Will it be a “bearish” summer?

June 15, 2012

Lately, the weaker-than-expected economic data globally and the deepening of the European sovereign debt crisis have prompted market observers to sound the warning bells for a bear market. Some are comparing the current downdraft to what happened in 2010 and 2011, implying much further downside. Others—including international policy makers—have compared the current environment to the summer of 2008, likening the fall of Lehman Brothers to a Greek exit from the eurozone and emphasizing the unknowable “unknowns” and the spillover effects that could follow such an exit.

It seems as though a bearish sentiment has become increasingly pervasive. The American Association of Individual Investors’ sentiment survey has shown a significant increase in bearish sentiment in recent weeks. From our perspective, this level of bearishness is in sharp contrast to the year-to-date total return of 2.6% in U.S. equities! So the question is…whether such bearishness is warranted.

We are highly skeptical of the “doom-and-gloomers” or any forecaster with a strong view of how markets will perform in the near future. Markets and the events that shock markets are nearly impossible to predict on a consistent basis. A broader review of the economic data seems to indicate that while the U.S. economy might be in another “soft patch,” there is still meaningfully positive growth and that growth is likely to continue.

The media is focusing on Europe as the potential catalyst to knock the United States off its path of positive growth; we view this as unlikely. While peripheral Europe has serious solvency and liquidity issues, core Europe is growing and is not in recession, which gives Germany and France room to act to stabilize the economy. Political actions are almost as difficult to predict as the markets; however, the cost of a eurozone breakup would be much greater than the cost of a bailout to the core European countries. So if core Europe acts rationally, it’s difficult to imagine that the European Union would break up, even if it means large additional bailouts or, more likely, major structural reform.

Furthermore, Greece is relatively insignificant. A Greek exit could send a troubling message and start the game of “who’s next,” but on its own, it is a non-event. And, we believe that a Greek exit is unlikely. Returning to the Drachma doesn’t solve any of Greece’s problems; in fact, it enhances them by leading to potential hyperinflation and restrictive capital controls, making an exit even more unlikely. 

So while it might feel reminiscent of the summers of 2008, 2010 and 2011, it’s the summer of 2012. The situation today is materially different from those of previous years. The United States is growing, core Europe is creatively (if too slowly) dealing with the problems of the peripheral countries, and central banks around the world are working to coordinate and promote growth. Overall, the data indicates a heightened level of concern, but nothing that should distract us from staying focused on the long term.

Wealth Enhancement Group


Perspective: JPMorgan’s big losses

May 15, 2012

JPMorgan Chase’s surprise $2 Billion loss is exactly what’s not supposed to happen anymore, but we are not surprised. Before 2008, big Wall Street banks had a great deal going with the American people. If the banks bet big and won, their employees were paid handsomely; if they bet big and lost, well then, American taxpayers were on the hook. The Volcker Rule, part of the sweeping Dodd-Frank bank reform measures that were passed in response to the financial crisis, was supposed to change that by taking the ability to make big, short-term bets on risky assets away from banks that are considered “too big to fail” and, therefore, implicitly backed by taxpayer money. However, the Volcker Rule won’t take effect for another two years, and this recent blunder by JPMorgan will be additional ammunition for bank critics who want to impose more regulation.

These big bets, though, tend to be really profitable. The highly skilled traders that banks can attract, coupled with their knowledge of the markets and technological prowess, means that banks’ trading desks can win more often than Main Street investors. Given that greed tends to rule (and greed is not always bad), it’s no surprise to us that JPMorgan found its way back into the business of betting its own money in a big way. These bets have been very profitable and, up until the surprise announcement, had been almost a bragging point for JPMorgan’s revered CEO Jamie Dimon.

But there is no return without risk, and the risk finally caught up with them. Dimon attributes the loss to “many errors, sloppiness and bad judgment.” He makes it sound as though taking risk doesn’t always lead to some unexpected losses, and if they could have had “more control” over the risk they were taking, the losses wouldn’t have occurred. That’s just not true. The lesson here is that when big bets are taken, both big gains and big losses are possible, regardless of how good you are at managing risk.


Wealth Enhancement Group


The opinion voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. The opinions expressed in this material do not necessarily reflect the views of LPL Financial. To determine which investment(s) may be appropriate for you, consult with your financial advisory prior to investing.

Mid-Term Market Moves – Part 2

October 14, 2010

Since World War II, there have been only two mid-term election years (1978 and 1994) during which U.S. equities did not experience a fourth-quarter rally. During both of these years the Federal Reserve (Fed) was aggressively hiking interest rates.
In 1978, the lead up to the Islamic Revolution resulted in strikes and unrest in Iran. In November 1978, a strike by Iranian oil workers reduced production from 6 million barrels per day to about 1.5 million barrels. At the same time, foreign oil workers fled the country. In the United States, inflation hit 9% in the fourth quarter with no signs of stopping as it approached double-digits. In response to soaring inflation pressures, the Fed was aggressively hiking rates during 1978 with 1.25% of hikes in the fourth quarter alone (the Fed ended the quarter with a policy rate of 10%).
In 1994, the S&P 500 turned in a flat fourth quarter on the heels of a shift in power to the Republicans. However, the performance was less of a reaction to the election results than to rising fears of recession amid the Federal Reserve’s aggressive hiking of short-term interest rates and a corresponding run-up in long-term interest rates (to nearly 8% from below 6% at the start of the year).
We expect the Fed will be on hold until next year, but past performance suggests a headwind for the stock market if the Fed does start to hike late this year.

Mid-Term Market Moves – Part 1

October 12, 2010

So far, the stock market performance in 2010 has tracked the typical pattern for U.S. stocks in mid-term election years, albeit with a bit more than the usual volatility. The path is usually range-bound and volatile, but capped by a strong fourth quarter rally averaging about 8%.

The market’s reaction to mid-term elections has nearly always been positive, even when the balance of power has shifted in one or both houses of Congress—as we expect this year with the Republicans having a good chance of taking the House. In four of the five years that mid-term elections resulted in a change in power (2006, when Democrats took the House and Senate; 2002, when Republicans took the Senate; 1986, when Democrats took the Senate; and 1954, when Democrats took the House), fourth-quarter returns were positive, much like those in mid-term election years when no change in power took place.

Catalysts on the Horizon – Part 3

September 23, 2010

5. The fourth quarter of mid-term election years is almost always favorable for stocks. The market’s reaction to mid-term elections, as uncertainty fades, has almost always been positive, with fourth quarter gains averaging 8% in mid-term election years. So far, the stock market performance in 2010 has tracked the typical pattern for U.S. stocks in mid-term election years, albeit with a bit more than the usual volatility.

6. If history is any guide, the disappointingly soft economic data over the past few months may soon begin to firm. Looking back over the past 60 years, about one year after the start of every recovery a soft spot emerges. Some closely watched indicators of growth are likely to be near the bottom of their typical soft spot-driven decline and poised for a rebound. As the data begins to firm later this year, the typical pattern of recovery may continue to unfold as it did in the post-recession recovery years of 2003 and 2004 when a late year rally in 2004 resulted in gains for the year.
Unfortunately, all of these potential catalysts are a month or more away while the economic data continues to disappoint.

The volatility that has defined this year is likely to continue with ongoing losses to be recouped by a late-year rally. In the meantime, we continue to find yield-producing investments attractive.

Catalysts on the Horizon – Part 2

September 21, 2010

3. Post-election clarity in Washington may begin to emerge. The balance of power is likely to shift between political parties following the elections. This may lead to more of a political balance in Washington and slow the pace of legislative change resulting in the “gridlock” the market has historically favored.

4. Following the election, the potential for tax cut extensions may become more visible. Based on comments in recent weeks, the party consensus among congressional Democrats on taxes seems to be eroding with some members increasingly in favor of extending the Bush tax cuts. After the election, it is possible PAYGO rules that require budget offsets to any tax cuts are waived allowing the extension of many, if not all, of the Bush tax cuts into 2011.

Catalysts on the Horizon – Part 1

September 16, 2010

We continue to believe a late-year rally for stocks will fulfill our long-held outlook for modest single-digit gains on the year for the S&P 500. However, over the next month or two, the risk that the soft spot lingers and pulls the market back to the lows of the year is significant. Seasonal factors also favor caution given the historically weak performance in September and October. Since 1950, the month of September has more often led to a decline than a gain in the S&P 500 index. However, November and December have provided some of the best returns of the year, on average.

There are a number of potential catalysts for a fourth quarter rally:
1. At the Federal Reserve (Fed) Meeting on September 21, the Fed may announce additional stimulus measures to stimulate growth. On Friday of last week, in his speech from the Fed’s Jackson Hole symposium, Fed chairman Ben Bernanke seemed to pave the way for another round of monetary stimulus. Although he noted that the Fed needs to see more evidence of a slowing economy or further disinflation to act. Friday’s profit warning from a large Technology company is potentially significant in tilting the Fed towards easing should it be followed by a number of other companies in the coming weeks. The unemployment rate ticking up in the August employment report due to be released this Friday would move the Fed in the direction of more stimulus, as well. It may be unlikely the Fed will move as soon as a few weeks from now, there will be plenty of data released before the September 21 FOMC meeting that could show further softening of the economy, raising investor expectations for Fed action.

2. Positive pre-election policy discussions in Washington as incumbents seek to alter the tide of the popular vote — often termed an “October surprise”. In the weeks ahead of the November 2 mid-term elections, incumbents in Washington may take positive stances on issues that are market friendly. Incumbents are in trouble according to state and regional polling data. In seeking to turn the tide of voter sentiment they may talk about tax cuts or other issues favorable to stock market investors.