than the news would justify. This provided an opportunity to buy on the perceived bad news and take a handsome profit the following day. President Cristina Fernandez won a landslide re-election days earlier and has initiated a strong move to put a brakes on dwindling central bank reserves. Freezing money from leaving the country would also stop any new investment from coming in, thus compounding the problem.

Opportunities

• With clarity coming from a debt agreement reached at the EU summit this week, commodities surged with the good news and the U.S. dollar continued to lose ground against the euro. The trend of a weaker dollar is likely to be a continued theme over the next month as the market begins to focus on debt issues here in the U.S. The Congressional super committee, which is charged with figuring out how to cut $1 trillion or so from the federal budget over the next decade, appears to be at an impasse.
• In the middle of earnings season, MiningWeekly highlighted that mining M&A activity could pick up in the fourth quarter, as companies have been reporting higher levels of cash than in the past. This is mainly attributable to the increase in the price of gold. Ernst & Young says that, “cashed up companies [may] take advantage of recent declines in valuations.” M&A activity dropped 6 percent during the first three quarters of 2011, as markets were reacting to speculation regarding China’s slow economic growth. Recently announced takeovers include: Agnico-Eagle buying Greyd Resources, New Gold acquiring Silver Quest Resources, and Endeavour adding Adamus Resources to its portfolio. With recent evidence of M&A activity in the industry, there may well be more to come.
• Barrick and Newmont announced on Wednesday a dividend increase for the fourth quarter as the price of gold increased cash levels for both of the world-leading gold producers. Barrick and Newmont increased their dividends by 25 and 17 percent, respectively. Newmont recently unveiled its plan to link dividend payments to the gold price in April (see chart above), and has since increased it in September. The company has pledged a $0.20 per share increase for each $100 an ounce rise in the realized price of gold. Eldorado Gold has also announced an enhanced dividend policy that links its payout to the gold price and the number of ounces sold. It is anticipated that its next payout will be 67 percent higher.

Threats

• Julius Malema led hundreds of South African young black youth on a march to the Johannesburg Stock Exchange on Thursday to petition for the government to do more to tackle chronic unemployment stifling the continent’s biggest economy. The Youth League demanded the State take 60 percent control of the mines and all mineral processing plants situated close. The nationalization of South African mines was one of the group’s requests handed over in a memorandum to the South Africa’s Chamber of Mines.
• Australia finalized details of its anticipated 30 percent mining tax and aims to introduce legislation into parliament as soon as possible, Mineweb reported. The tax is to be imposed on large iron ore and coal mines, which principally export their products to China. It has been forecasted that the mining tax will raise $7.7 billion (Australian) in its first two years and $535 billion by 2035 for the government’s pension system.
• The failure of socialistic policies in Europe, whereby countries borrow to finance government payrolls, is still falling on deaf ears. In the U.S., Senator Harry Reid noted that it is more important to protect government jobs versus private sector jobs. This is quite ironic considering that the U.S. Bureau of Labor Statistics shows government workers currently have the lowest unemployment rate of any industry or class at 4.7 percent. Meanwhile, the national unemployment rate is running at 9.1 percent.

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Tags: Bullion, Cheat Sheet, Commodities, Dollar Index, Exploration Companies, Festival Of Lights, Gold, Gold Coins, Gold Market, Gold Miners, Gold Price, Gold Sector, gold stocks, Iamgold, India, Lumina, Minority Stakes, Newmont, Nyse Arca, Precious Metal, precious metals, Silver Wheaton, Spot Gold
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