October 29, 2013
I haven't been writing much lately, however, the most recent commentary coming from the White House has pulled me from the sidelines with some comments. If your bias is towards favoring this President, or you only come to my blog for investment information, stop reading right now and have a great day. Otherwise, read on with the same amount of disgust that I have about the leadership sitting in the Oval Office.
The background is the President is a self-righteous, arrogant socialist whose disdain and contempt for this country and its ideals of freedom are well-known and documented. His condescending approach to everyone around him, including other world leaders, our elected officials, and certainly corporate leaders, is well known and completely disrespectful. If my children acted in that manner towards others (my children are teenagers, and we know how disrespectful they can be at times), they wouldn't see the light of day for months, if not a year. Yet here is the President of the United States, acting as if the rest of the world were his subjects, lecturing us on how we should feel guilty if we make a decent living. Lecturing us on how we need to give more back. Lecturing us on how successful businesses are only successful because of the government. Lecturing foreign leaders on how to run their countries. Lecturing China on how to run their economy (just a reminder that we owe China over $1 trillion).
President Obama came into office promising to repair our supposedly damaged image among the nations of the world. He promised to negotiate with Iran, North Korea, and Russia, all while refusing to negotiate with the duly elected House of Representatives. He vowed not to go to war without UN approval. He vowed to close Guantanamo Bay. He vowed to end terrorism by eliminating the reasons terrorists hate us-imperialism, materialism, and evidently capitalism. He promised world harmony through that dis-functioning body known as the United Nations.
President Obama, the legal scholar and supposedly the smartest man in the room, promised to be superior to George Bush because of his hands on approach, his involvement in every detail, and his ability to bridge the gap between Republicans and Democrats to craft bi-partisan solutions to problems.
President Obama, the man who promised that "spreading the wealth around" would solve this country's growing wealth gap, the disparity between the 1% and the 99%.
How has the Lecturer in Chief done since taking office? The results have been far from promised, and in fact almost 100% opposite of what he promised.
The promise of world harmony and an improved image of the US around the world has been completely dismantled. Even before the news came out that we have been wiretapping our allies, our diplomacy has been an utter disaster. Iran and North Korea continue to snub their noses at the world community and develop nuclear weapons, despite our coddling of them. The President has ensured that no country will respect us, our promises, or our threats after drawing the infamous "Red Line" and then, despite video evidence to the contrary, denying that he said it or that the Red Line was his.
The fact that we have been wiretapping US civilians and our allied leaders doesn't bother me as much as others. Yes, there are civil liberty issues, and retaining this information on US citizens reminds me of 1984, or even the Matrix, but I understand the purpose from a security standpoint. We can debate whether losing this measure of privacy in the name of freedom isn't an oxymoron, but with proper data destruction policies I can live with this intrusion. I can also live with wiretapping our allies, as well as our enemies, but again we must have a legitimate purpose for doing so and a viable defense in the unlikely event that this transgression is discovered. Denying knowledge ala Richard Nixon is not a viable defense.
My issue is the blanket denials. The President pretending he didn't know about the incident, that it was some low-level, unnamed underlings participating in the subterfuge. President Obama is obviously unable to accept responsibility for failure-which I attribute to years of being told how great he is without ever being challenged. Defeat and failure are good for adolescents and young adults, it prepares them to handle situations that don't work as planned, such as these wiretappings, being fired, or bad marriages. My guess is that the President was part of what I call the "participation generation", the group of kids who received trophies for 10th place, being congratulated and fawned over for losing. News flash: trophies are for winners! Bringing it back to the President, whatever happened to "the buck stops here?" We need a Truman type Democrat.
As mentioned above, the President is really good at shifting the blame, denying responsibility for the actions of his Administration, which is the ultimate example of hypocrisy. How can a man who demands that both world and corporate leaders (just ask Jamie Dimon) take 100% responsibility for the actions of their countries or companies not take any responsibility for his own Administration's actions? Is he truly that narcissistic?
IRS targeting of political enemies? Deny knowing anything about it and blame a rogue IRS office.
Failure of the Obamacare website? Deny knowing anything about it and blame the contractor.
800,000 people (and counting) losing their insurance in spite of promises that "if you like your plan, you can keep it?" Deny making the statement (60+ times in front of cameras) and blame the insurance companies.
Have an embassy attacked on 9/11? Deny it happened and blame a YouTube video.
Wiretap allied leaders? Deny knowing anything about it and blame the NSA.
Wiretap US citizens? Deny knowing anything about it and blame a prior administration.
Consider drone attacks on US citizens without a proper trial first? Deny it happened and blame the an unnamed leaker.
Inability to lead or unite the country? Blame it on Congress.
Create policies that exacerbate the wealth gap? Deny the policies are contributing to the problem and blame the greedy.
Oversee a program that puts guns in the hands of Mexican drug dealers? Deny knowing anything about it and then blame an underling.
Much like an overindulged three year old, this President won't take responsibility for anything that occurs under his watch. Worse, he denies knowing anything about what is happening in his Administration, and then pushes the blame as far down as possible. As it becomes apparent that the problem is much higher up, the Administration constructs a series of roadblocks designed to hide the true source of the problem. If a corporate leader were to deny knowing about this many issues occurring under his watch, he'd be fired for incompetent leadership.
We have been lucky so far. This vacuum of leadership and irresponsibility in the White House will eventually lead to negative repercussions far into the future. In my opinion, when historians look back at the seminal Administrations in US history, this one will be cited as an inflection point for when this country took a turn towards mediocrity. We can make a turn back towards leadership and excellence, however, the next election will be critical.
Thanks for listening to my rant. I feel better, yet worse at the same time. I hope to write a bit more in the future, at least quarterly, and promise it will be focused on markets and the economy.
From my family to yours, have a wonderful holiday.
Oct 29, 2013
Oct 22, 2013
3rd Quarter 2013
The third quarter of 2013 was marked by lackluster earnings, concerns about the Fed
from both a succession planning and near term policy standpoint, continued middling
employment growth, geopolitical uncertainty, a rip-roaring auto market, and another
debt ceiling fight in Washington. We also received a creative English lesson as to the true
meaning of the phrase “Red Line,” which might be this generation’s version of “It depends
on what the meaning of the word ‘is’ is.” In spite of the many concerns, the S&P 500 still
managed to rise 5.2% in the quarter for a 19.8% increase for the year, while the Barclay’s
Aggregate was up 0.6% in the quarter but has declined by 3.5% (2% net of dividends) for
Domestic View and Equity Markets
Earnings growth continued to slow in the quarter for much of the S&P 500, yet investors
didn’t seem to care as they piled money into equity funds at the expense of fixed income.
Sales growth was even weaker than earnings growth, posting an increase of 1.2% in the 2nd
quarter. Valuations need to be watched in this environment. When stock prices rise faster
than earnings, stock valuations are expanding. While valuations aren’t in the “red zone,”
they are getting extended at roughly 16x earnings.
Soft wage growth, high unemployment, high fuel costs, and a favorable currency situation
have made it more attractive for companies to migrate their manufacturing back to the US.
Major manufacturers that are on-shoring operations have reached 21%, compared with
10% last year, according to a study by The Boston Consulting Group. More than half of
manufacturers with sales exceeding $1 billion intend to shift work, or will evaluate shifting
work, from China to the U.S.
Market prognosticators continually attempt to find historical patterns in the markets to
predict what might happen in the future. Many are now focusing on 1954, which was the
first year in which stock prices exceeded their 1929 highs after the Great Depression, as a
comparison to 2013. In the chart below you can see the high correlation (.95) between the
two years. The biggest difference is the magnitude of increase, with stocks rising 30% in the
first three quarters of 1954 versus 19% so far this year.
S&P 500 1954 versus 2013
Just in Case You Were Wondering
The world’s most famous index, the Dow Jones Industrial Average, changed constituents this quarter. The index dropped Hewlett Packard, Alcoa, and Bank of America, replacing them with Goldman Sachs, Nike, and Visa. A question we often receive is why we don’t use the Dow as a benchmark. We can’t think of a single firm that uses the Dow as a benchmark because one of the requirements of a benchmark is having the ability to replicate the benchmark by investing in its holdings. Although the 30 stocks in the Dow are highly liquid and part of many other indices, the Dow is price-weighted, which mean it is virtually impossible to replicate in a portfolio. A price-weighted index is one
in which the higher the price of a stock, the bigger impact it has on the index. In an actual portfolio, it’s the number of shares combined with the stock price and dividends which determine the value. A capitalization-weighted index, such as the S&P 500, more readily lends itself to replication.
Will the Fed ever be out of the news? The two biggest items of note swirling around the Fed this quarter have been tapering and succession. Heading into the Fed’s September meeting, the majority of market participants anticipated that the Fed would begin tapering or slowing its monthly purchase of bonds from $85 billion per month to a modestly lower value. Many Fed members, including Chairman Bernanke, had suggested that a tapering would be a probability, and in fact the Fed had
signaled through its various market communication tools that a tapering would occur. Investors were surprised and markets soared when the Fed decided to keep its existing program in place, citing a recent softening of economic data.
In our view it would appear that the Fed’s historic accommodations have been met by a fiscal tightening coming from Washington and the economy itself. Real wages haven’t increased at all over the past five years; federal spending has declined slightly due to the sequester and the pull back from Iraq; significant tax increases kicked in this year; interest rates have risen; and the cost of living continues to increase. All of these factors have created a de-facto tightening of fiscal policy, occurring while the Fed attempts to provide a looser monetary policy. While not new, the tightening and the accommodation are conspiring to offset each other.
Fed succession has been a hot topic of conversation ever since President Obama announced that Chairman Bernanke would not be coming back for another term. Speculation has been focused on two candidates: Former Secretary of the Treasury, Lawrence Summers, and current Vice Chairwoman of the Federal Reserve, Janet Yellen. Mr. Summers was viewed as being more hawkish towards inflation, while Ms. Yellen was considered to be more dovish towards inflation. In the old days, before 2008, a more hawkish chairperson would have received better acceptance from the bond market as the expectation would be a more vigilant fight against inflation. In today’s world, where the markets are addicted to the stimulus provided by the Fed, the threat of a hawk heavily concerns the bond market. When Mr. Summers recently withdrew his name from consideration, the bond (and stock) markets viewed the news positively as the assumption was that the Fed’s monetary accommodation would remain in place. In the long run ignoring (and trying to ignite) inflation could be a risky strategy, but for now it seems to be welcome medicine to the market.
US economic data continues to be mixed, but with a slightly positive bias. GDP for the 2nd quarter came in at 2.5% and is estimated to increase by less than 2% in the 3rd quarter. Pending home sales have softened significantly from the spring as mortgage rates (see chart below) have climbed from a low of 3.3% in late 2012 to 4.3% today.
A statistical oddity makes it challenging for the Federal Reserve to decide whether to start scaling back its bond-buying program based on unemployment data. US joblessness dropped to 7.3% in August because people gave up their search for work. The proportion of working-age people holding a job or looking for one has fallen to its lowest level in 35 years. The Fed could be in a position where the unemployment rate is low, but the number of working adults hasn’t progressed.
Europe finally appears to be gaining some traction, a nice switch from the past half-decade or so. The Eurozone PMI rose to 51.5 in August, the fastest rate of expansion since 2011. The services index also posted a positive number at 50.7, its first increase in 18 months. Germany, Italy, and Spain are actually growing, while the declines in France are moderating.
In Asia, Japan continues its impressive recovery as loosening monetary policy combined with massive rebuilding after the 2011 earthquake and tsunami have helped fuel the Japanese economy. GDP growth for the 2nd quarter was 3.8% while capital spending rose for the first time in six quarters. The biggest question is whether a pick-up in demand will force Japan to reduce its $800 billion in holdings of US debt. If so, it could put additional pressure on our Fed to defend rates.
China, which has been struggling for the past two years, is finally showing signs of a rebound, which is positive for the
other emerging markets as well as the Eurozone. The Chinese PMI is now back above 50. Overall it appears that most of the world’s major economies are experiencing a modest recovery.
A Civil War in Syria nearly pushed the world to the brink and has tested the resolve of our leadership. After issuing a red line warning, the Administration punted to the UN when a defiant Syria chose to cross that line. In a Clinton-like “define is” response, President Obama said: “I didn’t set a Red Line on Syria, the world did.” George Orwell would have loved this doublespeak.
Bonds and Debt
Bond yields began jumping in late spring based on the anticipated tapering by the Fed. The yield on the 10-year treasury peaked at just over 3% in early September after hitting a multi-generational low of 1.3% in July of 2012. While investors will eventually appreciate the accompanying higher yields on new fixed income investments that should generate better income, the result has been a difficult 14 months for bonds. Since peaking when bond yields troughed, the Barclay’s Aggregate bond index has declined by nearly 5%, which is the first decline since 1994.
Politicians have been bickering over the budget deficit, Obamacare, and whether to continue to fund the government or not. Sounds a lot like the summer of 2011, but in fact it is occurring as we go to press. The House has passed one budget resolution, the Senate another, and they can’t seem to agree, or possibly don’t want to agree. The last time we had a debt crisis the markets got whipsawed. Our guess is that unless the government goes into an extended shutdown, markets will have a slightly negative bias around the news. Given this is the 17th showdown on funding the government in the past 30 years, and all 17 have resulted in a funding bill passing, we are confident that this too shallpass and an agreement will eventually be reached.
Are we the only ones who find it unusual that the President is willing to negotiate with both Russia and Iran, but not the United States Congress?
The much ballyhooed (or maligned) rollout of Obamacare has been abysmal so far. After spending somewhere in the neighborhood of $6 billion to launch the website (about 3000x more than EBAY spent on their initial launch), it has been a failure. The website doesn't work, and the people responsible, well, won't take responsibility. We are trusting social security numbers and other personal data with a website that doesn't work. Anyone want to guess where the next big cyber-security threat will occur?
Does anyone else get concerned when the people who are proposing to takeover 1/6 of the US economy can't launch a working website after working on it for three years?
The American people have digressed into a populist mentality, and Obamacare is the most recent of what should prove to be the takeover of many industries in an effort to "level the playing field." Unfortunately, the Administration doesn't recognize that its tax and spend policies, combined with aggressive Fed intervention, are responsible for increasing the divergence in wealth between the 1% and the 99%.
“Freedom is never more than one generation away from extinction. We didn’t pass it to our children in the bloodstream. It must be fought for, protected, and handed on for them to do the same, or one day we will spend our sunset years telling our children and our children’s children what it was once like in the United States where men were free.”
- Ronald Reagan.