Investment Thoughts (August 3rd, 2009): Monday, Aug 3 2009 

Not going to chase the market for a number of reasons, but most of all we should see a retest of the March lows sometime in the distant future, maybe a year or so. The US banking sector is still not healthy and has been propped up by regulatory rule changes.

So while financial stocks may be doing well at the present time they will not be the leaders in the new cycle for a variety of reasons. Among them are the mark-to-market rules, increasing non-performing loans, and difficulty in earning a solid NIM in a 0% cost of funds environment.

In order for a new bull market to begin, a new sector must take up the leadership mantle. The leaders from the previous cycle do not lead in the new cycle.

Technology is unlikely to provide leadership as R&D budgets continue to get cut. Businesses are unlikely to commit to major capital spending programs, despite a 0% interest rate environment, amidst falling revenues and uncertain consumer demand. Consumer uncertainty about the future will translate to a cautious business environment going forward.

It may sound strange to say this but with top line revenue growth falling and earnings estimates being met by cutting employees and R&D budgets, this is not a healthy sign for the future.

Without top line revenue growth earnings momentum will be difficult to maintain. You can only cut so much staff and R&D. At some point revenues need to grow and that will only come through increased consumer confidence.

When you combine an US unemployment rate that has gone from 5% to 9% and 70% of US GDP being made up of personal consumption, it is no surprise that consumer demand is weak and consumers are tightening their budgets. We will need to see strong hiring in order to get consumers feeling better about the future and opening their pocketbooks.

I am not a proponent of massive budget deficits but right now government spending is propping the US economy from falling off a cliff. This happens in every recession so there should be no surprise here.

Government spending is adding a couple of percent to GDP at the current time. A significant portion of the stimulus money is targeted to be spent in the coming years which should help the recovery. The question is how much will it affect hiring which should translate into higher tax collection as well and possibly allowing the government to meet their optimistic projections for the 2011-2012 time frame, although it is not the authors opinion that the overly optimistic projections will not be met.

The biggest question concerning the recovery should come from the balance sheet of the Federal Reserve. It is Mr. Bernanke’s intention to begin shrinking the balance sheet of the Federal Reserve in the coming years bringing it back down to a reasonable level.

The largest problem is how much will the shrinking balance sheet constrain the economic recovery. In order for the Federal Reserve to sell the securities it now holds there needs to be a buyer on the other side of the transaction. It is unlikely that the capital will come from drastically higher leverage levels at hedge funds and banks. This means the capital needs to come from either foreign governments or the private sector. Capital coming from the private sector will mean less capital for investment purposes. Capital coming from foreign governments means competition for Treasury sales.

Any recovery will be slow and grinding which is not what the bull camp wants to hear.

So what am I doing right now? Sitting on the agriculture purchases I have made over the last six months. Farmland, fruit, vegetable, and sugar production has provided a nice hedge and decent returns. There is tremendous value in the sector with some stocks already surpassing pre-crash highs.

Gold and silver should begin moving to the upside in the next few months but I am content to wait for a washout correction. This should occur about the time we get either a peak in the US Dollar, the US equity market, or both. We have yet to see a 50% retracement from last years lows which is giving me pause, although there are some interesting trades in the large cap sector.

Disclaimer
Communications are intended solely for informational purposes. Statements made should not be construed as an endorsement, either expressed or implied. This article and the author is not responsible for typographic errors or other inaccuracies in the content. This article may not be reproduced without credit or permission from the author. We believe the information contained herein to be accurate and reliable. However, errors may occasionally occur. Therefore, all information and materials are provided “AS IS” without any warranty of any kind. Past results are not indicative of future results.
PAST RESULTS ARE NOT INDICATIVE OF FUTURE RESULTS. THERE IS RISK OF LOSS AS WELL AS THE OPPORTUNITY FOR GAIN WHEN INVESTING IN THE STOCK, BOND, AND DERIVATIVE MARKETS. WHEN CONSIDERING ANY TYPE OF INVESTMENT, INCLUDING HEDGE FUNDS, YOU SHOULD CONSIDER VARIOUS RISKS INCLUDING THE FACT THAT SOME PRODUCTS: OFTEN ENGAGE IN LEVERAGING AND OTHER SPECULATIVE INVESTMENT PRACTICES THAT MAY INCREASE THE RISK OF INVESTMENT LOSS, CAN BE ILLIQUID, ARE NOT REQUIRED TO PROVIDE PERIODIC PRICING OR VALUATION INFORMATION TO INVESTORS, MAY INVOLVE COMPLEX TAX STRUCTURES AND DELAYS IN DISTRIBUTING IMPORTANT TAX INFORMATION, ARE NOT SUBJECT TO THE SAME REGULATORY REQUIREMENTS AS MUTUAL FUNDS, OFTEN CHARGE HIGH FEES, AND IN MANY CASES THE UNDERLYING INVESTMENTS ARE NOT TRANSPARENT AND ARE KNOWN ONLY TO THE INVESTMENT MANAGER.
Before making any type of investment, one should consult with an investment professional to consider whether the investment is appropriate for the individuals risk profile. This is not intended to be investment advice or a solicitation to purchase any of the securities listed here. I will not be held liable or responsible for any losses or damages, monetary or otherwise that result from the content of this article.

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Green shoots? Friday, May 29 2009 

Recent press reports concerning green shoots are leading consumers to believe that the economy has turned a corner and we are on the road to an economic recovery. However, one has to look at these reports with skepticism and filter through the noise in order to ascertain the real story behind the scenes.

GM and Chrysler’s bankruptcy and reorganization will drag down second half growth rates as long as both firms are in bankruptcy. The quicker both firms emerge the earlier we can start rebuilding consumer confidence.

Recent positive data emanating from the housing market should be watched with skepticism. Housing numbers are reported on a month-over-month comparative basis and with the average temperature rising more people are looking to purchase homes. Once fall rolls around, month-over-month comparisons will fall leading to skepticism about a recovery.

The US housing market will continue to take years removing the overhang currently in place. Uncertainty over the economy will give buyers pause before jumping into the market. An additional bulwark to a recovery in the housing sector is the banks reluctance to make loans. As long as the banking sector views holding bonds over making loans on a risk adjusted basis a housing recovery will be impeded.

Given the low amount of home equity available it is unlikely that homeowners will be able to use equity to fund durable goods purchases and home renovations. Even if a loan was written down to fair value, a bank will be unlikely to extend home equity credit after losing a significant portion of the loan and future interest income.

Since income growth will be slow due to uncertainty in the job market, consumers will not be in a mood to extract equity from their homes and will likely continue to rebuild their savings.

Consumers will spend on necessary purchases but it is unlikely that businesses will fund expansion plans until they see an economic recovery taking place.

Export growth will slow as overseas consumers and businesses look to the US for growth and leadership.

Recent dollar weakness should be viewed not as dollars leaving the country but rather investment dollars held in US Treasuries being swapped for foreign equities as funds who have missed the rally attempt to play catchup. Foreign third tier markets have jumped higher in recent weeks signaling an approaching short-term market top. Second half weakness should be met with a rise in the dollar as funds retrench ahead of the expected weakness.

The differentiator here is not foreigners pulling money out of the US but rather investment funds looking to catch a higher risk adjusted return in foreign markets after the run up in the US markets. This is similar to the events that happened in the fourth quarter of last year when overseas investments were sold and proceeds converted back into US Dollars.

Efforts to restrict government spending in a recession will cause growth to lag and risk causing the recovery to lose traction. Any efforts to restrict spending should be focused on government waste with efforts on projects which will create jobs now and in the next upcycle. Increased R&D spending along with infrastructure improvements are the projects which will provide current and future benefits. Dog parks and similar programs are wasteful spending which provides no short or long term benefits.

It is likely that the green shoots people are seeing are not the basis for a long-term recovery and just the first bottom in a W shaped economic recovery.

Disclaimer
Communications are intended solely for informational purposes. Statements made should not be construed as an endorsement, either expressed or implied. This article and the author is not responsible for typographic errors or other inaccuracies in the content. This article may not be reproduced without credit or permission from the author. We believe the information contained herein to be accurate and reliable. However, errors may occasionally occur. Therefore, all information and materials are provided “AS IS” without any warranty of any kind. Past results are not indicative of future results.
PAST RESULTS ARE NOT INDICATIVE OF FUTURE RESULTS. THERE IS RISK OF LOSS AS WELL AS THE OPPORTUNITY FOR GAIN WHEN INVESTING IN THE STOCK, BOND, AND DERIVATIVE MARKETS. WHEN CONSIDERING ANY TYPE OF INVESTMENT, INCLUDING HEDGE FUNDS, YOU SHOULD CONSIDER VARIOUS RISKS INCLUDING THE FACT THAT SOME PRODUCTS: OFTEN ENGAGE IN LEVERAGING AND OTHER SPECULATIVE INVESTMENT PRACTICES THAT MAY INCREASE THE RISK OF INVESTMENT LOSS, CAN BE ILLIQUID, ARE NOT REQUIRED TO PROVIDE PERIODIC PRICING OR VALUATION INFORMATION TO INVESTORS, MAY INVOLVE COMPLEX TAX STRUCTURES AND DELAYS IN DISTRIBUTING IMPORTANT TAX INFORMATION, ARE NOT SUBJECT TO THE SAME REGULATORY REQUIREMENTS AS MUTUAL FUNDS, OFTEN CHARGE HIGH FEES, AND IN MANY CASES THE UNDERLYING INVESTMENTS ARE NOT TRANSPARENT AND ARE KNOWN ONLY TO THE INVESTMENT MANAGER.

Before making any type of investment, one should consult with an investment professional to consider whether the investment is appropriate for the individuals risk profile. This is not intended to be investment advice or a solicitation to purchase any of the securities listed here. I will not be held liable or responsible for any losses or damages, monetary or otherwise that result from the content of this article.