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The researchers examined the relationship between gold and the stock market from 1970 through the end of 2006. That starting point was chosen because it wasn’t until the late 1960s that gold’s price began to fluctuate freely, Professor McCown said in an interview. The study found that, on average, gold and stocks have moved in opposite directions since that point. In other words, what historically has been good for gold has not usually been good for stocks, and vice versa. The researchers gained insight into the cause of this relationship by analyzing the role of inflation. They found that the price of gold tended to rise and fall with changes in investors’ collective expectations about inflation. In contrast, stocks tended to have just the opposite relationship to inflation, performing poorly when inflation expectations were rising. (They measured this expected inflation rate by comparing the yields on Treasury notes and bonds with those of Treasury Inflation-Protected Securities, or TIPS, of comparable maturities. Because TIPS weren’t created until 1997, this portion of the researchers’ analysis focused on just the years since their debut.) These findings, of course, add to the mystery of the strong recent performances of both stocks and gold, since the correlations that emerged from the study were strongly significant, statistically speaking. Nevertheless, inflationary expectations have actually declined in recent years: Based on the yield difference between the 10-year Treasury note and the 10-year TIPS, expected inflation has declined from 2.56% a year at the beginning of 2005 to 2.35% now. Using the historical precedents, a forecaster in early 2005 would have expected such a decline in expected inflation to produce a rally for stocks and a decline for gold. Professor McCown acknowledges that you may be tempted to conclude that one group or the other — stock or gold investors — is simply getting it wrong. Inflation may well be about to accelerate, in which case the gold market is correctly anticipating the future, while stock and bond investors are deluding themselves. If inflation is not about to heat up, gold investors are all excited about nothing. But the professor says it’s unhelpful to take either of these roads. He believes that inflation is not heating up, but that the bull market in gold is based on factors that have played only a minor role until now. Foremost among them, he suspects, is the influence of newfound wealth in parts of the world where there is a strong predisposition to owning gold, like India and some countries in the Middle East.
Michael Metz, the chief investment strategist at Oppenheimer & Company, favors ETF’s that invest in Brazil, because that country produces many of the commodities that he thinks will benefit over the next few years — including agricultural crops that he said would benefit from a push for biofuels like ethanol. Mr. Metz said that investors who did not want to buy a single-country fund might opt for an ETF that invests in Latin America. Mr. Metz said he also liked Canada because it produces many different types of commodities that are in high demand. “My judgment is that oil prices don’t go down,” he said. “But if you buy a Canada fund, and oil prices go sour, metals might go up. So you have several arrows in your quiver.” Before buying any of these funds, experts say, investors should be mindful that — unlike many traditional mutual funds that own foreign stocks — the ETF’s do not hedge currencies. That has benefited many investors during the dollar’s long, painful slide of recent years. But with the dollar now at historic lows, investors should be aware that they might make money from owning foreign stocks while losing money on exchange rates. Gary Schatsky, a fee-only financial planner in New York, said that investors could also miss some tax advantages if they held these funds in tax-sheltered accounts, like an Individual Retirement Account. In that case, he said, they would not get the benefit of low capital gains tax rates or of writing off capital losses. And investors would not be able to deduct the foreign taxes that they pay.
You can pay for attorneys, accountants and financial planners to watch your assets. Health-care professionals can monitor your health, and people can be hired to cook and clean. But who's going to coordinate your care, observe the people who are assisting you, and make sure that your voice is heard and your wishes are respected? We all need to think about these issues whether or not we have children. Today's mobile society offers little guarantee that grown children will live nearby. Even if they do, family and job demands may limit the time they can devote to an ailing parent. And, sadly, too often parents and children are either estranged or have a dysfunctional relationship. If you don't outlive your spouse, siblings and friends, you can hope to rely on them, but it's a big plus to have someone physically and mentally strong to deal with the issues and hassles that may arise. The bottom line is you should begin assembling a team of professionals, friends and relatives. Let them know your wishes — and put those in writing — before you become dependent. "People are afraid of doing this because they're afraid of losing control," says Chris Cooper, a certified financial planner based in Toledo, Ohio. "They're not losing control; they're delegating control so that they stay in control. If you don't do it, control can be taken away from you either by your own poor health or by a court." Cooper, who is also a nurse and holds a graduate degree in gerontology, founded ElderCare Advocates to assist clients who are dealing with long-term-care planning and end-of-life issues. "I oversee the services that they're getting — money managers, accountants, household employees, home health care and nursing-home people and transportation. I help create the budgets to help pay for this," says Cooper. "Long-term care begins when you can't do for yourself what you used to do for yourself. If you used to mow the lawn and now you can't, that's long-term care. If you used to balance your checkbook and now you can't, that's long-term care. People want to think of long-term care as the day you go to a nursing home. If you get services sooner rather than later, you'll reduce the potential of ever going in a nursing home." Cooper is a rare breed. Most financial planners aren't set up to handle everything that he does, but they can play a pivotal role. Forming a "Money Team" Raymond Mignone, a certified financial planner in Little Neck, N.Y., and author of "RINKs: Retired, Independent, No Kids," says a good certified financial planner will have contacts with reputable estate and elder-law attorneys, long-term-care insurance representatives and accountants. As a result, they can often coordinate what he calls the "money team." "The financial adviser can be the coordinator. He's the one who has contact on a more regular basis because he's helping them manage their investments. But there's a second team, the emotional team. "If you have brothers and sisters, then you have people who can help you; otherwise close friends," Mignone says. "They're the people who will be there when you need them." Timing can be everything because we never know when we might become disabled or even incapable of expressing our wishes. Once you begin acquiring assets, consider assembling your financial team. Among other things, someone should be given power of attorney for financial matters. You decide if that power will be broad-based or limited. Key members of your emotional team should also be asked early on if they would handle certain duties if you become incapacitated. Someone should be named to make health-care decisions. Addressing Your Needs Some team members may not need to be recruited as early as others. As you age it's important to think about the areas where you may want help and then bring them into the plan, says Erika Safran, principal at Financial Asset Management, in New York. "When you're in your mid-60s and early 70s and you're well, tell people what you'd like to do. I need someone to accompany me on doctor visits. Is there a service, an outlet, a social worker who is available for this? There are companies that do that. It's the equivalent of renting an adult child. They will check on people who live alone, and they will take them to the doctor. It's these small quality-of-life issues. Who's going to interpret what the doctor says?" Geriatric-care managers can provide many services, including accompanying a client to the doctor. The profession isn't new, but the huge upswing in demand, as the baby-boomer generation ages, is showing a need for certification standards. "The geriatric-care managers' profession is not well-defined, and there are no state laws governing it," says Cooper. "You might have a nurse's aide acting as a care manager, or you might have a social worker with a master's degree acting as one. There are no real standards, and that's where the problem is." The National Association of Professional Geriatric Care Managers is trying to change that, says director Debra Levy. In 2006, members voted to require all new members to hold one of four approved certifications: Care Manager Certified (CMC), Certified Case Manager (CCM), Certified Advanced Social Work Case Manager (C-ASWCM) or Certified Social Work Case Manager (C-SWCM). All members must hold a certification by Jan. 1, 2010. "It's not that difficult to hang out a shingle and say you're a care manager," Levy says. "We want to contribute to the quality of the profession." Where to Find Help Most major cities have geriatric-care managers from the association, she says. They're health and human-services experts, social workers and registered nurses. Some have backgrounds in counseling or gerontology. "We do a comprehensive assessment of their needs in their home, nursing or assisted-living facility," Levy says. "We consider physical, medical and psychological [needs], and we see if there are legal or financial matters that are not in place. We suggest a plan of care, and then most of the time we're hired to implement the plan." Fees vary, but such an assessment runs $300 to $800, according to Levy. Ongoing care ranges from $80 to $200 an hour, depending on the care and the region of the country. Long-term-care insurance may cover costs; Medicare and traditional health insurance do not. Doctors, especially those specializing in the elderly, should be able to assist with assessments and referrals to care managers. You can also search the NAPGCM database of its members. Check credentials before hiring anyone. Another source for information about geriatric-care managers is HelpGuide.org.
This fall, Fidelity Investments launched 11 Income Replacement Funds, followed by Vanguard Group, which announced plans to offer three Managed Payout funds. Both companies have paired investment portfolios with monthly withdrawal plans. They've also replaced the traditional focus on guaranteed income with payment streams that could vary from year to year -- a novel idea, and one that may give retirees more spending power. But that's where the similarities end. Fidelity's new funds build on the success of the company's target-date funds, says Boyce Greer, president of asset allocation at the company. The Income Replacement funds are also portfolios of Fidelity stock and bond funds, with a mix that grows more conservative over time. But instead of building toward a target date -- like retirement -- these funds make payments to you until a date you choose. The 11 funds range from Income Replacement 2016 to 2036. How much do you get? That changes every year. The company will figure your monthly payments as a percentage of your annual account balance. If your portfolio grows, so will your payments. The percentage of money you get also rises closer to your horizon date. At 20 years out, you get 6.4% of your balance spread over 12 monthly payments; by the time you're 10 years away, you'll be getting 10%. In the last year, the fund pays 100% of what's left. Vanguard's funds are designed more like endowments, and in theory, they could generate a payment stream forever. The payouts will be calculated based on a percentage of your average account balance over a rolling three-year period. That should minimize the impact of any single year; one great year shouldn't trigger a spending spree, and a bad year won't mean TV dinners. Investors can choose among annual withdrawal rates of 3%, 5%, and 7%, spread over 12 monthly payments. The fund with the smallest payout is designed for those who want their balance to grow. The fund with the biggest payout aims to hold the balance steady. With these funds, too, payments could vary from year to year. As endowments do, the funds will invest in stocks, bonds, real estate and commodities, and will use derivatives, as well as a market-neutral strategy. Most of the underlying investments will be Vanguard funds, including the firm's new long-short fund, which is still in registration. For a shop known primarily for indexing and low-cost actively managed offerings, "they're stretching their capabilities, which isn't a bad thing, if they can pull it off," says Dan Culloton, a senior mutual-fund analyst at Morningstar. Regardless, the idea that payments should fluctuate may be a better way to approach retirement income. "If you're willing to be flexible, you can make bigger withdrawals," says Jonathan Guyton, a Minnesota financial planner who has studied withdrawal rates. Typically, planners have suggested that you can take 4% of your assets in the first year and the same dollar amount, plus a little more for inflation, every year thereafter. Adjust based on market returns, and you can take more. That's one reason these funds' payments may look high. The Fidelity funds can make even bigger payments, because that income isn't supposed to last forever. But these may be the funds' biggest drawbacks, critics say. If the market crashes, your monthly payments could drop. And the Fidelity funds could spell trouble if retirees underestimate how long they'll need the money. "If you pick the 2036 fund, it's not Fidelity's problem if you live longer than that," Mr. Guyton says, suggesting that people consider a plan like this only for discretionary spending. Other planners suggest drawing income from multiple sources. Annuities guarantee an income stream that lasts as long as you do, but they're costly and lock you in to a contract. These new funds are much cheaper: Fidelity's cost less than 0.65% a year; Vanguard's will charge 0.34%. And you can sell your shares at any point. Of course, you could do this yourself. But most people don't want to pick an asset allocation, choose funds, set up automatic withdrawals and rebalance every year. Now Fidelity and Vanguard have funds and formulas that will do it for you. These may be the first funds of their kind, but they're not likely to be the last.
The proof that investors have stopped surfing in mutual funds comes from a combination of statistics and common-sense analysis of industry trends, but it's good news for buy-and-hold investors everywhere, as the surfers' trading style typically raised costs for the stay-put shareholders. The pace of redemptions in mutual funds is at its lowest rate in 20 years, according to Strategic Insight, an independent industry-research firm. Avi Nachmany said at the recent Investment Management Consultants Association conference in Chicago that fund investors have become complacent when it comes to riding along with their funds. Investors, he noted, are like a "pod of whales" moving gently forward together. Why are investors staying put in their funds rather than moving in and out? For starters, the data have gotten better-looking as fund firms ended the rapid trading that led to scandals several years ago; that activity has now stopped, and the numbers reflect it. The redemption figures also illustrate the popularity in exchange-traded funds, particularly for sector investors who try to ride one wave in the business cycle right to the next. For someone who wants to trade a lot, a mutual fund isn't a great vehicle; by comparison, ETFs are built for trading (although they also can work for the buy-and-holder). And then there are the simple changes in the mutual-fund business itself. A decade ago, the list of top performers for any given quarter was likely to include a lot of mainstream funds; today, virtually every fund that makes the top of the charts is a specialty or niche offering and there are enough built-for-top-speed, boom-or-bust funds that a plain-vanilla issue can't crack the big list. Ask virtually any expert at Morningstar about these high-fliers — currently focused in emerging markets or in cingle countries like China or Brazil — and they will say that investors should ignore them. Morningstar analysts frequently acknowledge that the top performing funds have earned good star ratings, but they still warn investors away from them. And now it seems like investors are singing from the same hymnal.
But doesn’t that mean the bull is that much closer to being put out to pasture? Not necessarily. Although aging rallies are a cause for concern, “bull markets do not die of old age,” said James Stack, editor of InvesTech Market Analyst, a newsletter published in Whitefish, Mont. Nor do bulls always tire in their twilight years. For the handful of rallies that have had them, sixth years have produced stellar gains — more than 25%, on average. “It’s sort of like human demographics,” said Sam Stovall, chief investment strategist at S&P. “You know how they say that if you make it to age 65, there’s a great chance you’ll live to at least 85? Well, if a bull market makes it through Year 3, and then Years 4 and 5, the sixth year turns out to be very, very good.” To be sure, it would be dangerous to count on a 20-percent-plus return over the next 12 months, based solely on how rallies have unfolded in history. But you cannot deny that in many respects, this bull has played out to script so far. Consider this: In the first years of bull markets since 1942, stocks have risen 38%, on average, according to S&P. This bull advanced 34% in its first year. In the typical second year of a rally, stock prices rise an additional 11%. Almost true to form, this bull pushed equities higher by about 8%. By the third year, bulls tend to slow down, posting average gains of just 4%. This bull slowed down, too, but not quite that much; it advanced 7% in Year 3. In the fourth year, bull markets tend to catch a second wind, posting average returns of 13% — which is exactly how much this one gained. Then, in Year 5, stocks tend to advance an additional 8%. And in the fifth year of this bull market, equities rose 15.9%. While few market strategists are predicting a 25% jump in stocks prices in the coming year, James Paulsen, chief investment strategist at Wells Capital Management, said, “I think this market still has a ways to go.” What makes him think so? For starters, although this bull has had staying power, it has not been terribly strong, at least by historical standards. Over the last 65 years, stocks have risen nearly 155%, on average, over the life of a bull market. In this rally, equities have gained a little over 100%. So you can’t say that this market has gotten ahead of itself. Moreover, stocks have become a whole lot cheaper during this bull market, based on common valuation measures like the price-to-earnings ratio. A bull market is generally marked by climbing stock values, even by standards other than share price. Indeed, after starting off at a lofty 27 in October 2002, the stock market’s P/E ratio has fallen to a much more modest 18. “If anything, this market has become more attractive based on valuation,” Mr. Paulsen said. This is not the way it’s supposed to work. As bulls age, investors are supposed to be willing to pay ever-higher prices for stocks. Indeed, in the first three years of the previous bull market, which began in October 1990, P/E ratios for the S&P 500 index shot up to 22 from 14. “This is the only postwar bull where P/E’s have come down,” Mr. Paulsen said. Still, the news isn’t all good. For example, this is now the second-longest, correction-less rally in stock market history. Historically, stocks have gone through a correction, defined as a pullback of 10% or more, every one and a half years. Although this market has come close, falling 9.4% from July 19 to Aug. 15, it has not corrected, by the textbook definition, in nearly five years. It may seem counterintuitive, but corrective sell-offs can be crucial to the longevity of a bull. Think of them as tiny tremors. Small sell-offs in the market, like tremors, are thought to alleviate some of the pressure that builds up in the market. If there are enough of them, a big quake could be prevented. “The longer you go without a correction of at least 10%, the greater the probability that any future correction will turn into a bear market,” Mr. Stack said. At the end of the day, bull markets aren’t killed by market forces. Instead, it’s the underlying health of the economy that determines the market’s longevity. Historically, Mr. Stack noted, imbalances in the economy, like inflationary spikes, have often derailed the markets. What potential imbalances lurk this time? Clearly, many people fear further unraveling of the housing market. Recent data shows that the housing market is cooling faster than many economists have expected. And “we’re a long way from the bottom of the unwinding process,” Mr. Stack said. For Mr. Paulsen, the big question isn’t necessarily housing, but a potential slowdown in the job market. In a worst-case situation, recent credit market fears, prompted by problems in the mortgage market, would cause companies to postpone hiring. If so, the consumer would take a big hit. Though he doesn’t see that situation as likely, he said, such a blow to consumers “could be the end of this bull market.” How Fund Categories Fared WSJ 10-02-2007
It isn't hard to see why a professional securities trader would have the same psychological profile as an avid gambler. You have to be decisive. You have to accept risk. You have to understand that luck will be a big part of your success or failure on any given bet. I learned a lot about investing and trading through gambling on football. [And some of those lessons include:] Focus on the primary factors, don't get distracted by secondary and tertiary elements. By this I mean, focus on which team is more talented than the other. Only if you think the talent level is very close should you start drilling down to stuff like matchups and weather conditions and minor injuries. Sometimes the secondary and tertiary factors can talk you out of making a good bet, or talk you into making a bad bet. Same goes in investing. Focus on the fundamentals of a company. Only after you've completely analyzed the fundamentals should you drill down to things like technicals of the trading price or potential EPS surprises. The firm with better management and a better business model will win out most of the time, even if you completely miss-time the trade. Just as the more talented football team will win most of the time. Filter out irrelevant information. All the time you hear about how this team has beaten that team 6 out of their last 9 matchups or some such. But in the NFL, non-division teams don't play each other every year. So 9 matchups might be over a 12 year period. Is there any relevance to the fact that the Raiders beat the Colts several times in the late 90's? Similar crapola gets thrown out in the investment world. Back in 2000, I remember people claiming that technology stocks do well in recessions. So while every one saw the economy was slowing in late 2000, technology was supposedly a "defensive" way to play the recession. Mmmmm... didn't work out too well. The fact is that each recession plays out a little different, just like each boom plays out a little different. The economic fundamentals are never exactly the same. Just like the Colts are a very different team today vs. 1995, the economy is different today than the last time we had a recession. Ignore the media as best you can. This is really a corollary to the first two points, because the media loves to focus of secondary factors and throw out meaningless statistics. Watch any NFL pregame show this Sunday. 80% of the talk will be focused on worthless banter about who wants it more or what stadium is tough to play in or which player is a great leader or who's mentally tough or who owns who or who is inspired by some personal problem or which coach is a genius or who's reeling from their last loss etc. etc. Remarkably little time is spent talking about who is more talented than who. They'll also vastly overweight what just happened last week. If a good team starts 2-1 then loses in week 4, invariably there will be a story on ESPN about whether its time for that team to panic. Meanwhile if an average team starts 1-2 and wins in week 4, invariably ESPN will do a story about whether that team is a legitimate title contender. Especially if the average team beats a pretty good team. You just wait: this Sunday is week 4 and I promise you both stories will run on Sportscenter or one of ESPN's other NFL shows at some point this week. The financial media is similarly obsessed with the recent past. Since the dollar has recently been dropping, there's also been a rash of stories in the press about how to play a falling dollar. Its possible articles like this have something to do with why retail investors are constantly getting whipsawed. When someone like CNBC interviews a PM, they will invariably ask what stocks the PM likes "in today's market." Of course, CNBC means literally today's market. And yet if you listen carefully to the answer, the stocks and reasons often have little to do with today's market. Just the other day I was listening to Squawk Box and some PM said he liked pharma stocks because of demographic issues. Well that probably means the guy has been holding those stocks for years. Today's market? Very few PM's buy stocks or bonds based on where they think the market is going this week. Forget about what's possible, concentrate on what's probable. Is it possible that the Rams will upset the Cowboys later today. Sure, its possible. Anything is possible. But if you go through the scenarios of what it would take for St. Louis to score that upset, you'll realize the odds are low. Similar with investing. You can talk yourself out of good investments by over-weighting disaster scenarios. Investing and betting are both about probabilities. When you lose, understand why you lost. Sometimes you are just unlucky. In fact, you'll wind up being unlucky a lot if you hang around either the investing or sports gambling game long enough. So when you make a bet or a trade that doesn't work, first figure out if you were just unlucky. If whatever went against you was a possibility you considered, but estimated to be a low probability, maybe its just an example of things not breaking your way. Remember that the point of examining your mistakes is to learn from them. So don't stop at small picture reasons why the trade didn't work. Often times the more specific your reasons the less applicable to other trades. Take Enron. You could conclude that it was just fraud. But that's not too applicable to other trades, because fraud is extremely hard to detect. Or you could conclude that you need to look harder at off-balance sheet funding. Better. But even better would be to watch out for aggressive management. The more aggressive managers are more likely to push hard for better quarterly numbers. The harder they push, the more tempting fraud becomes. Don't get lured by the big spread. Whether its a team favored by 16 or an A-rated bond with a 250 spread, it can be tempting to conclude that the spread alone makes the bet worth it. That kind of thinking leads to lawyer analysis. Lawyers are charged with representing their client, and therefore they gather and/or interpret evidence which supports their client's position. The truth isn't a lawyer's problem. People all too often make betting decisions with a conclusion in mind at the beginning, then overweight evidence that supports their decision and ignore contradicting evidence. What a great way to lose money! Remember the point is to make money, not to be a hero. People love to make bets that, if they pay out, make the better look like a genius. But usually these bets are highly risky. Like taking the 30-1 shot to win the Super Bowl or betting on an 11 point underdog to win outright. Or buying a deep out of the money option. Or buying a bond with a $50 price. If you want to make a bet like that, fine, but make sure you are doing it because you've completed an exhaustive analysis. Not because you want to be a hero.
Last year, there was good news on both fronts. In the fourth quarter of 2006, Wall Street turned decidedly bullish after investors saw that corporate profit growth and the domestic economy were clearly on the verge of reaccelerating. Not surprisingly, the S.& P. 500 jumped more than 6 percent in that quarter, which kept the third-longest bull market in modern history alive and kicking. But heading into the final three months of this year, it is looking less and less likely that investors will enjoy a similar catalyst. That is because Wall Street analysts expect third-quarter corporate earnings to pop — but not in a good way. At the start of this year, analysts predicted solid third-quarter profit growth of nearly 8 percent, according to an analysis by Thomson Financial. But today, the consensus view on Wall Street is that profits for companies in the S.& P. 500 will expand by only 4 percent. If so, that would be the slowest quarterly rate of earnings growth since the bear market. What changed? Blame the credit crisis that has been agitating the financial markets for the last few months. Amid growing concerns about how the mortgage-market mess is hurting companies that issued subprime loans — as well as firms that invested in securities backed by subprime mortgages — analysts have begun to take an ax to financial-sector forecasts. Three months ago, the consensus view on Wall Street was that the sector’s earnings would jump 9 percent in the third quarter, thanks to what looked to be a surprisingly resilient economy. Today, amid growing concerns that the economy could be headed for a significant slowdown or even a recession, analysts are calling for a much more modest increase of 4 percent in the sector’s profits. To be sure, the financial sector is just one of 10 major areas of the market. And analysts are still banking on solid earnings growth for companies in health care, technology and industry. Tech and health care profits are projected to increase by double digits. Nevertheless, the financial sector has been a disproportionate contributor to overall corporate profit growth in recent years. Over the last decade, for example, financial stocks in the S.& P. 500 have represented around 18 percent of the index’s total market capitalization. Yet during this stretch, these companies produced more than 26 percent of the index’s overall earnings, according to Howard Silverblatt, S.& P. senior index analyst. Recently, the sector’s influence has grown even stronger. In the second quarter, financial company earnings generated nearly 28 cents for every $1 in profits earned by S.& P. 500 companies. “You can’t have a good earnings season without the financials playing a part,” Mr. Silverblatt said. This time around, many money managers and market strategists are beginning to worry that financial companies will use the credit crisis as an excuse to cleanse their books of as many bad investments as they can identify, even if means taking a big short-term hit to their earnings. How big will those write-downs be? “That’s the $64,000 question,” said Mike Thompson, managing director of global research at Thomson Financial. And Sam Stovall, chief investment strategist at S.& P., said, “If we find that lots of companies are deciding to write down everything including the kitchen sink in the third and fourth quarters — blaming it on the subprime mess — that wouldn’t be good.” Already, Morgan Stanley has written down $940 million in loans tied to this credit crisis, which reduced its third-quarter earnings from continuing operations by about 33 cents a share. And Bear Stearns has taken $200 million in losses tied to bad investments on mortgage-backed securities made by some of its hedge funds. But Mr. Thompson of Thomson Financial has a different view of this situation. He said that while he had no real sense of the extent of potential write-downs, “my guess is that the market’s guess is going to be far worse than reality.” He added that “market sentiment is way overdone on the negative side.” So far, despite headline-grabbing announcements by a handful of businesses, financial companies that have already reported third-quarter results have painted a somewhat mixed outlook on earnings. Still, it would be a mistake to assume that the worst is already past, said David N. Dreman, chairman of Dreman Value Management in Jersey City. Mr. Dreman, who is also co-manager of the DWS Dreman High-Return Equity fund, said that there are indications “of some pretty heavy write-downs” to come. Because many companies haven’t even commented on their subprime exposure, he added, “you could easily have a reasonable third quarter or even a fourth quarter, but then see some of these problems surface later on.” In other words, this is a crisis that may not provide investors with an immediate all-clear signal. And that means more uncertain times ahead.
There is something new going on, I remember Lee saying, and he was right. Over the previous 15 years, an enormous transformation had taken place: with the rise of discount brokers, the elimination of fixed commissions, the introduction of individual retirement accounts and a hundred other things, the stock market had become democratized. There had been bull markets before, but this was the first in which a broad swatch of the great middle class had its savings in the stock market. We had become investors, by George, and we were all going to get rich. Or were we? There was an overwhelming sense of foreboding that Monday morning. After a summer of tremendous gains, the Dow Jones industrial average had dropped 11 percent the week before — its worst week since World War II. All weekend long, the Fidelity call centers had been flooded with calls from panicky investors. When the bell finally rang on Monday, it was worse that anyone could have imagined. The market started spiraling downward and never really stopped; by the time it closed, the Standard & Poor’s 500-stock index had lost 23 percent, making it the single worst day in the history of the American stock market. It was like “watching a Fellini movie, except that I was in it,” the investment adviser John Spooner would later write in The Boston Globe. I spent most of the day at a Fidelity retail office, where so many investors had crowded outside to watch the electronic tape that traffic was blocked. We didn’t talk to each other; we just stared at the window. I remember feeling paralyzed. Jason Zweig has his own memories of Black Monday. A few months earlier, he had gotten a job at Forbes — “as a cub reporter” — and he recalled the entire staff staring at the one television screen in the office, in a state of utter shock. But he also remembers something else: “I kept asking myself, ‘How did this happen? What could drive this?’ It wasn’t a question anybody had a good answer to.” In the subsequent 20 years, at Forbes and then at Money magazine, Mr. Zweig has tried to find an answer to that question. In his new book, “Your Money & Your Brain” (Simon & Schuster), he’s as close as anybody’s likely to come. “There is a story in the book about Harry Markowitz,” Mr. Zweig said the other day. He was referring to Harry M. Markowitz, the renowned economist who shared a Nobel for helping found modern portfolio theory — and proving the importance of diversification. It’s a story that says everything about how most of us act when it comes to investing. Mr. Markowitz was then working at the RAND Corporation and trying to figure out how to allocate his retirement account. He knew what he should do: “I should have computed the historical co-variances of the asset classes and drawn an efficient frontier.” (That’s efficient-market talk for draining as much risk as possible out of his portfolio.) But, he said, “I visualized my grief if the stock market went way up and I wasn’t in it — or if it went way down and I was completely in it. So I split my contributions 50/50 between stocks and bonds.” As Mr. Zweig notes dryly, Mr. Markowitz had proved “incapable of applying” his breakthrough theory to his own money. Economists in his day believed powerfully in the concept of “economic man”— the theory that people always acted in their own best self-interest. Yet Mr. Markowitz, famous economist though he was, was clearly not an example of economic man. Neither are the rest of us. That’s the thing about investing: we may not have invented portfolio theory like Mr. Markowitz, but most of us have some smarts, and we know, absolutely, what we are supposed to do with our money. We’re supposed to diversify, shut out all the white noise of the market, rely mainly on low-expense index funds, sell when stocks are high and buy when they are going down. We should avoid the herd instead of becoming part of the herd. That what economic man would do. But do we do that? Hardly. When it comes to investing, most of us simply don’t act rationally. Small investors spend hours on chat boards, where the herd mentality is fiercest. They can’t bring themselves to sell losing positions, even when the stock is still going down. They bet everything on one or two high-risk stocks. I do not exempt myself from this behavior: a decade after the Crash of ’87, I was loading up on tech stocks during the Internet bubble, even as I was writing article after article about how the bubble couldn’t possibly last. Having watched the way investors have behaved since the Crash of ‘87, I’ve come to believe that most human beings are simply not hard-wired to be good investors. In the 1990s, a new kind of economics arose, called behavioral economics, which tried to show that investors weren’t so rational after all. So I can’t deny that one of the reasons I like Mr. Zweig’s book so much is he provides, at last, a scientific basis for this theory. It turns out that there is a new discipline called neuroeconomics, which combines biology, psychology and economics and tries to understand why we make the often foolish financial decisions we make. The central finding, as Mr. Zweig put it, is that “the brain is not an optimal tool for making financial decisions.” The part of our brain that tells us to act like rational investors tends to be completely overtaken by much more powerful emotional impulses — impulses, Mr. Zweig writes, “that make us human.” He’s got a million examples. “Humans,” he writes, “have a phenomenal ability to detect and interpret simple patterns. That’s what helped our ancestors survive the hazardous primeval world, enabling them to evade predators, find food and shelter and eventually to plant crops in the right place at the right time of year.” But, he adds, “when it comes to investing, our incorrigible search for patterns leads us to assume that order exists where it often doesn’t.” The bogus science of technical analysis comes out of this deep human trait — investors search for trends that are consistent and repeatable (even though they’re not). So does our need to try to predict where the market is going — something no one can possibly know. “As soon as a stock seems to conform to a pattern that has made money before, an ‘I got it’ effect kicks in, making investors feel sure they know what’s coming next,” Mr. Zweig writes. But of course they don’t. Virtually every mistake investors make has to do, in one way or another, with the way our brain has evolved. Putting far too much of our retirement portfolio in the stock of the company we work for? Neuroeconomic experiments have shown that when people put money in foreign markets, the amygdala — “one of the brain’s fear centers” — kicks in. On the other hand, investing close to home — or, better yet, in the company you are most familiar with, your own — “generates an automatic feeling of comfort.” How about understanding what our real tolerance for risk is? Mr. Zweig makes the usually overlooked point that our risk tolerance is not a fixed thing, but changes from day to day, even hour to hour, depending on our mood. Indeed, research has shown that the way we think about risk often depends on how others have framed the question for us. Amazingly, for instance, people tend to be more sanguine about risk when it is expressed as a percentage (10 percent, say) than when it is expressed as a frequency (one out of 10). Despite everything, Mr. Zweig remains an investing optimist. He still thinks that people can learn to resist their emotions, buy those low-cost index funds, step away from the herd and all the rest of it. He gives plenty of advice along those lines. It’s not novel advice — David F. Swensen, the great investor who manages the Yale University endowment, gave pretty much the same advice in the book he wrote last year, “Unconventional Success.” But it’s right. I came away from Mr. Zweig’s book feeling just the opposite, though: that there is really not much hope that we’re ever going to get the hang of investing. Humans are emotional beings, and that is always going to get in the way. What sets apart investing geniuses like Warren Buffett is precisely their ability to ignore their emotions —or, perhaps, to use them differently than the rest of us do. “I don’t think they ignore their emotions,” Mr. Zweig said. “I think they turn them inside out. When they feel fear, they don’t act on it. They examine it. They say, what should this feeling tell me? It should tell me that prices have gone down so values have gone up.” So they buy stocks while the rest of us are selling. Then again, maybe there’s a much simpler explanation. As our interview was winding down, Mr. Zweig told me a story — “I think it might even be true” — about Charles T. Munger, the Los Angeles lawyer best known as Mr. Buffett’s sidekick at Berkshire Hathaway. “A woman was sitting next to him at a dinner party in L.A.,” Mr. Zweig said. “She turned to him and said, `You’re Warren Buffett’s partner, and a great investor. Tell me, what is your secret?’” Mr. Munger looked up at her. “I’m rational,” he said. Then he went back to his dinner. Monthly Employment Stats
Health care employment continued to expand in September (33,000), with job gains in ambulatory services and in hospitals. Over the year, health care added 396,000 jobs. Employment in social assistance increased by 12,000 in September and by 98,000 over the year. Employment in food services and drinking places increased by 25,000 in September. This industry has added 355,000 jobs over the year. Within professional and technical services, job gains occurred in September in accounting and bookkeeping services (10,000) and in management and technical consulting services (10,000). Job losses continued in employment services (-35,000); this industry has lost 203,000 jobs since its recent peak in December 2006. In retail trade, building material and garden supply stores lost 17,000 jobs over the month. Financial activities employment edged down in September. Despite a gain of 6,000 jobs in commercial banks, credit intermediation lost 12,000 jobs over the month. Since February, employment in credit intermediation has fallen by 46,000. Manufacturing employment decreased by 18,000 in September. Over the year, manufacturing lost 223,000 jobs. In construction, residential specialty trade contractors shed 15,000 jobs over the month and 160,000 since February 2006. In September, the average workweek for production and nonsupervisory workers on private nonfarm payrolls was unchanged at 33.8 hours, seasonally adjusted. Both the manufacturing workweek and factory overtime also were unchanged over the month at 41.4 and 4.1 hours, respectively. Average hourly earnings of production and nonsupervisory workers on private nonfarm payrolls increased by 7 cents, or 0.4 percent, in September to $17.57, seasonally adjusted. Average weekly earnings also grew by 0.4 percent over the month, to $593.87. Quick Facts, Stats & Opinions 'Freezing' Credit Files Terri Cullen, WSJ 10-14 By November, consumers in all 50 states will be able to "freeze" their credit reports at the three major credit bureaus to help prevent identity theft. Previously, Equifax, TransUnion and Experian Group generally extended this privilege only to identity-theft victims and to senior citizens as required by state law. When you freeze, or lock, your credit files, lenders and other third parties can't access your credit report until you request that the credit bureaus "thaw," or open, it. That means you -- or a potential identity thief -- can't open a line of credit in your name until the credit-reporting companies get written permission from you to let third parties see your information. TransUnion (transunion.com) will offer security freezes nationwide starting tomorrow. Equifax (equifax.com) says it will offer freezes by the end of the month. Experian (experian.com) announced last week that it will make freezes available to all on Nov. 1. Consumer advocates say consumers have few options that are as effective as freezes at combating financial identity fraud. But it's not an easy process -- or an inexpensive one. To freeze a credit report, you must write to each of the three bureaus (certified mail is recommended). When your file is frozen, you are given a personal identification number (PIN), which you'll need to remove the freeze from the file. To thaw the files, you must again write to all three bureaus, and the process can take three business days or more. If you can't remember your PIN, it can take even longer. Then there are the fees: Generally, victims of identity theft can freeze their credit reports at no charge, but non-victims on average must pay $10 to initiate a freeze on one file and another $10 to thaw it. (Those fees may be reduced or eliminated for residents of states that require lower freeze fees.) Is a credit freeze right for you? If you've been a victim of identity theft, it's generally a good idea. Even if you haven't been a victim, freezing your credit files provides a powerful layer of protection against identity theft. That said, if you know you'll be opening a line of credit in the near future, or you're changing jobs and it's likely potential employers would want access to your credit history, hold off for now. That way you can avoid the fees and hassles of having to lock and unlock your files in the near term. Use the Web for Faxing Shelly Bamjo, WSJ 10-28 Email has replaced faxing for many purposes. But for those times when you still need to receive a fax or send a document to someone else's fax machine, a number of Internet faxing sites offer free or inexpensive help. At eFax.com, you can sign up for a free phone number for receiving faxes by choosing eFaxFree (under "Products, click on "Learn More"). Faxes arrive as attachments in your email inbox. Other free sites for receiving faxes include FaxDigits.com and k7.net. Additional features, such as toll-free numbers and a variety of fax-sending options, come with a monthly fee package through eFax, FaxDigits and other sites including MyFax.com and TrustFax.com. For instance, MyFax.com charges $10 a month and provides online fax storage, faxing via email-equipped mobile phones, sending to multiple recipients and scheduled delivery. To send an occasional fax for free, meanwhile, you might try FaxZero.com. You type in information about yourself and the recipient. Then you either type your message or attach a .doc, .xls or .pdf file (subject to size limits) and click "Send Free Fax Now." To send longer faxes or more than two faxes a day through FaxZero.com, the fee is $1.99. October's Market History Sam Stovall, Business Week 10-03 Investors have been spooked by October's reputation because it has been a bottoming month for many market meltdowns: Five of the last nine bear markets in the past 50 years ended this month. It also hosted the granddaddy of all crashes, in 1929, and a pretty fair-sized "market break" in 1987. Yet, since 1945, the S&P 500-stock index posted an average increase of 1.1% during October (vs. an average 0.7% gain for all months). The fourth quarter is traditionally the strongest of the year. Since 1945, the S&P 500 has advanced 4.1% in this final three-month stretch, vs. gains of 2.3%, 2.0%, and 0.3% for quarters one through three, respectively. What's more, the S&P 500 has risen during 79% of all fourth quarters since World War II. On the other hand, Energy stocks were quite weak in this final quarter, registering only a 1.8% price advance [since 1990] and beating the market only about one in every three years. The Top Three Shows on Friday Night Brian Stelter, NY Times 10-08 According to Nielsen, about half of DVR users play back shows on the same night as the original broadcast. And an independent CBS survey of viewers, conducted the first two weeks of the fall season, suggests certain nights of the week are becoming popular playback periods. On Friday Sept. 28th, the night after the season premiere of “CSI,” the program was the second-most-watched show among the 1,349 members in a CBS survey who owned DVRs. It beat every program actually showing on Friday except for “Numb3rs.” The third-most-watched show was “Grey’s Anatomy,” which had its debut opposite “CSI” the previous evening, said David Poltrack, the head of research for CBS. New research from index-fund giant Vanguard Group demonstrates why asset location is so important. Consider an investor who has $500,000 in a taxable account and $500,000 in a tax-deferred account. His income-tax rate is 35%, and he earns 5% on $500,000 of taxable bond funds and 10% on an equal position in stock index funds. If the investor keeps the index funds in the taxable account and the bond funds in a tax-deferred account, he has $1,694,671 after selling all his holdings in 10 years, according to Vanguard. But if he kept his bond funds in his taxable account and index funds in his tax-deferred account, he'd end up with $163,258 less, Vanguard found. (Eleanor Laise, WSJ 10-28) The earnings preannouncement season has been a harsh one for many, particularly consumer-oriented names and financials, and the S&P 500’s blended earnings growth rate (which combines estimates with those few stocks that have reported quarterly results already) stands at 1.4% for the quarter, which would be the worst performance since the second quarter of 2002. Most of this week’s decline (from a previous estimate of 3.9%) can be attributed to Citigroup’s massive write-down, Thomson says, and the estimated growth rate for the financial sector is at -4%, compared with 9% at the beginning of July. (David Gaffen, WSJ 10-05) Americans are spending more of their income on the stuff they need than ever, rather than the stuff they want. Energy, food, debt-servicing, rent, health care and taxes take up 64% of discretionary income now, according to Merrill Lynch economists. Ten years ago, that stuff cost about 58% of discretionary income, and about 55% in 1985. (David Gaffen, WSJ 10-05) Bianco Research notes that the 16 different banks polled daily for their U.S. dollar-based LIBOR rates remain as much as 15 to 20 basis points from each other (the norm is about five) — suggesting “it is too early to sound the ‘all clear’ signal on the current credit crisis,” they write. (David Gaffen, WSJ 10-04) While the S&P 1500 (which combines the S&P 500 with the small- and mid-cap indexes) is just 1% away from its all-time closing high, the average stock is 16.7% away from its all-time high, suggesting a successively narrow group is responsible for the market’s recent advances. “I think we’re headed for a bit of a dip here — I just think to me, the market feels very heavy,” says Andrew Crowder, chief options strategist at Crowder Investments. (David Gaffen, WSJ 10-04) Among the 10 S&P 500 sectors, technology sports the strongest earnings estimates revisions ratio, according to Zacks Investment Research, with 2.61 estimates revised higher for every one revised lower over the past four weeks. By contrast, the entire S&P 500 has a 0.75-to-1 ratio at this point, as more companies are lowering estimates at this time. Brian Rauscher, head of equity market strategy at Brown Brothers Harriman, believes that in this quarter, technology will beat estimates by one of the widest margins of any sector, and therefore the sector “does not look significantly overbought.” Expectations for the sector’s growth sit at 9%, up from 7.5% on June 29, compared with the S&P’s decline to 3.4% from 6.3%. (David Gaffen, WSJ 10-03) An extensive study by one West Coast investment firm found that 95% of all big-winning stocks in the market had something new in the works, such as a new product or service, or, in some cases, just plain new management. This year, we’ve seen big moves in stocks such as Apple (AAPL), aided by its iPhone, and Research in Motion (RIMM), sparked by its BlackBerry smart phones. This year, Apple has soared from 86 to 140 and Research in Motion from 40 to 91. (Leo Fasciocco, 'The Exchange', October) Hedge Fund / Private Equity News Briefs Home Page Previous Factoid Top Sites
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