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Losing your job can send your finances into rapid reverse, with steady savings suddenly replaced by a relentless financial drain. According to outplacement firm Challenger, Gray & Christmas in Chicago, it currently takes clients four months to find a new job, compared with two months in the late 1990s. According to the U.S. Department of Agriculture, a child born in 2001 will cost a middle-income family $170,460 over the next 17 years, figured in today's dollars. And that leaves college costs still to come. To put that number in perspective, compare it to a figure from AARP. AARP calculates that as of 1998 the typical household headed by a 62- to 74-year-old had total assets, including home equity, of $148,100. In other words, couples spend more money raising a child than they manage to amass by the time they retire. [I would argue a bit with that conclusion, because you are comparing saving hypothetically started 20 years ago with expenditures to be made ten years from now.]
There were just as many steel companies as drug companies (two) in the top 30. In a revolutionary period for both finance and technology, the 30 winners included just four financials and two high-tech firms. But, strangest of all, the leading sector turned out to be retailing - with four stocks in the top 10 and six overall: Wal-Mart (WMT), which finished second, just two one-hundredths of a percentage point behind Southwest; Walgreen (WAG) third; Circuit City (CC) sixth; Kroger (KR) ninth; Albertson's (ABS) 18th; and Dollar General (DG) 19th. Why retailing? Retailers have been among the main beneficiaries of the explosion in information technology over the past two decades. Thanks to IT, this labor-intensive sector has become leaner and far more productive. Researchers at McKinsey & Co. recently dissected the remarkable acceleration in U.S. productivity growth -- a full percentage point -- from 1995 to 1999. Nearly one-third of that increase came from a single sector, retailing. Together, semiconductor and computer manufacturers accounted for a smaller share of the growth than retailers. Retail-productivity growth, as measured by real value added per hour, jumped from 2% (1987-95) to 6.3% (1995-99). More than half the acceleration came from Wal-Mart alone.
Total shareholder cost, as calculated by the Washington-based agency, combines a mutual fund's costs - management fees, distribution or 12b-1 fees, service costs, etc. - with applicable sales charges. The ICI's cost figures are asset-weighted, so that a fund with billions in assets has more impact than a teeny fund with little money. Crunching the data this way, the ICI concluded that the total cost of owning stock funds fell by 5% from 1998 through 2001. The average total cost for a bond fund dropped by 17%, and the average money market fund's costs fell 14% over the same three years. The numbers get startling over longer time periods. Since 1980, for example. ICI estimates that the shareholders costs for owning stock or bond funds have dropped by more than 40%. The cost reductions in money market funds have topped 33%, according to the group. Yet, according to Lipper, the median total expense ratio on mutual funds was 1.185% in 1998, and rose to 1.264% at the end of 2001. The asset-weighted expense ratio, again according to Lipper, has remained unchanged over the last three years. What gives? Consider that in the early 1980s, up-front sales charges on load funds were routinely in the 6 to 8% range, compared to about 4.5 points today. Factor in that more investors buy no-load funds today, eliminating a key cost item that 1980s investors put up with. Further, the 401(k) market didn't exist in 1980, and today it accounts for billions of dollars that typically go into funds with the loads waived, further reducing ICI's asset-weighted cost analysis. But if average workers using 401(k) plans have never paid a sales charge - and they haven't - their costs haven't really declined. It's just that their participation, because of the way it skews the numbers, has helped to bring total costs down for the industry. Certain fund families - the Vanguard and American funds spring immediately to mind - have indeed minimized expense ratios. As their assets have mushroomed, they drive the ICI cost numbers down. But the entire industry shouldn't be given credit for the virtues of a few of its members, nor the savvy of investors who seek low-cost firms out. One other trend that blurs the cost issue involves how investors increasingly pay for financial advice in ways other than sales loads, buying no-load funds through wrap accounts, paying financial advisers a percentage of assets and more. Says Lipper vice president Jeff Keil: "The experience an investor has could be very different from what the ICI numbers suggest." The moral for investors? Monitor costs carefully. They matter, and they may not be coming down, despite what the industry suggests. More on Fees Pamela Yip, Dallas Morning News 11-4 A big factor for the rise in management fees is the fee structure that many funds have. About 59% of fund portfolios have breakpoints that decrease management fees as assets in the fund grow, passing on economies of scale, Lipper says. "These breakpoints also work in reverse, though, when assets decline as they have this year due to outflows and poor equity performance," reports the Lipper study. "This dynamic has increased median management fees across most equity mutual fund categories compared with the 2000 study." And More on Fees Theo Francis WSJ 11-4 Since 1980, the average annual operating expense charged by U.S. stock funds has risen to 1.54% of assets from 0.95%, according to data from Lipper. Similarly, the average annual operating expense for U.S. investment-grade bond funds has risen to 0.97% from 0.83%. Here is a breakdown of the major cost categories: (1) "front-end" loads, (2) "back-end" loads, (3) redemption and exchange fees, which look a little like deferred loads, (4) 12b-1 fees - an alternate way to pay brokers or advisers, (5) annual fees - pay for items such as the fund manager's salary and office expenses, and (6) account fees - when accounts balances fall below a certain level. Related article: Mutual Fund Fee Study - Timothy Middleton, MSN Money,
In the U.S. equity market we had a high PE multiple and that's come down. But we think the [earnings] part is still 50%-to-70% too high. In the U.S. everyone complains about fraud committed by CEOs and about analysts being mercenaries as opposed to honest advisers, yet everyone still listens to them. Everyone still uses [analysts'] consensus earnings [estimates based on research and company guidance] to value stocks. Standard & Poor's, a relatively objective company or more objective than analysts and CEOs at least, complained about the quality of reported and operating earnings where the numbers often don't account for options and do include gains from pension plans and other things that cloud matters. So, S&P 500 switched to a more conservative "core earnings" number. If you look at these numbers that adjust reported earnings in a rational way, they come way down. The consensus estimate is the S&P 500 earnings will be about $50 a share and we think that will be about $35. S&P said something similar back in mid-May. These facts could be a shock for bulls who have been dreaming in the market lately. Equities were presented as a no-brainer, that they always beat cash and bonds. It was fallacious. What's important is valuation. If equities are trading at almost 30 times earnings and you think owning them will today will help you beat bonds and cash I have two words: Good luck. We think you will have U.S. companies finding that they have too much debt, too many employees and not enough money in their pension plans. This will lead to less economic growth, lower earnings and more firings. It's a vicious cycle we could end up in. Given that the U.S. is 25% of the world economy and might be even more when you consider how much reliance the world has on the U.S. consumer, we think global economic growth will be lower than expected not just for a while but for years to come. Core Earnings Floyd Norris, NY Times 10-24 The Standard & Poor's Corporation will release today its calculations of "core earnings," as it defines them. That definition, which is subject to dispute, will make most companies look far worse than they have appeared. The core earnings for the companies in the S&P 500 came to $18.48, S&P says, according to a copy of the announcement provided yesterday. That compares with operating earnings - the number Wall Street generally prefers to emphasize - of $41.58. And it compares with as-reported profits of $26.74. There are three principal differences between the operating numbers and the new core numbers: (1) The value of options is treated as an expense in the core numbers, (2) the S.& P. strips out pension plan profits and (3) The costs of restructurings are not added back in.
Mr. Kim studied what happens to shares when a company [in the Standard & Poor's 500-stock index] warns investors that its earnings will be worse than expected. In 2000 and 2001, investors over a couple of days would knock the average stock down so that it trailed behind the market by about 5%, but over the next few weeks the stock would recover about half of its losses. So far this year, stocks that have warned about weak earnings still initially fell about 5%, relative to the market, but didn't recover in subsequent weeks. During the newest stock-market rally, which began near the start of earnings season, investors do once again appear to be more willing to buy on the dips, raising the question of whether the old trend will revive. But owning the market's worst-performing stocks has been particularly painful this year. The bottom 50 stocks in the S&P 500 lost 74.6%, on average, this year through Tuesday. In 2001, the bottom 50 cost investors 57.1% of their money. Mr. Kim's research is supported by an intriguing survey that produces the little-known Buy-on-Dips Confidence Index. The index was created by Robert Shiller, an economics professor at Yale.To create the index, Mr. Shiller asks individual investors what they think the market will do the day after a 3% drop in the Dow. He has asked the same question repeatedly since 1989, and, with a few exceptions, throughout the 1990s about half of the investors expected a rebound. That started to change in early 2001, but instead of falling as might be expected after the first year of a bear market, the index soared, peaking that summer when 75% of investors said they expected a rebound after a big down day. Since then investor confidence has fallen, and this year in particular, the index has tanked, hitting 50% again, having dropped by a third from its peak. "The story I am telling is people are losing that faith," Mr. Shiller says. "And ultimately this is a great and powerful unseen variable." James Bianco, president of Bianco Research, says that in the 1990s, when investors were playing with the house's money [gamlbing with their market 'gains'], they were more aggressive. Now, with their own savings at risk [those gains having disappeared], investors are more conservative and are less likely to buy on the dips. Investor caution also is having an impact on companies that post good news. According to Mr. Kim, investors don't bid up, as far as they used to, those shares of businesses that are doing better than expected. Both today and during 2000 and 2001, stocks of companies that announced their earnings would be better than investors expected outperformed the market by about 3% in the days immediately following the news. In 2000 and 2001, that outperformance continued for several weeks, with the stocks ultimately outperforming the market by a total of nearly 8%. This year, that outperformance continued for a few days after the initial pop, but then the stocks went flat, ultimately returning only about 5% more than the market. The reason, Mr. Kim believes, is that investors question whether the good news will beget more good news, or only will set them up for disappointment later.
Starting this month, Schwab customers who use brokers to buy no-load mutual funds must pay $25 per trade. Investors who have less than $10,000 in their brokerage account now pay a $45-per-quarter fee, a $15 increase for investors who have between $5,000 and $9,999 in assets. E*Trade Group and Fidelity Investments recently added $3 "order handling" fees for customers who aren't active traders. TD Waterhouse this summer boosted commissions by $3 to $17.95 for customers who have less than $250,000 in assets or make fewer than 18 trades per quarter. Morgan Stanley this year upped the annual fee for having an individual retirement account there to $40 from $30 and the yearly charge for a cash-management account to $100 from $80. UBS PaineWebber has raised the fee for maintaining a cash-management account to $125 from $85 a year, and the cost of shifting the account to another firm to $75 from $50. Beginning next year, Merrill Lynch will charge a $15-per-quarter fee for some households that have accounts totaling less than $20,000, or less than $5,000 in mutual funds. Falling share prices also mean that investors are suddenly noticing longstanding policies that never bothered them when stocks were soaring. Fidelity Investments, for example, has long levied a $12 annual fee on any Fidelity mutual-fund position that falls below $2,000. Fees and Minimums Charles Jaffe, Boston Globe 10-20 Sharon Matheson put $2,500 into two Van Wagoner funds beginning in 2000. Today, her investment is down to $271. And then Van Wagoner sent her a letter saying her accounts were too small. If she doesn't pump them up, they'll start nicking her for $6 per quarter per fund by year's end. Given her shriveled assets, that's like adding 18% to the fund's expense ratio. 'I was willing to take my lumps,' says Matheson, 'but the fee is ridiculous. They lost my money, and now they're going to take more of it because my account is too small?' It's the back end of a trend that has pushed minimum initial investments higher over the last decade. Where many companies once opened their gates for as little as $500, the typical entry point is now north of $2,500. I believe if fund companies don't want to lose money on small fry, they should offer them an incentive to go. If Van Wagoner offered small shareholders a $6 one-time bonus to redeem all shares, Matheson and others would be gone in a heartbeat, no one would feel bullied, and servicing costs would come down.
After the July low, there was a 13.5% surge in the Dow. Then, this week and last, stocks surged another 13.3%. Do two substantial bounces mean there was a floor at around 7,200 on the Dow? Certainly, there are positive signs. The volatility index (VIX), which signals a market bottom, skyrocketed to 56 before the July and the October lows. (Over 50 means a change in the direction of the market is imminent.) But perhaps the most obvious sign that we are bottoming is the negativity of brokerage analysts. At the start of 2000, these cheerleaders piled on the BUY recommendations just as the market tanked. Now, the same gang of "objective researchers" has been piling on the SELL advisories. They were wrong then and are probably wrong now. Another Prediction M Douthat, Enterprising Investor's Guide via Wash Post 10-27 Those bond bulls who are feeling very smart just now had better be careful; if they are still aggressively positioned in long bonds, they are ignoring the lessons of history (and logic). When this many investors feel this strongly about the future prospects for any asset class, we have learned that there is danger in following their strategy. . . . Our advice is to keep your bond portfolio duration very short. Another Prediction Dow Theory Forecasts via Wash Post 10-27 The S&P 500 is not particularly cheap, nor outrageously expensive, relative to historical norms for dividend yields and P/E ratios. The market's recent bounce is unlikely to become a sustained advance unless the profit outlook improves. However, if corporate profit growth accelerates above 10 percent in 2003, valuations should not prevent the market from rallying. . . . For now, our recommended cash position remains 25%. Another Prediction Union Planters Investment Advisors via Wash Post 10-27 Equities will probably finish at their current levels or slightly higher by the end of the year. Reductions in earnings estimates for the fourth quarter, along with economic and geopolitical uncertainty, will limit gains for the major equity indices. Looking ahead, we expect to see equities outperform bonds in 2003. . . . Corporate earnings will be weak through the end of 2002. However, increases in consumer and business spending should allow for double-digit earnings growth in 2003.
In the current rally, winners have outnumbered losers by 3-to-1 or 4-to-1 on most days. That's good, but in broad market rallies - particularly strong pickups from market bottoms - most analysts would expect a ratio north of six gainers for every one loser. There has been a lot of misery within the recent victories. Check out the list of companies reaching new highs yesterday. On the New York Stock Exchange or Nasdaq, that list of winners is less than half the length of the list showing companies that reached new 52-week lows. In fact, if you look at the biggest gainers in the current rally, you'll see the strongest rebounds generally are coming from the most oversold and depressed issues. That's more a sign that the bottom-fish are rising than it is that the foundation for a broad recovery has been laid. Last week, consumer sentiment dropped to a recessionary low. The trend on this survey, conducted by the University of Michigan, has always been that it turns positive before the long-term market trend, with happier consumers helping to lead the market out of its doldrums. There are huge sociopolitical concerns hanging over this market. The situation in Iraq, continuing concerns about oil supplies and prices, the uncertainty of the war on terrorism - all could make this market turn on a dime. We've seen this before, and not that long ago. After bottoming out in July, the Dow had a big, swift rally - only to plunge again. It rebounded with a few strong days at the start of August, gaining more than 15% - enough so that some technical analysts saw the bull starting to appear - only to set off on another six-week slide. Fundamentally, little has changed. Monetary policy is the same. Economic policy hasn't shifted. Money has been rushing out of the market, with that vote-with-your-feet action supported by the decline in consumer sentiment. If the previous rallies didn't hold, no one should get too optimistic about this one. What that means for investors is that the current rally is cause for hope, not euphoria.
"The mutual-fund flow data suggests that investors are only now acting as if the profits from the 1990s bull market have been wiped out," he wrote in a report last week. If stock prices don't bottom soon, Bianco warns, the risks will only increase. "If stocks continue to decline, it isn't just 'more of the same,' as the public will have to decide if they believe in the stock market enough to take these losses. As history has shown, the public sells when their break-even point is reached." Bob Adler, president of fund-flow tracker AMG Data Services, says equity funds had $51.1 billion in redemptions in the third quarter, about 2.5% of total assets, the largest cash exodus on record. September will likely show further outflows: Bianco cites a Leuthold Group estimate of $17 billion in outflows for the month. Adler advises keeping a close eye on index-fund redemptions, which so far have been modest -- those funds no hold cash. So when index holders sell, liquidations follow. Sentiment The Aden Forecast via Wash Post 10-13 Investor sentiment is the single most important factor moving the stock market. . . . Investors are fed up. They're no longer hopeful, and they're disgusted and distrustful of Wall Street. . . . The bottom line is that 60 percent of U.S. investors now believe that stocks are not a good long-term investment, and they feel foolish for having believed they were. . . . A lot of investors have sold, but a lot are still holding on. This in turn suggests the bear market is going to get worse, and it's going to have a negative effect on the economy, which is already happening. Sentiment II AP 10-15 A poll for the AP conducted Oct. 4-8 by ICR/International Communications Research asked 1,012 adults if they had $1,000 to spend, 'would it would be a good idea to invest it in the stock market'. Only 29% said it was a good idea and 64% said it was a bad one. Just over half of those who said they had investments in the stock market or mutual funds thought it was a bad idea. Those numbers have moved gradually in a negative direction since April 1998, when two-thirds said in a Gallup poll that they thought it was a good idea. By early 2001, just over half of those surveyed in an AP poll said it was a bad idea. Related articles: Average Investor Performance Stats - McDonald, WSJ, Is the Bubble Over? - Burns, Dallas Morning News, When Will Stock Slide End? - Browning, WSJ, Investor Confidence Domino Effect - Morgenson, NY Times
Pick virtually any category of bond and the story is the same: big gains for bond funds despite small yields on the bonds they own. The discrepancy is so big that it can't possibly continue for long. How can that be? When interest rates fall - and they are at their lowest level in decades - bond prices rise. Bloated bond prices push a fund's net asset value up, increasing its total return. (Total return measures income plus share-price appreciation.) The bill for today's high total return will come due when interest rates rise. That will cut into bond prices, which will drop fund share prices. If the price decline can't be overcome by increased income made on bonds, total return will fall and could become negative. That's what happened in 1994, when bond funds were coming off three years of falling interest rates and rising total returns. That shouldn't scare investors away, particularly if bond funds are being purchased for diversification and asset-allocation purposes. But it should be a warning to keep profit expectations in check. Bond Fund Risk Ian McDonald, WSJ 10-31 In a move both rare and blunt, Vanguard has posted a cautionary primer on bond-fund risks to its Web site amid steep inflows to fixed-income funds. With rates near their lowest level since the 1950s, the likelihood of rate move up, which would sap bond fund returns, is greater than a rate drop. While the potential losses in bond funds wouldn't be as severe as those seen in stock funds, they aren't insignificant. In Vanguard's primer, a hypothetical illustration says a 2% interest-rate rise might translate to a 10% fall for an intermediate-term bond fund. The average intermediate-term bond fund fell more than 4% thanks to rising rates in 1994, according to Vanguard data. Bond Fund Expenses Scott Burns, Dallas Morning News 10-15 Today, yields on 30-year triple-A tax-free securities are under 5% (4.83% as this is written). Yields on five-year tax-free securities are only 2.66%, according to Bloomberg.com. [Taxable bond yields are not much higher.] At those levels, high expenses have a devastating impact on what is left for the shareholder. Of the 2,423 mutual funds that invest in taxable bonds, 1,062 have expense ratios of 1 percent or more. Related article: Treasurys are a Bad Bet Now - Clements, WSJ / Baum, Bloomberg
According to Thomson First Call, analysts' average estimate is that aggregate earnings of the S&P 500 companies rose 4.7% for the third quarter. But that estimate has been shrinking fast - down from a more optimistic 16% as recently as July - as more companies have warned of missed targets or have reported disappointing results. But even if companies beat profit expectations, analysts fear that worries about the port dispute, retail spending and war with Iraq may make investors reluctant to be in stocks.
The conundrum, for credit markets and Federal Reserve policymakers alike, is that even as yields on benchmarks like the federal funds rate and the 10-year Treasury note continue to fall, borrowing costs for Corporate America are persistently rising. On top of that, falling stock values have basically closed equity-financing avenues for U.S. corporations. And with profits down, internal financing - i.e., cash flow - becomes more difficult as well. This is a vicious cycle that feeds back on itself, squeezing corporate profits and causing credit spreads to widen even further. The rising pressures on the giant financial institutions that provide corporations so much capital in the form of loans and bond underwriting serve only to worsen the credit crunch on businesses. With so many investment banks staring at huge losses from a slew of crippled corporate customers, they become not only more reluctant to lend to business but the banks also find their own credit-worthiness downgraded because of those losses. Amid the current climate of market fear - of credit-derivatives losses, withdrawn credit lines, and high-profile debt downgrades of some big financial institutions - it could take just one large bank failure [and such a pending failure is widely rumored now] to fracture the financial system. Related articles: Alternative Lenders - Greg Ip, WSJ
While psychiatrists may think it's bizarre to not open mail, behavioral finance experts find it perfectly logical. That is because investors are afflicted with loss aversion, and come up with elaborate mental constructs - such as "it's only a paper loss" - to reduce their pain. "Not opening the envelope takes the suspension of disbelief one step further," says Hersh Shefrin, a professor of finance and economics at Santa Clara University in Santa Clara, Calif. "It makes financial reality less salient. There are many studies that show that out of sight really can be out of mind." Further research also suggests that many people may even be better off opening those envelopes only once a year, he says. Investors "get overfocused on the temporary ups and downs," says Prof. Shefrin. During a sustained down market, they get too pessimistic. That, in turn, overcomes the loss aversion, so investors bail out at the wrong time, which is what investors did in July, Prof. Shefrin says. That, by the way, is about the time when Prof. Shefrin himself stopped looking at his own statements. He used to open them every quarter, despite the research that suggested it isn't a good idea to do so. "I did it because I knew the numbers would be up and it would make me feel good," he says. Now, he doesn't plan to open any envelopes until it is time to do his taxes next year. Market Performance after the 10 Worst Third Quarter Sell-Offs (S&P 500) Sam Stovall, Business Week 10-9-2002 The 17.6% price decline for the Standard & Poor's 500-stock index during 2002's third quarter was one for the record books. It ranked as the second-worst third-quarter performance for this market benchmark in the past 50 years - and among the five worst of any quarters during that period.
Ian McDonald WSJ 10-8-2002
In 1998 and 1999 the average tech fund rang up gains of 53% and 134%, respectively, according to Morningstar. In 1999 and 2000, the category netted more than $82 billion, or almost a quarter of every net dollar invested in U.S. stock funds, according to data from Financial Research Corp. Eager to get a share of that cash, fund companies slapped tech funds together at a stunning rate. Despite many fund liquidations and mergers, there are more than 150 tech funds out there, up from 54 at the end of 1998. If you look at the year when each sector fund category's ranks grew the most, it presaged a down year for the category every time, according to Morningstar data. [I do not know if the prior sentence is wrong - or if data in table about Financial Services' performance is wrong - but one of them is.] The same contrarian streak plays out in broader fund categories like large-cap growth funds, intermediate-term bond funds and high-yield bond funds.
Examples: (1) The 2000 Ford Taurus SE, which had a sticker price of $19,440 but now is worth only about $8,300; (2)The 2000 Chrysler Concorde LX had a sticker price of 22,705 but now is worth 9,712 - 57.2% less than its sticker price; (3)The 2000 Dodge Grand Caravan Grand LE had a sticker price of 27,950 but now is worth 12,094 56.7% less than its sticker price; (4) The typical two-year-old Chevy Suburban C1500, with a $26,421 sticker price, now fetches only $15,404 at trade-in, estimates Edmunds.com, an auto-information company. That's $1,400 less than the resale value of the 1998 model at the end of 2000. The deals aren't as good on popular imports that have relied little, if at all, on discounts to lure customers. A typical two-year-old, six-cylinder 2000 Honda Accord EX sells at trade-in for 39% less than its $24,695 sticker price - $409 better than the 1998 model bought as a trade-in two years ago. In the end, about 85% of the value of all new-car incentives washes through to used-car prices of the same vehicle, says Bob Kurilko, vice president at Edmunds. Consumers owing more on their vehicles than they are worth isn't new - and is known in the industry as being "upside down." About 40% of buyers trading in their old car a decade ago still owed more on it after the sale, according to CNW Marketing Research, an auto-industry research firm in Bandon, Ore. That percentage sank as the economy soared during the 1990s - but started to creep up two years ago, reaching 22% through the first seven months of this year. Meanwhile, the size of leftover loan balances rolled into a new loan has ballooned to an average of $2,163 from $617 in 1990.
The villain here is a bit of tax code from 1983. It provides for the taxation of Social Security benefits. If your income other than Social Security is modest, you won't have a problem. But if your income from other sources exceeds certain levels, the tax works so that each dollar of additional income is taxed for itself and causes 50 cents (or 85 cents) of your Social Security benefits to be taxed. In effect, this makes your marginal tax rate 40.5% or 50%. A study by economists Laurence J. Kotlikoff, Jagadeesh Gokhale and Todd Neumann titled "Does Participating in a 401(k) Raise Your Lifetime Taxes?" shows that those saving today will suffer perverse effects. The more they save in 401(k)s, the more their lifetime taxes will rise. Since their lifetime taxes are higher, their lifetime consumption will decline. There is, in other words, no benefit for saving. The complete study is at Kotlikoff's Web page: econ.bu.edu/kotlikoff. Our friends in Congress, in other words, are perfect "crazy-makers" - people who give painful and contradictory messages. While they have resisted a move to repeal at least part of the taxation of Social Security benefits, the same crew proudly passed last year's major expansion of how much we can save in tax-benefited accounts. Basically, we're being urged to save more (and consume less) today so Washington can collect more taxes tomorrow. How Fund Categories Fared Barrons 10-7-2002
Related articles: Q2-02 Results, Q1-02 Results, Q4-01 Results
The research was by Mark Carhart of Goldman Sachs, and three finance professors: Ron Kaniel of the UT-Austin, David Musto of Wharton and Adam Reed of the UNC-Chapel Hill. Their report, "Leaning for the Tape: Evidence of Gaming Behavior in Equity Mutual Funds," was in the April issue of the Journal of Finance. The extraordinary short-term performance of these top funds' stocks does more than improve the funds' records. It also improves the performance of other funds that happen to own the same stocks. That can be seen in the high percentage of funds that beat the market on the last day of the year. On those days from 1985 to 1997, some 80% of equity funds, on average, beat the S&P 500-stock index. That is about four times higher than the norm. The findings also help explain why a quarter's top funds so quickly reverse course [They in effect have borrowed from future quarters to improve their current performance]. In fact, the outperformance rarely lasts more than a couple of months, and the average top-performing fund from a given quarter will be underperforming the market within six months. All of this research has clear implications for mutual fund investors. First, investors may be wise to avoid investing in equities on the last day of the quarter, and especially on the last day of the year, because the chances are good that prices will be artificially inflated. (Many investors may be unaware that their workplace retirement plans often invest money on those very days.) A simple switch to investing on the next-to-last day of the quarter could improve performance markedly - by as much as 4 percent a year, on average, for aggressive small-cap strategies, according to Mr. Carhart and his co-authors. Another implication of this research is that investors who choose funds according to their performance over the most recent quarter or year will need to switch often. If they don't, chances are that they will invest in a fund that continues to perform well for just a few more weeks or months and then underperforms over the long run. Bear Markets Ian McDonald, WSJ 10-2-02
Just the Facts The Rule of 72 Do you know the Rule of 72? Divide the number 72 by the percentage rate you are earning on your investment to determine approximately how long it will take to double your money. For example, if you have $500 in a savings account earning 4 percent interest, it will take 18 years for your money to double to $1,000 (72 divided by 4 equals 18), assuming you make no further deposits. (Michelle Singletary, Washington Post 10-20) Adventures in Bottom-Fishing Our view is that a seat at the Sideline Bar and Grill is the best part of valor until we get towards the end of October. In the meantime, a very worthwhile pastime is assembling a list of the stocks you might want to buy if they start going up. . . . There is absolutely no purpose in buying anything that has not stopped going down, formed a base and turned up. There are simply too many stocks to choose from for you to bother with distressed merchandise. The most recent example is Sun Microsystems. SUNW made an important low near $4, and a lot of people bottom-fished it between $4 and $4.50. Its most recent low was $2.70. I have nothing against Sun. I just want it to stop falling and start rising before I consider it. (John Bollinger's Capital Growth Letter via Wash Post 10-20) A Dividend Warning `Dividends are even easier to manipulate than earnings,' says John Waterman, chief investment officer at Rittenhouse Financial Services. `If managements decide that dividends are what investors want, they can borrow money to raise the dividend every year,' Waterman says. `You have to see where the cash came from.' S&P estimates that companies will pay out 34% of their operating earnings in dividends this year, which isn't far above the record-low payout ratio of 29% in 2000. That leaves plenty of leeway for many companies to raise payouts even if earnings don't improve all that much. (Chet Currier, Bloomberg 10-15) Index Fund Incentives If you bought an index fund three or four years ago, your potential capital gains exposure might have been about 20% of assets. Assuming a 20% tax rate on long-term capital gains, this means 4% of your purchase was a tax liability you eventually would realize. Basically, you were getting 96 cents per dollar invested. Today the situation is reversed. New investors buy a future tax savings that can be worth up to 10% of assets per share. A universe of 94 index funds has an average potential capital gain exposure of minus 17%. (Scott Burns, Dallas Morning News 10-13) The Stock 'Ticker' The stock 'ticker' persists, in part because myths about it persist. One myth is that the ticker shows every single stock trade as it happens. It doesn't, because doing so would be impossible. Last month there were an average of 93 stock trades each and every second on the NYSE alone. Another myth is that the ticker is somehow piped in directly from the exchange floor. It isn't. In fact, there is no single "ticker." The various tickers are all generated by private data services. Each data service picks which trades they want to show. So who, exactly, uses the ticker today? That is the biggest ticker myth of all. In truth, no one does, certainly not on Wall Street. "It's largely for advertising purposes. It's like a symbol of stock trading," said a NYSE official. (Lee Gomes, WSJ 10-7) An Incentive To Spend Falling stock prices create an odd incentive for consumers to continue spending, at least temporarily. In a bear market, people are less afraid that buying a new car or a second house will tie up their money and cause them to miss out on the kind of rich stock-market returns that can pay for college and retirement, noted John H. Makin, a resident scholar at the American Enterprise Institute. So they spend even as their portfolios shrink. (David Leonhardt, NY Times 10-6) The Fed Model In 1997, Ed Yardeni, an economist now with Prudential Securities, identified as "the Fed Model" a simple formula that the Fed indicated it was following to determine whether stocks were overvalued or undervalued. The model compares the yield on a 10-year Treasury note with the earnings yield (for the year ahead) on the S&P 500 index. The Fed Model has been uncannily accurate. Based on consensus projections, Yardeni on Sept. 25 found the market undervalued by a whopping 45%. My own, more conservative estimates found the market 41% undervalued, while a similar model on the Economy.com Web site produced an undervaluation of 54%. (James Glassman, Washington Post 10-6) Market Stats The Dow completed its worst quarter since Q4-87. A 35% gain, its advance in the second quarter of 1938, would erase the year's loss of 24%. The S&P 500, down 29% this year, needs a 41% gain the final three months to pull even. It hasn't had a quarter like that since the 86% surge in the second quarter of 1933. It gained 36% in the second quarter of 1938. The Nasdaq is even less likely to recoup its loss of 40% percent so far this year. The index would need a 66% gain to erase this year's drop. In its best quarter, in 1999, the Nasdaq added 48% in the final three months. (Robert Dieterich, Bloomberg News, 10-6) Schedule B Change A remarkably simple IRS change - raising the threshold to $1,500 for filing a separate schedule for interest or dividend income - means more than 15 million taxpayers will have one less schedule to file with their tax return next year. That replaces the existing threshold of only $400, a limit that has been in place since 1974. Details at www.irs.gov under "The Newsroom" - IR-2002-102. (Tom Herman, WSJ 10-4) Mutual Fund Stats At the start of last week, during which stocks lost even more ground, just 62 of the nation's more than 8,400 stock funds, including multiple share classes, were in the black for the quarter according to figures from Lipper. These continuing losses are the most gut-wrenching in nearly 30 years. U.S. stock funds have lost more than a quarter of their value on average since March 31, completing their worst two-quarter stretch since 1974. In dollar terms, a $10,000 investment four years ago in the $71 billion Vanguard 500 Index Fund, would've been worth little more than $8,600 on Aug. 31 according to Morningstar. (Ian McDonald, WSJ 10-2) A Bear Turns Bullish Byron Wien, a strategist at Morgan Stanley, turned optimistic this summer, after predicting at the beginning of the year that the stock market would finish lower for the third straight year. Mr. Wien, a well-known market hand who was criticized for his warnings in the late 1990s that the market was dangerously overvalued, now says the bear market is over. Mr. Wien says the stock market is dramatically undervalued, given low interest rates. He says investor sentiment is too negative amid improving earnings and what appears to be a healthy economy. He says the S&P 500 will finish the year down only 10% to 15% - and that the market will rise 10% next year. (Jesse Eisinger, WSJ 9-30) Quick Facts, Stats & Opinions November federal-funds futures on Friday were forecasting about a 50% chance of a quarter-percentage-point cut next month in the Fed's 1.75% fed-funds target, up from 25% odds a week earlier, according to the Gelber Group. "The market has come to the conclusion that nothing in the economic data has supported a convincing argument to pull the Fed out of an easing environment," sums up Joseph Giagrande, bond trader at Gelber. (Jennifer Ablan, Barrons 10-28) This is the start of a cyclical bull market, which usually runs for 18 to 24 months. We have trouble envisioning the S&P 500 going to a new high; there is probably another bear market out there in the next two to three years. And since we didn't really start from extremely cheap valuation levels, it probably means this bull market run will be smaller than normal, about a 50% move versus the 75% to 100% move which is more typical. (Charles Blood, director of financial markets analysis at Brown Brothers Harriman via NY Times 10-27) The European Union expects to admit 10 new members in 2004: Hungary, Poland, the Czech Republic, Slovakia, Slovenia, the Baltic states of Lithuania, Estonia and Latvia and the Mediterranean islands of Cyprus and Malta. While markets languish elsewhere in the world, many Central and Eastern European economies are still expanding, aided by extensive investment in manufacturing by richer neighbors, most notably Germany. (NY Times 10-27) In 1980, 1 out of 14 of the 850 largest firms had hired its CEO from outside the company. By '96, it was 1 in 3. (Gene Epstein, Barrons 10-14) Over 25 years, 67.3% of the S&P 500 and 64.0% of the Wilshire 5000 total returns derived from cash dividends. (Charles Allmon, Growth Stock Outlook via Wash Post 10-20) The current bear market, measured from the S&P 500 peak of 3-24-00, reached a decline of nearly 49% by Monday's close and managed to lose a bit more ground within the next two days. The 1970s bear market, long a dreaded benchmark of just how bad things could get in really tough times, produced losses of 48%. (Steven Syre, Boston Globe 10-13) Consumers are still spending, still borrowing and still counting on low interest rates to help them service that debt. So what happens when rates go up?" Do the math. Put credit-card debt at about $1.7 trillion. Estimate that credit-card interest rates are about 10% now. Then factor in a rise of 3 percentage points in interest rates - not unlikely when rates start to rise. The math shows the amount needed to service the debt goes from $173 billion to $229 billion per year. (Stephen Dunphy, Seattle Times 10-13) In the Nasdaq market alone, 60% of the 3,800 listed stocks now trade below $5 a share, Nasdaq Chairman Hardwick Simmons lamented last week at the Security Traders Assn. annual meeting in Boca Raton, Fla. About 500 Nasdaq shares are under $1, he said. (Tom Petruno, LA Times 10-13) This is now about the dumbest time I can imagine for any wholesale selling of good stocks. (Louis Rukeyser's Wall Street 10-11) Vanguard has tested investor literacy every two years for the past eight years. The average score (100 is perfect) was 51% in 1996, 49% in 1998, 37% in 2000 and 40% in 2002. Nearly 70% of the 1,000 randomly selected investors surveyed `did not understand the inverse relationship between bond prices and interest rates.' (Caroline Baum, Bloomberg 10-10) Nominal, or current-dollar, GDP rose 3.2% in the four quarters ended in the second quarter of 2002. Excluding the government's share, nominal GDP rose 2.8%, the fifth consecutive quarter nominal private-sector GDP rose less than 3% year over year. We've never had five periods below 3 percent in the entire post-World War II era. Unless there's a miraculous turnaround in the last quarter of the year, the Dow and S&P 500 will register their third consecutive yearly loss, the first time that's happened since 1939, 1940 and 1941. (Caroline Baum, Bloomberg 10-8) Since peaking in May 2001 at 776,000, the financial industry has eliminated 54,000 jobs, or 7% of its workforce, according to the Bureau of Labor Statistics. (Caroline Baum, Bloomberg 10-8) ABC puts out promos that say, "More Americans get their news from ABC," at the same time NBC claims its news show was "watched by more Americans." Both, it turns out, are true. ABC counts their ABC news radio stations. (Ronald Grover, Business Week 10-8) I suspect that investors will become more conservative in the coming years. They gradually will pay less for each dollar of corporate earnings. Investors are more suspicious of reported earnings because of the various accounting scandals and write-offs. In addition, they are less likely to believe future earnings growth will be as steady and strong as during the bull market. (Bob Carlson's Retirement Watch via Wash Post 10-06) Steven Leuthold of Leuthold & Company, a longtime market watcher, says that valuations are back to the median level of markets over the last 45 years and that most bear markets end near that median. (Floyd Norris, NY Times 10-04) Tech Tips & News Organizing Favorites Would you like to organize your IE browser 'Favorites' [aka bookmarks] in alphabetical order? If you have Windows 98 Second Edition or higher and Internet Explorer 5 or higher, open Internet Explorer and click on Favorites. In the drop-down menu with all your Favorites, right-click on any individual item and, in the next menu, choose "Sort by Name." The same procedure will allow you to alphabetize items in your Start/Programs menu. (John Fried FAQ, Philadelphia Inquirer 10-27) Lost and Found A stream of new products is hitting the market, and more are in development, to help solve one of life's biggest annoyances: the seemingly daily quest to locate those everyday objects that always seem to go missing just when you're in the biggest hurry. The "Now You Can Find It!" [$50] began selling in February. It consists of four plastic tags that attach to notoriously elusive items, then beep when users hit a button on a central device. A rival gizmo, the i-Spot [$55], is coming out later this year. Digital Angel and Wherify Wireless are selling watches and other small GPS-enabled devices to allow people to keep tabs on children, elderly parents and pets for $399 plus a service fee of $29.95 per month. DIPO is developing a gizmo of the same name that not only finds an object but notifies the owner if it is about to be left behind. The central device checks in every few seconds to ensure that all tags are located within a certain distance, five meters, for instance. If one of the tags is more than five meters from the central device, it will beep or vibrate. Put the central device in the bag or brief case you're carrying out the door and it will alert you that you're about to leave a tagged item behind. (Andrea Petersen, WSJ 10-15) Digital Radio On Thursday the FCC approved the transmission of digital radio signals through existing analog channels, paving the way for digital broadcasts while still allowing users without digital receivers to continue hearing radio signals. The FCC also gave its endorsement to a patented technology, from a private company called iBiquity Digital, to broadcast digital radio in analog channels. Some involved in low-power radio stations, including many on college campuses and in small towns, oppose the new technology, saying it will significantly degrade their ability to reach their listeners. The digital transmissions, they say, will crowd the allotted spectrum, making weaker signals much harder to receive. The FCC acknowledged those concerns and plans to address them in a final standard. In the meantime, broadcasters have approval to begin digital transmissions, and the first are expected before the end of the year. (NY Times 10-11) Home Page Previous Factoid Top Sites
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