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The study, by James M. Poterba, an economics professor at the MIT, has found that changes in the proportion of retirees in the population have only a modest impact on stock market returns. So while the market is likely to come under some downward pressure from the retirement of boomers over the next couple of decades, he says he believes that there is no reason to expect the effects to be severe. Professor Poterba's study, "The Impact of Population Aging on the Financial Markets," is at http://papers.ssrn.com/sol3/papers.cfm?abstract-id=609226. He compared the market's year-to-year returns from 1926 to 2003 with the annual changes in a number of demographic indicators, including the proportion of the population in retirement - a phase of life when investors are presumably net sellers of stock. He also looked at the share of the population in the 40-to-64 age group - people who tend to be net buyers of stocks. Regardless of the statistical test used, however, he found little evidence to support a forecast of a long-term bear market over the next couple of decades. Predicting the effect of population patterns on the stock market, Professor Poterba noted, is not an exact science. Immigration, for example, may significantly reduce the proportion of people in retirement, making predictions based on current data inaccurate. And if population trends ever do cause the market to decline, more foreign investors may enter the market in search of bargains, reducing or even reversing the damage. Professor Poterba's testing did not explicitly take these potentially ameliorating factors into account, so, if anything, it may have exaggerated the bearish consequences of the baby boomers' aging. Given the imprecision of the statistical tests, however, he is willing to allow that the huge number of baby-boom retirees may reduce the market's annualized return by about one-half of 1 percent over the next couple of decades. A half-point a year, compounded over 30 years, would mean that an amount invested in the market today would be worth 14% less than would otherwise be the case. Professor Poterba's research has some important implications. The most important is that demographic analysis should not be used to make short-term forecasts, because the age distribution of the population changes very slowly. The markets may be surprised by the latest inflation or unemployment report, but not by the proportion of the population that will turn 65 this year. According to Professor Poterba, that means the stock market's performance this year will result primarily from developments that have nothing to do with demographic trends. In any case, Professor Poterba argues that the investment implications of demographic analysis are not obvious. Even if boomers' retirement dampens returns for stocks, it is likely to reduce returns of other major asset classes, too. So even if you are inclined to draw bearish conclusions from the aging of the baby boomers, it isn't clear that they should lead to reducing your stock market exposure.
Still, I wouldn't be too hasty about positioning for a pause in the tightening cycle. "History says that it takes a lot – an awful lot – to get the Fed to reverse course," David Rosenberg, Merrill Lynch's chief economist, said in a recent note to clients. Mr. Rosenberg went back 30 years to determine what it's taken to put the Fed "on ice." Here are the 10 conditions he found: [1] Stocks must be down about 18 percent from their recent highs. To date, they are down 10 percent. [2] Baa credit spreads – the amount paid on a decent credit corporate bond over a comparable Treasury – must be up 0.7 percent from their lows. They're up 0.2 percent so far. [3] Gross domestic product growth must come in south of 3 percent for two consecutive quarters. Mr. Rosenberg expects the first of these to come in the second quarter. [4] Nonfarm payroll growth must be at or below 100,000 for three months. Call March the first month. [5] Core retail sales are down for two months. Again, March marked the first such instance. [6] Manufacturing production must be flat to negative for three months. Ditto for March. [7] The Institute for Supply Management must hit 50 (borderline contractionary) or below. Look for the line to be crossed in August. [8] The 2-year Treasury yield must be within a half-point of the 10-year yield. The current 0.75 percent suggests quarter-point of narrowing remains. [9] Capacity utilization must be down 1.5 percent from its recent high. It ticked back for the first time in March. [10] Durable goods orders must be negative on a 3- and 6-month basis. Though the rate has been more than cut in half since the end of last year, durable goods have a little ways to go before they turn negative. "Be patient," Mr. Rosenberg said, "we expect most of these conditions to be met between June and August."
That's not great by the standards of the late 1990's, but it is not a bad performance during a cycle of Fed rate increases. Before June, there had been eight periods since 1971 in which the Fed systematically raised its short-term benchmark interest rate, the federal funds rate on overnight loans between banks, to slow growth and to fight inflation. The average increase in the S&P500, from a month before the rate increases began to a month after they ended, was 3.5%; the index rose in six of the eight periods. The biggest loss was 26.6%, from February 1972 to August 1974. The biggest gain was 16.4%, from November 1986 to March 1989. So a climb of 2% in the stock index in the current, not yet completed, cycle is comparatively good. In the cycle from January 1994 to March 1995, by contrast, the Fed raised the benchmark rate to 6%, from 3%. By the time the rate was up to 4.75% - representing the same 1.75 percentage point increase as in the current cycle - the S&P500 was down 0.4%. This year's climb in the S&P500 has come despite plenty of negatives: [1] crude oil prices are up and [2] the prospect of slower growth in corporate profits. But the market has had low long rates in its favor. Despite the Fed's increases to 2.75%, from 1%, longer-term rates are still below where they were in June 2004, when this cycle began. And although the yield on the Treasury's 10-year note popped up to 4.64% in March, it was back below 4.24% at the end of last week. But just as the stubbornness of longer-term rates could make this Fed rate cycle last longer than expected, new indications of slower-than-expected economic growth could calm some inflation fears and even lead to a pause in the Fed's ramping up of interest rates. The only thing that seems clear in such crosswinds is that there could be more market volatility. And if growth continues to weaken, much of that volatility is likely to have a downward bias.
Some Wall Street veterans say the global bond and mortgage markets may constitute the scariest bubble of all, as investors and lenders have fallen over themselves to extend credit to companies and individuals at generously low rates of interest. The creditors may come to regret their largess if the economy slows and many borrowers suddenly can't pay their bills. Last week, fear of an economic slowdown left some investors wondering whether the stock market also deserved to be lumped back in the bubble camp after two years of hefty gains. The Dow plunged 373.83 points, or 3.6%, for the week, ending Friday at a five-month low. Given that each of the aforementioned bubble candidates can be linked to one another with less effort than a game of Six Degrees of Kevin Bacon, it might be reasonable to suppose that they aren't individual bubbles but rather one mega-bubble — the totality of the economic and financial world we live in today. It isn't a pretty thought, of course, because the common denominator of all financial bubbles is that they create huge messes when they burst. Recall the hundreds of billions of dollars in retirement savings lost by hardworking people when the technology bubble exploded during 2000-02. Then imagine the potential financial harm if, simultaneously, housing values went the way of tech stocks, China halted its massive buying of U.S. Treasury bonds (which has helped finance our budget deficit and kept U.S. interest rates down) and corporate lenders found that too many of their debtors really didn't deserve credit, or at least not on such benevolent terms. The concept of a mega-bubble and its collapse is an accommodatingly depressing scenario for people who pine for the end of the world. It also may be a fiction borne of peoples' natural tendency to relate the present to the recent past, and assume that history must repeat. Barry Ritholtz, market strategist at brokerage Maxim Group, says the severity of the tech stock bust has left many investors seeing its ghost everywhere. The result, he said, is that "we have a bubble in bubbles": Any market that has big numbers attached to it becomes a candidate for bubble-hood. As Ritholtz points out, however, "being overpriced is not the same as being a bubble." In a capitalist system, investment values are forever moving from underpriced to fairly priced to overpriced and back. That's the nature of free markets. But true bubbles on the scale of dot-coms in the late 1990s, or Japanese stocks in 1988-89, or tulip bulbs in 1636-40, are relative rarities. The dictionary definition of "bubble," in the financial context, may be helpful here: "any idea that seems plausible at first but quickly shows itself to be worthless or misleading." Home prices may be inflated, particularly on both U.S. coasts, but there is some value in every livable house. Likewise, a barrel of oil has some worth, because it's good for something — it can power your car. A barrel of tulips, by contrast, isn't very useful today, and probably wasn't in 1640 either.
U.S. consumers have defied past predictions of retrenchment. Higher oil prices slowed economic growth last summer, but the effect was brief. Economists don't expect the latest setback to push the economy into recession. But they are shaving estimates for economic growth this year. With household saving rates already close to zero, households appear to have limited resources to propel growth the way they have for the past few years. The U.S. consumer who has bought the world out of recession needs to rest her tired feet and save more," Raghuram Rajan, chief economist of the IMF, said yesterday. "The hope is that, while the U.S. slows down domestic demand ... exports increase. For that, you need growth elsewhere in the world to pick up." The IMF projected that world economic growth would slow to 4.3% this year from 5.1% last year, and that growth in the U.S would slow to 3.6% from 4.4%. The Commerce Department said retail sales rose just 0.3% in March from February, much less than economists expected. Excluding sales of autos and parts, which are volatile, and gasoline, which reflects rising pump prices, sales declined 0.1%, the first such drop in almost a year. Sales of clothing, electronics and furniture, and sales in general at department stores and restaurants all fell. The report contributed to a drop in stock prices. The Dow fell 104.04, or about 1%, to 10403.93, and the Nasdaq dropped 31.03, or 1.6%, to 1974.37, just fractionally above its low for the year. Corporate reports have been showing evidence of cautious consumers. Yesterday, Harley-Davidson said motorcycle sales were falling short of expectations; as a result the company reduced production plans and expected profit for 2005. It blamed the weather, but analysts said higher energy prices and interest rates may have prompted consumers to postpone big-ticket purchases. InFocus, which makes video projectors for offices and home entertainment, revised down revenue and earnings guidance for Q1 because "people were just overly optimistic on how big the market was going to grow last year," said Michael Yonker, the company's CFO. The industry expected unit growth of 50% last year, but instead volumes grew 40%. Now they're stuck with too much inventory, which InFocus is going to be cutting through June. In recent weeks, Wal-Mart said earnings for Q1 would come in at the low end of its expectations. Ford and GM have cut expected profit and production plans. As gasoline prices have soared, consumers have shifted from the more profitable gas-guzzling SUVs to more economical name plates, such as Toyota's Scion. Higher interest rates have forced auto makers to cut back on generous zero-percent financing deals. The average car-loan rate charged by Detroit's big three captive finance arms rose to 4.7% in February from 3% a year earlier, noted Ford economist Jarlath Costello. In light of the retail sales data and an earlier report of a record trade deficit in February, economists at Merrill Lynch cut their estimate of Q1 growth to an annualized rate of 3.5% from 4.3% and of Q2 growth to 3.2% from 3.5%. "Unless we see a significant letup in energy prices, we see little scope for GDP to reaccelerate in the second half of the year," they said. The economy could rebound if oil prices and interest rates prove to be self-correcting. Previous oil shocks were driven by supply disruptions, but the latest is driven by demand, particularly from India and China. If higher oil prices weaken economic growth, they will also weaken demand for oil, bringing prices back down. Expectations of just that is one reason the price of benchmark West Texas Intermediate crude fell yesterday to $50.22, its lowest finish in nearly two months and the seventh decline in the past eight sessions since it closed at a Nymex record of $57.27. And the Fed may ease back the pace at which it raises short-term rates if it thinks the economic expansion is weakening, a development that would tend to damp inflation pressure. Long-term Treasury-bond yields have fallen below 4.4% from 4.6% in recent weeks on signs of economic weakness. Edward Hyman, chief economist at ISI Group, is more pessimistic than some of his peers, predicts U.S. growth will slow to a 2% annual rate in the second half of this year under the lagged effects of higher interest rates and oil prices. "It'll be a perceptible slowdown in business for the average business guy," he says. But he also predicts that as growth slows, commodity prices will ease and inflation worries will fade. That could help reduce long-term interest rates and mortgage rates. The Fed's flexibility to cushion the economy is constrained by evidence that higher oil prices are seeping into underlying inflation. "It's an enormous dilemma" for the Fed, said Laurence Meyer, a former Fed governor now at Macroeconomic Advisers. If oil prices continue to rise, then "stagflation" is "a real concern." Richard Fisher, president of the Federal Reserve Bank of Dallas, told reporters yesterday that higher oil prices can "lead to economic slowdowns and further price pressures" but for now, "the economy looks to be in fairly good shape," and inflation appears to be "well contained." Consumers may be responding to more than energy prices. Economists and the Fed have long expected consumers to rebuild savings, which would tend to slow consumption growth. The auto industry's woes may be evidence that such a shift is under way. For years the industry benefited from customer willingness to exploit low financing rates to buy new cars. But data from the Center for Automotive Research shows that many consumers now have cars worth less than the loans, and that may delay new purchases. For the world, the risk is that slower demand from the U.S. consumption won't be offset by higher demand elsewhere. "The expansion continues to be overly dependent on growth in the United States and emerging Asia," said the IMF's Mr. Rajan. The IMF predicted growth in the continental European countries that share the euro will be just 1.6% this year before bouncing back to 2.3% next year. It predicted Japan's growth would slow even more markedly to 0.8% from 2.6% last year, before advancing to 1.9% in 2006, as weak global demand for technology products undercuts exports and investment. The brightest global spot outside the U.S. is emerging Asian countries. The IMF expects Indonesia, Malaysia, the Philippines and Thailand as a group to grow 5.4%, India to grow 6.7%, and China 8.5%. It also expects the Middle East to grow by 5%.
All this has only reinforced Michael Lewitt [a portfolio manager at Harch Capital Management] that the credit cycle is turning for the worse and that the junk bond market is overvalued. "You'd be insane to start buying here," says Lewott. "The adjustment is still in its very early stages." Lewitt has watched the junk market's booms and busts since 1987, when he joined Drexel Burnham Lambert as an investment banker. When the doors of the House of Milken closed, Lewitt teamed up with fellow Drexel alum Joseph Harch and moved from Los Angeles to Florida to form Harch Capital in 1991. The highly regarded Harch, headed Drexel's junk sales and syndicate in 1988-1990. Lewitt's concern about the junk-bond market began last year -- a bit early but right on the mark if recent price action persists. Junk-bond spreads to Treasuries tell the story. The spreads fell to near-historic lows over the past two years, reflecting heavy demand as investors hunted for yield. But the spreads, as measured by the JPMorgan High Yield Index, have widened about half a percentage point over the past month, to 3.6 percentage points, as prices have taken hits. Lewitt suggests the spread widening still has considerably further to go. "Anything less than a 5.50 [percentage point spread on single-B-rated debt] doesn't compensate you for the equity-like risk involved," warns Lewitt. Signs of overheating have also been evident in new-issue market. Sixteen percent of the junk bonds sold in January and February were rated triple-C-plus or lower, up from 6% in 2003 and 2% in 2002. That's alarming because such bonds have a 29% chance of defaulting within the first year of issuance and a 48% chance of defaulting within five years of issuance, according to Diane Vazza, head of global fixed income at Standard & Poor's. Triple-C credits are the lower tier of junk, which are bonds rated double-B-plus or lower. The deterioration of new issues' credit quality implies that the junk-bond default rate, currently at 1.96%, should climb as the new bonds age over time. After reaching an all-time low of 1.3% in 1997, the default rate climbed to a peak of 10.75% in 2002. Lewitt suggests avoiding lower-rated junk debt. One-third of the HCM Second Hegemony [hedge] Fund is in short positions in single-B and triple-C rated bonds, or bets that their prices will decline. The rest is long positions in bank loans sold to investors. That strategy, also used in several individually managed accounts at the firm, should produce 6% returns if the economy changes little. And if the junk market falls further, returns should be substantially boosted by the short sales. Lewitt's short position includes a bet against triple-C-rated bonds of Granite Broadcasting, which negative cash flow, operating losses and a hefty debt load. Its shares trade at 32 cents. Lewitt is also betting against some bonds of broadband-provider Knology. which is building cable systems in towns that already have a cable provider. "This company is hopelessly losing money," he says. It had an operating loss of $42.6 million in 2004, and Lewitt expects a cash crunch this year. So how did the junk bond market become so overextended? Much of the blame lies at the door of the Fed, which kept interest rates too low for too long. By doing so, the Fed allowed investors to borrow money inexpensively and leverage portfolios. Historically, low rates have prompted investors to reach for yield, making them willing buyers of triple-C debt. Excess liquidity encouraged record junk-bond issuance: $140.8 billion in 2004, topping 1998's record of $138 billion, according to Thomson Financial. The search for yield allowed financially strapped companies to raise cash and live another day. Junk yields were also depressed by hedge funds, which often enter complex trades not based on bonds' intrinsic worth. For example, a hedge fund might buy a junk bond and short the company's stock or sell derivatives that offer credit protection. The bond's yield becomes less important than the trade's overall return. Hedge funds are also active in credit- default swaps, contracts where one investor pays a periodic fee to an investor who agrees to make a payout if a default occurs. Originally, these were used as insurance to protect bond positions. But now the credit derivatives market is so big -- growing by more than 50% in just the second half of 2004 -- that many investors simply buy the contracts rather than bonds. The large credit-default market hasn't been tested by a market blowup. "HCM believes that the proliferation of credit-default swaps, much like the spread of nuclear arms, is one component of an environment of mutually assured destruction that is leading the Fed to broadcast its every move to insure that a nuclear financial accident is avoided at all costs," writes Lewitt in a monthly newsletter. Put it all together and you have a bubble no less overblown than the stock market's of 1998 to 2000, Lewitt maintains. And we all know how that ended. This above situation concerns me, not just as an investor with around 3% junk bond exposure, but as a MLP and REIT investor with even greater exposer. There is an expected strong correlation between junk bond spreads and the spreads on stock yields from MLPs and REITs. As the spreads in one market rises - so will the spreads in others. A rising risk premium could be contagious. And [of course] widening spreads will result in falling prices. On April 10th, the idea expressed in the article below, that the economy is slowing significantly, was out of the consensus. By the 15th, it appeared to be the consensus.
And unlike Greenspan, the folks at Hoisington are not puzzled by the bond market at all. Rather, they think the stubborn resistance of long-term rates to move higher reflects an imminent slowdown in the U.S. economy. "The preponderance of evidence suggests that economic growth is about to slow significantly," the firm warns its clients, though Hoisington and Hunt go on to say that outright recession may be avoided. Compare that assessment with the Wall Street Journal's survey of top Wall Street economists, and you'll see that Hoisington continues to think outside of the box. According to the Journal, mainstream economists continue to bump up their estimates for the economy in 2005, predicting GDP growth of nearly 4% this year. Not even $80-a-barrel oil curbs their enthusiasm. In fact, a recent Journal poll shows that 48% of those economists surveyed believed oil would have to top $90 a barrel to tip the economy into recession. Now that's resilience. Obviously, the folks at Hoisington think the economy is more fragile than that, and they've been far more right than wrong in the past. Who knows, once in a while the consensus gets it right. But then again, on Wall Street, this is shaping up as the year of the unexpected.
Robert Drach, a cynical but deadly accurate veteran of the investment advisory business, has kept his clients primarily in cash during the past year. But last week, he began a process that took his accounts from 2% in stocks to 26% invested and now 50% invested. Drach revels in market declines, as he crows that they afford him an opportunity to exploit less experienced players’ negative emotions to his advantage. "At this juncture we prefer the market splat so we can move to full investment without interruption," he said on April 3, recommending the purchase of beaten-up stalwarts such as Doral Financial and Citigroup. "The process of profit extraction requires taking advantage of fellow market participants. Almost every position we purchase is directly against prevailing sentiment." Drach went on to repeat two themes he has successfully articulated for 30 years: That successful investors buy wholesale (when stocks are cheap) and sell retail (when they’re back to full price), and that the media stampedes otherwise intelligent people into making loss-inducing emotional decisions based on " after-the-fact" price change. Is he crazy? Maybe not. The Nasdaq is down 9% from New Year’s Day, which sounds pretty bad. By no means is this sort of slough uncommon, however. Even in a raging bull market, stocks can tumble dramatically for multimonth periods. In 1995, the Nasdaq was up 39% overall. Yet there was an 8% decline from September through October -- 1,069 to 982. In 1996, the Nasdaq was up 22.6% overall. Yet there was a 19% decline from May to July -- 1,251 to 1,017. In 1997, the Nasdaq was up 21.6% overall. Yet there was a 13% decline from January to April -- 1,381 to 1,206. In 1998, the Nasdaq was up 38% overall. Yet there was a 34% decline from July to October -- 2,028 to 1,343. In 1999, the Nasdaq was up 86% overall. Yet there was a 14% decline from July through August -- 2,840 to 2,442. In 1993, the last time that the University of North Carolina won the NCAA basketball championship, the Nasdaq 100 was off 9% through the third week of April as investors reacted to the World Trade Center car-bomb attack and the clumsy start of the first Clinton administration. But the index, a proxy for the shares of big tech companies, went on to rally 16% through the end of the year even as investors were later forced to absorb the country’s tragic loss of pride and military personnel in Somalia. Rather than blindly extrapolating the first quarter into the future, therefore, it might be best to stay flexible and prepare mentally for the possibility that the dark mood might lift, at least temporarily. Let’s catalog what we think we know for sure: [1] The China economic boom is for real, sort of. The big Asian country is using 55% of the world’s cement as it barrels toward its plan to triple its network of highways by 2008. Despite having four times more people than the United States, China currently has a third as many railways and one-fifteenth as many airports, according to researcher Jim William of Williams Inference Center. This sounds like a recipe for a continuation of the first quarter’s rise in the shares of companies that produce commodities such as steel, coal and concrete -- and thus higher raw materials prices and inflation for everyone else. Yet you still have to wonder why, if China is so hot, its stock market is sitting at six-year lows. [2] Energy prices are skyrocketing, maybe. The price of crude oil is up more than 60% in the past year as investors come to grips with an issue that I pointed out a year ago: That OPEC’s ability to pump out excess high-quality petroleum to meet the rising needs of India and China -- not to mention the desire on the part of Japan and the United States to boost stockpiles for a rainy day -- is suspect. Oil prices dampen the world economy on a one-year lag as cheaper inventories are gradually drawn down and replaced by the more expensive stuff, so it’s about time for the drag line to hit if it’s going to. Yet it’s also well-documented that higher prices encourage conservation and sap demand. If oil buyers get a strong whiff of any slackening in end markets, they will almost certainly back away. One experienced oil trader who has made a ton of money long this year told me that he’ll sell heavily if crude fails to move through $58. He expects to see it in the mid-$40s by summer. [3] Interest rates are bound to move higher, perhaps. The conventional wisdom believes that the Federal Reserve will push short-term interest rates a quarter of a percentage point higher at every Federal Open Market Committee meeting from now until Chairman Alan Greenspan presumably leaves his post early next year. That would put the federal funds rate at 4.25%, a level that the central bank has deemed pleasantly "neutral" -- which is to say, neither stimulative to the economy, nor a drain. Yet the Fed has proven itself flexible, if nothing else, and last week at a major economic conference at Princeton University, Fed governors reportedly acknowledged that they are sensitive to short-term economic data and could hold fire if presented with persuasive evidence that tight-money policies were leading to a U.S. slowdown. With companies clearly so fretful about the future that hiring is at an astonishing multiyear low, analysts say another weak employment report could stay the Fed’s hand -- a move that could cheer investors. In sum, while there is plenty to fret about in the long term, in the short term there are some potential mood-lifters on the horizon that could bring brave bargain-hunters back into stocks.
A number of Fed officials, including Chairman Alan Greenspan, have said that if solid economic growth leads to increases in labor costs, the pressure at first will probably result in declining profit margins rather than more inflation. The officials are assuming that with fat margins, businesses generally would absorb some of the rising costs rather than lose market share to competitors. The Fed's preferred inflation measure, the core personal consumption price index, rose 0.2% in February. That followed a 0.3% increase in January and left the 12-month change at 1.6%. `The core PCE measures did not breach the upper end of the Federal Open Market Committee's 1.5% to 1.75% range in February, as some had feared,' Morgan Stanley economist David Greenlaw told clients. `This slightly reduced the likelihood of a 50-basis-point tightening at the next FOMC meeting.' Profit Margin Factor Greenlaw said Morgan Stanley's `baseline case' still calls for rate increases of 25 basis points, though he cautioned that another round of CPI and PCE price releases will come before the FOMC's May 3 meeting. If the core readings are high, that could trigger a 50-basis-point increase, he said. Perhaps. Certainly Fed officials have made it crystal clear that the pace of rate increases will depend on what the data show. On the other hand, the Fed will be looking at far more than the price indexes, including what is happening to labor markets and costs. Part of the latter calculation is the high level of corporate profit margins. One measure reported two days ago was for margins at nonfinancial corporations last year. Out of each dollar's worth of inflation-adjusted value added in production at such businesses -- that is, the difference between sales and input costs -- 11.4 cents was profit. That figure was up from 10.5 cents in 2003 and just 7.5 cents in 2000. For last year's fourth quarter alone, the margin was 12 cents, a level approaching that of the boom years of the 1990s and higher than for any year in the 1980s. Employment Costs Meanwhile, such measures of labor costs as average hourly earnings and the employment cost index, which includes benefits as well as wages and salaries, show little if any sign of acceleration. `Annual compensation costs for civilian workers increased 3.7% for the year ended December 2004, virtually unchanged from a 3.8% over-the-year increase for December 2003,' the Labor Department said on Jan. 24, the last time the index was released. Moreover, the 0.8% rise in the index for the three months ended in December was the smallest for any quarter during the year. As for average hourly earnings, they were unchanged at $15.90 in February, compared with January, and just 2.5% higher than they were in February 2004. Productivity Concerns One factor fueling inflation concerns is that productivity gains slowed in the second half of last year after running in excess of 4% annual rates for more than two years. In the second half of last year they fell back to an annual rate of 1.7% in the nonfarm business sector. As a result, unit labor costs, which had been falling, have been rising. Weak economic growth in the third quarter of last year caused a dip in productivity growth and a brief jump in unit labor costs. In the fourth quarter, the increase in unit labor costs fell back to a modest 1.3% annual rate. Some analysts expect a similar subdued rise in labor costs occurred in Q1-05. What about non-labor costs? Various commodity price indexes have risen significantly since the beginning of the year, with oil and refined petroleum products leading the way. And in the Beige Book on regional economies prepared for use at last week's FOMC meeting, a number of Fed banks reported that input costs were rising persistently. Manufacturers also were reporting that they `have been finding it increasingly easy to pass along price increases,' the Beige Book said. Retail Prices Those sorts of data and anecdotes have to be weighed against another statement in the Beige Book: `Retail prices were generally flat or up modestly.' Are wholesaler and retailer margins being squeezed? With the prices of goods imported from China unchanged from January to February and down 0.5% since February 2003, it's hard to imagine that domestic producers of finished goods have a lot of competitive leeway to raise prices a lot before retailers balk. In addition, some analysts see signs that commodity prices may be topping out, a thought buttressed by slowing economic growth in most of East Asia other than China, as well as in Eastern Europe. And Western European growth isn't accelerating. The Oil Issue Then there is energy, where price increases raise headline inflation figures and potentially damp consumer spending -- and economic growth. Yesterday economist Mickey Levy of Banc of America Securities reduced his forecast for economic growth for the second and third quarters this year because of what he thinks higher energy prices are going to do to consumer spending. `We now forecast (with energy costs remaining at these levels) annualized consumption growth of 2.25% to 2.5% over the middle quarters of 2005, reflecting an estimate that higher energy costs will subtract as much as 0.75% from the level of real consumer spending,' Levy told his clients. `While a deceleration in domestic demand in coming months likely will slow economic momentum and reduce pressure on the Federal Reserve to accelerate its tightening path, at current levels of crude oil prices, it does not pose a significant risk to the economic expansion,' Levy said. Levy's analysis is consistent with the way in which many Fed officials have assessed the impact of oil price spikes in the past -- that is, focusing more on the likely slowing of growth than on the increase in headline inflation numbers.
Never heard of BDCs? They are an all-but-ignored corner of the mutual-fund industry -- and they should probably stay that way, unless you're hunting for high returns and willing to take the inevitable risk involved. BDCs are closed-end funds. That means they raise a heap of money in an IPO, after which the fund is closed and its shares are listed on the stock market. With most closed-ends, digging up information is a little taxing. With BDCs, it is well-nigh impossible. As best I can gather, there are roughly 30 BDCs, but only half are listed on a major stock market. By law, BDCs are generally required to stash at least 70% of their assets in either private or thinly traded U.S. companies or in cash investments. And, no, the funds usually aren't investing in Silicon Valley start-ups. Ameritrans Capital and Medallion Financial, for instance, specialize in financing taxi owners. Still, for small investors, this is the one legal structure that allows them access to venture-capital-type investments. And, in theory, adding a private-equity fund has the potential to boost your returns while trimming your portfolio's overall volatility level. Problem is, investing in BDCs can be even riskier than investing in commodities and hedge funds. For proof, check out [1] MVC Capital went public in March 2000 at $20 a share. Its shares plunged, hitting $7.25 in late 2002. The following year, the fund adopted a more flexible investment strategy and new management took over. Results have since improved, helping to nudge the shares back up to $9.40. [2] Allied Capital is probably the best known BDC, and it has a fine track record. But for the past three years, it has been under assault from short sellers, who claim Allied is overvaluing its assets. The SEC have also made inquiries that apparently relate to Allied's portfolio valuation. An Allied spokesman declined to comment. [3] Last year, Wall Street expected a slew of new BDCs to be launched. But investors balked at the hefty underwriting and management fees involved and only a handful of deals got done, including offerings for Apollo Investment, Ares Capital, NGP Capital Resources and Prospect Energy. Clearly, BDCs aren't for the faint of heart. Still interested? Most of the major funds have Web sites, where you can look for key information, including what sort of investments a fund makes, how much leverage it employs and its latest net asset value, which is the value of a fund's holdings figured on a per-share basis. BDCs typically release their NAV once a quarter. Closed-end-fund buyers are often advised to buy funds whose shares trade at a discount to their net asset value. That way, you might get $1 of assets for 85 or 90 cents. But some BDCs trade at steep premiums. What explains these premiums? There are two types of BDC, those that primarily lend to small firms and those that take an ownership stake. Many of the funds with big premiums, such as Allied and American Capital Strategies, focus mostly on lending. That strategy allows these BDCs to pay hefty dividends, attracting income-hungry investors with yields of 8%, 9% and sometimes more. "We've typically traded at a significant premium to net asset value," says Joan Sweeney, Allied's chief operating officer. "The market prices us in terms of what sort of dividend yield they want at the time." The danger: These funds might post poor results -- and the premiums vanish. With that in mind, try to buy when premiums are smaller and purchase three or four BDCs to spread your risk. Also, make sure you include some equity-oriented BDCs, which will give you a more pure venture-capital play. Among the equity-oriented BDCs, one of the most intriguing is Capital Southwest in Dallas, a $400 million fund with an impressive long-term record built on prosaic investments, including stakes in a cemetery operator, a maker of manufactured homes and a producer of electrical wire. Capital Southwest's shares appear to trade right around its $76.03 net asset value. But in truth, the shares are at a steep discount. The reason: Unlike most other funds, which distribute their capital gains, Capital Southwest retains its gains and pays taxes on behalf of shareholders. To that end, it has earmarked $29.37 per share as a reserve against future taxes. If you add that reserve to its published NAV, thus making its NAV comparable with those of other funds, Capital Southwest's shares trade at a 27% discount.
The primary holdings of Pimco Real Return Fund, with $13.6 billion in assets, are Treasury inflation-protected securities, or TIPS. TIPS pay a stated rate of interest and both the principal value of the bonds and the dollar value of their interest payments rise in line with increases in the CPI. The companion Pimco CommodityRealReturn Strategy Fund, which has grown to $7.3 billion since its 2002 launch, combines TIPS with derivative contracts whose prices track a commodities index. Both securities are a far cry from the ordinary bonds that dominate most investors' portfolios. That is exactly the point, says John Brynjolfsson, the Pimco managing director who overseas the firm's seven Real Return funds. The portfolios are a reaction to investors and financial firms "all leaning in one direction" -- loading up on investments that do well in a declining-inflation environment like the U.S. experienced in the 1980s and 1990s. Stocks and bonds both starred in that era, but bonds and to a lesser degree stocks can get clobbered when inflation rises. Another Real Return offering, dubbed Pimco All Asset Fund, attempts to beat inflation by allocating its dollars among Pimco's other Real Return and traditional stock and bond mutual funds. Other fund firms have one or more funds positioned to benefit from inflationary trends. But Pimco stands out for so clearly identifying and successfully marketing a group of its funds as potential inflation hedges. No other firm has matched Pimco's "breadth of offerings and the powerhouse nature of the asset gathering," says Eric Jacobson, a senior fund analyst at Morningstar. Pimco's push to offer inflation-fighting portfolios meshes with the worldview of its marquee-name bond manager Bill Gross. For a couple of years, he has been suggesting that the economy is entering a period of faster-rising prices. The latest government figures show a 3% year-over-year increase in the CPI, which is up from as low as 1.6% at the end of 2001. "We've got inflation back, so investors should become concerned about that in their portfolios," Mr. Gross says. In its printed materials and on its Web site, Pimco lists its seven Real Return funds as an asset class separate from stocks and bonds. The Pimco All Asset fund aims to beat inflation by at least five percentage points a year. The decisions on which underlying Pimco funds All Asset buys and sells are made by Robert Arnott. Since its 2002 start, All Asset has had between 30% and 65% of its assets in the other Real Return funds. It has so far beaten inflation by an average 13% a year. Pittsburgh financial adviser Louis Stanasolovich is a big fan of Pimco All Asset fund, because they look far and wide for promising asset classes in the same way that hedge funds for big-ticket investors do. "Basically, this is a hedge fund with very minor fee expenses," he says. Rounding out the Real Return family, Pimco introduced a real-estate fund in 2003 and has three funds with slightly different mandates that are restricted to institutional investors. As assets in Pimco Real Return grew, Pimco Managing Director Brent Harris, chairman of the Pimco funds, looked to branch out. He worked simultaneously to develop the commodities fund and All Asset Fund, viewing the commodities fund as a key ingredient in a broad asset-allocation portfolio. Mr. Harris had the idea to combine TIPS with commodities contracts in the commodities fund -- and later take the same tack with the real-estate fund -- to give investors a double shot at earning better-than-inflation returns. Pimco calls that its "double real" design. Commodities and real-estate securities have both been strong performers over the past few years. But they can also be highly volatile. So far this year, for instance, Pimco CommodityReal Return is up 8.1% and Pimco RealEstateRealReturn Strategy Fund is down 10.4% . (By comparison, the S&P500 is down 3.6%.) Investors who add such funds to their portfolios as an inflation hedge should plan to be disciplined, "not bailing out after a bad day or bad week or even a bad year," Mr. Gross says. TIPS are a lower-risk inflation hedge. But the heightened anxiety about inflation has an unfortunate downside for TIPS investors: a lowering of those yields. When TIPS were least in demand, their stated yields, separate from the inflation adjustment, topped 4%. Yields have since declined to less than 2%, because more investors want to own TIPS, driving down the yields the Treasury has to pay. As TIPS yields have fallen, the prices of older higher-rate TIPS have risen, producing capital gains that boosted the returns for TIPS funds. In 2002, for instance, Pimco Real Return gained more than 16%. At current levels, Mr. Gross says TIPS aren't expensive but are "closer to fair value" than they used to be. Nonetheless, he has continued to be a big fan. His flagship Pimco Total Return Fund has about $8 billion, or 10% of its assets, in TIPS -- as high as that exposure has ever been. "TIPS are the safest pure inflation protection that exists," he says. TIPS aren't risk-free. If market interest rates rise without a significant increase in inflation, the prices of TIPS would likely fall along with those of ordinary bonds. That is because with interest rates topping inflation by a wider margin, investors would demand similarly higher returns from TIPS.
The bonds are called premium because their coupons and their prices are higher than current market levels. They are callable because their issuer can redeem them before the bonds mature. These features give the bonds some advantages, as well as some quirks that can trip up the unwary. But the advantages are prized right now because these bonds - often found in the municipal bond market - tend to be resistant to some of the usual ill effects of rising interest rates. For this reason, they are often called cushion bonds. The defensive characteristics of such bonds are found primarily in two features. One is that their coupons - higher than those of comparable bonds - put cash into investors' hands faster. That lessens the bonds' vulnerability to interest rate changes. And the fact that the bonds are callable also gives them some defensive properties, at least for a while. As long as a bond's coupon is above current market rates, its price will be based on its call date, not its maturity date. This gives the bond the lower interest rate sensitivity of a bond with a shorter maturity. That is because a premium callable bond, under these circumstances, is likely to be called by its issuer as soon as the terms of the bond permit. After all, a new bond, with a lower yield, will be cheaper for the issuer than the premium bond. "The nice thing about premium callable bonds is they combine the higher yields of long-term bonds with the interest rate sensitivity of intermediate bonds," said James Murphy, manager of the T. Rowe Price Tax-Free High Yield fund. "As long as they are priced at a premium, you get the best of both worlds." But there is a pitfall, and it can be fairly steep. If interest rates rise high enough so that the bond's coupon no longer is higher than the market's, the bond's value can plummet. Its price will then be based not on its call but rather its final maturity date. (That is because it wouldn't be in the interest of a bond's issuer to call a bond with a low coupon; new bonds would be more expensive for the issuer.) "When these bonds get close to par is when you start getting big swings in interest rate sensitivity," said Mr. Jacobson at Morningstar. "Some managers go out of their way to stay away from these situations." David Fare, co-manager with Mr. Deane of the Smith Barney Managed Municipals fund, says he is prepared to handle this problem for bonds in the fund's portfolio. "The cushion is built-in only until prevailing interest rates reach the coupon value of the bond," he said. "But, we can manage that risk. As a bond nears trading to its coupon, we'll sell it and buy another premium bond that still has a cushion in it." That requires close attention to the portfolio and to shifts in the market - which may be difficult for nonprofessionals. "The idea is to come up with a solution to a rising interest rate environment," he said. "We're trying to insulate the market value of our portfolio while continuing to provide people with tax-free income." Another risk in buying callable bonds at a premium is that the bond may be called at par shortly after purchase. That can leave investors with a loss. New York City is in the process of redeeming at par $426 million in muni bonds that had been bought by some investors at premiums last year. "Anytime you're paying a premium for a bond, you should have a very specific understanding as to what type of call protection you're getting," Mr. Murphy said. "If you're going to pay a premium, you need to know it will not be called unexpectedly."
Today, there are options listed on at least 76 ETFs, says the Options Clearing Corp. More than 162.3 million ETF options were traded last year (each conveying the right to buy or sell 100 shares of underlying security). The total was up 28% from 2003's and 118% from 2001's, and volume is expected to rise nicely again this year, in part because option trading on Spiders began in January. Recent studies have affirmed what option traders already know: Covered-call writing can reduce volatility and outperform the broad market in the long run. (A put gives its possessor the right, but not the obligation, to sell a security at a certain price for a specific period; a call, the right to buy under the same conditions. In covered-call writing, an investor sells a call on a security he owns.) It's especially effective when the market is flat or gently declining. But it underperforms in a runaway rally, because selling calls caps upside stock gains. In a flat market, some investors hold an ETF in hopes of long-term appreciation while selling a succession of short-term calls against that position. From: Historical Return Distributions for Calls, Pits, and Covered Calls Gary Benesh [Florida State University] & William Compton [Eastern Illinois University] Journal of Financial and Strategic Decisions Spring 2000 This paper attempts to provide historical return distributions for calls, puts, and covered calls in an easily interpretable format. The options data utilized in the study are obtained from the Resorted Berkeley Options data base and include the recorded bid and ask prices for all options listed on the Chicago Board and Options Exchange (CBOE) between 1/1/86 and 12/31/89. The options strategies for which historical return distributions are generated include purchased call options, purchased put options, and covered call options. In each case, distributions are provided for in-the-money (ITM), at-the-money (ATM), and out-of-the-money (OTM) options. Designation as ITM, ATM, or OTM is based on the stock price to exercise price ratio (S/X) at the time the option position is taken. Twelve week holding period return distributions are provided for each strategy. All options are assumed to be purchased at the ask price and sold at the bid price. This procedure produces somewhat conservative return results because a significant amount of transactions actually occur within the spread. Returns for Call Options on the S&P 500 For the total period, the mean 12-week HPRs returns are 6.4% for the ITM calls, 10.6% for the ATM calls, and 5.6% for the OTM calls. On a year-by-year basis, the highest returns occur during the strong bull market of 1986 with mean returns of 23.2%, 48.7%, and 95.4%, for the ITM, ATM, and OTM samples, respectively. As expected, call options perform the worst during 1987 where the ITM, ATM, and OTM samples are characterized by mean returns of -8.7%, -12.6%, and -26.8%, respectively. There was a high probability that call purchases will result in a loss. In fact, over 28% of the ATM calls resulted in a 100 percent loss while over 55% of the OTM calls resulted in a 100 percent loss. It is important to remember that these results are generated during a period over which the market was generally quite bullish. Returns for Put Options on the S&P 500 The period studied is not a good one for put options as the mean HPRs are -24.7%, -27.9%, and -27.1% for the ITM, ATM, and OTM samples, respectively. On an annual basis, the mean HPRs are lower than -20% for all samples in 1986, 1988, and 1989. The only year in which the mean HPR for puts is positive is 1987, and then only for the ATM and OTM samples. Approximately 20% of the ITM puts, 48% of the ATM puts, and 75% of the OTM puts result in 100 percent losses. With respect to mean HPRs by decile, there are only six deciles across the three samples (deciles 8, 9, and 10 for the ITM puts, deciles 8 and 9 for the ATM puts, and decile 10 for the OTM puts) with positive means. Returns for Covered Calls The overall mean HPRs for CCs are 1.7% for the ITM sample, 2.7% for the ATM sample, and 4.0% for the OTM sample. The corresponding mean HPRs for the underlying stocks are 3.9%, 3.9%, and 4.2%, respectively. The lower average returns associated with covered calls are attributable to sacrificing the upside potential on the stock beyond the exercise price. In other words, on average the premiums received from writing the calls were insufficient to compensate for the opportunity losses on the stocks because of the relatively bullish market that existed during the period of study. The OTM CCs, as expected, perform the best in a relative sense in an up market because while the premium received when writing the calls is lower, less of the upside potential on the stock is sacrificed. From: Risk and Return of Covered Call Strategies for Balanced Funds: Australian Evidence Nadima El-Hassan, Tony Hall & Jan-Paul Kobarg September 23, 2004 This report summarises the results of a study analysing the risk-return characteristics of a balanced portfolio with covered call strategies in the Australian market. The study covers the period July 1997 to June 2004. Specifically, the study analyses the performance of a balanced portfolio where funds are invested across various asset classes including Australian equity (40%), international equity (25%), fixed income (20%), property (10%) and cash (5%). The covered call strategy was implemented by selling slightly out-of-the-money stock call options on the Australian equity component of the portfolio represented by the stocks in the S&P/ASX 20 index. Options were selected to be 5-15% out-of-the-money with maturities of 3 months or nearest available expiry after 3 months. The results of the analysis show that covered call strategies have the effect of enhancing the average return of the portfolio, reducing the standard deviation of returns and improving the risk-adjusted returns of the balanced portfolio. In addition, the results of Sortino and the Sharpe ratios indicate that the covered call strategies produce enhanced risk-adjusted returns. The covered call strategy provided an additional 16 basis point (0.16%) absolute increase or a 3% relative increase in the annualised average return for the 7 year period considered. The small increase in the average return is reasonable given that the study period covered extended periods of bullish market. The results show the that balanced portfolio with covered calls outperformed the portfolio with no covered calls in the years 2000-2003 when the Australian equity market exhibited negative returns. Over the rest of the study period, the balanced portfolio with covered call options underperformed. This can be attributed to the bullish Australian equity market over those years. Prior Studies: R.E. Whaley [in The Performance of a Buy-Write Strategy Based on the CBOE's S&P500 Index Options, Journal of Derivatives, Winter 2002] analysed the performance of a buy-write strategy involving holding the S&P 500 index portfolio and taking a short position in a one-month just out-of-the-money call option on the index. The performance of such a strategy was studied for 14 years - from 1988 to 2001. Whaley found that the buy-write strategy outperformed the S&P 500 portfolio on a risk-adjusted basis and concluded that the average performance was driven by high implied volatility (in excess of the realised volatility) over the life of the options. J. Hill and K. Gregory [in Covered Call Strategies on S&P 500 Index Funds:Potential Alpha and Properties of Risk-Adjusted Returns, 2003, Goldman Sachs Research] consider the performance of covered calls using S&P 500 index options over the period 1990-2002. They conclude that such a strategy can outperform the index during periods of moderate or negative equity returns.
Monthly Employment Stats
The seasonally adjusted overall civilian unemployment rate dropped to 5.2% in March from 5.4% in February. The jobless rate is calculated from a smaller statistical survey than the payroll figures, and the two models can offer seemingly conflicting pictures of what is happening in the labor market. The payroll figures come from a broad sampling of 400,000 work sites, while the household survey, from which the jobless rate is tabulated, is based on responses from 60,000 households. Friday's jobs report showed manufacturers cut 8,000 jobs in March , reversing half the previous month's gain. The Institute for Supply Management's March factory survey, released Friday, also showed softness in factory hiring; its employment index slipped to a reading of 53.3 from 57.1 in the prior month. The ISM reported that overall activity in the manufacturing sector eased very slightly last month. Its main index of manufacturing business came in at 55.2, down a hair from 55.3 in February. Any index reading above 50 is indicative of expansion in the factory sector. Indexes in the report measuring new orders and inventories showed gains. The service industry added 86,000 jobs in March, less than half February's increase. Retail-trade jobs fell by 10,000 while professional and business services added 27,000 jobs . The construction industry added 26,000, slightly fewer than in February. A separate ISM survey of the service sector, that was inadvertantly released ahead of schedule, showed slightly slower hiring in March but a robust gain in overall service business. The average work week was unchanged at 33.7 hours, the jobs report showed, while average hourly earnings rose 0.3%. In annual terms, average hourly earnings were up 2.6% in March . There were 7.7 million people unemployed in March for an average duration of 19.5 weeks. The share of the working-age population working or actively seeking a job in March held steady at 65.8%, a nearly 17-year low. With less hiring and slow wage gains, consumers' moods darkened slightly. The University of Michigan's final report on consumer sentiment in March was said to have moved to 92.6, down from 94.1 at the end of February. The report, which is released only to subscribers, showed declines in both the current-conditions and future expectations components. Separately, total construction spending increased 0.4% in February to a seasonally adjusted annual rate of $1.047 trillion, the Commerce Department said Friday. Spending rose 0.6% in January; it was previously seen going up 0.7%. Residential construction spending climbed by 0.7% and total private construction rose just 0.1%. Public construction gained 1.1%.
Payroll growth may be a victim of various hiring roadblocks that have sprung up lately, including record-high crude-oil prices and a wave of corporate mergers. "All of those mass layoff announcements made from September though February have apparently become actual job cuts," said Richard Yamarone, chief economist at Argus Research. But Wachovia Securities chief economist John Silvia believes it's all about education. Many businesses, he says, need highly skilled workers, but there just aren't enough out there to meet demand. That could explain why job growth is weak, but labor market "slack" seems to be disappearing. "How much available labor is there out there in the economy?" he asked in a note. "Perhaps less than commonly perceived. The benchmark for full employment may have already been hit." ISM Numbers Michael Martinez, Associated Press 4-01 The ISM services index came in at 63.1 for March, far more than the 59 reading expected on Wall Street and sharply higher from February's 59.8 reading. With the service sector such a strong part of the economy, and another part of the report saying that service providers are charging higher prices, investors feared the growth could trigger inflation. The ISM manufacturing index, which measures the strength of industrial activity, came in at 55.2, slightly better than the 54.9 reading economists expected but still down from 55.3 in February. March's Raw Numbers Gene Epstein, Barrons 4-04 March payroll employment, before seasonal adjustment it jumped 817,000. The seasonally adjusted 110,000 is another way of saying it was 110,000 more than you'd normally expect. But we can expect that figure to be subject to a cycle of revision that will continue for the next five years. In four out of the five years from '96 through '00, the difference between the revised and the initially-reported figure for March was more than a difference in degree; it was a difference in kind. For example, an initially reported gain for March '96 of 144,000 now stands at 255,000; an initially-reported gain of 175,000 for March '97 is now 317,000; for March '99, a gain of 46,000 became 148,000. Meanwhile, we do know that not-seasonally-adjusted figures have always held up. At least since '97 the differences between the revised figures and the initial estimates have been relatively small. As for putting an actual figure on the increase in payroll employment, the 12-month average turns out to be more accurate than any other. It isn't nearly as volatile as one-month, three-month, or even six-month changes, and it holds up best against revisions. Before seasonal adjustment, 12-month payroll gains have been running 177,000; after seasonal adjustment, 178,000. Rounded, a figure of 180,000 is pretty consistent with the fall in the unemployment rate over the same period to 5.4%.
Just the Facts Time Horizons & Market Risk Ben Stein, NY Times 4-24 Thanks to the research skills of my writing partner and pal, Phil DeMuth of Conservative Wealth Management in Los Angeles, I have some truly amazing data about long-term investing. Consider this: The last time an investor in the S.& P 500, reinvesting dividends, would have lost money over a 10-year period would have been if he or she had bought on March 31, 1931. That was some 74 years ago. From 1871 to 2002, the average gain of an investor who held his position and reinvested dividends for 10 years was a whopping 170 percent. For the investor who held for 15 years, the average gain was 342 percent; for 20 years, it was 600 percent. The data from 1929 to 2004 are far more encouraging. The gains for 10, 15 and 20 years were roughly one-third better or more than those from 1871 to 2002. Gains for 20-year investors were roughly 900 percent. But if the past is any guide, it tells us that there are plenty of times when the market is down for a month: almost 38 percent of rolling 12-month periods from 1871 to 2002 showed losses, averaging 3.4 percent. And there are many times when the market is down for a year - in fact, about 30 percent of the time during that period, for an average loss of 11.5 percent. But when investors bought as serious long-term investors instead of speculators, the results were much different: The market was down during only 2.5 percent of rolling 10-year periods since 1871 - and, again, none since the one beginning in March 1931. In research that Phil and I did for our book, "Yes, You Can Time the Market," we found that returns were even better for those who bought when the indexes were below their 15-year moving average of price to earnings than if they just bought randomly. This is such a time. Charity & Taxes Arthur Brooks, WSJ 4-15 In 2003, Americans donated a quarter-trillion to charities and churches, approximately $180 billion of which came from private individuals. This money represents a large part of the support for the 1.6 million nonprofit organizations in the U.S. In so doing, it allows Americans privately to provide many of the public goods and services for which Europeans are reliant on the state. We strengthen our self-governance as we provide for those in need. The government is not a partner in American generosity. If I contribute $100 and my tax rate is 35%, the government is matching a $65 gift of mine with $35 in lost tax. This is a massive subsidy to donors -- about $40 billion each year, but it is not available to everybody. Most low-income families do not receive this benefit, because they cannot afford enough deductible expenses -- including donations -- to make itemization worthwhile. In fact, while 79% of households in the top 20% of the income distribution itemize, only 2% of households in the bottom 20% do so. And even if a low-income family itemizes, the progressive structure of the tax system makes the matching portion from the government less generous for them than it is for the rich. Not surprisingly, tax incentives to give charitably create disproportionate benefits for the nonprofits supported by the wealthy, such as elite health organizations, private universities, and arts groups. Meanwhile, organizations supported by the poor -- religious organizations, in particular -- tend to get far less indirect government support. The Market - Like Dice - Has No Memory Mark Hulbert, MarketWatch 4-08 The stock market made it four for four on Thursday, having risen every day this week. I want to respond to those who apparently believe that the market's odds of rising on Friday are higher because it has risen for four days in a row. The idea seems to be that the market has worked up a head of steam which should keep it rallying for a while longer. To test this notion, I examined all instances over the last century in which the Dow Jones Industrials Average rose for four days in a row. Following 52.3% of these instances did the Dow rise on the fifth day. Though this is slightly above the 50-50 odds of a coin flip, that is not the proper comparison. Instead, the right question to ask is whether this 52.3% frequency is any different than the proportion of all trading sessions in which the market rises. It isn't. Over the last century, the market has risen on 52.4% of the trading days. That is statistically no different than the proportion of rising days following four days in a row of gains. So whether the market rises on Friday has nothing to do with its otherwise impressive run of gains this week. 2005 - The Year for Large-Caps? Joshua Albertson, WSJ 3-29 The discounted prices are just one of the reasons that 2005 could be the year of the large cap. The average price/earnings ratio for large-cap funds is 24.1, versus 26.2 for midcaps and 26.5 for small caps, according to Lipper. Another reason is dividends. That more big stocks pay dividends today is making them more attractive for income-seeking investors. Finally, there is the weak dollar. As a group, large companies do more business abroad, which means they are better positioned to benefit from unfavorable domestic currency rates. Eliminate Middle School Anne Marie Chaker, WSJ 4-06 Middle school, the precursor to high school that usually encompasses grades six through eight, can be an exciting and challenging transition for preteen kids. But it also can be fraught with anxiety over the tougher academics and more-sophisticated social scene. Now, a growing body of evidence is showing that preteen students do better when they can remain in their familiar elementary schools for longer -- with better grades and fewer disciplinary problems than their middle-school peers. As a result, many school systems are starting to do away with middle schools and are increasing the number of elementary schools that continue through the eighth grade. An early study tracked hundreds of middle-school-age students in Milwaukee public schools, comparing those who switched to a new school in grade seven with their counterparts in a K-8 school who didn't have to make any switch. The research found that those who switched had more negative attitudes toward school and lower grades. Girls in particular didn't recover in middle adolescence (grades nine and 10) when it came to self-esteem and participation in extracurricular activities. Quick Facts, Stats & Opinions Last year at this time, the Dow was selling for about 20 times earnings. As of Friday, the multiple was very roughly 17 - despite astonishing prosperity and a roughly 17 percent gain in Dow earnings since this time last year. (Ben Stein, NY Times 4-24) Since the end of 2001, according to the Labor Department, more than two million manufacturing jobs have been shed -- a 13% decline. Thanks to freer trade relationships and innovations in supply-chain management, manufacturers can more easily take advantage of low wages outside the U.S. The major beneficiary of this shift has been China. Alliance Capital Management economist Joseph Carson estimates China gained more than eight million manufacturing jobs in the three years ended 2004. Outside the U.S., the other 18 top economies lost 1.6 million manufacturing jobs during the same period. (Justin Lahart 4-19) The popular perception is that U.S. stock prices remain far below their highs of the last bull market, which ended in 2000. That's an accurate statement for most technology issues, but it isn't true of the average stock. The New York Stock Exchange composite index, which tracks all common shares listed on the exchange, hit a record high of 7,441.18 on March 4. It has declined a modest 3.5% since then, to 7,181.50 as of Friday. (Tom Petruno, LA Times 4-10) With gasoline prices at record levels, drivers are increasingly filling up their tanks at Wal-Mart, Albertsons, Kroger and other non-traditionally gas stations, according to Energy Analysts International. Grocers and big-box discounters, which entered the gasoline business during the late 1990s, are growing at a rate of about 20% a year. These outlets are are expected to account for at least 12% of the nation's gasoline market by 2008, up from 5.9% in 2002, according to EAI. (Thaddeus Herrick, WSJ 4-07) More than 90 fund companies lowered the fees they charge investors for managing money between January 2004 and early March this year, according to fund tracker Lipper. That translated into fee cuts at 844 funds, more than double the number in 2002 and 2003 combined. In 2004 and the first two months of this year, six times as many funds cut their fees as raised them, Lipper says. Some of the reductions generated headlines, such as Fidelity Investments' slashing of the fees on its index funds and American Funds' across-the-board trimming of advisory fees in response to the firm's record-breaking growth. The trend will likely accelerate as new Securities and Exchange Commission rules requiring fund boards to disclose more detail about how they set fund fees go into effect this spring. (Tom Lauricella, WSJ 4-04) Indications that the Fed may continue to boost interest rates to keep a lid on inflation, along with more problems at GM, have investors growing more nervous and cutting back on riskier investments. Bonds of companies with lower credit ratings, and those of emerging-market companies, have tumbled in recent weeks. Here's an example of how the appetite for risk has changed: Mutual funds that invest in junk bonds saw investors withdraw $2.6 billion in the past two weeks, the largest two-week figure in almost a year. Mutual funds that invest in emerging markets also saw their largest withdrawals in almost a year. (Gregory Zuckerman, WSJ 4-03) Seattle's total container volume is up 44% so far this year, after rising 19% in 2004. Forecasts for this year envision a jump of a further 10% to 18% for the entire West Coast. This year, a turbocharger kicked in: A longstanding system of quotas on textiles and garments expired, ending restrictions on China. The results are stark: Apparel imported from China through Seattle jumped nearly four-fold in January, to 1,450 containers, from a year ago. Overall containerized cargo in Seattle shot up 54 percent in January, faster than any other North American port, according to port officials. (Alwyn Scott, Seattle Times 4-03) William Bernstein's "No-Brainer Portfolio" is currently averaging just under 10% a year over the past decade. Bernstein recipe: put 25% of your portfolio in each of four index funds: Total Stock Market Index (VTSMX); Small-Cap Stock Index (NAESX); European Stock Index (VEURX); and Total Bond Market Index (VBMFX). (Paul Farrell, MarketWatch vis WSJ 4-03) Home Page Previous Factoid Top Sites
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