Fear Mongers Scream: Sell Bonds NOW (And Why You Shouldn't)

Investors know Marc Faber (publisher of Gloom, Boom & Doom Report) as the guy who called the Black Monday crash of 1987 (he told investors the week before to sell their stocks) and correctly stated we were entering a 'bear' stock market in August 2007 (the S&P 500 peaked 2 months later before crashing over 50%).

Today, he is stating interest rates should begin to rise within 3 months, the US dollar is set to gain strength.  The government is forecasted to embark on a second round of purchasing government debt (QE2).  All of this is inflationary and potentially bad for current bond holders.

Even Warren Buffett has stated that investors who buy bonds now "are making a mistake".

So, why not sell every bond you can get your hands on?

Several reasons to maintain your bond holdings:

• First, like any good investment, your bond holdings were hopefully part of an overall asset allocation strategy; one that included bonds for income and principal preservation. 
• Upon purchase, you know exactly the yield-to-maturity of your bond which includes all interest payments and return of principal.  If you intention is to hold your bond until maturity, intermediate price fluctuations are irrelevant.
• Bond mutual funds provide excellent diversification depending upon the stated investment objective of the fund manager.  This is the area where investors need to exercise caution in a rising interest rate environment due to the nature of bond funds with an active strategy.  Due to turnover in the funds, an investor could realize losses with increasing interest rates.  
• US Government-backed bonds may be important to you.  These are the safest bonds and, if held to maturity, enjoy ultimate safety and liquidity.
• High quality general obligation (backed by the tax-authority of the issuing municipality) bonds are often exempt from federal taxes and, in some cases, state and local taxes.  More importantly, the secondary  market is dominated by retail investors (36%), mutual funds (34%) with retail trades accounting for 80% of trading volume. Foreign investors typically do not hold municipals.  The municipal market therefore tends to be less volatile than the stock market where hedge funds and larger institutions, on the worst days, drive volume and volatility.
• If you are employing a bond ladder strategy, it could prove disastrous to interrupt the maturity schedule by selling early and possibly losing principal in a rising rate environment.

CONCLUSION:  Rising interest rates provide a clarion call to review all investments particularly bond holdings.   Each asset whether it is a stock, mutual fund, bond, CD, etc. should be part of an overall strategy whether implemented by a fee-only, financial advisor or an individual.

Excellent Opportunity to Finally Understand Your Company 401k Plan

New Department of Labor regulations require more retirement plan information for investors. Starting in 2011, companies are required to give greater details about:

* Investment plan performance
* Fees and expenses
* A glossary to explain terms in plain language

With a goal of simplifying retirement planning, rules will also allow investors to make "apples-to-apples" comparisons among their investment options.

Investors Leave the Stock Market... And Watch the Stock Market Surge!

2010 3rd Quarter Memo                                   Green View Advisors

Blog: chris-rhim.blogspot.com                                            Email: crhim@greenviewadvisors.com

Still feeling the effects of the European debt and banking crisis, US investors continued a four month trend of pulling billions out of stocks and buying bonds, exactly the opposite advice of many fee-only, investment advisers.  For the quarter, the S&P 500, Dow Jones Industrial Average and NASDAQ stock indices all increased 10-11%, foreign stocks were up 16%, investment-grade bonds were up 5% and US Treasuries up almost 3%.  Why this occurred is due in part to a disconnect in the outlook between businesses and consumers.

 

Large corporations lead our economy in many ways.  Companies that do business nationwide may be dominant in their industry, have thousands of employees and contribute to the local economy.  Our leading corporations also sell goods overseas which buoy sales during domestic downturns.   As the recession deepened, companies slashed payroll, reduced overhead costs, closed less-profitable units and shifted work to cheaper regions while streamlining processes.  This has an immediate impact on their bottom line as cash has piled up.  Businesses profits are up 4% from the first quarter and over 26% from a year earlier.  While they have rebuilt inventory, they have been hesitant to resume hiring.  Businesses need clarity before committing resources to new initiatives.  Opportunities present themselves when a combination of factors come together making the risk worthwhile.  Muddling the picture even more, the government will have to decide to either extend the soon-to-be-expiring tax laws or create new potentially punitive ones.  In this environment, it is understandable why large corporate balance sheets look relatively healthy.  Economist Ed Yardeni says it typically takes about two years after a recession for business spending to pick up once the economy has stabilized.  It also explains why there is a lack of drive to change, innovate, acquire and take on risk in the face of such uncertainty.  As a result, balances sheets look healthy, companies have been buying back their stock, refinancing their debt, and their stocks have been surging.

 

The consumer has not realized as much improvement.  Unemployment is stuck around 9.6% with not enough companies hiring.  Consumers feel poorer due to plummeting home values which reduces the equity in their homes.  All types of consumer borrowing including credit card, home equity, and auto loans have dropped significantly.  Wages have either dropped or remained flat.  While government transfer payments such as unemployment insurance, Social Security, Medicare and Medicaid have increased, the growth of these payments, as a percentage of Federal spending, remains troubling.  These fixed payments along with new health care regulations, defense spending and the like present a growing burden for current and future tax payers.  While inflation is currently muted, there is a real threat of much higher rates which would not only mean more expensive mortgages and consumer loans but could further threaten those on fixed pensions. Given this backdrop, it is understandable why consumers remain a bit shell-shocked and have been buyers of bonds.  Unfortunately, extremely low yields on bonds and the risks of higher rates have made many bond investments a higher risk than the stock market.

 

Business should pick up once new tax laws are passed and companies sort out how the new health care rules apply to them.  Banks and lenders must also work much harder to resolve personal and commercial bankruptcies and foreclosures that continue to add uncertainty in the real estate market.  Once these losses are realized, proper property valuations can be made and lending will pick up to those waiting to buy, sell, refinance or take out equity.  The recent freeze on residential foreclosures hurts both homeowners and banks, delays the repricing of foreclosed homes and neighborhoods and adds greater uncertainty to the market as we approach 2011. Until some of these things happen, the disconnect between consumers and the stock market will continue. 

As always, please contact me at (301) 655-4970 should you have any questions or concerns.

Chris

Fee-Only  ◊  NAPFA-Registered  ◊  Financial & Divorce Planning  ◊  Investments  ◊  

Refinancings: The Achilles Heel of Economic Recovery

The commercial real-estate market, like homeowners, have faced declining values, delinquencies, foreclosures and bankruptcies.  This past quarter saw the national office vacancy rate (the percentage of space existing but not occupied) hit a new high of 17.5%, the worst since 1993.  Rental income from tenants provides the economic basis for building valuation.

With so much space now available, even if businesses begin hiring, it might take years to absorb the excess office space now on the market.  This becomes a major problem when you want to refinance building debt.  And therein lies the problem:  approximately $1.4 trillion in of debt is coming due within the next 4 years.  If the property value has fallen below the amount of debt, you can't refinance; a lesson millions of homeowners already know.

So, how does the economy crawl its way back with commercial property not being a dead weight?

* We've begun to see some of the first signs of rent stabilization.  The decline in rents slowed this quarter perhaps foreshadowing the bottom of rent decline.

* Second, the uptick in the national office vacancy rate was also smaller than anticipated.

* Coastal cities are beginning to see signs of competitive bidding on the most desired buildings while cities hard hit from overbuilding Phoenix, San Diego, Las Vegas continue to see rents slide.

* For new entrepreneurs and businesses, this may be the once-in-a-lifetime opportunity to secure a desirable office building with upgraded amenities, in a prime location at a discounted rate.  Pick a building you would like to work in, walk in the front door and ask for the management company is the best way to begin.

The key to recovery will be when forward looking business people see the possibilities before them and are in a position to take advantage of them.  This is how the Warren Buffett's of the world invest: buy when there's blood in the street. 

Getting Serious About Reducing Pension Obligations

Public pensions are now on the table for reductions across the nation as states grapple with budget deficits and unfunded pension obligations.  For years, public pensions have been an accepted part of public sector employee benefit packages.  The argument went something like this: by accepting a lower salary during working years, workers would receive a pension for life during retirement.  The pension would be funded with employer/employee contributions and investment returns.  It worked fine so long as the economy was strong and tax revenue kept rolling in.    Employees could also retire relatively young, take their pension, retirement accounts, perhaps even a retirement bonus, and then work in the private sector.

Like the issues we face with Social Security, the numbers work in your favor until either the number of workers change or the investment values drop.  Over the years, both the Federal and most state governments have been adding employees and with them additional healthcare, life insurance and retirement benefits.  Investment values across the board have plummeted reducing the pool of money to pay future and current retirees.  In California, about 80 cents of every government dollar goes to employee pay and benefits.  That is an absurdly high amount for compensation for any government employee.  At that rate, it would probably be less expensive to just forget about the government and cut people a check.  Contrary to popular belief, a recent article in the Washington Post disputes the myth that public employees are underpaid.  Public sector workers earn an average of $39.75 an hour in wages and benefits while private-sector employees average only $27.64, a huge 45% difference.  The difference reflects that fact that there are more professional  jobs in government.  Public employees generally enjoy better retirement benefits than non-public sector workers.

Employment costs are typically the largest expense an employer has when retaining top talent.  Governments have taken the same approach but have put future taxpayers on the hook for a growing public sector work force that has become an albatross around the neck of taxpayers.  All workers should take care of their own retirement.  That means saving, investing and learning a little on how to do so.  This should be about personal responsibility and not be a public expense.