Posts Tagged ‘Cfa’

Follow the ETP Flows: Corporates Rule

Wednesday, July 18th, 2012

 

by Dodd Kittsley, CFA, iShares

One of the advantages to working for the largest exchange traded product (ETP) provider in the world is that you have a lot of data at your disposal.  In my role as the Global Head of ETP Research for BlackRock, I deal in data every day, particularly as it relates to the in- and outflows of the 4500+ global ETPs currently in existence.  As you can imagine, examining flows can be a great way to spot investment trends, take the temperature of the market and reveal sentiment shifts.

Right now, for example, global ETPs just experienced their largest first half inflows ever.  ETPs attracted net new assets of $105 billion during the first half of 2012, representing a 16% increase on the $90.6 billion of flows posted during H1 2011.  Total industry assets now stand at nearly $1.7 trillion.

Not surprisingly, fixed income ETPs were a main driver of growth.  As global markets continue to be volatile, investors have increasingly been using these products to capture new and diversified sources of income.  Fixed income ETPs attracted 41% of all inflows with $42.0 billion on the year, or 114% above 2011’s comparable YTD figure of $19.6bn. In fact, June was the 18th consecutive month in which global fixed income ETPs have attracted net inflows.  Total assets invested in fixed income ETPs now exceed $300 billion and account for over 18% of total industry assets.

But here’s something you might not have guessed – within fixed income, investment grade corporate ETPs were the clear leader, bringing in $15.5 billion.  Throughout this year, investors have consistently committed new money to the category, with monthly flows ranging from $1.7bn to $3.2bn.  It appears that many investors may agree with Russ K’s feeling that investment grade debt is the place to look for relative safety (albeit less than Treasuries) with the opportunity for positive real yield.

So what do we think is in store for the second half of the year?  Well, if volatility remains an issue (and Russ K believes it will), we expect to see the flows into fixed income ETPs continue (see chart below).  In fact, if they continue to follow their current trajectory, FI ETPs could actually sextuple their assets over the next 10 years – from $300 billion to $2 trillion.  As my colleague and fellow blogger Matt Tucker has said many times, investors are starting to realize that fixed income ETPs are simply a better way to invest in bonds.

Fixed Income Cumulative Net New Asset Trends

 

Never one to keep a good story to myself, I’ll be sharing interesting ETP flow data and related insights on a regular basis here on the iShares blog.  And I’d love to hear from all of you – what questions do you have that our data might be able to answer?

Source: BlackRock Investment Institute

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Exchange-Traded Notes: The Facts and the Risks

Friday, July 6th, 2012

 

Exchange-Traded Notes: The Facts and the Risks

July 5, 2012

by Michael Iachini, CFA, CFP®, Managing Director of ETF Research, Charles Schwab Investment Advisory, Inc.

Key points

  • Exchange-traded notes (ETNs) are not exchange-traded funds (ETFs).
  • ETNs are not backed by a separate pool of assets.
  • Unlike an ETF, ETNs have inherent credit risk.

Exchange-traded funds (ETFs) have been around since 1993, and in recent years they’ve become increasingly popular among investors. With this popularity has come a variety of new ETFs and related products, including exchange-traded notes (ETNs). It’s important that investors understand that ETNs are not the same as ETFs, and that they carry some important risks to be aware of.

ETF, ETN, ETP—what does it all mean?

While ETNs are sometimes grouped alongside ETFs, the big umbrella term that covers both of them is ETP: exchange-traded product.

An exchange-traded fund (ETF) is a basket of securities such as stocks, bonds or commodities. It’s similar in many ways to a mutual fund, but it trades on an exchange like a stock. An important characteristic of ETFs and mutual funds is that they’re legally separate from the company that manages them. They’re structured as separate “investment companies,” “limited partnerships” or “trusts.” This matters because even if the parent company behind the ETF goes out of the business, the assets of the ETF itself are completely separate and investors will still own the assets held by the fund.

Exchange-traded notes (ETNs) are different. Instead of being an independent pool of securities, an ETN is a bond issued by a financial institution. That company promises to pay ETN holders the return on some index over a certain period of time and return the principal of the investment at maturity. However, if something happens to that company (such as bankruptcy) and it’s unable to make good on its promise to pay, ETN holders could be left with a worthless investment (just like anyone else who had lent the company money).

Why would anyone buy an ETN?

Given that ETNs carry credit risk, you might wonder why anyone uses them at all. But there are a few features that attract some investors to ETNs.

First, since the issuer is promising to pay exactly the return on some index (minus its own expenses, of course), there’s little risk of tracking error. That is, the ETN should be expected to very closely match the performance of the index. Of course, well-managed ETFs can do the same thing, but an ETN comes with an explicit promise.

Second, some ETNs promise to deliver the returns of a particular index that isn’t available in an ETF framework. For investors committed to such a niche investment, an ETN might be the only option.

Third, ETNs may have some attractive tax consequences. While this could change in the future, ETN investors are usually responsible for paying taxes on their investment only when they sell it for a gain. ETNs don’t distribute dividend or interest income the way a stock or bond fund may, so all taxes are deferred and taxed as capital gains. It’s important to note, however, that the IRS has ruled against this tax treatment for currency ETNs, and similar rulings may follow in the future for other types of ETNs.

Is it worth the risk?

For most investors, the credit risk inherent in an ETN isn’t worth it, in our view. Lehman Brothers had issued three ETNs at the time of its bankruptcy in September 2008, and investors who owned shares of these ETNs at the time lost a substantial part, if not all, of their investments; the risk is real.

If an investor is comfortable evaluating the credit risk of an ETN issuer, then an ETN may be a reasonable investment. But most investors turn to exchange-traded products in order to get exposure to a particular segment of the market, not to evaluate a bond issuer’s health. As a result, they generally will not find ETNs to fit their investment goals.

Real-life ETN Examples

As an example of what could go wrong with an ETN, consider one highly exotic ETN that was designed to track twice the daily returns of an index of futures contracts on the implied volatility of the S&P 500® Index. On February 21, 2012, the underwriting bank behind the note stopped issuing new shares of the ETN. This meant that if more investors tried to buy the note, its price could go higher and higher above the underlying value of the index it tracks, which is exactly what happened. By March 21, the ETN’s market price was almost 90% higher than its underlying indicative value.On March 22, the ETN’s price started returning to reality; on that same day, the underwriting bank announced that it would start issuing new shares again. The ETN’s price plunged almost 30% in one day and almost 30% again the next day, ending the two-day stretch with a price only 7% higher than the fund’s indicative value.While the suspension of issuance of new shares isn’t a problem unique to ETNs, this case provides a particularly stark example of the importance of making sure investors stick to funds whose prices are close to their true underlying values.

Opta ETNs

In February of 2008, Lehman Brothers got into the ETN game by issuing three notes under the Opta name. One was tied to listed private equity companies, and the other two were tied to commodities. Thankfully, none of the funds had gathered any meaningful assets by the time Lehman Brothers went bankrupt just seven months later, in September 2008. However, any investors who did hold shares of these ETNs when Lehman Brothers went bankrupt ended up waiting in bankruptcy court with everyone else who’d loaned money to the firm, hoping to get a few cents on the dollar for their investment.Data Source: Morningstar Direct

Important Disclosures

Investors should consider carefully information contained in the prospectus, including investment objectives, risks, charges and expenses. You can request a prospectus by calling Schwab at 800-435-4000. Please read the prospectus carefully before investing.

Some specialized exchange-traded funds can be subject to additional market risks. Investment returns will fluctuate and are subject to market volatility, so that an investor’s shares, when redeemed or sold, may be worth more or less than their original cost.
This information is not intended to be a substitute for specific individualized tax, legal or investment planning advice. Where specific advice is necessary or appropriate, Schwab recommends consultation with a qualified tax advisor, CPA, Financial Planner or Investment Manager.

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

The S&P 500® Index is a market-capitalization weighted index that consists of 500 widely traded stocks chosen for market size, liquidity, and industry group representation.

Charles Schwab Investment Advisory, Inc. (“CSIA”) is an affiliate of Charles Schwab & Co., Inc. (“Schwab”).

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What a Potential Greek Exit Means for Investors

Friday, June 1st, 2012

 

 

by Michelle Gibley, CFA, Director of International Research, Schwab Center for Financial Research

Key points

  • The risk of a Greek exit has increased, although the timing is uncertain.
  • In the meantime, we believe more market turmoil is likely, because most of the major tools to stem the crisis have political and legal barriers.
  • We prefer underweighting Europe at this time because the potential for downside risks has increased and there is the likelihood of high levels of ongoing volatility.

In national parliamentary elections on May 6th, many Greeks swung their support away from mainstream parties and toward anti-austerity fringe parties, increasing the chance of an eventual Greek exit from the euro. This has led a lot of Schwab clients to ask some key questions—namely, if and when Greece could exit the euro, and what this would mean for investors. One word of caution before we start: It’s unusually difficult to predict a resolution to this crisis, given the number of different scenarios and political decisions involved. Here are some of the questions we’ve heard most frequently:

When would a potential Greek exit happen?

Because the May election didn’t give any party the majority of the parliament, and a coalition government failed to emerge, Greeks go back to the polls on June 17. This election could create the conditions for a fast exit if austerity measures to be implemented by June 30 are outright rejected. While Greece’s next quarterly bailout funding is due August 30, observers are concerned that Greece could run out of money as soon as July, as tax collection revenues are likely coming in below expected levels.

We believe an exit in the short-term is less likely because Europe doesn’t yet appear to have mechanisms in place to deal with the aftereffects, or contagion. A Greek exit could begin to infect other countries, threatening their ability to issue debt at reasonable rates and potentially pushing them closer to an eventual exit from the eurozone, and spark a flight of capital from banks in other peripheral countries. Measures to stem contagion will likely need approval—either parliamentary or by the general public—before they can be enacted. Therefore, Europe is likely to again kick the can down the road and buy time, even if a coalition of hard anti-austerity parties forms a government in Greece.

We believe the probability of a Greek exit increases as the year progresses and over the next several years. Greece is likely to need continual relaxation of bailout targets, which will become increasingly unpalatable to the electorate in financially stronger countries.

If Greece is small, why would a Greek exit matter?

We believe that markets are focused on Greece primarily because of the risk of contagion to Spain and Italy. While even last fall there was hope that Greece’s problems could be “ring-fenced,” or contained, the risk of contagion has become increasingly apparent.

Italian and Spanish bonds move somewhat in tandem

Italian and Spanish bonds move somewhat in tandem

Source: FactSet, iBoxx. As of May 29, 2012.

Spain’s problems are complicating the situation. In Spain, the fiscal deficit has been revised negatively and the health of its banking system has been deteriorating. The Spanish fiscal deterioration, combined with the inaction of the European Central Bank (ECB) at its April monetary policy meeting, helped to increase yields on the government debt of an entirely different country—Italy. Italian and Spanish government bonds continue to move somewhat in tandem, even though you could argue that Italy’s financial position is stronger than Spain’s.

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Cheap China Transitions to Luxury

Thursday, April 26th, 2012

 

April 25, 2012
by Michelle Gibley, CFA, Director of International Research, Schwab Center for Financial Research

Key points

  • After a decade of double-digit gains in wages, China may be poised for a manufacturing slowdown—and the price of goods may rise globally.
  • China’s export-market share may decline slightly, but an increase in the Chinese consumer’s buying power could help the economy in other ways.
  • European luxury-goods companies will likely benefit from the influx of Chinese consumers into the luxury market.

Cheap labor costs helped make China a global manufacturing powerhouse. So what happens after a decade of double-digit gains in wages for Chinese workers?

Growth is likely to slow, but we believe it will aid the transition of China’s economy to a more balanced, sustainable growth model. In fact, China and the globe could benefit as Chinese consumers gain buying power, creating opportunities for luxury-goods companies that can cater to this influential new market.

China may lose export share, but no catastrophe

Wages in China have risen at a double-digit rate in recent years, but so has productivity, resulting in little change to the end price of goods exported. Meanwhile, the manufacturing sector in China shows the following signs of maturity:

  • Productivity gains are getting harder to come by.
  • Wage differentials with other countries are growing less favorable.
  • Exports are steadily moving away from lower-end goods such as clothing and toys, and toward machinery and electronics.
  • Advances in technology, in particular the move toward flexible automation in upper-end manufacturing, are reducing the role of labor in manufacturing.

The less human labor that’s involved in manufacturing, the smaller labor’s effect on the final price of goods—which means that even if Chinese labor costs were to decline, they wouldn’t be much help in holding down the price of exports.

We believe China may lose some export market share and export growth will likely slow in the near-term and coming years. We’ve written before about how the changing cost equation has contributed to a manufacturing renaissance in the United States, where the smaller labor cost differential has been particularly helpful for makers of goods with high logistics costs. In terms of low-end exports, countries such as Bangladesh and Vietnam have already increased their market share.

That said, it’s unlikely China will lose significant market share. With its large base of both skilled and unskilled workers, extensive infrastructure, and supply networks, China will probably remain the global manufacturing hub for some time. Additionally, it would likely take competitor countries of low-end goods many years to duplicate the highways, rail systems and ports that China already has.

Slower but more balanced Chinese economy

In addition to exports, infrastructure and housing construction have helped propel the growth of China’s economy. But construction can’t grow indefinitely, and over time, continued investment into building more factories becomes an inefficient use of capital.

This is part of why China needs consumers if its economy is going to continue growing. Private consumption plays a much smaller role in the Chinese economy than in the American economy. The Economist Intelligence Unit notes that, during the five years ending in 2011, private consumption accounted for roughly 30% of gross domestic product (GDP) in China. In the United States that figure was nearly 70%. To help foster consumer spending, the Chinese government is targeting a 13% growth in the minimum wage over the five-year period ending 2015.

China’s growth is likely to slow during the transition toward a consumer-led economy. However, this could result in an economy that is less reliant on exports and construction, and therefore more balanced. As a result, China’s next phase of growth could be more sustainable—to the benefit of both China and the world.

Chinese consumers seek luxury

Rising wages may temporarily slow economic growth, but they increase the buying power of domestic consumers. A large number of wealthy Chinese now have ample discretionary income and a newfound affinity for luxury goods.

The Asian luxury market is booming

The Asian luxury market is booming

Source: Bain & Company, Fondazione Altagamma. Luxury Goods Worldwide Study, October 2011.

Measures of the size and growth of China’s luxury market are astounding. McKinsey & Company believes the market can double over the five years ending 2015. By some estimates, China may have exceeded Japan as the second largest luxury market in 2011, when including purchases made in Hong Kong and Macau1.

Greater China overtakes Japan as second largest global luxury market

Greater China overtakes Japan as second largest global luxury market

Source: Bain & Company, Fondazione Altagamma. Luxury Goods Worldwide Study, October 2011. Greater China includes Hong Kong, Macau and Taiwan.

Chinese luxury buyers tend to be younger and less wealthy than their overseas counterparts, and they’re generally male. According to CLSA Research, Chinese buyers are 15 years younger than their peers in other markets, while McKinsey & Company notes that consumers further down the income ladder are purchasing luxury goods. In addition to the desire for status, the primary reason for purchases is “self-reward,” while business gifts are also an important part of luxury spending. As in many emerging markets, most luxury purchases are made by men.

Lastly, despite the perception of China as having a large counterfeit market, Chinese consumers increasingly want the real thing and are willing to pay a premium for globally recognized luxury brands. Consumers associate European brands most strongly with luxury2, a status earned over decades of consistently producing high-quality goods with cachet.

European companies dominate the luxury segment

Investors may have trimmed their exposure to Europe due to concerns about low economic growth and the continued eurozone sovereign debt crisis, but there may be a way to invest in Europe while reducing exposure to the region’s risks. Europe has the largest share of luxury companies, producing the highly sought-after luxury brands that Chinese consumers are clamoring for.

What are the risks?

The law of large numbers tells us that the torrid pace of luxury sales should slow eventually. In fact, luxury spending in China already shows some signs of slowing, possibly due in part to a slowdown in exports and the housing market. Additionally, some high-profile corruption cases have highlighted individuals’ purchases of luxury items, which may cause some people to moderate overt displays of wealth.

While established luxury brands remain the most popular, they could see declines in market share. Newer luxury consumers and more price-sensitive buyers have shown some interest in local Chinese brands made in Europe. Even the government has funded a luxury clothing company that will manufacture Chinese designs in Italy. This could undermine the size of opportunity for European luxury companies.

Lastly, changes in Chinese import taxes could alter the landscape for retailers. According to ISI Research, the combination of custom duties and taxes currently account for roughly 50% of the price of many luxury goods, making prices in China much higher than elsewhere globally. As a result, over 50% of Chinese luxury spending occurs outside mainland China. China’s Ministry of Commerce has proposed reducing import taxes for consumer goods, although disagreements among Chinese ministries means that changes have delayed a decision.

While the pace of growth and individual companies that benefit could evolve as the market matures, the rising incomes of Chinese consumers are likely to generate investment opportunities in coming years.

1. Bain & Company, December 2011.
2. Luxury experiences in China, A KPMG study, May 2011.

Schwab resources

You can invest in the Chinese luxury trend through individual international stocks, but you need to have a high risk tolerance and time to devote to in-depth research before making investments. We’ve published a guide titled Managing an International Equity Portfolio Using Schwab Equity Ratings, which details our recommended research process for creating and managing an international stock portfolio.

Schwab clients can get the Schwab Equity Ratings International Report on a particular stock. This is an individual stock research report that guides you through our recommended method for researching a stock. It includes insights into a stock’s rating along with valuation, earnings and fundamental metrics. With this report, you should have most of the information to help you evaluate the investment potential of a particular stock. This report can be found in the Ratings Summary box on a stock’s summary page under the Research tab. To help interpret it, there’s a user’s guide which you can find directly under the report.

Investors trading foreign ordinary shares in the US over-the-counter (OTC) market using our online and automated trading platforms can contact Schwab’s Global Investing Services team at 800-992-4685 for more information.

Important Disclosures

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.

International investments involve additional risks, which include differences in financial accounting standards, currency fluctuations, political instability, foreign taxes and regulations, and the potential for illiquid markets. Investing in emerging markets may accentuate these risks.

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A Bad Year for Common Sense

Thursday, December 22nd, 2011

A Bad Year for Common Sense

by Gerald Hwang, CFA, Portfolio Manager, Matthews International Capital Management, LLC

The phrase “common sense” can be a paradoxical concept in investment conversations. Seemingly imbued with a perverse, reverse meritocracy, the catchphrase appeals to investors as an intellectual leveler. It suggests, “Let us think things through logically.” Not only does this sound good, but what could be more egalitarian and humble? But when investment managers consider something to be “common sense,” be wary.

Let’s take a look at how common sense failed bond investors this year.

Risky or Risk-free: Which Is It?

From the start of the year until the end of November, long-dated U.S. Treasuries generated 26% in returns. Few market participants were predicting such a rally. Sober analysts with common sense made note of the low yields early in the year and an economy that was two years past the peak of the financial crisis. The probability of further rate declines appeared low with the Federal Reserve at ZIRP (zero interest rate policy). Some bond investors even shorted Treasuries outright, assuming that some combination of factors (such as better economic growth prospects or a pickup in inflation) might drive rates higher.

Regarding any potential flight to Treasuries caused by stress in Europe, common sense dictated that this was already priced into the market: yields were already extremely low. But they headed lower. This is bad news indeed for those holding Treasury shorts and who are benchmarked versus indices with a heavy government component.

Euro Stability Amid Political Chaos

The euro is up about 0.5% versus the U.S. dollar from the start of the year through November 30. The European Monetary Union itself is a magnified example of the “tragedy of the commons.” Just as individual sheepherders acting rationally will plunder a commonly held pasture, so too have individual countries acting rationally plundered the common currency. The relatively tight trading range of euro versus U.S. dollar, and the relatively flat year-over-year performance of the euro has confounded many investor expectations. This has been particularly baffling given the severity of the underlying crisis and the market’s consensus view of its intractability.

Japanese Government Bond Outperformance

Investors have a number of good reasons to dislike Japanese Government Bonds (JGBs). U.S. holders of JGBs enjoyed a 6% year-to-date total return—which is surprising given the low yields across the entire Japanese curve. At the start of the year, the 10-year JGB yielded 1% (and you thought the U.S. 10-year bond was low at 2%!). Two surprises are attached to JGB outperformance. First, Japanese yields declined slightly from those already-low levels, creating a capital gain. Second, a 4.5% appreciation in the yen versus the U.S. dollar augmented JGB returns to U.S. dollar-based investors. (And the yen appreciated 3.9% versus the euro.)

It is unlikely that many bond investors outside Japan overweighted JGBs in anticipation that the minimal carry would be so strongly augmented by positive yen returns. Japan has the developed world’s highest debt/GDP ratio. Recovery efforts from the earthquake and nuclear disaster would suggest that this ratio would rise. Japanese demographics suggest that the growing ranks of the elderly will cease being net providers of capital to the Japanese government. At least this year, none of these factors mattered.

Given the extraordinary macroeconomic conditions in which we find ourselves, perhaps some of these performances are not out of keeping with the environment. High levels of unemployment in the West have been paired with tight fiscal policy and less-than-accommodative monetary policy, which itself seems absurd. In Asia, India and China have been stepping on the brakes for most of the year.

Perhaps next year, counter-intuitive investment theses will continue to prevail over false “common sense.”

Gerald Hwang, CFA
Portfolio Manager
Matthews International Capital Management, LLC
The subject matter contained herein has been derived from several sources believed to be reliable and accurate at the time of compilation. Matthews does not accept any liability for losses either direct or consequential caused by the use of this information. Investing in small- and mid-size companies is more risky than investing in large companies as they may be more volatile and less liquid than large companies.

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Special Report: The Merits of Dividend Investing (TD Waterhouse)

Thursday, November 10th, 2011

Today, TD Waterhouse (Portfolio and Investment Research) has released its report titled, “The Merits of Dividend Investing,” in which TD analysts, Ryan Lewenza ( U.S. Equities ) and Martha Hill (Canadian Equities) dig into the merits of investing in dividend paying stocks by examining the positive return and risk attributes associated with dividend payers, as well as providing a list of some of their preferred U.S. and Canadian dividend paying equities.

Report Prepared by:

Ryan Lewenza, CFA, CMT
V.P., U.S. Equity Strategist

Martha Hill, CFA
V.P., Canadian Equity Strategist

Highlights:

- In this report we dig into the merits of investing in dividend paying stocks by examining the positive return and risk attributes associated with dividend payers, as well as providing a list of some of our preferred U.S. and Canadian dividend paying equities.

- Given our expectations for lower rates of return over the next few years, dividend paying equities could outperform with dividends likely to play a more important role in future total returns. As anecdotal evidence of this, we note that dividend payers within the S&P 500 Index (S&P 500) have outperformed non dividend payers by 5.50%, year-to-date. Looking at Canada (S&P/TSX Composite Index), the returns from dividend payers are even greater, outperforming non-dividend paying stocks by roughly 12%.

- Looking longer term, if a U.S. investor invested $100,000 in the S&P 500 in 1988 they would have roughly $527,974 today. That equates to a compound annual growth rate (CAGR) of 7.50%. However, if you include dividends over this period, an investor would have over $900,000, which equates to roughly a 10% CAGR. Similarly, Canadian investors who invested $100,000 in 1988 would have over $700,000 including dividends (8.9% CAGR) versus $397,000 (6.20% CAGR) if only looking at price return.

- When investing we also need to consider risk. On this front dividend paying stocks are generally lower risk stocks relative to non-dividend payers. We have found that the highest yielding stocks within the S&P 500 (4% and above) have the lowest betas (0.84 on average), which means they move less than the overall market. Conversely, stocks that do not pay a dividend or have a low dividend yield of less than 1% have higher betas than the market, at 1.23 and 1.31, respectively.

- Overall, our analysis shows that dividend paying stocks can enhance total returns for investors, with potentially lower risk.

The report is available here, or viewable/downloadable below.

[pdf http://advisoranalyst.com/documents/The%20Merits%20of%20Dividend%20Investing%20-%20November%2010,%202011.pdf 500 650]

 

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Looking for Three Signs of a Market Bottom (Lewenza)

Thursday, September 8th, 2011

Looking for Three Signs of a Market Bottom

by Ryan Lewenza, CFA, CMT, U.S. Equity Strategist, TD Waterhouse

In May of this year, we turned cautious on U.S. equities given: 1) weak seasonality from May to September, 2) the end of
Quantitative Easing 2 (QE2) in June, and 3) the extreme bullish sentiment that we witnessed in Q1/11 which, from a
contrarian perspective, was negative. We’ve maintained our cautious and defensive posture since that time and will
remain so until we see the following signs:

- S&P 500 Index (S&P 500) breaks above key resistance of 1,260/70
- 10-year bond yield breaks above 2.7-2.9% range
- Gold prices pull back, following its huge run

In the recent sell-off, the S&P 500 broke through key support of 1,260/70. We are now witnessing an oversold bounce with the S&P 500 closing in on the key 1,260/70 level. This level is important because: 1) the 50-day MA currently intersects at 1,260, and 2) this level was previous support in March and June of this year. When key technical supports are broken they become resistance levels on the way back. Therefore, if we see the S&P 500 break back above this now resistance level, it will signal a stronger market to us, and that the correction could be over.

- Readers of our work know that we watch the bond markets closely to help us isolate turns in the equity markets. With the U.S. 10-year bond yield falling to record lows of around 2%, clearly the bond market is pricing in slowing economic growth, and potentially even a recession.

- For us to get more positive on equities, we will need to see the 10-year yield bond move higher, breaking above the 2.7-2.9% range, which would signal to us that the growth scare is over and investors are moving back to more risky assets, such as stocks.

- We remain long-term bulls of gold, but believe that the recent parabolic move in gold prices has been negative for U.S. equities. Said differently, as investors grow more concerned over sovereign debt issues and the prospect of a recession, investors have been moving funds out of equities and into gold, given its safe haven status in times of distress. Essentially, some investors are growing wary of paper assets, and as such, are moving funds into hard assets like gold.

- We believe a pullback in the overbought gold market will be necessary for U.S. equities to stabilize and move higher in the coming months.

Conclusion: In sum, the confluence of these three events occurring would greatly impact our near-term cautious view, making us more constructive on equities, believing that the current market correction has ended.

***

Looking for Three Signs of a Market Bottom – September 1, 2011

Appendix A – Important Disclosures

Full disclosures for all companies covered by TD Securities Inc. can be viewed at https://www.tdsresearch.com/equities/coverage.disclosure.action

Research Dissemination Policy

TD Waterhouse makes its research products available in electronic format. TD Waterhouse posts its research products to its proprietary websites for all eligible clients to access by password and distributes the information to its sales personnel who may then distribute it to their retail clients under the appropriate circumstances either by email, fax or regular mail. No recipient may pass on to any other person, or reproduce by any means, the information contained in this report without the prior written consent of TD Waterhouse.

Analyst Certification

The TD Waterhouse Portfolio Advice & Investment Research analyst(s) responsible for this report hereby certify that (i) the recommendations and technical research opinions expressed in the research report accurately reflect the personal views of the analyst(s) about any and all of the securities or issuers discussed herein and (ii) no part of the research analyst’s compensation was, is, or will be, directly or indirectly, related to the provision of specific recommendations or views contained in the research report.

Conflicts of Interest:

The TD Waterhouse Portfolio Advice & Investment Research analyst(s) responsible for this report may own securities of the issuer(s) discussed in this report. As with most other TD Waterhouse employees, the analyst(s) who prepared this report are compensated based upon (among other factors) the overall profitability of TD Waterhouse and its affiliates, which includes the overall profitability of investment banking services, however TD Waterhouse does not compensate analysts based on specific investment banking transactions.

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Clearing Up Corporate Vs. Credit Bonds (Matt Tucker)

Friday, August 26th, 2011

by Matt Tucker, CFA, iShares

When talking with investors, I often hear the terms “corporate” and “credit” used interchangeably to describe a certain segment of the bond market. But while these designations are often lumped together, they actually refer to two different types of bonds.

To understand the difference, think about the stock market. When you buy a common stock, you’re buying an ownership stake in a corporation. Many of these same corporations, regardless of where they are headquartered, issue debt in US dollars, and this debt is categorized as “corporate.” Easy enough. Where it gets tricky is that there are a number of other types of entities that also issue USD denominated debt.  The term “credit” captures these other issuers, along with the debt of corporations.

To help us understand the distinction, let’s examine the Barclays Capital U.S. Credit Bond Index, the most common benchmark used to measure the US credit bond market.  Originally this index was corporate-only, as almost all the issuers included in it were corporations that came to the US bond market to raise money.

Over the last decade, however, we increasingly saw other types of entities (think foreign agencies and authorities, for instance) issue bonds in US dollars to lower their funding costs and broaden their investor base.

In June 2000, the index was changed from “Corporate” to “Credit” in order to more accurately reflect the evolution of the US bond market. As you can see from the graph below, about 80% of the credit index is now corporate issuers, with the remaining 20% issued by other types of borrowers. In general, currency and market of issuance, rather than where an issuer is from, determine whether bonds are included in US credit indices.

Let’s take a closer look at the type of issuers included in the Barclays Capital U.S. Credit Bond Index:

  1. Foreign Agencies – Bonds issued by agencies that are owned or guaranteed by a single government.  Similar to Fannie Mae and Freddie Mac, these agencies receive government support to fulfill a social or financial mission of the government. Petrobras, the Brazilian state owned oil company, falls into this category.
  2. Foreign Local Authorities– Foreign municipalities, like the Canadian provinces of Ontario and Quebec, issue bonds to access the large pool of US investors.
  3. Sovereigns – Foreign governments (think Brazil, Mexico and Italy, for instance,) tap the US bond market.
  4. Supranational Agencies – Agencies that are sponsored by more than one central government.  Bonds from these agencies typically have AAA credit ratings, as the bonds are backed by multiple government guarantees. For example the Asian Development Bank, which finances development projects in Asia, is sponsored by 67 different countries.
  5. Taxable Municipals – These are taxable bonds issued by municipalities.  The issuance of these bonds increased during 2009 to 2010 as more state and local governments borrowed money under the Build America Bond program, part of the American Recovery and Reinvestment Act of 2009.

Corporate or credit – what’s the right choice for an investor?  It all depends on what kind of exposure they want.   Some investors prefer corporate debt because they want exposure that better matches up to their equity portfolio, or perhaps they have a market view that focuses on corporate debt specifically.  Other investors may prefer credit as it is a larger, more diversified sector and more fully captures the US bond market. Remember that corporate bonds are included in credit indexes, and their returns are historically highly correlated.  If an investor is indifferent between the two, then they should focus on other factors such as the liquidity, cost, and transparency of the investment vehicles they are evaluating.

1: Source Barclays Capital as of 6/30/2011

Indexes are unmanaged and one cannot invest directly in an index. Index constituents are subject to change.

Bonds and bond funds will decrease in value as interest rates rise.

Copyright © iShares

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Exceeding Expectations (Lee)

Thursday, May 26th, 2011

Exceeding Expectations

Alfred Lee, CFA, DMS, Vice President & Investment Strategist
BMO ETFs & Global Structured Investments
BMO Asset Management Inc.
alfred.lee[at]bmo.com

Monthly Strategy Report May 2011

A return to prominence it may not be, however year-to-date U.S. equities have rebounded as one of the best performing broad markets. While questions still remain about the ailing U.S. economy and particularly its ballooning deficit, the U.S. private sector has often been overlooked by Canadian investors. Being the epicentre of the 2008 financial crisis is likely a major reason why Canadians have steered clear of U.S. equities, looking perhaps to better prospects at home due to Canada’s strong banking and commodity related companies. In addition, the continued slide of the U.S. dollar against most major currencies, particularly the loonie, further compounds reasons for avoiding investments in U.S. companies.

Before we move on to discuss why we have been bullish on U.S. equities coming into the 2011, a closer look at currency issues is warranted. Any non-domestic investment by a Canadian can be decomposed into two sources: the return on the underlying asset and the return on the currency. As many investors north of the border may recall, currency can have a large impact on an investment. Back in 2007, when the loonie made a strong ascent to as high as US $1.0865, many saw their otherwise positive investment either negatively impacted or negated by the currency impact. As with any currency, its strength is driven by a number of factors including the soundness of a country’s balance sheet, political stability and interest rate differentials, to name a few. In addition, the current characteristics of the market place has led to a number of currencies being recognized by the market as safe-havens and others as currencies that tend to appreciate in-line with risk taking.

The Canadian dollar, despite being backed by “the World’s Most Sound Banking System1” tends to react like a risk currency because of our heavy tilt to commodity exports. Oil and base metals, as an example, tend to rise in times when investors are confident about the prospects of global economic expansion and thus, at those times, natural resources will be in higher demand. The greenback on the other hand has a tendency to trade like a safe- haven currency despite a ballooning deficit and so too does the Japanese yen with its extreme debt/GDP ratio. This odd behaviour is partially due to the two currencies role as funding currencies in carry trades.2

 

Currently, with the higher likelihood of the Bank of Canada raising lending rates before the U.S. Federal Reserve, the greenback’s role as a funding currency could be further exacerbated and could cause commodity currencies such as the loonie to drift higher, if equity market volatility continues to decline. As we believe global economic conditions are improving and expect higher interest rate differentials between the U.S. and Canadian dollar to widen, we continue to favour currency hedged products, especially when looking at U.S. related investments.

- Short- to mid-term tailwinds. In our BMO ETFS: 2011 Outlook Report published in January, one of our major asset allocation calls was paring back emerging market equities in favour of U.S. equities. We later issued a BMO ETF: Trade Opportunities report on January 20, 2011 to our subscribers titled “Dissecting the Dow,” which recommended obtaining U.S. equity exposure through the Dow Jones Industrial Average (Dow). We were extremely bullish on emerging markets coming out of the recession to the end of 2010 and we still believe the developing economies to be a secular story. For the time being however, we believe emerging market equities will further face headwinds, despite the rising middle class in Brazil, Russia, India and China (BRICs) and also the Asia-Pacific region. As a result, large multi-national companies of the Dow may be of consideration as they provide indirect exposure to this demographic while avoiding emerging market weakness. Furthermore, U.S. multinationals have a tendency to perform well when the greenback weakens. The short-to-mid-term however, we believe U.S. equities could continue to outperform as they look favourable from each of a macro-economic, fundamental and technical perspective, addressed further below.

Potential Investment Opportunity:
- BMO Dow Jones Industrial Average Hedged to CAD Index ETF (ZDJ)

- Macro-Economic Factors: Despite the worse than expected U.S. jobless numbers reported in early May, investors should remain focused on the big picture, rather than one-off numbers. The global economy continues to strengthen and we believe this to be bullish for equities over the long-term despite short- term volatility shocks. The sharp sell-off we witnessed in commodities several weeks ago may also be of concern, however, this is what the economy needs. Lower oil prices are an economic stimulus that does not stress a government’s balance sheet and in addition it helps large multi-national companies operate more efficiently. The recent drop in oil prices is exactly the risk premium that we warned was built into crude from the Middle-East concerns. With the recent passing of Osama Bin-Laden, that potentially leaves Muammar Gaddafi as the sole focus of the U.S.

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TSX: Global Concerns, Local Impact?

Wednesday, March 30th, 2011

John Smolinski, Portfolio Manager, TD Canadian Equity Fund, discusses the impact of the Japanese crisis and the political turmoil in the Middle East and North Africa on the Canadian banking and energy sectors and shares names of some stocks that he likes.

In the interview, TD Mutual Fund’s John Smolinski addresses the following concerns:

  • How are you managing the constantly evolving global risks?
  • What has been the impact on the markets?
  • Will natural gas benefit from increased demand?
  • How are you positioning the portfolio?
  • Are there any sectors or companies that you like?

Click on the image below, or here, to watch the interview:

John Smolinski, CFA
Title: Managing Director
Education: BA Economics, York University, Chartered Financial Analyst
Industry Experience: Since 1990
Funds: TD Canadian Equity Fund, TD Balanced Growth Fund

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