Monday, January 23, 2017

Newsletter 1/23/2017

Note: Click on graphs to enlarge for easier reading.


The Economy

The US economy is improving at a healthy pace. The GDP growth is at 3.5 percent in the third quarter of 2016.



The unemployment rate is the lowest it has been since 2009 at 4.7% in December, 2016.


The latest Inflation data shows inflation rose above 2% in January, 2017, the level that is a target for the Fed.  


The U of M consumer sentiment index climbed above 100 as illustrated in the following chart.


The Federal Reserve board (Fed) raised interest rates in its last December meeting by 0.25 % and stated that it will raise rates further in 2017. In my opinion, the Fed should raise rates to counter higher inflation. Raising interest rates while central banks around the world are keeping rates unchanged has the undesired effect of strengthening the dollar against other currencies and lowering overseas earnings. It is estimated that 30% of the S&P 500's earnings are from exports which will suffer if the dollar strengthens. The US dollar has been going higher against other currencies. China devalues their currency to achieve greater exports intentionally.

Politics

Donald Trump surprised everyone and won the presidential election in November, 2016. He also brought with him a republican government controlling both the House and the Senate.  In his inaugural speech on 1/20/2017 Donald Trump reiterated what he said in his campaign would make America "Great Again." He said he would stop the transfer of American jobs from America, will increase employment in America by spending on infrastructure, and will build a wall in the Southern border with Mexico to keep illegal immigrants out. This policy will have both a positive and a negative impact on the economy as follows.

1) In Economics 101, we learned about David Ricardo's law of comparative advantage that states free trade is good for both economies and raises the standard of living in both economies. Corporate profits are higher and therefore stock prices are higher with free trade. A trade war would be bad for both economies of the trading nations. Although Donald Trump has not stated he will wage a trade war and his appointed advisors and secretaries like Larry Kudlow and Wilbur Ross believe in free trade, one worries about the rhetoric and the possibility of a trade war. Hopefully a renegotiation of the free trade agreements will be sufficient.

2) Spending on infrastructure at a time when employment is full can only lead to inflation. Higher inflation leads to higher interest rates. This will lead to lower existing bond fund prices, higher future bond and other fixed income returns, and lower equity prices. The higher interest rates will lead to lower equity prices because the dividend growth model that uses the interest rate in the denominator would dictate a lower price for equities.

3) Slowing illegal immigration to the US will lead to higher food inflation and the higher interest rate consequences discussed in the point above.

4) Although there was no emphasis on tax reform during his inaugural speech, Donald Trump has promised a tax reform to give the upper income earners and the middle class a tax cut. He also promised a reduction of the corporate tax rate and an elimination of the tax on oversees cash repatriated home in the US. These are Republican ideas aimed at giving incentives to invest in the US economy and are referred to as trickle down economics. Democrat critics of this policy point to the past trials of this policy and allege that this tax policy leads to deficits. During the Presidential debates, Hillary Clinton predicted that this tax policy would lead to an additional $20 trillion in US national debt. Such a larger debt may lead to US debt downgrades which would be a disaster for the stock market.



5) Also, there was no emphasis on rolling back regulation that hinders business, another Presidential campaign promise from Donald Trump. Eliminating regulation such as environmental regulation will have the effect of increased profits, higher employment, higher inflation, and higher interest rates.

In conclusion one can predict higher interest rates and therefore higher fixed income returns with a Trump Administration. One cannot predict with a high degree of confidence equity prices because so much goes into equity prices including market psychology.
 
 

Markets

Markets around the world performed in 2016 according to the following chart.


Investment Strategy


Given the above one must be aware of the impact of the Trump Presidency and the Republican congress on the economy and the stock market in the US and the world. We are starting from a good point. Stocks are trading at all time highs, employment is full, and inflation is low. Any economic stimulus is likely to raise interest rates and there is plenty of stimulus in the pipeline coming. Therefore a balanced allocation between stocks and bonds is recommended. Here it is important to distinguish between bond funds and bonds. Bond funds will go lower in a rising interest rate environment while individual bonds will only go low when the bond is sold. Individual bonds are more appropriate and they would be available in the E*TRADE platform.

Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisory Representative

Thursday, April 21, 2016

Newsletter 4/20/2016

Note: Click on graphs to enlarge for easier reading.


The Economy

The US economy is improving at a moderate pace. The GDP growth is at 1.8% for Q4 of 2015. 


The unemployment rate is the lowest it has been since 2009 at 5.0%.


The latest Inflation data shows inflation is tame at less than 1.0%.  

The consumer sentiment index is still above 90.


The Federal Reserve board (Fed) raised interest rates in its last December meeting by 0.25 % and stated that it will raise rates further in 2016. In its March meeting the Fed decided to hold off raising rates due to global market concerns. In my opinion, the Fed should not raise rates until the data above shows high inflation. Raising interest rates while central banks around the world are lowering rates has the undesired effect of strengthening the dollar against other currencies and lowering overseas earnings. It is estimated that 30% of the S&P 500's earnings are from exports which will suffer if the dollar strengthens. China devalues their currency to achieve greater exports intentionally. Oil went lower in Q1 due to global supplies exceeding global demand bringing energy prices down. Oil going down has the dual effect of decreasing energy company earnings and putting more money in consumer hands. Overall energy prices going down has a positive effect on the US economy.
 
Politics

The presidential election is upon us in 2016 and in November we will elect a new president of the US. Most likely we will have to choose between Donald Trump and Hillary Clinton. Trump scares the markets as he stated he will wage trade war against China and Mexico. Hillary is not trustworthy according to polls.
 

Markets

 
Markets around the world performed in 2015 according to the following chart. 



The ranking is in the enlarged lower right corner as follows.
 
 

Year to date in 2016 the market performed according to the following chart.
 
 
 

The ranking is in the enlarged lower right corner as follows.
 
 
 
Investment Strategy
 
Given the above there are two types of investment strategies. The bullish strategy states stay invested in US equities as the market will go to new highs and will climb a wall of worry. The bulls point to the above charts and state that the market has technically broken out to the up side and will continue to go up. The bears state that earnings do not support current price levels and the averages have already achieved their price target. Sell in May and go away until the dust settles. The dust is the Fed decision and the election results.
 
 
Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisory Representative

Saturday, August 15, 2015

Newsletter 8/14/15

Note: Click on graphs to enlarge for easier reading.

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The Economy


The US economy is improving at a moderate pace. The GDP growth is at 2.3% for Q2 of 2015. 
From The Bureau Of Economic Analysis

The unemployment rate is the lowest it has been since 2009 at 5.3%.
From The Bureau Of Labor Statistics

 The latest Inflation data shows inflation is tame at less than 1.0%.
From InflationData.com

The consumer sentiment index is still above 90.
From Dshort.com

The Federal Reserve board (Fed) is contemplating raising interest rates in its September meeting and stated that it will be data driven in its decision. Overseas economies are mixed. Europe is coming out of a recession while China may be in a recession. Greece remains a risk to Europe by not being able to meet its debt obligation and the other debtor European countries following Greece if it exits from the EU. The European Central Bank is accommodative by moving interest rates lower and the Chinese government recently devalued their currency and made short selling illegal to ease the recession and stop the market selloff respectively. Brazil and Russia are in a recession. In my opinion, the Fed will not raise rates in September as the dual mandate to keep inflation and employment in check is met and raising rates will further make the situation worse in emerging markets. Also, it is best to invest in the US as the economy is growing and the market is less volatile than other places around the world.
 

Markets

 
Markets around the world performed year to date according to the following chart. 
From Yahoo Finance

The ranking is in the enlarged lower right corner as follows.
Note that Europe in terms of US dollars was not the winner. NASDAQ was the winner. The US dollar strengthened against the Euro making the return less than it would be in Euro terms. How does your portfolio compare?  
 

Stocks

 
Stocks were mixed. Some were winners like Netflix and some were losers like Micron Technologies. See the chart below for notable stocks performance year to date.
From Yahoo Finance

 
The ranking is in the enlarged lower right corner as follows.
 
Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisory Representative

Wednesday, September 21, 2011

Newsletter 9/21/2011

Note: Highlighted words provide links to sources to support my views below. Click on graphs to enlarge for easier reading.

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The Economy


The economy has slowed down in Q3 of 2011 with projected GDP growth numbers being revised downwards. Q2 GDP growth numbers have been revised from 1.8% to 1% per the chart below.

Economists agree that there is a 1 in 3 (33%) chance that there will be a double dip recession in the near future which also means that there is a 2 in 3 (67%) chance that there will not be a recession and normal growth will resume. The unemployment rate has stayed at a stubborn 9.1 percent despite the quantitative easing policies of the Fed and low interest rates. The Fed today added additional accommodation with operation “Twist” by selling short term bonds and buying long term bonds bringing long term interest rates down further. The Fed will also buy mortgage securities to lower mortgage rates. Inflation is running higher than expected at a 3.8% annual CPI index. Inflation is the negative side effect of low interest rates and excess money liquidity in the market. Housing starts are lower than expected and unemployment claims are higher than expected. The European sovereign debt crisis in Greece and Italy are still an unresolved problem that threatens European and US banks if Greece were to default on its loans and other troubled countries were to follows suit. Economists state that there is a 95% chance that Greece will default on its loans. Some economists are predicting that the Euro currency will not survive too long into the future. On the other hand, corporate profits were higher than analysts’ expectations and corporate balance sheets are flush with cash. Corporations have cut down costs and have not hired in mass yet. CEO’s are not certain about the future of the US and the world economies and are not willing to make large investments in hiring at this time. Forecasts for GDP growth for 2012 have been cut in half to 1.5% by some invetment bankers.

The Stock Markets

Systematic risk has scared investors in Q3. The debt ceiling debate took a toll on the stock market in July and August by delaying the decision to raise it to the last hour and by making the possibility that the government would not be able to make its payments a very real possibility. In addition, the S&P downgrade of the US debt took another toll on confidence in financial markets. That combined with the European sovereign debt crisis have taken the markets down from a high of a positive 10% YTD return in May to a negative 10% in August. See chart below. Stocks are cheaper now and valuations are being ignored by technical traders. High frequency programmed electronic trading has taken markets through day gyrations of 5% daily movements downwards and upwards. The uncertainty about the direction of the markets remains high and the markets are waiting for the resolution of the many components of that uncertainty before investors will feel secure about moving their money back into the markets.

Politics

The republican controlled Congress has opposed president Obama and the democratically dominated Senate in their plans to stimulate jobs and to raise taxes on wealthy Americans. Republicans believe in small government and that low taxes are the best way to improve the economy while the democrats believe in spending on bridges and highways to stimulate the economy. The democrats wish to fund their spending and reduce the budget deficit with tax increases on wealthy Americans while lowering taxes on the middle class and poor Americas. The democrats also wish to cut spending on subsidies for farming and oil companies. The republicans want to cut spending on entitlement programs while reducing taxes. The debate continues and there is deep division and partisanship about how to resolve the slowdown in the economy.

Future Outlook and Strategy

As outlined and predicted in the last newsletter, the markets came down and corrected in the summer of 2011. Going forward, uncertainty remains and markets will go through more gyrations. It would be prudent to start buying stocks when markets dip down in the coming weeks. The uncertainties outlined above will be resolved and the world economies will eventually repair themselves. The time to buy stocks will be when everyone is panicking and selling. There will be a large drop when Greece defaults on its loans. Banks and financial stocks will take deep cuts. However, just as in the Lehman Brothers crisis in the USA, markets will eventually stabilize and there will be a return to normalcy in the after math of the European debt crisis resolution. Europe will have to come up with a way to fix the financial crisis and there will be a resolution. The USA will stabilize and a compromise between the Republicans and Democrats will be reached to start the economy moving up again. Buying on the dips and getting back into the market is the strategy of this newsletter..

Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisory Representative
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Friday, June 17, 2011

News Letter 6/17/2011

Note: Highlighted words provide links to sources to support my views below. Click on graphs to enlarge for easier reading.

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The Economy
The economy took a step back in June with the latest numbers indicating a lesser of a recovery than economists had originally anticipated. The economic indicators came in below expectations with the unemployment claims being higher than expected at 430,000 claims during the week of June 4th. However, the June 11th data seem to be in line with expectations at 414,000. The GDP grew less than expected in Q1 at 1.8% versus a historic average of 3%. See Chart below. 

Until last week, Oil prices had been hovering above the $100 per barrel mark and gasoline prices had been above $4 per gallon and had taken its toll on consumers. Also, the Greek government taking austerity measures due to lack of revenues, inability to pay debt, lack of liquidity, and lack of availability of debt financing has worried economists that other European governments like Portugal and Ireland will follow suit and will lead to the collapse of the Euro banking and monetary systems. The stock market has reacted with a correction and the Dow Jones Industrial Average went down from a 10% return high in May to a 3% year to date return. See chart below.


The seasonal slowdown in the summer months is also becoming apparent as it did in 2010 when the stock market corrected by more than 20%. See chart below.

As of today the market has corrected itself by retracting about 7% from its peak of 10% in May per the 2011 chart above. The Fed Chairman Ben Bernanke has insisted that the quantitative easing that will not be continued beyond June has a delayed reaction and will eventually work through the system and help create jobs and stimulate the economy. Inflation seems to be slowing down which is good news for the economy. Core inflation which excludes energy and food is under control at 0.3% in May . The Dollar’s slide against the Euro has reversed and the dollar is strengthening again. See chart below.


Future Outlook
The strategy to move cash to the sidelines that was outlined in the April newsletter was the right strategy and would have avoided this painful correction. I continue to advise clients to let this correction take its course and wait for the summer doldrums to pass as it did in 2010 before moving more cash into equities. By the fall the market will start to turn around again just as it did in 2010. See the 2010 chart above. The recovery is slower than economists had forecasted and it is reflected in the pull back we are currently experiencing.

Silver
The investment product for this newsletter is the silver ETF SLV. Silver had taken a wild ride in 2011 going from $25 per ounce to $50 and then correcting back to $35. There is no science to evaluating prices of commodities like there is for stocks. There are no discounted cash flow models or P/E multiples. The only force behind commodity pricing is inflation and momentum. If the dollar goes down commodities go up and vice versa. Also, if inflation goes up silver goes up. When momentum investors move into a particular commodity like silver, the price becomes artificially inflated. In my view silver at $35 is fairly valued when looking at a straight line historical chart for sliver per the chart below. Unless inflation takes off again which I don’t expect, I don’t see a large upside to silver and would not recommend the silver (SLV) ETF at this time. SLV is a hold.


Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisor
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Sunday, April 24, 2011

News Letter 4/24/2011

Note: Highlighted words provide links to sources to support my views below.

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The Economy

The economy is recovering nicely with the latest unemployment rate dropping to 9.2% and less weekly unemployment claims filed in recent weeks. However, there are head winds ahead of us. Food and energy prices are rising as are commodity prices. Oil prices are back up to $112 per barrel and gas prices are at $4 per gallon. Gold is at an all time high of $1,504 per ounce, silver is at an all time high of $46 per ounce, and the US Dollar is at all time lows against foreign currencies. The Inflation and the low US Dollar are a direct result of the negative side effect of the Fed’s monetary policy of providing liquidity in the market through Quantitative Easing (QE2). The Fed’s objective is to stimulate the economy and to increase employment, but achieving this objective is causing inflation and a devaluation of the US Dollar. The Fed funds rate is at an all time low near zero and the money supply is increasing which is what causes high inflation. The fed will inevitably reverse direction and stop the Quantitative Easing and even increase interest rates in the near future in order to stave off inflation and to strengthen the US Dollar. The stock market indexes are at 2011 highs per the chart below.


Politics

The Republican controlled house lead by John Boehner is gaining control over the legislative process and dictating fiscal policy. The House passed a budget that reduced government spending. The House has also vowed that it will seek to reduce corporate business taxes and personal income tax rates. President Obama is compromising with the Republicans and acquiescing to their demands. Lower taxes are good for the economy and for the stock markets. This will bode well for future stock prices.

Stocks

Although investors enjoyed high stock prices last week, the stock market has been rather volatile lately with 1-2% reversals from one day to the next. Volatile markets are good for traders and are indicative of a lack of conviction on the part of investors. If the Fed reverses its Quantitative Easing policy and increases interest rates which is an inevitable conclusion, Stocks will retreat and correct in the short term. Commodity prices will also start to go lower and inflation will ease. Also, the US dollar will strengthen. It is advisable to reduce exposure to commodities and to move some cash to the sidelines at this time. The stock for this Newsletter is GM. Since the IPO in November, 2010, GM stock rose from $33 to $39 and then went down to $29.5 and traded at $31 at the close last Friday. High oil prices caused by supply disruptions in the Middle East and the low US Dollar seem to influence GM stock price in the negative direction. Also, the US government unloading its shares of GM stock will increase the share supply and cause pressure on the stock price. In addition, GM will issue new shares to the old bondholders per the bankruptcy terms which will dilute the number of outstanding shares and will reduce the stock price. GM stock is a “hold” in my opinion. There may be some volatility ahead of it in the short term. In the long term GM price should go higher to its 12 month price target of $42 as predicted by an average of 16 analysts.

Disclosure: I am a GM employee and do not own GM stock at this time.

Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisor
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Saturday, December 27, 2008

News Letter 12/27/2008

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The Economy

2008 was a tumultuous year for the markets. The markets suffered the worst economic crisis since the great depression. Markets indexes went down over 35-45%. click on chart below.


Commodity prices such as oil and gold reached record highs early in the year that later came crashing down. Oil went from a high of $149 per barrel in June (gasoline at $4.25 per gallon) to $36 per barrel (gasoline at $1.60 per gallon) in December. Gold went from $1000 per ounce to $800. Many other commodities such as steel and copper went through similar gyrations.
Retail sales fell, housing values declined, and credit markets stopped functioning in domino effect responses to the underlying credit problem and high energy prices discussed in earlier News Letters.
There were many bank failures and many financial institutions had to be rescued by the Fed to prevent a total collapse of the world financial system. Declining house values, loan defaults, and the credit freeze discussed in earlier News Letters were the reasons for the failure of the financial systems. Lehman Brothers and Bear Stearns filed for bankruptcy protection and were allowed to fail by the Fed. In the aftermath, Freddie Mac, Fannie Mae, and AIG insurance were subsidized by the Fed to prevent a total meltdown in return for a tax payer majority equity stake in the mentioned companies. In late December the Big three auto companies (GM, Chrylser, and Ford) were rescued by the Fed by extending loans with conditions for viability. The auto companies were troubled by a lack of credit availability for auto dealers and consumers. By extending those loans, the Fed acted to prevent a further decline in employment that reached 6.7% in December. The Fed also lowered the federal fund rate in steps to a rate of zero to mitigate the crisis. Congress also approved a $700 Billion Troubled Asset Relief Program (TARP) to allow the Treasury Department to buy distressed assets (homes) from banks and infuse cash into the system.

Future Outlook

Economists have different views on the outlook for 2009. Mohamed El-Erian of Pimco predicts a year of sideways trading with some ups and downs and he is cautious on stocks overall. Mohamed along with Jim Cramer recommend buying selective high dividend yielding stocks to ride out this economic downturn on the way back up. Other economists like Larry Kudlow predict a return to normalcy and advocates planting "mustard seeds" to reap the benefits of this opportunity brought on by this crisis. Larry points out that oil prices are at 5 year lows and the consumers which makes up 2/3 of the economy will have extra cash to spend. Dennis Gartman predicted that consumers will save more than ever for fear of cash depletion. He changed his bearish outlook to a bullish one after the Fed lowered interest rates to zero. He recommends buying stocks of companies that make "things that hurt when they fall on your foot." Other economists argue that the extra cash is not enough to counter the drop in house values and unemployment. It is my view that given the economic incentives in place today with zero interest rates and low commodity prices the economy will reach normally with a new set of rules in place for borrowing and lending. It will be a slow but steady climb up. There is no single investment strategy that fits every investor out there and each person has unique needs. There are no guarantees in stock markets. The only guarantee is that in the long run stock market averages go up at an average of about 10% annually. A diversified portfolio of stocks and bonds is the best strategy for long term investing.

Politics

The Democrats won the majority seats in both the Senate and the House and Barack Obama is elected as the first black President. The President Elect has appointed shrewd economic advisers to help him guide the economy. He has vowed to lower taxes on the middle class and raise them on income earners above $250,000. His press releases late in 2008 were positively received by investors and the markets went higher when Obama spoke and declared his economic stimulus plan. President Elect Obama will invest $800 Billion in rebuilding America's infrastructure to create jobs and get the economy moving again.

Stocks and Bonds

GM is a very risky stock to own given the possibility of bankruptcy and the high debt that has to be restructured in the coming months. Google is cheaper now than it has ever been in terms of forward P/E ratios. Market ETF's are good investments to buy on down days. Dollar cost averaging is the best strategy for buying stocks by buying in increments at different times. Treasury Bond yields are at historic lows but priced high due to high demand for risk free products. I would avoid buying treasury Bonds at current yields. There are better risk free products available for investors.

Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisor
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