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@theMarket: Banking Crisis Still With Us
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Altogether Moody's downgraded a dozen of the world's largest banks, those hardest hit had the largest exposure to capital markets activities. These are banks that take huge positions in stocks, bonds, derivatives and other securities. New rules implemented by Congress after the financial debacle of 2008-2009 was supposed to prevent our nation's banks from ever-again becoming embroiled in risky securities that few understand.
However, just recently one of these down-graded banks was brought before Congress to explain their mega-billion dollar loss in just such a set of derivatives. In other words, the risk that we could see a repeat of the financial melt-down is still with us. Moody's downgrade is an acknowledgement of that fact.
This banking conundrum is why the economy is still stuck in second gear after three years of Fed stimulus. The Fed pumps trillions of dollars into the banking system, which lowers interest rates and encourages lending but the banks won't do it. Yesterday I wrote in my column "Let's Twist Again" that banks continue to ration credit to those who need it most, consumers and companies with less than perfect credit ratings.
Since lending has traditionally been the bread and butter business of the banking sector, these banks have to look elsewhere for ways to make money. So they speculate in the capital markets using all the cheap money the Fed provides them. Speculation carries its own risk but they would rather risk billions in the derivatives markets than trillions in lending to their customers. Go figure!
Markets did react not well to the banking downgrade or to their disappointment in the Fed's extension of Operation Twist to the end of the year. They were looking for some grander gesture from the central bank. Both events gave investors the excuse they needed to take some profits after the hefty gains of the last two weeks.
In my opinion, this is just the kind of pullback I was hoping for when I advised readers last week to re-invest their cash. I had warned investors that the stock market could very well pull back to the 200 day moving average, which on the S&P 500 Index is at the 1,285 level. From here it is only 2-3 percent of downside while I believe the upside could easily be double or triple that.
Today in Rome leaders of the Euro-zone's big four economies — Spain, France, Germany and Italy — are meeting to hammer out further solutions to their debt crisis. These talks will set the stage for next week's European Union summit in Brussels. Investors have high hopes for some additional action by the EU and the ECB during that summit.
Time and again, however, investors have been disappointed by the results of these summits. I have warned investors that the market's timetable and that of the EU is vastly different. Markets want solutions now but EU officials have a longer time frame. Changes among their members require negotiation, consensus-building and a bit of horse-trading. Many members, especially among the stronger economies, have traditionally taken a "wait and see" attitude to events. Over the past two years that has resulted in an atmosphere of crisis management.
Bottom line: look for more of the same in the coming week, which may give investors further opportunity to get back in the market at a reasonable price.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
The Independent Investor: Let's Twist Again
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"Operation Twist" is the Federal Reserve Bank's third attempt at quantitative easing in as many years. It was intended to lower long-term interest rates by selling short-term U.S. Treasury bonds that it owns and using the proceeds to buy longer-dated Treasury bonds. It worked fairly well, as far as declines in long term rates are concerned, but did little for the economy or to spur additional lending.
"Twist," like QE I and QE II, was intended to jump-start the economy by adding cheap dollars to the economy thereby lowering interest rates but has resulted instead in what I call our stop-and-start economy.
As I have written before, the problem is not with interest rates. Lending rates are at historically low levels. The problem centers on getting banks and other lenders to loan those cheap dollars to those who really need it. Whether we are talking about companies or consumers, those who need the money the least find they can borrow the most. AAA-rated companies can easily refinance their debts and take advantage of these low rates. Likewise, wealthy people with a lot of equity in their homes and high credit ratings can also take advantage of low rates.
But those consumers and small-business owners with questionable credit ratings are simply unable to borrow, or if they can, the rates of interest they must pay are prohibitively expensive. This is a situation that has been with us since the financial crisis and nothing the Fed has done yet seems to be able to break that logjam.
Some critics say "Operation Twist" has made the situation worse. By driving 20- and 30-year interest rates down, the Fed has actually discouraged banks from mortgage lending. Taking on the risk of a 30-year consumer mortgage loan at an interest rate below 4 percent, for example, does not provide the banks with a great deal of reward for the long-term risks they are taking. As a result, banks will tend to ration the money they loan, only selecting borrowers on the top of the credit scale and even then cutting down the amount they are willing to lend.
Unfortunately, there are no easy answers in convincing lenders to lend. The old adage of "you can lead a horse to water but you can't make it drink" applies here. The economy is sputtering once again. The housing market is still a problem waiting to be addressed. Foreclosures, while declining, are still at historical highs. Millions of mortgage holders are still underwater and no one in Washington or elsewhere seems to even want to address the problem, let alone provide a solution that could work.
Federal Reserve Chairman Ben Bernanke has made it clear that monetary policy is not the end-all solution for saving the economy. He has repeatedly urged both Congress and the White House to do something, anything, except bicker about who did what to whom. Still, if things get bad enough, I suspect the central bank has a number of arrows left in its quiver, but it might be some time before the Fed is ready to make a move. In the meantime, good luck with getting the politicians to do anything.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
@theMarket: Risk On
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I would rather be in the markets going forward, despite the possibility that voters may elect the more radical, anti-austerity party. If so, the markets would probably sell-off. I would be a buyer of any further stock market declines.
On the other hand, the more moderate parties might win in Greece and markets would rally next week on the news. Either way, I am a buyer even though the markets could still experience a sell-off. Something could go wrong in the short-term and we could see the 1,250 level tested on the S&P 500 Index. I would simply buy some more if that occurs.
Why am I bullish?
Events in Europe are coming to a head. I believe that both the European Union and its central bank are going to backstop investors in the event that a crisis develops after this weekend's events. In other words, we may get a sell-off (possibly sharp, but short) before the European authorities step in and do whatever is necessary to calm the markets. I alluded to this possibility in my columns over the past few weeks.
Yesterday, Reuters and other news sources cited several unnamed EU sources who basically promised intervention if it becomes necessary. Markets jumped as investors realized that they now have a put against a financial calamity in Europe.
On this side of the pond, the Federal Reserve Bank Board meets next week. I am not looking for an announcement of another stimulus program, although if it were to be announced the markets would explode higher. There might be some disappointment if investors don't get what they want but once again, I would be a buyer of any sell-off.
You see, it is just about that time of the year (within a presidential election cycle) when investors begin to focus on November and the prospects for positive change in Washington, D.C. Now, neither you nor I really expect anything of the sort, yet, hope springs eternal in voters' hearts. I thought it would be useful to repeat what I wrote in my May 3 column "Sell in May ...":
A recent report from Ned Davis Research pointed out that the Selling May strategy doesn’t work nearly as well when it occurs in a presidential election year. They looked at every presidential election since 1900. Investors on average would have missed a hefty 4.4 percent gain as measured by the Dow Jones Industrial Average in those years by selling in May. If an incumbent wins, the gains are even higher (7.6 percent).Now, before you reverse course and buy everything in sight, a word of caution is appropriate. The same study did show that, on average, a correction did occur during the second quarter of presidential election years. The duration of the pull back is what differs.
Usually, a summer rally occurs after the second quarter sell off in an election year. When the incumbent party has lost the election, the summer rally fizzled out and the Dow made a new low in late October, followed by a weak year-end rally. When the incumbent won, the summer rally was stronger and the pull back in the fall was mild, followed by a strong gain into the end of the year.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
The Independent Investor: Made In America Returns
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The number of manufacturing jobs in this country has been growing over the last two years. Factories have added 300,000 jobs since 2009. In the first month of this year alone manufacturers have added 50,000 jobs, which was the biggest monthly increase in a year. Those numbers are positive and a good start but let's keep the gains in perspective.
Despite this recent progress, it still leaves us with 5.5 million fewer factory jobs than in July 2002 and 12 million less than we had in 1990. I don't believe we will ever recapture the number of manufacturing jobs the U.S. enjoyed back in the glory days of the 1950s. Remember that back in the day (right after WWII), America was practically the only nation left standing. As such, we had little in the way of competition and accounted for 40 percent or more of the world’s manufactured goods.
Over the next several decades, as both Europe and Asia rebuilt its export capacity, the U.S. experienced a dramatic loss of market share in everything from electronics to autos. Plants closed, jobs were lost and the country went through a wrenching reallocation of resources. But by the late 1990s, America had reinvented itself and emerged as the leader worldwide in high-value industries such as pharmaceuticals, software, aerospace and other sectors.
The emergence of China, India and other emerging markets as low-cost producers of everything from toys to tin cans at the turn of this century triggered an exodus of American jobs as multinationals rushed to establish a foothold in these markets. However, that wave is receding as a combination of economic forces erodes these countries cost advantages. Ten years ago, a factory worker in China made 58 cents an hour. Today, wages are over $3 and are expected to double in the next three years. In India, although a worker may make only half what his American counterpart is making, if you factor in other costs such as productivity, transportation, rising real estate prices, duties and supply chain risks, it now makes more sense to make some goods here.
In addition, the global manufacturing process is increasingly focused on the production of high-value products and as such, labor costs are becoming less of an issue. For example, although labor is becoming more expensive in China, multinationals know that simply shipping the production of those goods to cheaper labor markets such as Vietnam, Indonesia and Mexico is not a viable alternative. These nations lack the infrastructure, skilled labor force, domestic supply networks and ability to produce on a large scale that is necessary to capture those sorts of manufacturing opportunities.
One example of that close to home is a friend’s experience in Vietnam. Several years ago she had attempted to set up a small factory to manufacture and export high quality hand bags from Vietnam. She found that even the most skilled and experienced Vietnamese textile factories were incapable of making a consistent quality product on time. Imagine the problems a Wal-Mart would have in the same area.
"Over the next five years the total cost of production for many products will only be about 10-15 percent less in Chinese coastal cities than in some parts of the U.S.," predicts a Boston Consulting Group study done in August of last year. At the same time, China and India are focused on increasing domestic consumption of goods and services as opposed to simply exporting as much as they can.
More and more of our multinationals are planning on supplying this huge consumer market with the products it now produces in-country for export. Under those circumstances, it makes economic sense to bring some of their production output back home in order to satisfy U.S. demand.
In the meantime, our work force has become lean and mean. America is now considered a "lower-cost" country by many foreign multinationals that are willing to build plants and equipment here. They realize that U.S. workers have had no wage inflation for years and are far more productive and flexible than other competing work forces worldwide.
If the dollar weakens over the coming years, there could come a day when appliances, televisions, computer equipment, furniture, machinery and plastics could once again be produced in this country. Who would have thought?
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
The Independent Investor: Out of the Tank, Into the Bank
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In some parts of the country, prices at the pump have fallen below $3 a gallon. Nationwide gas prices hovered at $3.61 this week. That's not cheap, but it is a heck of a lot better than paying $4 a gallon or more.
Back in February, I warned readers that gas prices were going higher. At that time oil was flirting with $102 a barrel. It ultimately reached $110 before falling to as low as $84 this week. The driver behind this decline is global oil consumption, which fell to 88.5 million barrels a day by the end of April from 90.4 million in late December and is still falling.
Two factors have impacted energy prices. A slowing global economy has reduced demand for oil at the same time that supplies have been rising over the last 12 months. In addition, the "fear factor" in energy prices has been alleviated somewhat. Have you noticed that Iran has disappeared from the headlines recently?
For months the tension between that Middle Eastern state and the rest of the world fueled fears of a major oil disruption. Investors applied a risk factor of almost $25 a barrel on that possibility. Today, with tensions easing, energy prices have come down to what I consider a sustainable level. For some time I have argued that the proper price of oil should be about $85 a barrel. At that price, I believe that oil prices accurately reflect supply and demand and longer-term global economic growth.
But that does not mean prices won't fall further. Commodities prices of all kinds rarely remain stable and often over or under shoot target levels. Economic growth prospects are being ratcheted down in Europe, where a recession is under way. In Asia, China is the main consumer of oil and its economy is slowing as well. In North America, we are also experiencing a decline in economic growth.
OPEC, according to its economic forecast, expects global oil demand to continue to slow to 87.47 million barrels per day this quarter before firming a little in the third and fourth quarter. Part of that future demand will come from Japan, which has shut down most of its nuclear reactors as a result of the Fukushima accident. As a result, we could potentially see oil prices trend a bit lower to around $75 a barrel before stabilizing at my $85 level.
That's good news for consumers. Every one cent decline in the price of gasoline generates about $1.2 billion in extra spending. Consumers are nervous, however. The soft patch we are experiencing in the economy has been accompanied by a slowing of job growth. Consumers, I suspect, may decide to save rather than spend this windfall gain at the pump. They are painfully aware that short-time gyrations in oil and gas prices are not something that you can count on and can reverse at any given time.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or e-mail him at wschmick@fairpoint.net . Visit www.afewdollarsmore.com for more of Bill's insights.
