|
|
More Factoids Sept F-Too August 04 July 04 July F-Too June 04 June F-Too May 04 May F-Too April 04 March 04 February 04 February F-Too January 04 January F-Too Financial Services Updates September 04 August 04 July 04 June 04 May 04 Feb 04 Jan 04 Dec 03 Nov 03 Oct 03 MLP Updates September 04 August 04 July 04 June 04 May 04 REIT Updates Sept 04 Sept Stats Sept Stats August 04 August Stats August Stats July 04 July Stats July Stats June 04 June Stats June Stats May 04 May Stats May Stats April 04 April Stats April Stats March 04 March Stats March Stats Feb 04 Feb Stats Feb Stats Jan 04 Jan Stats Jan Stats Fund Scandal June Update May Update April Update March Update March Update Feb Update Jan Update Dec Update Nov Update Oct Update Sept Update More Factoids Q4-03 Index Q3-03 Index Q2-03 Index Q1-03 Index Q4-02 Index Q3-02 Index Q2-02 Index Q1-02 Index Q4-01 Index Q3-01 Index Q2-01 Index Q1-01 Index Q4-00 Index Q3-00 Index Q1-00 Index Links by Topic Biz Links Business News Economic Reports Stock Exchanges Searches |
The surprise move has hurt fund managers. Through last week, only 19% of taxable investment-grade bond funds were beating the Lehman index's return of 3.6%. That is down from the 33% of funds that beat the index in 2003, according to Morningstar. Even fewer were beating the 10-year Treasury. About 47% of Treasury investors surveyed this week by J.P. Morgan, said they expected bond yields to rise, while only 10% percent said they expected yields to fall further. (The rest were undecided.) And according to the Commodity Futures Trading Commission's most recent report on 10-year Treasury futures, bond speculators held 242,119 contracts last week betting that 10-year yields would rise, slightly less than the number of contracts they held betting yields would fall. In mid-July, bets on yields going up outnumbered those on yields going down by nearly three times. Wall Street trading desks also have reduced their bets against bonds. While such primary dealers often sell more Treasurys than they own to help manage their inventory of other bonds, they have reduced such "net short" positions to $54 billion from $148 billion at the end of June, according to the FRB-NY. Some analysts say recent bond buying is driven more by a desire to reduce risky trades rather than by strong fundamentals for the bond market. That could make the bond market vulnerable. Because nearly everyone from mutual fund managers to Wall Street trading desks were getting ready for bond yields to rise, the economy's recent soft patch caused yields to move more sharply than they otherwise would have. While it may look like bond yields are plummeting, the 10-year yield still is about 0.9 percentage point higher than the lows hit in June 2003. Some analysts warn that selloffs can come out of nowhere in the bond market. The most recent examples: the summer of 2003 and the spring of this year, when bond yields soared in just a few weeks. People waiting for such a move say it will take just one strong jobs report or inflation reading to set off another spike in yields.
That may have been true in an era in which fewer investors were paying attention to the Fed, or when the Fed's policies were more inscrutable. But today almost all investors have become obsessed by the Fed's behavior, and the Fed in turn has gone to great lengths to signal -- months in advance -- what it is going to do. That means the market reacts much more quickly than it did before. Ask yourself: Was there any serious doubt earlier this year that the Fed would be raising rates on at least three occasions? And then ask the logical follow-up questions: If there was no serious doubt, why would investors have waited until now to start dumping their stocks? Wouldn't they have done so immediately? If you have any doubt about your answers to these questions, consider the data presented in the following table. The data show that the market in the 1980s and 1990s behaved in the wake of three consecutive rate hikes than it did during the 1970s.
Until recently, the earnings picture looked amazingly bright, as companies in the S&P500 posted four consecutive quarters of profit growth of more than 20%. But growth in earnings, while still healthy by historical standards, has been decelerating. A majority of American fund managers surveyed this month by Merrill Lynch say they think that profits will "deteriorate slightly" in the coming months. And the consensus forecast for Q3 earnings growth for the S&P500 companies is 14.2%, down sharply from the estimated 25.3% in Q2-04, according to Thomson First Call. Conventional wisdom says that when earnings growth begins to slow, it's time to worry. That is especially the case when investors aren't willing to pay exorbitant P/E ratios for stocks. A slowdown in earnings, even if actual profits are growing by double digits, "is considered to be a warning sign" of poorer economic and business prospects to come, noted Sung Won Sohn, chief economic officer at Wells Fargo Banks. But while decelerating earnings have proved to be challenging for investors in the past, they do not automatically lead to lower stock prices. "If you look at the very, very long term, there's clearly a high correlation between growth in earnings and growth in the market," said Stuart Wester, VP for equity investments at USAA Investment Management. But as you narrow the time frame, he added, "you can find yourself in a situation where the two can diverge dramatically." Certainly, equity prices have sometimes soared even as corporate earnings have begun to sour. That happened most recently in 1995, when the S&P500 delivered a total return of more than 37% despite the start of a slowdown in earnings growth. No one is predicting a repeat of that, but it goes to show that while earnings drive stock prices in the long term, other factors can also influence the markets in the short term. Sam Stovall, chief investment strategist at S&P, studied periods of decelerating earnings among S&P500 stocks dating back to 1966. In the six months after the peaks of profit cycles, stocks were up on 4 out of 10 occasions. Twelve months after such peaks, stocks were showing positive returns 6 out of 10 times. But this time around, consider where earnings are decelerating from. Starting with Q3-03, S&P500 earnings have climbed by more than 20% for four consecutive quarters - something that has happened only seven other times since the end of World War II, according to Ned Davis Research. Ed Clissold, senior global analyst at Ned Davis, recently looked at the performance of the equity markets emerging from those seven periods. He found that in the 12 months after the end of such streaks, the S&P500 has risen 8.3%, on average. The median increase was closer to 15.3%. The numbers defy the current level of market concern over deceleration. "The markets in the short term are almost always drunk with too much optimism or pessimism," said Alan Skrainka, chief market strategist at Edward Jones. He added: "I'm not overly concerned that the rate of growth has peaked and is about to moderate." But what if the earnings growth rate didn't just moderate, but fell substantially? Even if Q3 forecast of 14.2% proves way too high, stocks' performance in the next year could still be decent. Ned Davis researchers studied the performance of the markets based on actual earnings growth dating back to 1927. In periods when actual S&P500 earnings growth came in at 5% to 20%, the markets have gained 5.3%, annualized. But when profits were worse - in a range of 5% growth to 20% earnings declines - stocks have actually done better, gaining 13.1%, on average. The reason for that outperformance has a lot to do with anticipation. "By the time earnings growth gets extremely high, a lot of the good news is already priced into the stock market," Mr. Clissold said. Similarly, decelerating earnings may already have been priced into this market, as investors have been expecting the trend for months. That isn't to say earnings growth is unimportant. But it tends to matter most when determining the types of stocks to hold, not whether to stay in the stock market at all. "If you're thinking about rotating, between high-quality and low-quality stocks or growth and value, then you're going to want to pay attention to accelerating or decelerating earnings," said Richard Bernstein, chief United States strategist at Merrill Lynch. For example, while low-quality and economically sensitive stocks thrived in 2003, in anticipation of the upswing in the profit cycle that began in Q3-03, Mr. Bernstein says that now is the time to be moving into higher-quality names with strong balance sheets - companies strong enough to thrive as profit growth begins to shrink. He recently looked at the last three periods of decelerating earnings growth - periods of varying durations that began in 1989, 1995 and 2000. From the peaks to the troughs, high-quality stocks - those rated A+ by S&P, based on earnings quality - gained 63%, on average, for the three periods. By contrast, stocks graded C or D advanced just 20%. Investors who fail to recognize the deceleration in earnings may be tempted to keep putting money into yesterday's winners, Mr. Bernstein said. Typically, he said, at the peak of profit cycles, "people extrapolate the trends and assume that what did well yesterday will continue to do well today." But history shows that this could be a big mistake - just as it would be to assume that the broad stock market will automatically fall, now that earnings growth is slowing.
Profits at European companies rose 58% in the 12 months through late July, the fastest rate since reliable records began being kept in the early 1970's, the report said. The increase was during a period of modest economic growth and resulted mainly from widespread corporate restructuring, evidenced by a 3% reduction in total payroll costs for publicly traded companies across the region, Lehman's strategists said. "The caricature of European companies as slow-moving, inflexible, inefficient entities, substandard when compared with their global peers, was always a gross generalization, but never more so than now," the report's authors, Ian Scott and Gareth Williams, wrote. "Despite a lackluster performance from European economies, the U.K. apart, and the headwind provided by currency appreciation, European companies have produced an impressive profit performance." But that performance, they wrote, "so far has not been accorded the attention it deserves on the part of both investors and market commentators." Serge Pizem, head of European equities at AXA Investment Managers, said European stocks were trading at less than 12 times earnings for next year, based on a consensus of analysts' estimates. The comparable multiple for American stocks is 17, he said. "The difference in price-earnings multiples is quite big," Mr. Pizem said, adding that valuations have "definitely not" taken account of changes made by many European companies. "Restructuring has been happening in Europe in a significant way during bad times," he said. "Managements have been very active; they haven't been sleeping and waiting around for new laws." Mr. Pizem says he likes the investment prospects of Ericsson, Siemens, Philips, and three phone service providers, Deutsche Telekom, France Télécom and Belgacom. Ericsson, Philips and Siemens have "cut staff drastically," in part by outsourcing jobs. From 2000 to 2003, Ericsson reduced its number of workers to 51,000 from 105,000. After losing 8.4 cents on every dollar of sales in Q1-02, Ericsson had a profit of 21.8 cents on every dollar of sales in Q4-03. Lehman's strategists listed Siemens, Ericsson and another telecom equipment maker, Alcatel of France, among a dozen companies that had overhauled their operations so much that they have been able to increase profits as sales have declined or remained flat. Among the others are Vivendi, the French media and entertainment conglomerate; KPN, the Dutch phone company; Deutsche Post; and RWE, the German utility. Tim Harris, European equity strategist at J.P. Morgan Private Bank, said he admires the restructuring efforts of companies that make larger machinery. Those include Volkswagen and the ABB Group, a Swedish-Swiss engineering company that makes heavy equipment used in other manufacturing industries. Mr. Harris also likes Corus, a British-Dutch steelmaker; Epcos, a German maker of electronic components; Telekom Austria; and Stora Enso, a Swedish-Finnish paper producer. ABB "has been restructuring like fury in the last few years," he said, adding that "there has been a total overhaul, a restructuring across many divisions." Valuations of some companies that were in the most dire straits have risen so much that they are no longer obviously cheap, Mr. Harris warned. But he said initial rounds of layoffs and other restructuring amounted to the picking of low-hanging fruit, and he argued that more cuts could be made. Volkswagen is an example, according to Mr. Harris. He said it produces about 10 percent fewer cars than Toyota, yet employs 330,000 people, much more than Toyota's 260,000. Volkswagen announced that it was cutting 10,000 of those jobs. Mr. Harris said that the work force remains bloated and that the company "can do an awful lot to improve on this." Still, he said, "clearly something is happening." "People are realizing that there is a crisis of productivity in Germany," he said. Germany's economy, Europe's largest, has long been called "the sick man of Europe." What has changed, Mr. Harris said, is that "both the political and business sectors are waking up to the fact that the cure is going to hurt."
R.D.'s position goes a long way toward explaining how the investment industry wheedles billions in sales and management fees out of our money each year. All of us want superior returns. We want to do it ourselves. Or we want to find the asset manager who will do it for us. Or we want to have a kindly salesperson guide us to the superior manager. It ain't likely. Let's start with the realities of managed investment performance. Then we'll ask three important questions. Imagine managed mutual funds and index funds as students competing for grades and class standing. If you graded on a curve, you'd give the top 10 percent an A, the next 20 percent a B, the next 40 percent a C, the next 20 percent a D, and the last 10 percent an F. No one wants to invest in a fund that ranks only a D or an F. Few would be content with a C. In fact, 70 percent of all managed funds rank C or worse. The Vanguard 500 Index Fund, on the other hand, has ranked no worse than the 48th percentile (a solid C) over the last five years. Over the last 10, 15 and 20 years, it has been in the top 14 percent, 24 percent and 20 percent – a very solid B. Vanguard Balanced Index doesn't have a 20-year record yet, but it has ranked in the top 27 percent, 35 percent and 25 percent over the last three-, five- and 10-year periods. That's two B's and a C-plus. Vanguard Total Bond Market Index fund has ranked in the top 49 percent, 30 percent, 21 percent and 33 percent over the last three-, five-, 10- and 15-year periods. That's a solid B, a B-minus, a C-plus and a C. The long-term performance of the major index funds, in other words, is better than "average." It may not be the dean's list, but it is superior. One thing the managed fund sales force seldom mentions is that these grades only include those who finished the course or graduated. Mutual funds, like most courses and colleges, have dropouts. As investors, we see only the records of those who pass or graduate – the biggest failures literally disappear. Result: The performance figures we see overstate the returns the average investor will experience. Finally, portfolio managers change. In any 10-year period, the average managed fund will have two managers. The second manager may not have the smarts (or luck) of the first. If an index fund tends to rank at the 30th percentile, what are the odds that you'll select (or have) managers that score in the top 30 percent for a period of 20 years? You get the answer by multiplying 30 percent times itself four times – once for each manager. Do the math and you have a less than 1 percent chance of making four successful manager changes. That's a real long shot. Now let's ask the three questions. First question: Does superior performance continue? Answer: Conspicuous examples tend to be the exceptions that prove the rule. Dodge and Cox Stock, frequently mentioned in this column but now closed to new investors, is one. A more typical example is Fidelity Magellan. After creating an incredible track record with Peter Lynch (and Ned Johnson earlier), the fund now trails the Vanguard 500 Index over the last 12 months, three years, five years and 10 years. At 15 years, it leads the index by all of 4 basis points – that's 4/100ths of 1 percent. All the money and research talent at Fidelity hasn't been enough to keep this fund from sliding to a grade of "D" in the last 12 months, three years and five years. Second question: Whom will the typical investor meet when seeking advice? Answer: Odds are you will meet a salesperson who sells proprietary products. These are often funds with high expenses and mediocre track records. The odds of being advised into a fund that ranks better than "C" are well under 30 percent. After that, your salesperson will change periodically. Each replacement will magically find superior selections that will generate new commissions. The majority of these folks are croupiers. They spin the wheel for the house. The house always wins. You might win, but it's improbable and incidental. Third question: Should you base your retirement plans on an unlikely event? Answer: While striving for superior performance in our employment is reasonable, no sane individual should bet his or her retirement security on the flip of a coin – or a less than 30 percent chance of beating an index fund.
While it's an open secret on Wall Street that companies wishing to manage the stock-price reaction to bad news will choose to slip their announcements in on Fridays, when trading volumes are typically thinner, the economists' findings also suggest investors can make money if they beat companies at their own timing game. "If you look up on Wednesday what companies are announcing on Friday, then you can short them," Prof. DellaVigna said in an interview, referring to companies that have scheduled release of their financial earnings on a Friday. "That's because there's a 25% greater probability they're going to announce a negative earnings surprise." Some 20% of earnings that came out on Fridays were more likely to be negative than those announced on other weekdays, and 25% more likely to fall below analysts' forecasts, the report found. They're "significantly more negative" than earnings surprises announced on other weekdays. In general, firms that unveil poor earnings on Fridays and before holidays generally escape the heavy selling that immediately follows such announcements on other days of the week, according to the study, titled "Strategic Release of Information on Fridays: Evidence from Earnings Announcements." The report didn't focus on profit warnings, which catch investors off-guard both in terms of the timing and the news. The trend is actually even more pronounced with so-called pre-announcements, in which companies, without advance notice, put out a release guiding investors to expect financial results different from what was originally forecast. According to data compiled by Thomson Financial on 4,900 pre-announcements, 53% were negative, compared with 22% positive and 25% neutral in 2000 to 2004, whereas on Mondays, only 43% were negative, versus 30% positive. The next-day reaction of stock prices to earnings surprises -- earnings that are above or below analysts' consensus forecasts -- was about 65% lower for Friday announcements than for non-Friday ones, according to the professors, who used a sample of 101,000 quarterly earnings reports from publicly traded U.S. companies from January 1995 to June 2003. In addition, next-day "abnormal" trading volume -- volume that's greater or less than the average because of the news flow -- was also 40% lower for Friday announcements than for non-Friday results. "By the time investors go back to work on Monday, the earnings information has been partially forgotten," the report said. For short-sellers, who try to profit by selling borrowed stock and replacing it when the stock's price drops, this relatively lower abnormal volume of trade and price movement on Monday can enable them to slip in and ply their trade. Then they can wait for other investors to regain their senses in the following days and weeks, pushing the stock lower and putting money in the shorts' pockets. According to the study, investors do eventually react. By Tuesday, the differences in stock-price response and trading volumes disappeared, according to the study. That could be the result of two offsetting forces: Distracted investors still weren't trading, while other investors were trading to respond to the under-reaction on Monday. In the longer term, investors punished or rewarded companies that announced earnings surprises on Fridays even more than those that announced on other weekdays. As a result of the milder short-term reaction, though, the net effect on share price is about the same, the study said. About 3.5 months after the announcements, stock-price response was as large for Friday announcements as for non-Friday ones, and even larger for companies that made extremely negative earnings announcements. "The stock price keeps drifting downward for two to three quarters," said Prof. DellaVigna, whose next projects will attempt to determine traders' attention spans and performance on their birthdays. (Happy birthday, bearish analyst, here's our earnings report!) Some signs that the Friday phenom may be fading: The number of Friday announcements declined in 2002 to just one-sixth the number of Wednesday announcements, compared with one-third in 1996, probably as a result of increasing awareness among investors and increasing pressure among companies not to announce on Fridays, Prof. DellaVigna said.
• US Airways showed only $3.15 billion in long-term debt on its most recently audited balance sheet, for 2003, and didn't include the $7.39 billion in operating-lease commitments it had on its fleet of passenger jets. • When United Airlines, filed for Chapter 11 bankruptcy protection in December 2002, its most recently audited balance sheet showed $25.2 billion of assets and $22.2 billion of liabilities. Not included: $24.5 billion in noncancellable operating-lease commitments, mostly for aircraft. In bankruptcy court, the companies that leased those planes to United are treated as secured creditors. • Drugstore chain Walgreen shows no debt on its balance sheet, but it is responsible for $19.3 billion of operating-lease payments mainly on stores over the next 25 years. • For the companies in the Standard & Poor's 500-stock index, off-balance-sheet operating-lease commitments, as revealed in the footnotes to their financial statements, total $482 billion. Debt levels are among the most important measures of a company's financial health. But the special accounting treatment for many leases means that a big slice of corporate financing remains in the shadows. For all the tough laws and regulations set up since Enron Corp.'s 2001 collapse, regulators have left lease accounting largely untouched. Members of the Financial Accounting Standards Board say they are considering adding the issue to their agenda next year. "Leasing is one of the areas of accounting standards that clearly merits review," says Donald Nicolaisen, the SEC's chief accountant. The current guidance, he says, depends on rigidly defined categories in which a slight variation has a major effect and relies too much on "on-off switches for determining whether a leased asset and the related payment obligations are reflected on the balance sheet." A case in point is the "90% test," part of the FASB's 28-year-old rules for lease accounting. If the present value of a company's minimum lease payments equals 90% or more of a property's value, the transaction must be treated as a "capital lease," with accounting treatment akin to that of debt. If the figure is slightly less, say 89%, the deal is treated as an "operating lease," subject to certain other conditions, meaning the lease doesn't count as debt. The lease commitment appears not in the main body of the financial statements but in footnotes, often obscurely written and of limited usefulness. One key rule says a lease is a "capital lease" if it covers 75% or more of the property's estimated useful life. One day less, and it can stay off-balance-sheet, subject to other tests. The $482 billion figure for the S&P 500 was determined through a WSJ review of the companies' annual reports. That's equivalent to 8% of the $6.25 trillion reported as debt on the 500 companies' balance sheets, according to data provided by Reuters Research. For many companies, off-balance-sheet lease obligations are many times higher than their reported debt. Given the choice between leasing and owning real estate or equipment, many companies pick operating leases. Besides lowering reported debt, operating leases boost returns on assets and often plump up earnings through, among other things, lower depreciation expenses. Entire industries have sprung up around the leasing rules for what's on the balance sheet and what isn't. The Equipment Leasing Association, an Arlington, Va., trade group, estimates that 80% of U.S. companies lease all or some of their equipment, and spent $208 billion last year doing so. About a third of all capital expenditures in the U.S. are done through leases, and more than three million people now work in the leasing industry. That includes boutique consulting firms and divisions of large financial-services companies that advise clients on structuring transactions to get the maximum tax and accounting benefits. Many leasing companies, big and small, tout those benefits in sales pitches to customers. On its Web site, Sun Microsystems Inc.'s finance division promotes leasing as a way "to keep the asset off your balance sheet," and "circumvent the restrictive covenants imposed by many banks." The Web site of MidSouth Fleet Leasing, a Shreveport, La., auto-leasing company, states: "Makes your financial statements look better to a banker!" Many retailers favor operating leases over capital leases. Winn-Dixie's reported debt of about $300 million is just 30% of its shareholder equity. That healthy ratio might seem comforting at a time when the grocery chain is restructuring its business after years of declining sales and market share. But the footnotes show a far more leveraged company. Its off-balance-sheet obligations at June 30 included about $4.1 billion of noncancellable commitments over several years to lease the buildings for its stores. At Morgan Stanley, analysts recently tried to calculate the effect of including operating leases on Winn-Dixie's latest annual balance sheet. Their best guess: an extra $2.8 billion to debt and just $1.7 billion to assets, resulting in lower shareholder equity and earnings.
In the past 15 years, the average return differential between the best- and worst-performing S&P sectors has been around 50 percentage points. In 2000, however, that gap became a chasm. While the S&P lost 10% of its value, the index's technology components plunged 41%. But utilities gained more than 51% in the year. Identifying potential outperformers and underperformers is easier than one might think. Our methodology, which analyzes the impact of 80 variables on the relative performance of each S&P sector, points to gains for two defensive sectors: energy and health care. Since 1990, both have outperformed the market in every year in which the S&P delivered negative returns. Technology, on the other hand, looks increasingly vulnerable. The sector's latest boom-and-bust cycle reinforced its close correlation with economic swings. These days the U.S. economy is sending mixed signals, from job growth to prices. Corporate-earnings growth has peaked, and the Federal Reserve is tightening credit. In picking sectors most likely to outperform the S&P 500 over a sufficiently long time horizon, we consider five factors: First, and foremost, valuation. A sector needs to be cheap relative to either its historic valuation or the S&P; we chose the S&P. Second, economic conditions must be ripe for the sector to outpace its peers. To determine this, we look at variables such as interest rates and the Fed's expectations. Third, we analyze liquidity, or the flow of cash into and out of the market, which indicates the amount of money available to invest. Measuring fear and greed, or investor psychology -- our fourth factor -- has become a popular pastime on Wall Street. Some market-watchers use sentiment surveys, others options data, to gauge the prevailing level of bullish and bearish conviction. Measures of investor enthusiasm can suggest when a trend is or isn't ripe for a change. Cheap valuations and negative psychology both are necessary for an emerging bull market. Momentum, our fifth factor, is key to confirming a trend. It's not enough to have a cheap market, but one that's also moving up. By measuring momentum, an investor can stay with a winning market even when its relative valuation has moved from bullish to neutral. As long as the favorable trend continues, the allocation makes sense. To illustrate our methodology, let's look at the energy sector. Even though the S&P's 27 energy components represent subsectors as diverse as oil and gas, drilling, equipment and servicing, exploration and production, and integrated and industry distribution, the stocks tend to be homogeneous in their performance. Most reflect the same fundamental factors, such as the price of crude, and no single company dominates the sector. Typically, energy holds up when the rest of the market sags. For the past 15 years, during each quarter in which the S&P 500 lost more than 10%, the energy sector lost only half that amount. Energy, which both influences and is influenced by many aspects of the economy, functions much like a tax: High prices rob investors of disposable income, and force shifts in corporate spending. Consequently, durable goods orders are a useful tool in determining the stocks' relative allure. As spending on durable goods increases, the outlook for energy dims. In the spring durables orders were weak, but have been strengthening since. This bodes well for the business side of the economy, but casts a shadow over energy's continued outperformance. Fundamentally, energy shares are fairly valued, especially when measured against the rest of the market. In 2000, the sector's relative price-to-sales ratio, which typically trades at a discount to the overall market, sat a full point below that of the broad S&P 500. More recently, the gap has narrowed, but at current prices valuations aren't stretched. Will the sector's outperformance continue? Momentum gauges suggest so. Most energy stocks continue to advance, unlike the S&P 500. This divergence paints a positive technical picture. Indeed, only a reversal in investor psychology is likely to change energy's currently bullish momentum. One way to measure investor psychology is by studying gold. Fear and a weak dollar beget higher gold prices and boost the price of energy shares. Gold recently climbed above $400, another good sign for energy. We expect the sector to outperform the S&P 500 for the next 12-to-18 months, though we'll reevaluate if prices climb or investor psychology changes. In spite of its recent weakness, the health-care sector also remains positioned to outperform the market. Recent weakness in big pharmaceutical stocks, in particular, has created favorable valuations. The sector's price-to-earnings and price-to-cash flow valuations compare favorably with the S&P, based on historic norms. Investor psychology also offers a somewhat positive signal. Health-care stocks typically thrive in uncertain times, and one way to measure uncertainty is through market volatility. Volatility now is at historic lows, and any increase would be bullish for the sector. Since relative performance is a zero-sum game, some sectors must underperform the broad market. Technology is the weakest link today. While tech stocks are not aggressively priced, the group takes its cues from durable-goods orders, as noted, and the shape of the Treasury yield curve. Durables orders have been rising, but their growth could decelerate if energy prices climb and the Fed continues to tighten credit. Meanwhile, tech-stock momentum has been negative. These stocks are likely to underperform until valuations become cheaper or investors throw in the towel after further disappointments. Although we've plumbed the prospects for only three S&P sectors here, our methodology and general conclusions apply to all 10. When relative valuation is favorable, the economic backdrop conducive to investing and momentum heading in the right direction, establishing an overweight position in a sector can be a low-risk way to add incremental value for the next 12 to 18 months. Positive momentum and negative psychology -- a contrary indicator -- point to the continued outperformance of the energy sector. Tech shares are likely to underperform the market unless the economy strengthens.
Funds Flows to Energy & Tehnology Funds Lawrence Strauss, Barrons 9-20 Morningstar's specialty natural-resources fund category had gained more than 15% through Thursday, versus 1.04% for the Standard & Poor's 500. Even Bill Miller, the longtime manager of Legg Mason Value Trust, who for the most part has shunned energy issues, admitted in a recent letter to his shareholders that these stocks are now worth considering. As expected, plenty of cash has poured into this fund sector. In July, natural-resources funds took in $800 million, the 12th consecutive month of net inflows, according to Financial Research Corp. Technology funds, which have suffered from poor performance this year, had outflows of $556 million in July. These funds have had net outflows in eight of the past 12 months.
But couple the bear market with the mutual fund trading scandals and you have a recipe for losing confidence. A new study from Dalbar Inc. shows that investors have been shaken to where many of them can't take their shot. For all investors, the new data on investor behavior stand as a reminder to check our own, if only to bolster our confidence. According to Dalbar, a Boston-based research firm, 20% of fund investors surveyed believe they suffered losses directly caused by the bad actions of their managers. Some 13% of investors said they will put less money into funds, the same percentage of respondents who have altered their portfolio since the industry's woes surfaced. By comparison, a Dalbar study after the market's enormous losses of 2000 and 2001 showed that 57% of investors believed they had lost money, but only 8% planned to change how they invested. 'The fundamental basis for investing is confidence,' says Lou Harvey, Dalbar's president, 'and this has shaken people's confidence more than anything. Even if they were not directly impacted by this, they feel like they were.' Most studies of the improper trading activities that are at the heart of the scandals show that investor losses stemming directly from the bad actions are minuscule, particularly compared to the pain of the bear market. But market losses weren't the direct result of management malfeasance, and the scandal is. That's why the blow to confidence has been so big. Uncertainty shreds confidence, and investors have been busier looking for headlines about their funds than they have been working to 'obtain and sustain' confidence in the issues they hold now. The Dalbar confidence survey reminds investors that they need to work to be confident about their holdings. That work can start with these questions: Am I confident in this fund? This is a question you should ask yourself about each of your individual issues. Start with the fund company and manager, but move down through how the fund has performed for you in the past, what kind of grades it gets from the major research firms, and more. If you are a long-term investor, you want the kind of funds that hark back to the prescandal levels of confidence, where people took a loss but didn't wig out about what it meant for their future prospects. If I have worries about the fund, are those concerns about the company, the market, or me? There might be more than one reason to worry about your fund, but the root of those fears is crucial to deciding your next move. If you have decided that the fund company is the problem -- if you can't be comfortable because of the direct actions of the fund company -- change may be the best option. Those management actions could be the scandal but more likely have to do with applying the investment strategy in a way that delivers the expected results. If the market is the problem -- you are worried about interest rates or inflation or the economic cycle -- that is less a reason to ditch a fund than to check your asset allocation and see how you might invest in a fashion that makes you comfortable. While you might lose confidence in a fund due to market conditions, changing a fund for these reasons borders on market timing. Make sure you are not just looking to change into what's hot. If the point of concern is you -- you bought a fund thinking you could stomach the risk, but are now worried that you can't -- there may be a need to make a change. Again, guard against going only for funds that give you confidence right now, as those current winners aren't likely to hold up. What other investments give me confidence? Look outside your portfolio to find funds where management and investment style are different from what you own today. Or consider other investments, from individual stocks and bonds to exchange-traded funds, real estate, and more. Says Harvey: 'It will be difficult for funds to earn back people's confidence. Good performance will help, but if someone no longer believes in their fund company today, there is not a lot that will make their opinion turn around in the future. They may need to move to a company they still have confidence in.'
Tax cuts helped for sure, but the Fed's cumulative 5.50-percentage-point cut in interest rates reduced consumer debt burdens and precipitated the largest and longest refinancing boom in history, putting a stash of cash in homeowners' pockets. It also gave investors, still smarting from declines in the stock market, something to feel good about: their homes. But with the Fed reversing course and the effect of tax cuts fading, the consumer's muscles are starting to look a little flaccid with the more traditional source of income -- wages -- yet to pick up and fill the void left by fiscal and monetary stimulus of the past three years. That is set to keep Treasury yields low. Mark Kiesel, executive vice president and portfolio manager at Pimco, thinks the highly leveraged household sector will keep the benchmark 10-year Treasury yield in check for some time. "There's definitely reasons why interest rates should be higher," he said. "But we also think that once you get up to 5%, the economy will slow because the consumer is so leveraged." Pimco reckons the benchmark 10-year note's yield will be held hostage to a 4.0%-to-5.0% trading range for the next nine months and is an opportunistic buyer of Treasurys when it trends toward the upper reaches of that range. Once again yesterday, Treasurys showed no sign of following the Fed's lead higher, with the 10-year note falling within sight of 4.00%, a level not seen since the start of April. At 4 p.m., the 10-year note yield fell to 4.078%. The 30-year bond yielded 4.883%. Dealers attributed the gains to a benign inflation report and slumping regional survey of manufacturing activity, but the magnitude of the move was also largely influenced by mortgage investors adjusting their portfolios to falling interest rates. There is ample reason to be worried about the debt consumers are carrying. According to the Fed's flow of funds data, household borrowing increased at an annual rate of 11.3% in Q1-04 for total outstanding debt of $9.5 trillion, with mortgage borrowing and consumer credit fueling the increase. The pace of debt growth moderated in Q2, but still totaled $9.7 trillion, a stunning figure considering U.S. GDP was $11.6 trillion in the same period. Ten years ago, household debt totaled $4.6 trillion. Mortgage rates, which move along with Treasury yields, have also come off their year highs. The average 30-year fixed mortgage rate, still the most popular among homeowners, is currently at 5.75%, down from 6.34% reached earlier in 2004, according to Freddie Mac. The historically low mortgage rates have increased homeowner's affordability, which in turn has contributed to the rise in home values in recent years. While most economists agree a national housing bubble doesn't exist, there is concern that some regional markets could suffer a downturn in valuations. "If the housing market declines in value, that's going to have an impact on consumer behavior and spending," said Bill Fitzgerald, head of fixed income at Nuveen Investments who oversees about $54 billion in assets. Combine that with a softening of the equity markets and "that's a scenario that could lead to another modest recession." That isn't his forecast, but the consumer's comfort level is on his radar as a risk to the economy.
For the first time, "consumer bonds" this year are on a pace to outsell U.S. corporate bonds. Sales this year through early September totaled $324 billion, compared with $306 billion in corporate bonds, according to Lehman Brothers. The growth is being fueled both by increased consumer borrowing and by banks' desire to transfer the risk of holding all that debt on their own books to investors. Bonds backed by America's shoppers now represent about 32% of the U.S. bond market, if the vast mortgage-backed securities market is included. That compares with 29% for U.S. government and agency debt and 20% for corporate debt, according to the Bond Market Association, a trade group. For investors, the consumer-debt binge brings both opportunity and risk. Asset-backed securities -- consumer bonds that don't include lower-risk home mortgages -- provide diversification to investors who already hold corporate and government bonds. Their prices can be less sensitive to interest-rate moves than other bonds because they often mature more quickly. Right now, they also pay slightly higher interest rates -- averaging about 3.45% annually, according to Lehman Brothers -- than corporate bonds and Treasury notes of similar durations. And since they are created by pooling thousands of loans together, asset-backed bonds can be tailored to fit the taste of investors who want less risk or more yield. Since they are usually sold in increments of at least $100,000, they tend to be snapped up mostly by institutions, rather than individuals. But some analysts argue the risks of betting on the consumer are formidable, especially since many consumers have taken on debt that will become more expensive as interest rates rise, increasing the chance of defaults that would eat away at the principal of consumer-backed bonds. The Federal Reserve is likely to continue boosting short-term interest rates, with the latest increase expected next week. That could "reveal some chinks in the consumer armor," research firm CreditSights said in a recent report. David Hendler, one of the report's authors, argues that credit scores used to judge consumer financial health may be too rosy since they don't take into account the potential for rising rates. Many of the securities set aside a portion of the consumers' payments to cover any defaults that could follow repeated interest-rate increases or a recession. But if the rate boosts or recession are severe, prompting widespread defaults, the investor could suffer losses, especially in higher-yielding, lower-quality consumer-backed securities. Any drop in real-estate values also could lead to defaults. The amount of asset-backed securities sold this year through August is up 29% from the year-earlier period, according to Lehman Brothers. Overall, asset-backed securities have grown to represent $1.77 trillion of U.S. bonds outstanding, up 15% from the end of 2002, according to the Bond Market Association. (A small percentage of that represents securities backed by corporate assets such as business equipment or airplane leases.) The consumer-debt market is actually many markets rolled into one. After the huge market for securities backed by mainstream mortgages, the largest segment consists of home-equity loans to homeowners who borrow against the rising value of their real estate, as well as mortgages taken out by home buyers who don't have good enough credit scores to tap the larger mortgage market. Through early September, $188 billion in bonds backed by these home-related loans have been sold to investors this year, up sharply from a year earlier, according to Lehman. Sales of bonds backed by credit-card receipts have fallen this year through last week to $36 billion, according to Lehman. But analysts attribute the decline to a temporary lull due to recent mergers of big banks that issue the securities. "We're predicting a stronger second half," says Bonnie Lee Tillen, a managing director at Standard & Poor's. Auto-related securities are roughly flat with last year. But student-loan securitizations have risen sharply due to the rising cost of higher education. David Heike, a bond strategist at Lehman, says the securities remain "defensive and high quality." While consumers are taking on more debt, they are also growing more sophisticated about paying off the debt that they have, he adds. Credit performance among the bonds "has been very strong and continues to improve." But others aren't sure. Mr. Sarni of Payden & Rygel has cut his portfolios' positions in consumer asset-backed bonds in half over the past two years. He is concerned that the personal savings rate has fallen in recent years to below 1% of disposable income from a historical average over the past four decades of about 7%. "A lot of these people are living closer to the edge," spending more and saving less even though their incomes aren't growing much, he says. "If you get any real-estate decline, it's a recipe for disaster." Some analysts say consumers need to borrow more just to keep up with rising housing, health-care and education costs in a low-wage growth period. S&P sees more cause for concern in the credit quality of the mortgage sector than in other parts of the consumer-debt market. About a third of American homeowners who got mortgages this year picked loans that fluctuate with interest rates, up from 17% in recent years, according to S&P. These floating-rate deals, which include a growing number of home-equity loans, save consumers money now, making debts easier to pay off. But if rates go up, monthly payments could rise sharply, increasing the chance of default. A decline in real-estate prices also could sap the value of these borrowers' collateral and make it more difficult for them to pay back their debts on time.
Money managers such as Mr. Hagood buy and sell hurricane bonds -- also known as catastrophe, or "cat" bonds -- that give investors a chance to take on some of the risk of paying claims in the event of catastrophic losses. The bonds pay a relatively high interest rate, but investors can lose both their principal and interest payments if a storm triggers losses at or exceeding an amount set when the bonds are sold. The investors' money is then used to help pay for insurance claims. Cat bonds first began to appear in the 1990s after insurers and reinsurers suffered financially from storms such as Hurricane Andrew that struck in 1992 and the Northridge [California] Earthquake of 1994. From 1989 to 1995, total insured property losses in the U.S. were $75 billion, 50% more than the property losses from the prior 40 years, according to Standard & Poor's. Insurers typically purchase reinsurance to lay off some of the risk of the policies they write. But a company looking, for instance, to obtain $2 billion in reinsurance coverage might be able to secure only $1.5 billion of that from traditional reinsurance companies. In such a case, the insurer might issue a catastrophe bond for the remaining $500 million. Reinsurance giant Swiss Re, for example, is a major issuer of catastrophe bonds. A year ago, under its Arbor program, Swiss Re issued six catastrophe bonds with four-year maturities and total protection for Swiss Re of $205 million. Because the cat bonds typically are meant to pay only for once-a-century type events, or a roughly 1% chance that the bonds will default in any given year, the bonds pay relatively high yields, according to James Doona, a director in the insurance-capital markets area at Standard & Poor's. Mr. Doona said mutual funds and other institutional investors invest in catastrophe bonds because their performance isn't correlated to stocks or other fixed-income instruments and thus provide a means of diversifying a portfolio. Other investors such as Mr. Hagood and his hedge fund Nephila Capital specialize in cat bonds. Mr. Hagood said he sometimes sees opportunities when big institutional investors, lacking tools to analyze real-time storms, sell the bonds as a big storm threatens. But Mr. Hagood then might buy the discounted bonds if he believes the storm might not be as bad as others fear. The cat-bond sector is growing. According to Moody's Investors Service, the issuance of cat bonds in several years leading up to 2003 was about $1 billion a year among four-to-six bond issues. Last year, the dollar value rose by 50% to $1.5 billion distributed through 13 transactions. The past week also has seen an increased volume in the sales and purchases of another disaster-related product -- "industry-loss warranties," which insurers have long used to spread their risks when reinsurance wasn't enough. Many of the warranties are written to cover a 12-month period, and they can insure losses in specific countries or states and can be designated to cover such events as windstorms and earthquakes. The warranties also provide insurers a means of finding last-minute coverage.
But the new research, by Jay R. Ritter, a finance professor at the University of Florida, shows that the results have been skewed by the awful performance of companies with little or no commercial success, as defined by their sales revenue in the 12 months before coming to market. Professor Ritter, an expert on the IPO market, recently found that, with the exception of these commercially unsuccessful businesses, the average company that went public from 1980 through 2002 was not a laggard - and was, in some ways, a winner. In his research, he identified low sales as less than $50 million, expressed in 2003 dollars. That's a low hurdle, he says, because it does not require the company to be profitable, only to have significant sales in the year before going public. A company that cannot reach this threshold has chosen to come to market before achieving any significant commercial success. IPO's of such companies were generally dreadful performers, he found. They lagged behind the stock market by 15%, annualized, in their first three years. The underperformance was less pronounced when each of these stocks was measured against a benchmark of comparable stocks - those with similar market capitalizations and similar locations on the growth-versus-value spectrum. Judged this way, the stocks of low-sales companies trailed by 6%, annualized. (Professor Ritter calculated each IPO's gain or loss from the price at which it closed the day it began trading to its price three years later.) By contrast, initial offerings of higher-sales companies, on average, matched the broad market over the three years after they went public and outperformed benchmarks of comparable stocks - by 4.5%, annualized. Why, until now, have researchers missed this marked contrast between IPO's of high- and low-sales companies? As Professor Ritter sees it, the companies with low sales do not fall neatly into the theoretical categories that academics use to account for different stocks' performances. Researchers would have readily found this pattern years ago if, for example, companies going public with low or no sales were always in the small-cap category. If investors were rational, of course, you would expect that companies with low or no sales would hardly ever rise to the large-cap category. But sometimes they do, and until now these paper giants have fallen through the cracks of academic researchers analyses, including Professor Ritter's own. He says that a good illustration of this is the Corvis Corporation, the optical networking company, which had zero sales in the year before it came to market in July 2000. Nevertheless, with its stock closing near $85 the day it went public, its initial market cap was $28 billion, placing it squarely in the large-cap category. It now trades for just over $1. The implication of Professor Ritter's research is that investors should avoid initial offerings of companies that have not yet succeeded commercially. In the years covered by the study, some 56% of companies that came to market in that time had annual sales of less than $50 million, in 2003 dollars, in the 12 months before going public. Of course, many of those companies were not household names; almost all the better-known offerings would have passed the revenue test. "Almost all of the big IPO's over the last two decades - Cisco, Yahoo and Microsoft, to name three prominent ones - went public only after they had achieved a big amount of commercial success," he said. Another is Google. The company's annual sales last year were nearly $1 billion. The stock is hardly cheap, with a price-to-earnings ratio well above 100. To be sure, Professor Ritter's research does not guarantee that the IPO's of high-sales companies will automatically be winners. But it does suggest that investors need not automatically avoid them.
Behind the downturn is a view in the industry that the end of the busy summer driving season will reduce energy demand and that tensions will ease in oil-producing hot spots, including Venezuela and Russia, keeping supplies in place. Some investors jumped off the oil bandwagon when prices failed to top $50 a barrel, figuring the market had come too far, too fast. Falling oil prices usually put pressure on shares of energy companies, which generally crank out better earnings when oil prices are on the rise. Not this time around. In fact, energy-related stocks are on a roll, thumbing their collective nose at the weakness in oil prices. The OSX, an index of oil-service stocks traded on the Philadelphia Stock Exchange, has jumped about 10% since Aug. 19, even as oil futures dropped in the same period. Shares of major oil companies are up about 7% since oil prices started their fall, according to Dow Jones Statistics. Behind this counterintuitive move is a group of savvy investors betting that energy companies will do well as long as oil prices stay close to these levels, or even fall somewhat. They say that as long as oil stays above $30 or so a barrel, these stocks will be able to rack up impressive earnings because many of these companies have business plans that assume much lower energy prices. For example, Rick George, chief executive officer of Suncor Energy (SU), a Canadian company that specializes in mining oil from the sands of Western Canada, has said that oil prices above $25 a barrel or so are sufficient for Suncor to rack up impressive profit growth. Suncor stock is up about 20% since May. "The bottom line is that [even] $30 oil is still a good place to be for a lot of these companies," says Doug Leggate, an oil-stock analyst at Citigroup. Another reason investors are turning to oil shares is that these stocks haven't risen nearly as much as oil and gas prices themselves in the past year or so, giving them value. In fact, most still have price/earnings ratios on a par with the overall market, or even lower. The shares were hurt by concern that the rise in oil was short-term, but now that it seems prices won't head below $30 any time soon, investors are coming around to these companies. Among the reasons oil prices may stay strong: recent signs that oil inventories are more depleted than expected. Some hedge funds have switched from oil futures and options to shares of oil and gas companies, traders say, sensing more opportunity in the stocks. That is part of the reason giant ChevronTexaco (CVX) has risen past $100 a share, up about 12% in four months, even as the overall market struggles. The stock has a trailing price/earnings ratio of about 11, below the market average. Now that energy stocks have rallied, it is more difficult to pick up bargains. Though most of these shares still command price/earnings ratios below the market's level, some analysts also warn that crude-oil price zigzags will have an impact on many of these stocks. If oil prices fall back, stocks like Exxon Mobil (XOM) could be affected, analysts say. "If oil falls by $10 a barrel, Exxon and other oil stocks may do nothing, as the overall market rallies" thanks to the falling oil price, says Citigroup's Mr. Leggate. Mr. Leggate frets about ConocoPhillips (COP), which is close to a 52-week high. He thinks it is more susceptible to lower oil prices than major energy companies with exposure to other areas, such as the chemical business. In a move that some shareholders fear might weigh on Conoco's debt load, the company is hoping to increase its stake in Russian oil giant OAO Lukoil Holdings, according to a Russian government official running an auction for the shares; a Conoco spokesman has declined comment. Mr. Leggate argues that any profit from Russia could disappoint because of high taxes there. Some analysts also see Occidental Petroleum (OXY) shares as sensitive to movements in oil prices. Many analysts, however, see declines of more than $10 a barrel as unlikely -- and say oil shares could hold up better than the rest of the market in coming months, particularly if a terrorist attack did seriously disrupt supplies. Some industry specialists prefer Marathon Oil (MRO), which has a mix of earnings from various energy businesses. The company is small enough that, if it hits a gusher in Libya or Angola, it will be a big boost for earnings, they say.
Standard & Poor's announced in March that it will adjust the weighting of stocks included in its various indexes, including the S&P 500, the S&P MidCap 400 and others. Starting next year, the weight of each stock in the indexes -- that is, the proportion, in dollar terms, that each stock represents -- no longer will be related to its full market capitalization, or the value of all the company's shares outstanding. Instead, the weighting will reflect "available float market capitalization." That just means it will be based on the value of a company's shares that are available to be traded, and no longer will include shares held by family interests and others. (Other indexes already are float-weighted.) As a result, companies such as Wal-Mart and UPS, which have issued shares that are closely held by founders or employees, will become smaller parts of the indexes. And the change will force a slew of investors to adjust their portfolios. That is because more than $1 trillion tracks the S&P 500 through various mutual funds, exchange-traded funds and other investment vehicles, according to Standard & Poor's. Many other mutual funds and other investors "hug" the indexes, or keep their holdings close to the composition of the S&P 500, trying to slightly beat the widely followed S&P index. Wal-Mart, for example, likely will represent 1.46% of the S&P 500 after the changes are made, down from 2.21% today, according to estimates from brokerage firm Guzman & Co. UPS will drop to 0.44% of the S&P 500, down from 0.8% today. That might not seem like much of an adjustment, but since so much money is invested in S&P 500-related vehicles it likely will lead to investors buying and selling as much as $90 billion of shares of various companies, according to Northern Trust Co. This adjustment could lead to investors dumping shares representing more than 5.3% of MetLife, 4.4% of UPS, 4.2% of Coca-Cola Enterprises, almost 4% of Comcast and 3.3% of Wal-Mart, as they adjust to the new S&P 500. "A number of companies will be severely impacted. There will be lots of ripple effects," says Leopoldo Guzman, president of Guzman & Co. Many investors "are likely to adjust before" the changes are made. Mr. Guzman says the changes will affect about 4.2% of the value of the S&P 500 overall, making it the biggest change to the S&P 500 in its history. After the market's close on Sept. 28, S&P will unveil the exact criteria for the changes to the indexes. The actual changes to the indexes will take place in two stages, however -- the first in March and the rest in September -- to try to reduce the market impact. Some companies may take steps to deal with the changes, such as buying back shares to boost share prices or altering their share structures by making some restricted stock fully tradable, to minimize the impact of the slated changes, some say. As for the winners in the process, it could be harder for investors to make money betting on those stocks. That is because 335 companies will see their weighting increase in the S&P shakeup, compared with just 165 who will lose stature, and the gains will be spread out among so many companies that few are likely to see a level of buying that makes an impact on shares, analysts say.
Set process goals, not P&L goals. Setting ambitious goals to make a certain amount of money in a non-trending market may put you on a path to disaster. It takes your attention away from trading well -- doing your homework and following your rules. It’s like a baseball player who sets a goal to hit 30 home runs rather than to execute their swing properly. If they fall off pace, they’ll start to press and swing wildly instead of focusing on a smooth, solid stroke. The most successful traders are ones who develop a set of rules that work in most markets, and then painstakingly follow those rules day in and day out without regard to the precise amount of money they’re making. Set a goal of consistency, not of dollars. And what should the typical investor have for goals? Set a percentage amount to save and invest. Set a model asset allocation. Rebalance your portfolio yearly. Avoid the urge to be perfect. Many traders look back over a week or month and see trades they feel they “should” have done, or positions they “should” have pursued more aggressively. Steenbarger finds this attitude can be damaging. “You are psychologically translating a modest success into a frustrating failure,” he says. Traders don’t develop confidence by finding fault. Fault-finding often leads to the dangerous step of “revenge trades,” in which you try to make up for a perceived past failure by pushing the next trade twice as hard, regardless of merit. Good traders accept missed trades and underleveraged trades as a natural part of the lifelong learning process. Develop self-knowledge by creating a “success template.” Steenbarger says his trader-patients always want to talk about their losers rather than their winners. He recommends they develop a “solutions focus” by dwelling on their winners while still acknowledging their losers. To start this process yourself, write down the one thing you did best each day [ or for us buy-and-hold types, do this each YEAR ] in the market and which you want to repeat tomorrow [ or next YEAR ]. Likewise, write down the biggest mistake you made each day, and wish to avoid tomorrow. If you keep up this simple two-entry diary, and review it regularly, you will be on the path to achieving self-knowledge and developing the ability to observe and change your behavior. “Change starts slowly, but then it gets momentum and starts turning faster and faster,” the psychologist says.
Stock-index funds also vary in other ways that are largely invisible to investors. These differences can sometimes lead one of the top-performing index funds to beat a competitor, even if that competitor charges slightly higher annual fees. Indeed, seven Vanguard Group index funds have beaten lower-fee ETFs from Barclays and State Street over the time periods those offerings have gone head-to-head, according to a study earlier this year by financial adviser and author Bill Bernstein. While the performance variations are only in the hundredths of a percentage point, they have led to some heated exchanges among leading index-fund managers. Vanguard Chief Investment Officer Gus Sauter compares his firm's index-trading strategies with snatching up coins others have accidentally dropped. "Our philosophy is that if you see nickels and dimes lying on the street, you pick them up," he says. But Barclays managing director J. Parsons says the strategies used by some Barclays competitors are risky and more like "picking up nickels in front of freight trains" since "it looks like it's free money until you get run over." While Vanguard's stock funds haven't stumbled, he notes that one of Vanguard's bond-market index funds trailed its benchmark by two full percentage points in 2002 when some variations in sector weightings backfired. Still, the performance this year of Vanguard 500 Index Fund's primary share class and the competing exchange-traded portfolios from Barclays and State Street are within 0.02 percentage point of each other and just behind the benchmark S&P 500. A 0.02% difference in performance works out to just $2 on a $10,000 investment. Among funds available to individuals investing less than $200,000, the top S&P 500 fund so far in 2004, through Thursday, is State Street's exchange-traded Standard & Poor's Depositary Receipts, or SPDRs. But over the past five years, the SPDRs trail Vanguard 500 by an average 0.01 percentage point a year. (Barclays' iShares S&P 500 Index Fund hasn't been around that long.) One little-known quirk that can affect the performance of the SPDRs and three other ETFs is structural: They are technically unit-interest trusts, which unlike ordinary funds aren't allowed to reinvest the dividends they receive from companies in their portfolios. Holding cash in the portfolio until it is paid out quarterly to fund shareholders hurts the SPDRs' performance marginally relative to the S&P 500 when the stock market is rising but helps when stocks are declining. That "cash drag"' is one reason that despite slightly lower fees, the SPDRs trailed the Vanguard 500 in eight of the 10 full years the two have gone head to head, research firm Morningstar Inc. noted in a recent report. Gus Fleites, president of State Street's SSgAFunds Management unit, says the impact of the cash drag on the SPDRs' performance is "trivial" -- perhaps 0.04 percentage point a year -- but agrees that "there are some restrictions that come with the fund's structure." State Street is waiting to hear back from the Securities and Exchange Commission on a request it submitted a few years ago for permission to reinvest SPDR dividends in additional shares. Meanwhile, Mr. Sauter says Vanguard's index funds have benefited over the years from a bevy of securities-trading strategies. For instance, the company will buy futures contracts instead of individual stocks when futures are cheaper. Also, it sometimes picks up a bit of income by lending portfolio securities to other investors, another practice for which SPDR trustee State Street is seeking SEC permission. In dealing with thinly traded small stocks, Mr. Sauter says Vanguard also is willing to temporarily hold a bit more of a stock than is called for in a benchmark if Vanguard can buy some shares inexpensively. He says Vanguard may similarly "wait a day or two" to make a purchase if there are lots of buyers scrambling for shares. Such moves are "value-added opportunities" with minimal risk, he says. Mr. Fleites of State Street says, "Vanguard probably trades a lot more aggressively than our clients would want us to do" on the SPDRs. He and Mr. Parsons of Barclays say active ETF traders and the securities firms that make a market in ETF shares are looking for close tracking of a benchmark rather than added return. ETFs, he and Mr. Parsons note, are used both by investors who want to match a benchmark and by others who sell the ETF shares short in a bet that the price will decline. "Doing something that is going to benefit one shareholder may be detrimental to another," Mr. Fleites says. Mr. Fleites adds that State Street does look to pick up additional return in its traditional index funds, including SSgA S&P 500 Index Fund, one of the top performers this year. One profitable gambit that some index-fund managers have used in the past to boost performance was to buy stocks being added to an index in advance of the effective date of those changes. But such opportunities have largely disappeared as too many investors have caught on. In selecting index portfolios, there are factors to consider besides expenses and past total return. Some active traders prefer ETFs because they trade all day long like stocks, rather than once a day like ordinary funds. But the brokerage commissions that investors pay to buy ETFs can make them costly for people who regularly add to their holdings. ETFs can also pay out slightly smaller capital-gains distributions than ordinary index funds, making the ETFs more tax-efficient, although both types of index portfolios trounce most actively managed funds in the area of taxes. Mr. Parsons of Barclays says some of the iShares have beaten their competing Vanguard funds on an after-tax basis even if not on a pretax basis.
A typical vehicle is driven about 12,000 miles a year. Plenty of the 123 million vehicles on the road get well under 20 miles per gallon. The big sucking sound you hear isn't jobs going to Mexico. It's dollars flying into your gas tank. Media hyperbole? Sadly, no. Suppose, for instance, that you earn $15 an hour, own a car that gets 15 miles per gallon, drive 15,000 miles a year and have watched gasoline prices increase from $1.50 to $2 a gallon. What did it do to you? It cut your purchasing power by 2.15%. In July, the 12-month rate of increase for average weekly earnings was 2.3%. The remedies? Drive 3,750 miles less in a year. Or trade the 15 mpg car for one that gets at least 20 mpg. That $15-an-hour figure is important. According to the Labor Department, it's about what the average worker earns. So there is a good chance that half of the households in America are losing purchasing power – which explains why sales at Wal-Mart are slow. The same bottom-half households pay about 4% of their income in federal income taxes. Compare the two figures – 2% of purchasing power lost to rising gas prices, and 4% lost in income taxes sent to Washington – and you get a powerful message about how much small changes in income taxes mean to most Americans. It also tells you how important energy policy and price stability are. So let's ask another question. What happens to the same average worker if gasoline rises from $2 a gallon to $3 a gallon? Answer: Her gasoline costs rise by $1,000 of after-tax income. She needs a pretax raise of 4.3% to restore her purchasing power. Not too likely. What to do? Alternatively, she can cut her driving by 5,000 miles a year or trade her guzzler for a 22.5 mpg car. Not easily done. Bottom line: For most Americans – certainly the 75% of households with adjusted gross incomes of $56,000 or less – the most important pocketbook issue isn't tax policy. It isn't tax cuts or tax increases. It's energy policy. What we do, personally and nationally, about energy is what will determine how fast we grow, how many jobs are created, how much our dollars will buy and how secure we feel about our future. A Second Set of Similar Stats Justin Lahart, WSJ 9-23 High fuel costs affect middle-income and low-income families more than they hurt the upper echelons. For 2001, the Transportation Department found that households earning $30,000 to $39,999 went through 1,054 gallons of gasoline. At $1.33 a gallon, say, that would be about $1,402. Households earning more than $100,000 went through 1,558 gallons. That is more gasoline, but it represented a far smaller portion of their income -- less than 2% compared with about 4%. Survey work done by International Council of Shopping Centers economist Michael Niemira bears this out. By Mr. Niemira's reckoning a 10% increase in the price of gasoline lowers Wal-Mart's sales by 0.77%. In contrast, department stores, which are aimed at slightly higher-income households, would see sales cut by 0.34%.
"The normal election year pattern shows the market rallying in July and most of August, then selling off, so we've been much weaker than normal," said Tim Hayes, global stock strategist at Ned Davis Research. "The market may have already had that pre-election sell-off." During seven of the last 10 presidential races, the major indexes posted gains for September, according to the Stock Trader's Almanac. The month ended in a loss three times - in 1972 and 1984, when incumbents ran and won, and in 2000, when there was no incumbent. Part of what drives September's typical weakness is the difficulty of assessing the outlook for Q3's earnings following the summer doldrums. It's almost as if earnings for the entire 12-week period depend on this month, Tobias Levkovich, chief U.S. equity strategist at Citigroup's Smith Barney division, wrote in a recent note to clients. While no one can predict which sectors will perform best in a month like this, history does offer some guidance about which areas are most vulnerable to seasonal weaknesses. On average, Levkovich found that telecommunications, utilities and healthcare have posted gains, while consumer staples, materials, industrials, information technology and consumer discretionaries have shown weaker performances. Among industries, pharmaceuticals and biotechnology have traditionally enjoyed an edge, reflecting the flight to safety characteristic of most Septembers. That might be less likely this year, because of uncertainty about how drug stocks will perform if Democratic presidential candidate John Kerry wins the election. Kerry's platform includes a number of measures that would sharply reduce the cost of prescription medications, which could dent profits at pharmaceutical companies. Those fears may already be priced into drug stocks, however.
As a result, the American economic ship, which has weathered the recent run-up in crude oil prices, may be more vulnerable to sudden surges in the price of money. If the rate on 30-year fixed mortgages were to rise from 5.4% today to 7.5% next February, homeowners could get walloped. From 1988 to 2000, the ratio of nonfinancial debt to GDP held steady at about 1.8 to 1. From the beginning of 2001 to the end of 2003, the economy added $1.317 trillion in GDP and $4.2 trillion in debt. That means that each new dollar of economic output was accompanied by $3.19 in new debt. So now, for the first time, the debt-to-GDP ratio stands at more than two to one. Throw in financial credit - the debt that investment banks and others use to finance trading activities and the like - and total debt has more than doubled since 1994. The mere existence of huge debt needn't be a source of panic. Academic economists view it more as a byproduct. Debt is created when people, governments and companies spend money, trade and produce. Viewed that way, the sharp rise in credit in recent years isn't surprising or even alarming. When interest rates are low, you'd expect people to pile on more debt per GDP because it's cheap. As anyone who has ever used a mortgage calculator knows, lower debt-service costs can make higher levels of debt seem eminently manageable. Here is a gigantic example: In 1997, when the total national debt stood at $5.4 trillion, Washington paid $356 billion in interest. In 2003, when the national debt grew to $6.8 trillion, Uncle Sam's interest bill fell to $318 billion. But the economy's apparent reliance on credit to fuel everything from home buying to the military budget is troublesome. If incomes and revenues fail to rise, stressed consumers may have a tough time keeping up with payments. An economy hooked on debt also is vulnerable to the seemingly inevitable rise in interest rates. And in a period when prudence would seem to dictate locking in rates, Americans have rushed to assume greater interest-rate risk. Borrowers - especially homebuyers - haven't reacted to recent increases by borrowing less. In Q1-04, debt rose at an annual clip of 8.6%, more than double the growth rate of the economy. No, we've kept the interest bill down by swapping fixed-rate for adjustable-rate financing. The Mortgage Bankers Association reported that adjustable-rate mortgages constituted 35% of new mortgages in Q2-04, up from 27% in Q4-03. Consumers, whose maxed-out credit cards generally bear floating interest rates, and the federal government, which skews its borrowing to short-term instruments, have essentially done the same thing. So if interest rates rise, we'll all have to spend more dollars on debt service. If money becomes more expensive, we may have to downshift our spending and consumption. And that may shrink the economy. Higher collective leverage, in turn, means that we're more susceptible to external shocks. Companies with no debt can weather several lean quarters; companies with piles of debt often find that a single bad quarter spells disaster. The same holds for consumers. Gains in the GDP "came at a heavy cost," said Steven Lehman of the $1.7 billion Federated Market Opportunity Fund. It took $5 of debt growth to produce $1 of GDP growth, he said. Normally it takes $1 to $2 of debt. (Chris Graja, Bloomberg News via The Washington Post 9-05)
"Just three months from election day, investors cited the presidential race as their biggest cause for concern about the economy, followed closely by higher oil and gas prices and to a lesser extent the Iraq war," said George Walper, president of Spectrem Group. "Affluent investors grew increasingly pessimistic in August, with their investment outlook declining close to bearish levels," Walper said. "With political issues front and center, it's not at all clear what, if anything, will reverse this negative trend in sentiment prior to Nov. 2." The proportion of wealthy investors indicating that they did not intend to invest at all rose to 36% in August from 29% in July. "An election year is a period of uncertainty," said Ken Paterson, director of Spectrem. "It's a truism that markets hate uncertainty, and there is no answer until Nov. 2." The Spectrem affluent investor index is based on 250, 10-minute telephone interviews each month.
According to the latest Business Roundtable survey, completed in mid-August by 118 of its CEO members, 40% of respondents expect their companies to add jobs in the next six months, up from 38% in June and 33% in March and 25% in December 2003 . Only 12% expected their payrolls to decline, versus 19% in June and 22% in March. The survey also found that 49% expected to boost capital spending in the next six months, up from 44% in June and 43% in March. Only 7% plan to cut spending, unchanged from the two previous polls.
The trend of higher dividends coincided with a boom in corporate earnings as the economy rebounded. Dividends typically are paid directly from profit. The new reluctance to raise dividends could reflect corporate managers' concerns about the health of the economy and a possible slowdown in profit growth, analysts said. "When the profit cycle decelerates, companies don't like to increase their fixed costs," said Richard Bernstein, chief U.S. market strategist at Merrill Lynch & Co. in New York. Companies aren't obligated to keep their dividends at any particular level, but shareholders generally expect that their payouts won't be decreased. It's possible companies are withholding higher dividends in favor of greater capital spending, analysts said. Some companies also may be concerned that a victory by Democratic Sen. John F. Kerry in the presidential election could mean a rollback in the dividend tax cut, said Joseph Lisanti, editor of S&P's Outlook investment newsletter in New York. Given the uncertainty, company managers may feel that it makes more sense to wait until after the election before deciding whether to boost dividend payments, Lisanti said.
Indeed, despite numerous fitful rallies and gut-wrenching declines, the Standard & Poor's 500-stock index is almost unchanged from the beginning of the year. Suppose this pattern continued, with share prices going nowhere while corporate earnings continue to climb. In that scenario, stocks would look ever more reasonably valued, as the market's price-to-earnings multiple, or P/E, drifted down toward the historical average of 15.4 times trailing 12-month reported earnings. According to Leuthold Group in Minneapolis, that 15.4 is the median P/E since 1925. How long would it take to get to that 15.4? I started with the forecast for 2004 reported earnings from Standard & Poor's. If you take S&P's expected earnings for all 500 companies and scale them to fit the index, which closed yesterday at 1104, you get the number 58.85. For 2005 and beyond, I assumed this 58.85 would grow at 6% a year. Banking on 6% may be a little optimistic but, hey, I don't want to make this column too depressing. Do the math, and you find we will get to a 15.4 P/E multiple in a little under three years and nine months. "If the stock market doesn't do anything for three or four years, the bears can stop screaming that everything is overvalued," says Cliff Asness, managing principal of AQR Capital Management, a hedge-fund manager. "Think of it as the mother of all trading ranges." If the wait today seems a tad long, it was far worse at the March 2000 stock-market peak. Mr. Asness estimates that, at that time, it would have taken roughly 20 years to get to a fairly valued market, assuming share prices stagnated and earnings climbed at a moderate clip. But, of course, we didn't get a stagnant market. Instead, stocks cheapened far more quickly, thanks to the 2½-year-long bear market.
Given today's lofty valuations, you may be tempted to dump all your stocks. Don't do it. Sure, we could get a 20%-plus market crash tomorrow, which would immediately bring stocks back into line with average valuations. But maybe, instead, stocks will hang in there at today's 20 times trailing 12-month reported earnings. That would result in modest long-run returns, as investors collect their dividends and share prices climb along with earnings. Indeed, in that situation, the S&P 500 would most likely outpace high-quality bonds. Whatever happens, you can be pretty confident that stocks won't rival their 10%-a-year historical average. That means investors need to lower their return expectations and save more to compensate. Slashing investment costs, so you keep more of whatever you make, also seems like a good idea. "In a low-return environment, it's even more important than ever to avoid stupid things like wasting 2% a year trading stocks on the Internet or wasting 2% a year on high mutual-fund fees," Mr. Asness says. All of the discussion above relates to the blue-chip stocks in the S&P 500. What about small U.S. stocks? What about foreign stocks? You want to own both sectors as part of a diversified portfolio. But should you overweight them? That has been a smart strategy during recent years, as small and foreign stocks have outpaced blue-chip U.S. companies. Small stocks, however, are looking a little pricey. Since the late 1990s, "they've had a huge run," notes Andrew Engel, a senior research analyst at Leuthold. "But we don't know how much longer that can last." To understand why, consider the P/E ratio of the stocks in the T. Rowe Price New Horizons fund, one of the mutual-fund industry's oldest small-stock funds. In early 1999, the fund's stocks were trading at P/E multiples that were 22% below that of the S&P 500. But as of June 30, the fund's P/E was 49% higher. That's one of the biggest premiums during the past 20 years. Foreign stocks, by contrast, still seem reasonably valued, as you can see from the accompanying table. My advice: Consider stashing as much as 30% of your stock-market money in foreign funds. Which funds should you buy? I favor market-tracking index funds, which are available from firms like Fidelity Investments, T. Rowe Price Group, Charles Schwab Corp. and Vanguard Group. If you prefer actively managed funds, you might purchase either Causeway International Value or Oakmark International, suggests Scott Greenbaum, a financial planner in Harrison, N.Y. "This is as good a time as any to add a foreign component to your portfolio," Mr. Greenbaum reckons. "The valuations of overseas companies are significantly lower than the valuations here." Monthly Employment Stats
In just the past week, auto makers and large retailers like Wal-Mart Stores Inc. reported disappointing August sales, tech bellwether Intel Corp. lowered its guidance for third-quarter revenue and profit margins and consumer confidence eroded in August. Oil prices, meanwhile, have remained stubbornly high. Such developments had led some economists to wonder whether the economy's summer slowdown might be more serious than previously thought. It is still far from clear that the economic "soft patch" -- as Federal Reserve Chairman Alan Greenspan has described it -- is over. Average monthly payroll growth has slowed to 104,000 since June, down from 300,000 between March and May. But Friday's jobs report suggested workers might still be creating enough income from new jobs and pay increases to ride through the bumpy period. "We're generating new jobs at a somewhat more subdued pace than we were in the spring, but certainly not at a pace that is particularly worrisome," said David Resler, chief economist with Nomura Securities International in New York. Nearly all major industry categories showed small job gains: manufacturing gained 22,000 jobs, construction added 15,000 jobs, and private services created 84,000. Within the latter, however, there was an 11,000 decline in retail jobs, confirming other signs of a slowdown in consumer spending in August. "What we're seeing now is companies hiring to appropriate levels of business versus getting bloated," said Eric Goodstadt, a senior executive with Management Recruiters International in Philadelphia. The job recovery "is going to be gradual -- it's not going to be the spike we saw in the dot-com phenomenon." The job-market rebound coincided with an increase in average hourly earnings, which rose five cents, or 0.3%, to $15.77 in August. Wage gains accelerated in year-on-year terms: the increase last month was 2.3%, up from 2.1% in the year through July. The average workweek was unchanged at 33.8 hours. Prior Employment Updates: July 2004, June 2004, May 2004, April 2004, March 2004
"It's not that 144,000 is an especially strong number, but it does at least provide hope that the 'soft patch' may be fading," Ian Morris, an economist at HSBC Securities, wrote in a research note. "This is enough for the Fed to keep raising rates, and therefore we are changing our Fed view for September to the market view -- a 25 [basis point] rate hike, from our earlier call of no hike." "Just as two months of weak payroll data do not constitute the start of a new downturn, one month of strength does not make a boom," analysts at ING Financial Markets wrote in a research note. Indeed, other economic news last week suggest the economy's settling into a path closer to the first half's growth rate of around 3.5% than the almost 6% rate from the second half of 2003. Automobile sales fell 3.7% last month and chain-store sales for the month disappointed, rising just 1.2% on a year-over-year basis. And the Conference Board's consumer confidence index slumped 7.5 points in August, due largely to a more downbeat assessment of the U.S. labor market. Manufacturing and services purchasing manager reports from the Institute for Supply Management both fell in August, though they still point to growth. Global Outlook The U.S. jobs report notwithstanding, global economic data almost universally disappointed last week, pushing global bond yields back to levels that suggest more economic downturn than they do robust expansion. Japan's industrial production was flat in July, compared with June's and well below expectations of a 1.1% rise. The euro zone manufacturing and services purchasing management indexes both fell last month from July's levels. That region's jobless rate remains stuck at 9%. A Confederation of British Industry survey last week showed softness in the U.K. retail sector, and the U.K. manufacturing PMI came in below expectations last month. "A period of many quarters of slow global growth seems in prospect," Lehman Brothers chief economist John Llewellyn in London wrote in a research note. "Recession is unlikely, but so is exuberant growth." Lehman expects U.S. gross domestic product to grow in the 3% to 3.5% range, with Japan and the euro zone near 2% growth and the U.K.'s strong growth "is likely to fade." Of those regions, only the U.K. has seen significant monetary policy tightening this year. The Bank of England has raised interest rates five times for a total of 125 basis points, to 4.75%, since November. But the recent data "suggest that the [BoE] has finished tightening," said analysts at Montreal-based BCA Research. Similarly, the latest euro zone data support the ECB's decision Thursday to keep rates steady for a 15th straight month, at 2%, as expected. "If the global economy does cool down, then other central banks will find little reason to stay on, or move to, a tightening cycle, whereas the Fed needs to," said Robert Gay, global strategist at Commerzbank Securities, since "the Fed's the only [central bank] that's grossly out of kilter with current conditions." And that could spell trouble for U.S. bonds vis a vis the rest of the world, especially the euro zone, where the mix of slow growth and the inflation-fighting ECB is an ideal recipe for fixed income. The rally in global bonds since June narrowed the spread between U.S. and German yields, and the 10-year Treasury now only yields about 15 basis points more than the German bund, which fetches 4.14%. Japan's 10-year yields 1.56%, while the U.K. 10-year fetches 5.03%. Just the Facts A New Breed of CD's Simon & Kim, WSJ 9-22 Lenders say the Fed's series of gradual rate increases has prompted a surge in interest in certificates of deposit and other savings vehicles. To capitalize on the increased demand, many lenders are introducing new types of CDs designed for a rising-rate environment. These include so-called bump-up CDs, step-up CDs and index-linked CDs -- all of which are designed to share some of the upside of rising rates or an improving stock market. Last week, Bank of America Corp. rolled out a new "Opt-Up" CD that allows savers to bump up the interest rate once during the CD's 30-month term, if interest rates rise. Washington Mutual Inc., meanwhile, last month rolled out a new "Indexed" CD whose yields adjust quarterly based on changes in the rate on three-month Treasury bills. PNC Bank has a "Convertible CD," which allows consumers to roll the money from an existing CD into a new higher-rate CD with a term of at least 12 months. LaSalle Bank and Standard Federal Bank, both units of the Netherlands' ABN Amro Holding NV, introduced a floating-rate CD. Monthly coupon payments are adjusted based on the year-to-year percentage change in the consumer-price index. Capital One's "No-Regrets" CD lets investors adjust their rate once during the term to receive higher yields if rates move up, without penalty and without extending the terms. But rates are also typically a half-percentage point lower than standard CDs. Rates on Bank of America's "Opt-Up" CD carry the same yield as the bank's standard CD, but any upside is limited, in part, because savers get only half of any actual increase in rates. Many of the products can have other drawbacks as well. Required minimum deposits may be higher than for regular CDs. Investors may also be required to put in an additional investment or extend the terms of the CD to take advantage of higher rates. Fidelity Lowers Index Fees John Hechinger, WSJ 9-01 Fidelity Investments yesterday slashed the fees on five of its "index"-style mutual funds to below the rates charged by its fiercest rival, Vanguard Group. Vanguard 500 Index Fund charges 0.18% annually, or $18 for a $10,000 investment, for its most popular shares. Fidelity said it would undercut that by charging only 0.10% a year on most of its stock-index offerings: Fidelity Spartan 500 Index Fund, Spartan Total Market Index Fund, Spartan Extended Market Index Fund, Spartan International Index Fund and Spartan U.S. Equity Index Fund. The annual expenses on those funds had ranged from 0.19% to 0.47% of assets. The move comes at a time when Vanguard, based in suburban Philadelphia, has been outselling Fidelity almost 2-to-1 in stock and bond funds, according to fund tracker Financial Research Corp. This year, through July, Vanguard snagged $39.6 billion in net sales -- or sales minus redemptions -- compared with $19.5 billion at Fidelity, according to Financial Research. Beware: Low Fees May Not Last Jonathan Clements, WSJ 9-08 Last week, Boston's Fidelity Investments slashed the annual expenses on five of its index mutual funds. In June, New York's E*Trade Financial trimmed fees on three of its index funds. Yesterday, it cut expenses even further, reducing its Standard & Poor's 500-stock-index fund and its international-index fund to 0.09%. But if you aren't already a shareholder of these funds, I am not sure the news is quite so good. To understand why, you need to cast your mind back 14 years. In 1990, both Dreyfus and Fidelity added index funds to compete with Vanguard. Dreyfus initially waived all expenses, while Fidelity capped costs at 0.28%. Vanguard 500 Index fund charged 0.22% at that time. The low costs were possible only because the funds were temporarily absorbing expenses. By 1994, Dreyfus was charging 0.61% and Fidelity was levying 0.45%, according to Morningstar. I would be wildly excited about Fidelity's price cuts -- if Fidelity was guaranteeing reduced expenses for 10 years. But as things stand, it isn't clear how long the price reductions will last. Jeff Carney, president of Fidelity's Personal Investments unit, says the cuts in index-fund fees aren't some short-term marketing tactic, but rather part of a broader move to offer lower costs to Fidelity's customers. "Our intention is to hold those fees at that level for as long as we possibly can," Mr. Carney says. "But there are no guarantees." If you had held the Dreyfus or Fidelity fund in a taxable account, selling would have meant a potentially steep capital-gains tax bill. What if you had invested through an individual retirement account instead? Sure, you could have rolled over your IRA to another fund company. But the transfer might have taken a week or two. If the market rallied while your IRA was in transit, you could easily have missed out on gains of 2% or more. Quick Facts, Stats & Opinions Every $10 invested in the Standard & Poor's 500-stock index five years ago would be worth about $9.33 today. (Ian McDonald, WSJ 9-29) One sign that the rally in Treasury prices, which rise when yields fall, may be overdone is the so-called technical buying in the market of late. This buying is not new bets on still-lower interest rates. It is by investors who are hedging against possible losses in the mortgage market if lower rates stimulate refinancing. And it is by those who have to buy to stem losses incurred from bets that rates would be higher by now. Scott Gewirtz, co-head of government bond trading at Deutsche Bank, said that this technical buying accounted for "the biggest part" of the recent rate decline. (Jonathan Fuerbringer, NY Times 9-26) The third years of bull markets are seldom a lot of fun, as Sam Stovall, the chief investment strategist at Standard & Poor's, notes. This is the 10th bull market since the end of World War II, using the definition that a bull market requires a 20 percent gain and continues until a decline of at least 20 percent begins, and in only two of the previous nine has the third year posted a gain of more than 10 percent. The average is a rise of less than 1 percent, and three bulls died in their third year. (Floyd Norris, NY Times 9-24) Since 1945, the stock market has risen in the first year of six of seven Democratic terms and fallen in the first year of six of the eight Republican ones. On average, Democrats produce gains of 14.3% in the S&P500 while Republicans show losses of 2.4%. In no other year of presidential terms is there such a difference between the parties. A recession started in the first year of office of every Republican president who replaced a Democrat since World War II - Dwight D. Eisenhower, Richard M. Nixon, Ronald Reagan and George W. Bush. By contrast, the last Democrat to have that happen after replacing a Republican was Woodrow Wilson in 1913. (Floyd Norris, NY Times 9-24) In the 1990s, investors demanded an inflation-adjusted return -- 10-year bond yields minus the annual core rate of growth in consumer prices -- of about 3.6% to buy Treasuries. This decade, they've been willing to accept just 2.3%. Bondholders seem to have convinced themselves that inflation will remain dormant for years, and that the Fed funds rate won't get anywhere near revisiting its 20-year average of more than 5%. (Mark Gilbert, Bloomberg 9-23) From Nell Henderson of The Washington Post, 9-24 "The Fed funds rate has averaged around 4 percent for most of the period since World War II, by some economists' calculations." At Wendy's, milk sales since July have risen 15-fold -- to more than a million units a week up from 65,000. At McDonald's, milk sales since May have doubled. These triple-digit-and-higher jumps seem are especially notable given that milk sales overall have been declining since the 1960s, and that Wendy's and McDonald's have offered milk for decades. Neither chain is discounting the beverage, or offering it for free. The spike followed the introduction of jazzy new 8-ounce plastic bottles, which replace the traditional 8-ounce paper carton. (Steven Gray, WSJ 9-22) As I see it, having a mortgage is like having a negative position in bonds. Suppose you have $200,000 in bonds, which means other people owe you money. But you also have $200,000 of mortgage debt, which means you owe money to others. Overall, I would contend that your net bond exposure is zero. (Jonathan Clements, WSJ 9-15) About 28% of U.S. employers plan to increase hiring during Q4, according to a bellwether survey by Manpower, indicating that employers remain fairly optimistic about business prospects. In the latest survey, 7% of employers reported that they expect to reduce their payrolls in the coming quarter. About 60% of employers said they expect no change in staffing levels, and 5% said they were uncertain about hiring plans. The survey's history reveals only two other stretches when employers planned to hire at a healthier pace than in the current survey: the late-1970s and the middle months of 1984. Each quarter, Manpower surveys about 16,000 U.S. public and private companies. (Steven Gray, WSJ 9-14) Some 94 members of the Standard & Poor's 500-stock index have warned of disappointments to come, including Intel and Texas Instruments in recent days. That is up from 85 at this time one year ago, says Thomson First Call. It is well above the 68 companies that warned of bad news in the entire second quarter. (E.S. Browning, WSJ 9-13) A survey by the American Association of Individual Investors showed members holding 30% of their portfolios in cash in August, above the 17-year average of 25%. (E.S. Browning, WSJ 9-13) U.S. corporations are piling up cash at the fastest pace in 30 years, raising questions about what these companies intend to do with the wealth. Cash at nonfinancial U.S. companies was equal to nearly 24% of debt outstanding for the 12-month period ended in March, according to the most recent data compiled by John Lonski, chief economist for Moody's Investors Service. That was the highest ratio of cash to debt for public companies since 1969. The amount of cash and liquid investments in the period was equal to 146% of capital spending, topping a previous high set in 1962. (Steven Jones, Dow Jones Newswires 9-09) Abby Joseph Cohen, chief U.S. strategist at Goldman Sachs, continues to call for the Standard & Poor's 500 to reach 1250 by year end, as does ISI's Jason Trennert. If the economy doesn't falter and they turn out to be right, investors stand to gain almost 12% in the next few months. (Jacqueline Doherty, Barrons 9-06) The number of American homes with DVR's is expected to jump 70% next year, to 11 million, according to Forrester Research. Three-quarters of those homes will rent them. Renting a player from a cable or satellite provider makes it easier to upgrade. Many of these players are also built into cable or satellite tuners, which means one less box to set up - and one less remote control to lose. DirecTV charges $4.99 a month for its machines - a penny more than Dish. (Ken Belson, NY Times 9-05) Investors will not trust fund firms again until management can deliver good-size profits consistently, which is not likely to happen given likely market conditions over the next 12 months. Without that, the fund companies that have permanently tarnished their reputations will be looking for mergers and consolidations, secure in the knowledge that the easiest way to change a bad image is to simply acquire or create a new one. (Charles Jaffe, Boston Globe 9-05) The national unemployment rate fell to 5.4%, down 0.1 percent from July. John Challenger, chief executive officer of the Chicago outplacement firm Challenger, Gray & Christmas, said in a report this week that incumbents have won 10 of the last 14 presidential elections when the unemployment rate averaged less than 5.6% during the three months prior to the election. (Vivtor Godinez, The Dallas Morning News 9-03) Home Page Previous Factoid Top Sites
| ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||