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One big reason for this head-scratching state of affairs: big investment banks still prefer to nurture industries whose stock offerings will produce fat underwriting fees, even after a landmark 2003 settlement was supposed to sever a link between analysts' pay and banking deals like underwriting of initial public offerings of stock. Also, some stocks trade more than others, regardless of the health of the underlying companies. Technology, along with telecommunications and health care "are currently the most overrepresented sectors on Wall Street," says Francois Trahan, chief investment strategist at Bear Stearns and the author of a recent report on "orphan stocks," those companies that receive little or no analyst coverage. Industries represented in the S&P500 index that get the least attention from Wall Street research departments, according to Mr. Trahan, are energy, utilities and financial companies -- including some of the Wall Street firms themselves -- even though the prices of energy shares have been soaring on the back of oil prices. The average number of analysts per tech stock in the S&P500 nearly doubled to 23.53 by the end of April from 12.36 in January 1996 and was still 22% higher than the 2000-2001 average of 19.25 analysts per tech stock, according to Mr. Trahan's report. By the first quarter of 2000 the total stock market value of S&P 500 tech stocks peaked at well over $4 trillion. Today it is about $2 trillion. A close look at Bear Stearns's data and the tally of IPOs during the past decade shows the ranks of research analysts tend to cluster around industries that yield the greatest volume of IPOs and brokerage fees -- even if the performance of stocks in those industries is poor over time. Wall Street research "isn't necessarily driven by where the best investment opportunities are," says Scott Cleland, president of Precursor, an independent research firm and telecommunications-industry consultant. "It's driven by what coverage areas they can get paid for." Since the end of 2000, 112 high-tech companies have made IPOs of new stocks, according to data and research firm Thomson Financial, compared with 49 energy/power companies over the same period. The hiring of analysts "is still driven to a large extent by banking business, particularly IPO volume," says Michael Mayhew of Integrity Research Associates LLC, a consulting firm in Darien, Conn., that helps money managers and investment banks get quality securities research. "Regardless of what everyone says, the profits all come from one pot," Mr. Mayhew says. Mr. Trahan says he notices anecdotally that "there is a disproportionate number of tech analysts on the Street." He surmises it is because "it's easy to get people excited" about technology stocks, but that "this could change in a couple of years" as investment banks and research firms start hiring more analysts for the energy sector. Right now, the number of energy analysts relative to the industry's stock-market value has been falling, but Mr. Trahan says that is largely because of higher energy-stock prices rather than a paring in the number of analysts or a rush of new, publicly traded energy companies. The number of energy firms in the S&P 500 has risen to 30 from 28 since 1996, while tech firms climbed to 78 from 47 over the same period. "It doesn't take more analysts to cover a more expensive company," says Patrick Dorsey, head of stock analysis at Morningstar. In fact, the average number of analysts per S&P 500 energy stock actually climbed to just over 20 from about 16 in 1996, but the average number was 23 in 2004. Analyst head count also is driven by trading volume, particularly at independent research firms that don't have investment-banking businesses. These firms earn fees based on whether the stocks on which they produce research generate a lot of trades for brokerages and other clients. "What is more valuable to an analyst - a stock that doesn't go anywhere, or one that moves around a lot, like airlines?" asks Mr. Dorsey. "The latter, and that's why there are so many airline analysts, even though the sector has done terribly."
New regulations adopted in 2002 and 2003 after allegations from regulators that firms were issuing overly optimistic research in a bid to win more lucrative investment-banking business have constrained how firms can pay their analysts and created new layers of compliance and disclosure. As a result, research staffs have shrunk and many analysts have bolted to hedge funds and mutual funds, where the settlement's rules don't apply. The number of research analysts on Wall Street has dropped almost 30% since 2001 to 995 at the end of 2005, according to the National Research Exchange, a company that offers independent stock analysis. Firm policies and securities laws also require stock analysts to disseminate potentially market moving information broadly, usually by emailing research reports to all clients simultaneously. This ensures that some clients or traders don't get potentially market-moving information before others -- a common occurrence during the 1990s bull market. Desk analysts - the name for analysts who now sit on client-trading desks - don't publish stock research. This frees them from the rules, so they can give advice to clients and firm traders as market events unfold. Because of the various restrictions on them, stock analysts who publish often can't give advice until hours after an event like earnings or an acquisition. Having analysts stop publishing their research and focus on big clients contrasts the broader push by regulators for more disclosure from Wall Street firms. As part of the 2003 settlement, 10 big Wall Street firms paid $1.4 billion in fines and agreed to greater disclosure of potential conflicts. The firms neither admitted nor denied the allegations. They also agreed that investment-banking business couldn't pay for research, which has made the research business more difficult to finance. The settlement's intent, along with the new rules, was to help protect individual investors who claimed they were snookered by misleading research. Lehman's decision to have some analysts stop publishing results in more tailored advice for a handful of big clients, possibly with less information widely available for individual investors.
Assume only one of the Youngs works and earns $90,000 a year. Let's also assume that they live in Texas, a no-income-tax state, that they own a $250,000 house with a recent $200,000 mortgage at 6 percent and that they save 6 percent of income in an employer 401(k) plan. Now watch how quickly their income disappears. About $6,885 comes off the top for the employment tax, $5,400 goes to the 401(k) and $7,405 goes to federal income tax. This leaves about $70,310. The mortgage takes $14,400 a year. Paying all the home operating expenses takes another $12,500. This leaves about $43,410 for spending other than shelter. This includes debt service for things such as cars and credit cards. And let's not forget the children. They cost money. If you have them, you've probably noticed. One commonly used algorithm of family expenses is that the cost of a household rises as the square root of the number of members. The economists, social scientists and social workers who think about this stuff have found this little rule works as well as tons of surveys and measuring. By this rule of thumb, a single person can live at a cost of 1. A couple can live at a cost of 1.41, not 2. A couple with one child can live at a cost of 1.73, and a couple with two children can live at a cost of 2. It also means that the kids cost about 29% of the money left. This leaves the parents with 71%. So $12,589 is spent on the two kids, and the parents have about $30,281 to spend on themselves. It's amazing how quickly our money disappears. Fortunately, there is a silver lining. All these adjustments mean the Olds will need much less income at retirement to have the same living standard as the Youngs. The Olds, for instance, would need the same $30,281 for spending and the same $12,500 in home operating expenses as the Youngs. But they wouldn't have the $12,589 in child expenses, and they wouldn't have the $14,400 in mortgage payments because they would have paid it off. So the spending power they need to replace would be $43,321 instead of $70,310. Big difference. The Olds no longer have to pay employment taxes either because they don't work. And they can skip the 401(k) contribution as well. If they had no Social Security benefits, they would need a pre-tax income of about $45,000. This would allow them to pay federal income taxes of about $1,650 to deliver after-tax spending of $43,350. Their income tax bill alone is $5,755 less than the Youngs'. In other words, the Olds would need only 45 percent of the Youngs' income to have the same living standard. But wait, it gets easier. Most people have Social Security. Couples like the Olds typically have about $30,000 in Social Security benefits. The remaining needed income, about $13,000, would cause none of their benefits to be taxed. Result? Their income tax bill disappears. So their total income requirement is about $43,321. That's 43.3 percent of what the Youngs need to maintain the same standard of living.
Several investment advisers who are bearish on the dollar recommend that investors load up on shares of large domestic companies that derive more than half their revenue from abroad, as well as on foreign stocks and, in some cases, foreign bonds and money market funds. Foreign stocks have outpaced American stocks for more than three years, so many Americans have already plowed money into foreign shares. Individual investors have poured almost $75 billion into foreign stock funds this year, according to AMG Data Services. A growing chorus on Wall Street predicts further weakening of the dollar, although some people disagree. Since the beginning of April, the trade-weighted dollar has fallen more than 5% this year against the currencies of the United States' major trading partners, according to Morgan Stanley. Last Wednesday, a Labor Department report on consumer prices in April alarmed Wall Street, setting off concerns that inflation was rising and that the Fed would continue raising interest rates. Stocks sold off in many global markets, and the dollar rallied briefly. Whatever the direction of rates in the United States, the dollar's biggest woes are still the federal budget and trade deficits, said Richard Bernstein, the chief United States strategist at Merrill Lynch. "Global imbalances matter," he said. "The reason it seems like they don't matter now is because monetary and fiscal policy in 2001, 2002 and 2003 were specifically geared to make the imbalances worse." To dampen Americans' appetite for foreign-made goods, Mr. Bernstein said, policy makers in Washington could raise taxes, raise interest rates or allow the dollar to weaken. "Politically," he said, "it's more palatable to weaken a currency than to raise interest rates or taxes." Mr. Bernstein said he expected the falling dollar — combined with a cooling housing market — to dampen domestic consumption eventually. "When your currency falls, your standard of living drops," he said, pointing out that through Wednesday, the price of a barrel of oil had risen about 12% this year in dollars, but only 6% in both euros and Japanese yen and only 3% in British pounds. He said American companies that rely on discretionary consumer spending might feel the brunt of a weaker dollar — for instance, clothing retailers, cruise lines, automakers and home improvement stores. So he is advising investors to focus on big American exporters in industries like electrical equipment and aerospace and military contracting. Some of Merrill Lynch's top stock recommendations in these industries include Honeywell International, the electronics and aerospace company, and Raytheon, the military contractor. Mr. Bernstein has put a heavy emphasis on bonds in recent years. But this month, he sliced his recommended bond allocation to 30% from 45% of an investor's total portfolio. He now recommends leaving 20% in cash and the remaining 50% in equities, divided between domestic and foreign stocks. Michael Metz, the chief investment strategist for Oppenheimer, is even more inclined toward foreign assets, advising investors to put half of their portfolios into foreign stocks and bonds. "There's been an enormous consumption boom in the United States fueled by leveraging, not from rising real incomes," Mr. Metz said. He expects domestic economic growth to slow to something closer to the rate of increase in American incomes, which he predicts will be less than 3%. Mr. Metz says he likes the industrial sector of the American stock market but does not recommend picking individual stocks. Instead, he suggested buying ETFs that focus on industrial, energy and raw-materials stocks. He also said ETF's were the best way to buy foreign stocks; for example, he called the iShares MSCI Japan Index fund a fair proxy for the Japanese stock market. Over all, Mr. Metz recommends that individual investors put 25% of their total portfolios into domestic stocks, particularly large exporters in the industrial, materials and energy sectors. He recommends putting 5% into short-term American bonds, while leaving 20% in a money market account. And he recommends investing 40% in foreign stocks, with the remaining 10% divided equally between foreign bonds and foreign money markets. Mr. Metz says American investors typically have 7% to 10% of their portfolios in foreign assets. He does not advise investors to go to 50% overnight; instead, he says investors should move gradually into more foreign stocks and bonds. Compared with his counterparts at other firms, Mr. Metz recommends an unusually large allocation of foreign stocks. Stuart A. Schweitzer, the global markets strategist at J. P. Morgan Asset and Wealth Management, says it wouldn't be a bad idea for investors to move the dial closer to 25%, or even a bit more if they are really worried about a further decline in the dollar. But Mr. Schweitzer cautioned that individual investors should put up to a quarter of their portfolios in foreign assets only if they understood the risks, "and are willing to ride out what could become unsettling conditions." Foreign investments can be more volatile, precisely because they are affected by currency exchange rates. Emerging markets can be particularly rough in the short term. With that caveat, Mr. Schweitzer says that he does see brighter growth prospects overseas, particularly in Europe and Japan. He says he is particularly bullish on Japan, where he predicted the economy could grow by 3% to 3.5% this year. "Unlike previous bursts of growth that Japan had in the 1990's, this growth is being led by private-sector spending," he said. Whereas five to six years ago the Japanese government bolstered the economy with vast public works, Mr. Schweitzer said, this time the growth in private-sector spending is occurring without this stimulus. Not all strategists agree that the dollar will weaken further. Edward Yardeni, the chief investment strategist at Oak Associates, says he thinks that the currency may retest its lows from last year sometime this summer, but he expects the dollar to strengthen later in the year. "The European Central Bank and the Bank of Japan are talking tough, but let's not forget that the Japanese have zero interest rates, literally," he said. "They have a long ways to go before coming anything close to U.S. rates." And Mr. Yardeni predicted that the Federal Reserve was not yet done raising interest rates. "If the Fed pauses in June, that's just to avoid embarrassment," he said, adding that he believes it may raise rates in August. Ultimately, though, Mr. Yardeni's portfolio advice isn't markedly different from that of strategists who expect further weakness in the dollar. Mr. Yardeni said he thought that sector selection was the key to successful investing now. "I'm not sure that playing the S.& P. 500 index will be a winning strategy for some time," he said. The materials, industrial and energy sectors are likely to be among the strongest in the American stock market, he said, no matter what happens to the dollar.
A longstanding theory of finance says that we shouldn't worry about how much a company pays out as dividends. But several researchers are not so sure. If their findings are correct, the long-term outlook for the stock market is now bleak. The theory that investors shouldn't care about dividend payout ratios traces back to the June 1958 issue of The American Economic Review, to an article written by Franco Modigliani and Merton Miller, then finance professors at Carnegie Institute of Technology. Both men were later Nobel laureates in economics, Professor Modigliani in 1985 and Professor Miller in 1990. The professors' argument has always struck many people as counterintuitive. Other things being equal, shouldn't a company's stock become less attractive when it has a lower dividend payout ratio? The professors' response, in effect, was that other things are never equal. When a company retains earnings and invests them in future growth, its earnings should grow faster than they would otherwise. This benefit should more or less offset the negative impact of the lower payout ratio, they said. As a result, according to the theory, the only real effect of today's low dividend payout ratios should be to increase the proportion of future equity returns coming from price appreciation and to reduce the proportion from dividends. The overall return should be more or less the same. What does history say about this theory? Jeremy Siegel, a finance professor at the Wharton School of the University of Pennsylvania, says he finds strong support for it. He contrasts two periods of United States economic history: 1871 through 1945 and 1946 through 2001. The average payout ratio for companies was 67% in the first period but just 52% in the second. As the theory would predict, the growth rate for earnings per share climbed, to 2.1% in the second period from 0.7% in the first, adjusted for inflation. But Robert D. Arnott, chairman of Research Affiliates, a quantitative asset management firm, and editor of the Financial Analysts Journal, argues that we should not place too much weight on Professor Siegel's results, since they are "in effect based on a sample size of just two observations." When the period since 1871 is divided differently, according to Mr. Arnott, the inverse relationship between dividend payout ratios and earnings growth rates disappears. Arnott and Clifford Asness, the managing principal at AQR Capital Management, conducted a study that focused on 10-year intervals since 1871. That study found that lower dividend payout ratios — like those we have today — were actually associated with lower earnings growth rates over the subsequent decade. Might these results have been skewed by the marked increase in share repurchases that began in the 1980's, since those repurchases have the effect of lowering the dividend payout ratio? Mr. Arnott and Mr. Asness believe not. They found that since 1980, the relationship between payout ratios and earnings growth rates has been broadly similar to what it was in previous decades. A more recent study, focusing on the stock markets of 11 foreign countries, had results that were similar to those Arnott and Asness found for stocks in the United States. It appeared in the January-February 2006 issue of the Financial Analysts Journal, and its authors were Owain ap Gwilym, a finance professor at the University of Wales, and Stephen Thomas, a professor of financial markets at the University of Southampton in England, and two Ph.D. students at that institution, James Seaton and Karina Suddason. In an interview, Professor Siegel said he found it hard to believe that lower payout ratios actually led to slower earnings growth rates, because that would essentially mean that the management of the average company was doing an awful job investing any retained earnings. But Arnott and Asness say that corporate managements often do foolish things with such money. If those companies paid more of their earnings as dividends, they would have to go to the market to raise funds to finance any expansion, making it less likely that they would do something ridiculous. Arnott and Asness point to one more factor: managements hate to cut dividends. As a result, they are unlikely to increase dividends unless they are confident that there will be profits to pay them into future years. Higher payout ratios are thus a signal that management is bullish about earnings growth. It shouldn't be surprising that such companies outperform those with lower payout ratios whose managements are presumably less sure of future profits. Even without a consensus among researchers, investors can draw some lessons from the debate. First, they should place a heavy burden of proof on management when it is considering whether to pay out more of its earnings. Only if its plans for reinvesting earnings are particularly compelling should investors hold onto the stock, Mr. Arnott recommends. Second, investors may want to reconsider their confidence that stocks' future returns won't be influenced by today's puny dividend payout ratios. It's sobering that a growing number of studies have concluded that such confidence is misplaced.
At this point, we could debate whether a commodities bubble exists. We could ponder supply/demand dynamics for each metal as well as for oil and every other energy derivative known to man – they've all been played. We could explore the impact of globalization on commodities' transportability. We could talk about the infrastructure explosion in India and China and how it places a floor under commodities prices. We could discuss how a dearth of exploration guarantees supply constraints. We could agree that technology has created more uses for many commodities. But why bother? All you have to do is observe that commodities markets are behaving irrationally. Yale professor Robert Shiller's definition of a bubble: an unsustainable condition in which "price increases beget further price increases." I prefer Warren Buffett's: "It's like most trends – in the beginning it's driven by fundamentals; in the end, by speculation. It's just like the old adage: 'What the wise man does in the beginning, the fool does in the end.' " Of course, predicting the end date is all but impossible. In the meantime, it's more fun to be a spectator than a speculator.
Of course, a decade ago, the diversification argument didn't hold much sway. That's when foreign shares were being lapped by domestic blue-chip stocks. But today, it's foreign shares that are outperforming — and it's a whole lot easier to embrace diversification when it means stepping into an asset that's already up more than 30% a year for the last three years. The fact is, most every foreign stock market is trouncing United States equities. And their gains look even better to domestic investors, thanks to the falling dollar. The stock market in Brazil is up 35% year to date in dollar terms, according to an index compiled by Morgan Stanley Capital International, while Morocco is up 63%. Diversifying overseas can lower the risk in your portfolio over the long term. But "in light of the fact that things have gone up so much in recent years, investors need to be mindful of the short-term risks," said Alec Young, equity market strategist for Standard & Poor's. The biggest problem, as anyone who invested in technology stocks in the late 1990's will recall, is that investments invariably "revert to the mean." This is a fancy way of saying that stocks that are outperforming today will eventually fall back in line with their historic average gains. But to do so, they need to go through a period of underperformance. And the markets always have a tendency to overshoot on the downside. Of course, there are ways to mitigate some of these short-term risks. One simple method is to practice dollar-cost averaging, which is something we all do in our 401(k)'s. Instead of investing, say, $20,000 in foreign shares all at once, consider spreading your bets over several months or quarters. This way, you'll never be buying foreign stocks at their absolute peak. And should foreign shares begin to lose some value, you will be buying at ever-lower prices. "People make the mistake of adjusting their allocations in one great swoop," said Sarah H. Ketterer, chief executive officer and portfolio manager with Causeway Capital Management. "But if you're moving from a 100-percent domestic position and cutting 30% of that in a single day, it can be quite abrupt." This is particularly true if you're shifting a sizable portion of your assets from domestic blue-chip stocks to emerging-market equities, which are among the most volatile investments around. S&P's Young said that given the run-up in foreign stocks over the last four years, investors who were increasing their foreign exposure should look for short-term pullbacks — say a drop of 5% or more — in the foreign markets. "Just be patient," he said, and buy on the dips. Moreover, if you are committing to the foreign markets for the long term, remember to take some profit off the table as you go. That means you have to be willing to rebalance your portfolio not just between domestic and foreign shares, but among different types of foreign holdings. For instance, say you started out in January 2002 with a portfolio consisting of the following: 60% domestic blue-chip stocks, 30% blue-chip stocks based in Western Europe and Japan, and 10 percent emerging-markets shares. By the end of the first quarter of 2006, that portfolio would have become predominantly foreign had you failed to periodically reset your mix of domestic and foreign shares. But just as important, within your foreign mix, your allocation to the emerging markets would have grown substantially. In this example, you would have started out with 25% of your foreign holdings in the emerging-markets equities. But by the end of the first quarter, that allocation would have jumped to 35%, far more than many financial planners advise. Jeff Mortimer, head of equity portfolio management at Charles Schwab Investment Management, said investors should probably keep around 5% of their equity holdings in emerging-market stocks, with a total of 25% of their equity holdings in foreign shares. However, "if you get too far away from your strategic mix, all of a sudden, you're going to be in an entirely different risk spectrum," Mr. Mortimer warned. This means it's vital that investors know what they own. According to the fund tracker Lipper, more than 7% of the assets in an average domestic stock fund are invested overseas. So if you own a broad-based domestic equity portfolio, chances are that you have substantial foreign exposure already. Moreover, around 20% of the assets in the average international stock fund are in emerging markets, according to Lipper. So it's possible that you already have more-than-adequate emerging-markets exposure without purchasing a separate emerging-markets portfolio. There are other things that risk-minded foreign investors might want to consider. For instance, stick with funds that are themselves well diversified. According to the fund tracker Morningstar, the average international stock fund owns shares in 177 companies. Those funds that concentrate their bets on fewer names sported a standard deviation — a key gauge of volatility — of 17.1 over the last five years. But funds that own more than 200 stocks are far less volatile, with a standard deviation of just 14.6. Finally, risk-minded investors in foreign markets should probably emphasize blue-chip foreign equities. As in the United States, small-capitalization stocks overseas have been the market's real darlings. The average foreign growth fund that focuses on small and midcap stocks has soared nearly 40% a year for the last three years, according to Morningstar. By comparison, foreign large-cap growth funds are up around 27% annually. But after such a huge run-up, Thomas Melendez, portfolio manager with MFS Investment Management, says foreign small caps aren't as attractive from a valuation standpoint. This is in part why the MFS Research International fund, which invests in the "best ideas" of MFS's analysts, is 75% in foreign large-cap stocks today. Historically, this fund has held around 60% of its assets in large-cap names, Mr. Melendez said. But this doesn't mean investors should avoid small caps — or the emerging markets — altogether. Remember, if you're moving a portion of your portfolio overseas for the long term, it's all about diversification. And that means being disciplined enough to stick with your asset allocation strategy through thick and thin. The good news is that over long periods of time, there's usually more thick than thin when it comes to equities. Related Information Foreign Index Funds Gain Fans - Paul Lim, NY Times Foreign Stocks & Rising Risks - Tom Petruno, LA Times Your U.S. Fund May Be Investing Abroad - Andrew Blackman/Tom Lauricella, WSJ Currency Trends Do Not Determine Foreign Stock Returns - Paul Lim, NY Times Negative U.S. News & Global Investing - Mark Hulbert, MarketWatch Foriegn Stocks Beat Domestic Stocks Again - Craig Karmin, WSJ
Real wages, after adjusting for inflation, have been flat since 2001, according to the study, while the cost of big-ticket items, for which families pay the most, rose. In the past five years, the costs of medical care, housing, food, cars, and household operations rose 11.2%, the study said. Many families are trying to make up the difference by borrowing, according to Christian Weller, author of the report and a senior economist at the center.
Unlike the great 1990s bull market, which was sustained by a wave of new technology, this one has the feel of an old-fashioned economic boom, the type investors saw in the 1950s and 1960s. What many thought would be a limited rebound created by Chinese industrial demand has turned into a long-running story as once-unloved sectors such as commodity producers and oil drillers continue to thrive. Helping fuel the U.S. stock surge are once-skeptical investors, who are now funneling money into the market in the hope of getting in on a lengthier boom. Bearish investors point to lurking inflation pressures and worry that the market already is showing signs of age, with fewer and fewer stocks hitting new highs. That means indexes are being driven by an ever-smaller group of companies. The situation resembles the Goldilocks economy of the 1990s -- not too hot, not too cold -- with inflation moderate and economic growth downright strong. The annual economic-growth rate hit 4.8% in the first quarter, the fastest pace since 2003. Compensation costs for employers rose only 0.6% in the first quarter, the smallest quarterly gain in nearly seven years. Despite sluggish wage growth, consumer spending rose at a 5.5% annual rate in the same period. In April, the first month of the new quarter, chain-store sales surpassed expectations, reinforcing the idea that consumer spending remains strong. Large companies reported first-quarter profit increases of 14%, the 11th consecutive quarter of double-digit gains, according to Thomson Financial. That's the longest streak since Thomson began tracking such data in 1954. The profits reflect both the economy's strength and extensive cost-cutting during the 2000-02 bear market, which left companies more careful about how they spend. The stock market's ability to keep powering ahead will depend heavily on whether this scenario can be sustained. Since the start of the 20th century, bull markets have averaged a little more than two years in duration. Some analysts worry that this one, which has been going on for three and a half years, is overdue for at least a 10% pullback. Others note that bull markets have been getting longer and stronger. The longest since 1900 was the bull market of the 1990s, which ran from late 1990 until early 2000. The current one is the fifth longest, according to Ned Davis Research . Surging economies in developing countries are helping drive this phenomenon. China and India are running through industrial commodities at unprecedented rates, bolstering the performance of U.S. commodity stocks. Short-term copper futures now trade at six times their 2001 levels and oil and nickel futures have more than quadrupled. Optimists say this kind of world-wide economic growth is one reason to believe the economy has entered a phase of "secular," or long-running growth, not just a temporary "cyclical" upswing. They cite the cost-cutting of the last bear market, the changing economics of oil and low interest rates. Many believe the skeptics will continue to be surprised at the strength of the economy, and the market. Low interest rates have pumped huge amounts of what economists call liquidity, or available cash, into the stock market. Merrill Lynch investment strategist Richard Bernstein believes it will begin to dry up, producing a stock pullback centering on the biggest recent gainers. Although he sees no signs yet that the economy is slowing, interest-rate increases often take months to show their effects. "I think the Fed eventually will get its man: It will slow the economy down," Mr. Brorson says. Related Information Terence O'Hara & Brooke Masters, Washington Post 5-14 Right now, the firms in the S&P500 index are trading at about 16.8 times the previous year's operating earnings per share, compared with 28 times at the index's peak in March 2000 and 20 times at the low point in October 2002, said Sam Stovall, chief investment strategist for Standard and Poor's. "The market is almost 50%t less expensive," enthused Jonathan Golub, U.S. equity strategist for J.P. Morgan Chase. "During the late 1990s, profits were healthy and strong, but [stock] price movement far exceeded earnings. Today, it couldn't be more different." Citigroup economist Steven Wieting calculates that corporate operating profits for the S&P 500 companies have risen 94% since they bottomed out at the end of 2001, while share prices have risen only 18% since then. "A nice piece of this [share price growth] is sustainable," Wieting said. "We haven't had the exuberance that has typically been the undoing of other recoveries." "We're in the mid-cycle," said Richard B. Hoey, chief economist for the Dreyfus. "Usually the cycle is ended because of a problem like excessive inflation, and we haven't seen that. . . . The economy has continued to expand, and profits have continued to grow." He argues that the three-plus-year run-up in stock prices can mostly be attributed to the market "renormalizing" after a period when corporate scandals and the implosion of the technology bubble had made investors overly pessimistic.
Now, even as Fed bankers indicate that they may be near the end of their increases, the long-term interest rates that determine home mortgage rates and companies' borrowing costs have crept higher. Increased anxiety about future inflation has been partly to blame, analysts say. But long-term rates have edged up around the world, suggesting that global forces are at work. Japan, the world's second-largest economy, is growing faster than it has in more than a decade, and the nation's central bank, which has kept interest rates negligible, is expected to start raising them again. European growth, though rising more slowly than in the United States, is accelerating, and the European Central Bank, after pausing in April, is expected by many to resume increases. Its benchmark short-term rate, at 2.5 percent, has been raised twice since December. Meantime, China's economy surged by nearly 10% last year, and Chinese leaders promise to spur the kind of domestic demand that would keep more money at home. Higher growth leads to more competition for investment capital, which tends to drive up interest rates. And as rates rise in foreign countries, there is less incentive to seek higher returns in the United States. That could pose a challenge for Bernanke. Bernanke has argued that the combination of low interest rates and the United States' expanding trade deficit stemmed in part from a "global savings glut" - a vast pool of idle money in Asia and other parts of the world that found its way back into the United States. As Robert Barbera, chief economist at ITG/Hoenig, sees matters: "It looks increasingly obvious that there is a boom on the globe today; it's just not happening here. That in turn would suggest that the moderating activity here in the United States may not elicit lower interest rates. What was a conundrum for Greenspan then becomes a problem for Bernanke." Robert V. DiClemente, chief United States economist at Citigroup, said that speculation about the changing global demand for money had helped feed a run-up in long-term rates. "I think people are speculating about this, speculating that growth rates may converge, that savings will come more into balance and that there is going to be a draw on capital that's going to suck money out of the United States," Mr. DiClemente said. To be sure, part of the recent rise in long-term interest rates reflects worries about inflation. One proxy for inflation worries is the gap between yields on conventional Treasury debt and the yields on inflation-adjusted Treasury securities, or TIPS. That gap widened last month to 2.8 percentage points, from 2.7 points, and much of the widening occurred after Mr. Bernanke told lawmakers that the Fed might temporarily stop its rate increases. Recent economic data about inflation has been mixed. Overall consumer prices have climbed markedly, largely because of oil prices; the Fed's preferred gauge of core inflation, which excludes food and energy costs, is up about 2% over the last 12 months. That is about the upper limit of what Mr. Bernanke has described as his comfort zone for inflation. Meanwhile, growth in the United States was much faster in Q1 than most economists had expected. And while job creation slowed to 138,000 in April, unemployment was only 4.7% and hourly wages climbed 3.8% over the last year — the biggest jump in five years. An increase in global interest rates would not necessarily be bad news for Mr. Bernanke. Higher long-term rates would help cool down American economic growth, and the housing market in particular, without requiring the Fed to take more action on its own. But higher global rates could also slow the United States economy enough to increase unemployment. Either way, analysts said, the U.S. economy is more dependent on global forces than was true a decade ago. "It is more exposed because of the fact that it needs massive amounts of cash from the rest of the world," said Nigel Gault, senior economist at Global Insight. "In a strange way, the world is riskier for the United States if everyone else is doing better."
"I think the best investment strategy is to pick some stocks or mutual funds you like, and stick your head in the sand and protect yourself from emotions that are going to cause you to do stupid things," said George Loewenstein, a professor at Carnegie Mellon University. Loewenstein collaborated on a study last year that found that people who had suffered brain damage made better financial decisions than those who hadn't. How do we let emotions get in the way of our investments in real life? It happens all the time, according to Gregg S. Fisher, president and founder of investment advisory firm Gerstein Fisher. Fisher says [1] we are reluctant to sell losers until we've won our money back, even if that's an unlikely outcome; [2] People put more value on things they already have; [3] People often have wildly optimistic ideas about what kind of returns they'll get. [4] People have a fixation with the familiar. We're less likely to invest in a company or mutual fund if we don't have a direct or positive feeling about it. "Many people have held things for many years, and they're afraid of change. But I ask my clients if they came in with cash, would they buy back the same position? Usually their answer is 'no.' " "Maybe someone buys shares of Google at $100, and the stock goes to $400, so he has a good experience with it and he wants to buy more - but buying shares at $400 may not be the best way to invest. People have a positive experience, and they take it and extrapolate into the future - it's a mistake," Fisher says. It's just one of many goofs we make. Kay Shirley, an Atlanta author and financial adviser said many of her clients' portfolios have been destroyed by pride. "There's this 'I'm different' feeling," Shirley says. "People see mistakes others have made, and they think they're immune or it's not going to happen to them. I advise my clients to, when they're considering an investment, double your emphasis on the negative and halve your interest on the positive, and see if your judgment would be the same." Shirley says she often sees clients invest in start-up companies because they know someone who works there and because they have access to information about the company and think "inside" information is better than public information. "Sometimes clients get 'hot tips' - generally they're from a friend or child working at a start-up - and clients think that whatever they hear is really going to happen. Sometimes they do, and even if clients buy shares at the right time, they don't sell, and they ride the stock down," Shirley says. Moreover, buying on inside information can be illegal.
This is obvious with market bubbles, when people throw money into Dutch tulips, Internet stocks, or overpriced investment properties. Most of these investors know they're paying too much, but they figure a greater fool will come along to pay more. Obviously, it's impossible for the majority of investors to be smarter than average, so most of us are deluding ourselves. Freud would chalk it up to the subconscious work of the ego, which gives us an inflated view of ourselves. We tend to think we are rational and others are not. The options market is a perfect example. Every winning bet is offset by a losing bet, so there is no net gain or loss overall. But people play the options markets anyway - just as they flock to casinos, knowing the odds are against them. Many of us take comfort in being part of a crowd, the scientists say. If everyone is buying investment properties, it must be OK. And if you lose money this way, well, at least you're no dumber than everyone else. Investors tend to overestimate the value of a small amount of knowledge, and to gain confidence from it. But scientists have found that high levels of confidence do not correlate with high levels of success. People tend to mistake luck for talent. If you made a lot of money in foreign stocks last year, it's because you're a brilliant investor, not because the whole market rose. Researchers also have found that the immediate pain we suffer from losing money is more acute than the pleasure we get from making it, even when the amounts are the same. This clouds our judgment. Investors hate to acknowledge mistakes. This makes us hesitant to shift money from losing investments to others with better prospects. We'd rather wait for a turnaround. We tend to repeat these mistakes because, as time goes by, we remember our successes better than our failures. We tend to place more value on things we own than on things we do not, so we stick with investments we have rather than move on to more promising ones. Recent experience tends to have more value for us than previous experience. This explains the "rearview mirror" investment-selection process. We throw money at the stock or mutual fund that did well last year, even if its returns weren't very good before that. Why does all this happen? Are humans just stupid? The pros have all kinds of theories, but I blame evolution. It takes an outsize ego to go after a mastodon with a spear. And if that's what you do to feed the family, it's best to think about all the good meals you've had, not about the buddies who were trampled. How can investors overcome their built-in psychological flaws? By knowing they are there. And by stoking their egos another way. Feel superior by playing the odds rationally: Put the same amount of new money into your investments every month. Divide it according to an asset-allocation model. Emphasize low-fee, tax-friendly index-style mutual funds. And stick with the program for the long haul.
Overconfidence may in part stem from two other biases, self-attribution bias and hindsight bias. Self-attribution bias refers to people’s tendency to ascribe any success they have in some activity to their own talents, while blaming failure on bad luck, rather than on their ineptitude. Doing this repeatedly will lead people to the pleasing but erroneous conclusion that they are very talented. For example, investors might become overconfident after several quarters of investing success [Gervais and Odean (2001)]. Hindsight bias is the tendency of people to believe, after an event has occurred, that they predicted it before it happened. If people think they predicted the past better than they actually did, they may also believe that they can predict the future better than they actually can. There is much evidence that once people have formed an opinion, they cling to it too tightly and for too long [Lord, Ross and Lepper (1979)]. At least two effects appear to be at work. First, people are reluctant to search for evidence that contradicts their beliefs. Second, even if they find such evidence, they treat it with excessive skepticism. Some studies have found an even stronger effect, known as confirmation bias, whereby people misinterpret evidence that goes against their hypothesis as actually being in their favor. In the real world, probabilities are rarely objectively known. People do not like situations where they are uncertain about the probability distribution of a gamble. The general dislike for these situations is known as ambiguity aversion. Ambiguity aversion appears in a wide variety of contexts. For example, a researcher might ask a subject for his estimate of the probability that a certain team will win its upcoming football match, to which the subject might respond [that the teasm chance of winning is 40%]. The researcher then asks the subject to imagine a chance machine, which will display 1 with probability of 40% and 0 60% of the time, and asks whether the subject would prefer to bet on the football game – an ambiguous bet – or on the machine, which offers no ambiguity. In general, people prefer to bet on the machine, illustrating aversion to ambiguity. Heath and Tversky (1991) argue that in the real world, ambiguity aversion has much to do with how competent an individual feels he is at assessing the relevant distribution. Ambiguity aversion over a bet can be strengthened by highlighting subjects’ feelings of incompetence, either by showing them other bets in which they have more expertise, or by mentioning other people who are more qualified to evaluate the bet [Fox and Tversky (1995)]. Further evidence that supports the competence hypothesis is that in situations where people feel especially competent in evaluating a gamble, the opposite of ambiguity aversion, namely a “preference for the familiar”, has been observed. In the example above, people chosen to be especially knowledgeable about football often prefer to bet on the outcome of the game than on the chance machine. Thaler, Tversky, Kahneman and Schwartz (1997) provide an experimental test of the idea that the manner in which information is presented affects the frame people adopt in their decision-making. In their experiment, subjects are asked to imagine that they are portfolio managers for a small college endowment. One group of subjects – Group I, say – is shown monthly observations on two funds, Fund A and Fund B. Returns on Fund A (B) are drawn from a normal distribution calibrated to mimic bond (stock) returns as closely as possible, although subjects are not given this information. After each monthly observation, subjects are asked to allocate their portfolio between the two funds over the next month. They are then shown the realized returns over that month, and asked to allocate once again. A second group of investors – Group II – is shown exactly the same series of returns, except that it is aggregated at the annual level; in other words, these subjects do not see the monthly fund fluctuations, but only cumulative annual returns. After each annual observation, they are asked to allocate their portfolio between the two funds over the next year. A final group of investors – Group III – is shown exactly the same data, this time aggregated at the five-year level, and they too are asked to allocate their portfolio after each observation. After going through a total of 200 months worth of observations, each group is asked to make one final portfolio allocation, which is to apply over the next 400 months. Thaler et al. (1997) find that the average final allocation chosen by subjects in Group I is much lower than that chosen by people in Groups II and III. This result is consistent with the idea that people code gains and losses based on how information is presented to them. Subjects in Group I see monthly observations and hence more frequent losses. If they adopt the monthly distribution as a frame, they will be more wary of stocks and will allocate less to them.
What might account for this? Anders Ericsson, a psychology professor at Florida State University, is the ringleader of what might be called the Expert Performance Movement, a loose coalition of scholars trying to answer an important and seemingly primordial question: When someone is very good at a given thing, what is it that makes him good? Ericsson's first experiment, nearly 30 years ago, involved memory: training a person to hear and then repeat a random series of numbers. With the first subject, after about 20 hours of training, his digit span had risen from seven to 20. He kept improving, and after about 200 hours of training he had risen to over 80 numbers. This success, coupled with later research showing that memory is not genetically determined, led Ericsson to conclude that the act of memorizing is more of a cognitive exercise than an intuitive one. In other words, whatever innate differences two people may exhibit in their abilities to memorize, those differences are swamped by how well each person 'encodes' the information. And the best way to learn how to encode information meaningfully, Ericsson determined, was through a process known as deliberate practice. Deliberate practice entails more than simply repeating a task. Rather, it involves setting specific goals, obtaining immediate feedback, and concentrating as much on technique as on outcome. Ericsson and his colleagues have thus taken to studying expert performers in a wide range of pursuits, including soccer, golf, surgery, piano playing, Scrabble, writing, chess, software design, stock picking, and darts. They gather all the data they can, not just performance statistics and biographical details but also the results of their own lab experiments with high achievers. Their work, compiled in the 'Cambridge Handbook of Expertise and Expert Performance,' makes a rather startling assertion: The trait we commonly call talent is highly overrated. Or, put another way, expert performers are nearly always made, not born. And yes, practice does make perfect. Ericsson's research suggests that when it comes to choosing a life path, you should do what you love, because if you don't love it, you are unlikely to work hard enough to get very good. 'I think the most general claim here,' Ericsson says of his work, 'is that a lot of people believe there are some inherent limits they were born with. But there is surprisingly little hard evidence that anyone could attain any kind of exceptional performance without spending a lot of time perfecting it.' Ericsson's conclusions would seem to have broad applications. Students should be taught to follow their interests earlier in their schooling, the better to build their skills and acquire meaningful feedback. And it would probably pay to rethink a great deal of medical training. Ericsson has noted that most doctors actually perform worse the longer they are out of medical school. Surgeons are an exception. That's because they are constantly exposed to two key elements of deliberate practice: immediate feedback and specific goal-setting. The same is not true for mammographers. When a doctor reads a mammogram, she doesn't know for certain whether there is breast cancer. She will be able to know only weeks later, from a biopsy, or years later, when no cancer develops. Without meaningful feedback, a doctor's ability actually deteriorates over time. Ericsson suggests a new mode of training. 'Imagine a situation where a doctor could diagnose mammograms from old cases and immediately get feedback of the correct diagnosis for each case,' he says. 'Working in such a learning environment, a doctor might see more different cancers in one day than in a couple of years of normal practice.' The insights of Ericsson and his Expert Performance compatriots can explain the riddle of why so many elite soccer players are born earlier in the year. Since youth sports are organized by age bracket, teams inevitably have a cutoff birth date. In the European youth soccer leagues, it's Dec. 31. So when a coach is assessing two players in the same age bracket, one who happened to have been born in January and the other in December, the player born in January is likely to be bigger, stronger, more mature. Guess which player the coach is more likely to pick? And once chosen, those January-born players are the ones who, year after year, receive the training, the deliberate practice, and the feedback, to say nothing of the accompanying self-esteem, that will turn them into elites. And what, you may ask, does this have to do with investing? More than you might think. If you are going to be a good investor, then where are you getting your "deliberate practice"? Who [or what] is giving you feedback? Where do you even learn "technique"? Well, maybe you are getting some clues to technique here. This data points to the need to be more formal about investing. Writing down the reason you purchased a stock - and reviewing that reason. Most of us have sytems for viewing year to date performance of our portfolios - and we look at that, and perhaps the daily performance. But that is probably not the best learning tool. Should we be looking at rolling 12 month performance? Should we, perhaps every quarter, go through the process of writing down why we own what we own? What are we, as investors, doing to become more like surgeons and less like mammographers?
Taxable accounts should get your most tax-efficient assets. An index fund is perfect for such accounts. It realizes little in capital gains due to low turnover, and what is taxed gets the low 15 percent rate. The only normally taxable money in this account should be your cash reserve. Even that can be moved to a flexible investment like I Savings Bonds. Roth IRAs should be diversified portfolios with a bias toward long-term growth because these accounts face neither taxes nor required minimum withdrawals. This also favors using the Roth IRAs to hold the most volatile assets, such as the small-cap index funds. That means you should have significantly more equities here than fixed-income. 401(k) and traditional IRA accounts should prefer fixed-income investments over equities because they are tax-deferred but face required minimum withdrawals. As a practical matter, you'll probably need to do most of the rebalancing and adjustments in the accounts that (1) have the most money in them and (2) that get the most new investment money. That's likely to be the 401(k) and 403(b) accounts. As a consequence, you'd do well to keep your core large-cap investment in the taxable account your core small-cap investment in the Roth IRA, and your core fixed-income investment in your IRA. Then use the new money going to 401(k) account to keep the entire portfolio balanced.
Give an assessment of how funds work together. Money managers are loath to offer anything that even hints at investment advice, yet they know that investors are not well served when they buy several funds with significant overlap in their holdings. Management knows which combinations of funds would create a false sense of diversification; they could do the analysis and issue a warning whenever funds are one-quarter identical. All that's needed is a simple statement that goes something like this: "[Management company] believes that diversification is important; investors buying this fund should be aware that it historically has had significant overlap with the following funds run by [management company]. Owning funds that invest in the same kinds of securities can reduce the diversification effects normally associated with buying multiple funds." Discuss whether a fund belongs in a taxable account. Funds are now required to show after-tax returns, which would be sufficient if investors actually paid much attention to that part of the prospectus. Big capital gains distributions each year can create tax headaches for fund investors; management may be mostly worried about gross income, assuming that investors would recognize the potential tax consequences and hold the fund only in a tax-advantaged account. That's a lousy assumption. Instead, management should make a statement suggesting whether -- based on past tax experience -- the fund is appropriate for a taxable account. That's the kind of consumer-friendly disclosure that Cox should be encouraging. Require personalized disclosures in fund statements. If fund companies can calculate an investor's individual fund returns, they can tailor an investor's costs and expenses. This is information that should go into the regular statement -- and not the prospectus -- so that the fund shows investors their profit or loss over a certain period of time, followed by a line showing investors how much they paid during the period for that gain or loss. Although past disclosure changes have improved the way fees are reported, showing the precise amount an investor has paid next to the performance they have received would make smart investing a lot easier. Bring back the profile prospectus, and make its use mandatory. In the mid-1990s, the fund industry created the "profile prospectus," a summary document that answered 11 crucial questions. Those questions covered the fund's objective, what the fund can invest in, who it is appropriate for, the fund's costs and fees, past performance, how someone buys and sells, and more. It never caught on because companies feared that it was not sufficient to protect them from shareholder lawsuits. A two-page summary of these key points -- at the front of the prospectus -- would give investors the bare minimum of what they should know out of the paperwork.
So let's listen to another voice, Bill Gross, master of the bond universe at Pimco. The heart of his April note was that so much money, much of it in hedge funds, is chasing so few opportunities that entire sectors of the global bond market aren't worth investing in. Money managers and individuals alike are investing as though risk did not exist. But the figures that really got my attention came from James Montier, director of global strategy at Dresdner Kleinwort Watterstein, based in London and Frankfurt. You can read Mr. Montier's comments, "The Dash to Trash," in John Mauldin's newsletter, "Outside the Box." Mr. Mauldin's newsletter originates from his office at the Texas Rangers' Ameriquest Field in Arlington. It's a good read, and he's a great "idea scout." Here are some of Mr. Montier's key observations: Nasdaq stocks are trading at a nose-bleed high of 40 times trailing earnings. But short interest on the exchange-traded index fund that tracks the Nasdaq (ticker:QQQQ) is less than two days of trading volume. Since investors sell short in hope of buying back later at a lower price, it's clear that few are betting that Nasdaq stocks are overvalued at 40 times trailing earnings. Trashy stocks are the ones investors are buying. Globally, stocks with high dividends have underperformed stocks with low dividends so far this year by 0.8%. In the United States, the gap is 1.8%, and in Europe it's 3.5%. Similarly, stocks with high earnings stability are underperforming relative to stocks with low earnings stability. Trash prevails, year to date, when stocks are ranked by their Standard & Poor's quality ratings. Mr. Montier reports that stocks ranked A+ by S&P have returned less than 5% year to date, while stocks ranked C, the lowest rank before succumbing to reorganization or liquidation, have returned more than 16% year to date. Investors are paying a premium for junk, Mr. Montier notes. While the A+ ranked stocks have historically sold at an average forward P/E ratio (multiple of expected earnings) of 16.7, they are now selling at 14.6. The opposite is happening with lower-quality stocks. Stocks ranked B- by S&P historically sold at an average forward P/E of 14.9 but today are selling at 18 times predicted earnings. As a consequence, high-quality stocks are relatively cheap. Investors seem to have forgotten the pain of 2000-02. Meanwhile, simple, no-risk, fixed-income investing is looming large as a competitor for stock investing. But no one cares. Recently, for instance, five-year Treasury notes were priced to yield 4.95 percent, and five-year Treasury Inflation-Protected Securities were priced to yield 2.29 percent over the rate of inflation. With a trailing inflation rate of 3.4 percent, that means five-year TIPS may now be providing a yield of 5.69 percent. The yield could be higher if the inflation rate over the next five years is greater than 3.4 percent. I think that's a really good bet. Viewed in terms of earnings yield (stock earnings per share divided by price), low-quality stocks at 18 times uncertain forward earnings have an earnings yield of 5.56%, slightly less than the earnings yield on five-year TIPS. High-quality stocks, meanwhile, have an earnings yield of 6.85%, only a small premium over no-risk Treasury obligations. What's the bottom line? The year 2006 is developing a creepy resemblance to 1987. That's when both interest rates and stocks rose – until October, when stocks plunged 20% in two days. "Quality" Update Chuck Jaffe, MarketWatch 5-24 Through May 22, the average stock with an S&P quality rating of A+ was off 1.67% this year while the average C-graded stock was up nearly 8%. The discrepancy was even bigger a few weeks back, before the Federal Reserve announced its latest interest-rate hike and the markets soured a bit. Since May 6, the average stock with a C quality has lost more than 6% compared with a loss of about 1.25% for the highest-quality issues. Monthly Employment Stats
The Labor Department said hiring last month in goods-producing industries rose by 37,000. The manufacturing sector increased payrolls by 19,000, after adding just 1,000 the month before. The construction sector added 10,000 jobs last month. Service-sector employment went up by 101,000, matching its slowest gain since October. Retail payrolls fell by 36,100. Financial activities employment rose by 26,000 in April, as insurance (10,000) and credit intermediation (9,000) gained jobs. Over the year, financial activities employment increased by 213,000. Health care added 23,000 jobs in April. Over the month, employment expanded in nursing and residential care facilities (9,000), hospitals (7,000), and offices of physicians (6,000). Within professional and business services, employment rose over the month in computer systems design (6,000) and in management and consulting services (6,000). Temporary help services employment was flat over the month and has shown little change since January. Retail trade employment declined by 36,000 in April. General merchandise stores lost 34,000 jobs over the month, more than offsetting a gain in that industry in March. Wholesale trade employment continued to trend upward in April. Over the year, this industry added 103,000 jobs.
Quick Facts, Stats & Opinions Lower Taxed States for Retirees Tara Siegel Bernard, WSJ 5-14 Considering moving to another state for work or retirement? It pays to consider how state taxes will affect your income - and your heirs. Several states, including Florida, Nevada, Alaska, New Hampshire, South Dakota, Wyoming and Texas, don't impose state income or estate taxes - a potentially huge advantage. The Tax Foundation in Washington, D.C., has looked at the percentage of the average individual's income that goes to state and local taxes. By its tally, the 10 states with the lowest tax burdens are: Alaska, where 6.6% of income goes to state and local taxes; New Hampshire, 7.3%; Delaware, 8.4%; Tennessee, 8.6%; Alabama, 8.8%; South Dakota, 9.2%; Texas, 9.4%; Nevada, 9.5%; Montana, 9.5%; and Virginia, 9.5%. Florida comes in 12th, at 9.7%. The 10 jurisdictions with the heaviest burden include: Maine, ranking No. 1 with a state and local tax burden of 13.5%, followed by New York State, 12.9%; Washington, D.C., 12.8%; Ohio, 12.0%; Minnesota, 11.9%; Hawaii, 11.7%; Nebraska and Wisconsin, both 11.6%; Rhode Island, 11.5%; Connecticut, 11.3%; and Vermont 11.1%. After the Fed Stops Rising Rates Talley & Hadi, WSJ 5-07 "The Fed wants to cool the economy; they don't want to bring it to a grinding halt," says Larry Adam, chief investment strategist at Deutsche Bank Alex Brown. He notes that since 1940 the Federal Reserve has actually cut rates, on average, about five months after ending rate boosts. Steven DeSanctis, chief small-cap strategist at Prudential Equity Group, looked at how stocks have performed in the 12 months following Fed rate-boosting campaigns and found that the outcome depends on the economy. Looking back at five periods of interest-rate increases since the late 1970s, the economy did well in three of those five - and in these cases the Russell 1000 Index of large-cap stocks rose an average of 31% in the year that followed the end of rate increases. In those three periods, Mr. DeSanctis found that health-care stocks performed the best among groups of large stocks, with a 44% average gain; technology, up 32%; consumer staples, such as household goods, up 37%; and financial services, ahead 32%. In the two periods when the Fed overdid things and the economy faltered, the Russell 1000 lost 12% on average. The worst-performing groups included technology, down 30%; producer durables, such as machinery companies, off 18%; and other energy, such as oil-exploration companies, falling 15%. This time, Mr. DeSanctis feels that the economy is going to hold up fairly well because capital spending by businesses is going to pick up, helping to offset a possible consumer slowdown. "We don't utter the recession word around here," he says. The Triple Crown Jinx Chet Currier, Bloomberg 5-12 History records 11 Triple Crown winners down through the decades, five of them in the modern financial era after World War II. In each of those five years, history also records, stocks turned in a weak performance. According to Bloomberg, the S&P500 dropped 12% in 1946, when Assault swept the three-race series. The index slipped 0.6 percent in 1948, after the fabled Citation took the crown. In 1973, when Secretariat claimed his place as one of the greatest racehorses ever, the index fell 17%. In 1977, the year of Seattle Slew, it was down 12%. Then in 1978, with Affirmed doing the honors, the index eked out a 1.1 percent gain. Five Triple Crown years; average stock-market performance, down 8%. Barbaro, the colt that trounced 19 rivals in last Saturday's Kentucky Derby, looms as a powerful favorite to win the Preakness Stakes May 20 and the Belmont Stakes June 10. That would give the sport its first Triple Crown champion in 28 years. Time to Make Portfolio Adjustments? Jonathan Clements, WSJ 5-24 Is your portfolio too risky? Despite the rough market of the past two weeks, including last Wednesday's 214-point Dow plunge, you're probably feeling reasonably pleased with your stocks and stock funds. That, of course, is the problem with our risk tolerance. It isn't stable. When stocks climb, as they have for the past three years, we tend to extrapolate the recent gains and to grow more confident, as we attribute our fattened portfolios to our own brilliance. But all this can go into rapid reverse when stocks turn lower. Our confidence gets shaken, our cushion of gains evaporates and we lose our appetite for risk. As we extrapolate the market's downward spiral, the outlook seems increasingly grim - and some folks panic and sell. We saw this sort of panic during the last bear market, with mutual-fund shareholders yanking a net $110 billion out of stock funds over the nine months ended February 2003. Their timing could hardly have been worse, with stocks rallying sharply in the months that followed. That's why it's important to remember your anguish from 2002 and early 2003. Your maximum stock exposure shouldn't be the amount you are content to hold today, but rather the allocation you can live with when things seem most dire. If you're going to decide that your portfolio is too risky and that you need to ease up on stocks, it's a whole lot better to make that decision today, when the Dow industrials are within 5% of their January 2000 all-time high, rather than waiting for the next bear-market low. May has not been a good month for the stock market, needless to say. Going into the last trading day of May, the Dow is sporting a 2.4% decline for the month. That is worse than the returns produced by more than three quarters of all Mays since the late 1800s, when the DJIA was created. Is there any way to put a positive spin on such a disappointing performance? I found that the stock market's probabilities of rising between June 1 and Aug. 31 actually go up when May is a down month. Consider first those years in which May produced as big or bigger loss as it has so far this year. Since the mid 1890s, when the DJIA was created, a total of 26 years qualify. The DJIA's average summer gain during those 26 years was 6.3%. Contrast that with the summer gains during years in which the DJIA in May did better than it has in 2006. The average three-month gain during those summers was 2.5%. {Mark Hulbert, MarketWatch 5-31) John has $500,000 in auto liability coverage. He lends his car to Rob, who has an accident. Does John's insurer have to pay damages up to the full $500,000 limit on his policy. No. Some insurers have slid a clause into policies that allow them to reduce your coverage to the minimum required by your state if you loaned your car out to someone else. That could leave you on the hook for some big bills. The rule with car insurance is that "the insurance always follows the vehicle," meaning you're responsible for damages your buddy causes. (Suze Orman 5-22) Thunder is the sound of rapidly heated air expanding and vibrating, and shock waves. Light travels faster than sound, so we see the lightning before we hear the resulting thunder. It takes about five seconds for the sonic boom to travel one mile, so if you see the sky illuminated by a streak of lightning and count 10 seconds until you hear the low rumble of the thunder, the storm is about two miles away. (Ask Yahoo 5-22) If it's cheapness you're looking for, the Big 10 of the S&P 500 make an eye-catching picture. The names in order of prominence in the index: Exxon Mobil, General Electric, Citigroup, Bank of America, Microsoft, Procter & Gamble, Pfizer, Johnson & Johnson, American International Group and JPMorgan Chase. These stocks have produced a simple average total return of 2.3 percent over the past five years. The Big 10 recently traded at 15 times their most recent 12 months' earnings against 18 percent for the S&P 500 as a whole. Their average dividend yield stood at 2.6%, compared with the index's aggregate yield of 1.8%. The Big 10 account for 20% of the S&P500 index. (Chet Currier, Bloomberg 5-20) RFID is expected to yield substantial savings largely by reducing the frequency of the following scenario: A customer goes to a store for an item, only to find its shelf empty, even though replacement stock lurks somewhere in the back. It's one of the costliest problems in retail. In the more than 500 stores where Wal-Mart has integrated RFID, radio tags inform employees when supplies enter the storeroom, when they leave it for the sales floor and when their emptied cartons are taken to the trash. A University of Arkansas study last year determined that these stores saw a 16% reduction in the times that products were missing from shelves. But Langford said that figure understated RFID's true power, because the study included popular items that sales staffers already were sure to replenish. When the research examined only items that Wal-Mart sold less than 15 times a day, the out-of-stock reduction was 30%. (Brian Bergstein, AP via LA Times 5-20) Why do beginners think they'd have an easier time beating professionals at trading than at golf, boxing, racecar driving, or chess? Why are so many market newsletters bullish or bearish, when the most common market outcome is little or no change? What happens when contrary opinion is the dominant school of thought? Why do people who offer programs on making a living from trading make their livings from offering programs? (Brett Steenbarger, TraderFeed 5-12) No matter how well-constructed and filled with airbags, many small cars don't fare well in collisions with SUVs and pickups that can weigh two or three times as much. According to the Insurance Institute for Highway Safety, accident deaths involving drivers of subcompacts totaled 117 per million registered passenger vehicles in 2004, compared with 67 driver deaths in large cars and 56 in large SUVs. (Jonathan Welsh, WSJ 5-12) In recent years, growing numbers of consumers have been buying their wine and beer at big-box retailers like Costco and Wal-Mart. In 2005, according to ACNielsen, shoppers took 33.1 million beer-shopping trips to Wal-Mart and other big-box stores, up 64% from 20.2 million in 2001. Beer trips to grocery stores fell 9.2% in the period, to 264.7 million. Costco already is the nation's largest retailer of fine wine, selling about $330 million last year. (Joseph Hallinan, WSJ 5-11) In March, Google had 49% of U.S. search queries, according to research firm NetRatings Inc. Yahoo and Microsoft handled 23% and 11% of queries, respectively. (Kevin Delaney, WSJ 5-11) Top-performing large-stock growth funds are about 25% invested in tech, down from 37% three years ago, says Morningstar. Meanwhile, manufacturing stocks have increased in these portfolios to 24% today from 15% in 2003, thanks to an emphasis on energy and industrial-materials stocks, which include companies in aerospace and machinery. (Diya Gullapalli, WSJ 5-05) The 2003-2004 National Postsecondary Student Aid Study found that nearly two-thirds of undergraduates completed their studies with some debt. The average federal student loan debt was $19,202 among graduating seniors. (Forbes 5-04) Since 1950, the average 6 month return for the S&P 500 after the Fed takes a pause is -1.7%. (The Kirk Report 5-01) Home Page Previous Factoid Top Sites
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