Michigan Financial Advisor - Certified Financial Planner Michigian - Financial Planning

Newsletter 9/21/2011

2011-09-21T19:15:00.004-05:00

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 Advisor
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News Letter 6/17/2011

2011-06-17T00:22:00.011-06:00

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 4^th. However, the June 11^th 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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News Letter 4/24/2011

2011-04-24T19:18:00.007-05:00

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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News Letter 12/27/2008

2008-12-27T12:45:00.027-05:00

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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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News Letter 11/26/07

2007-11-26T16:08:00.001-05:00

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The Economy:

Fear was the overriding sentiment in the month of November. During the month of November the stock market gave up most of the gains achieved earlier in the year. Click on the chart below to check stock market index performance to date.

The drop in November was caused by the credit crunch, recession fear, dropping house values, and the high oil prices discussed in the last News Letter. Many financial institutions such as Countrywide, Washington Mutual, Bear Stearns, and Citi Bank wrote down Billions of dollars of bad loans as losses on their balance sheets. As a consequence financial stocks took a beating and took down the entire stock market with them. Multiple write down headlines drove markets continuously down at a fast pace. Such headlines scared investors into selling off stocks and moved their money into Bonds and fixed income securities to protect their assets. High oil prices trading near the $100 per barrel level exacerbated the situation. The high oil prices were driven by the fear that the oil supply may be disrupted due to tensions between Turkey and the Kurds in North Iraq and the threats and counter threats between the West and Iran. The low dollar is also a factor in the price of oil and other commodities such as Gold. To add to the fear sentiment the Fed released a report indicating reduced economic growth in 2008 which means lower than expected earnings for companies and lower price targets for stocks. The University Of Michigan Consumer sentiment Index came in lower in November as well indicating reduced economic activity in the near term. Some economists are forecasting a recession in 2008 as a result of the credit crunch and the consumers holding back on spending. A few positive indicators were Wal-Mart and HP beating analyst estimates with their quarterly earnings releases, low unemployment rate, and dropping borrowing interest rates. The core inflation rate remained low despite high commodity prices worldwide. Surprisingly, producers are absorbing the high commodity prices and are not passing on the higher costs to consumers thus far.

Future Outlook:

As usual the outlook is mixed among economists. Some economists are forecasting a recession based on the economic indicators discussed above. The Fed may intervene in December and lower Interest rates one more time to stave off a recession but such a move will weaken the US Dollar and increase inflation further leading other economists to believe that the Fed will not lower rates in December. Other economists are forecasting a reduced growth but higher stock prices nevertheless. They claim that the recent stock market drop is an adjustments and an overreaction to two sectors of the economy namely financials and the housing industry. They see the correction as an opportunity to increase holdings in stocks. They maintain that stocks are undervalued despite the reduced growth forecasts. It is my opinion that barring any major events such as a terrorist act or a disruption in the oil supply, the markets will continue to grow modestly. Long term investing in a balanced portfolio of stocks and bonds is the best strategy and any market drops are a dollar cost averaging opportunity.

Stocks:

The same stocks that were recommended previously are lower and present a good investment opportunity. GM’s recent $39 Billion write down was misinterpreted by the markets as a cash write down. It was actually a change in the forecast of the company’s use of carry-over net operating losses and that forecast is reversible. The GMAC write down of bad loans did affect GM’s earnings in Q3 because GM still owns 49% of GMAC. That was a one time write down and should not affect the turn around plan. GM employees should be careful not to invest a large portion of their savings in GM stock to maintain diversification. Also, Google’s target has been revised higher due to the introduction of the G-phone, yet the stock is lower recently. My new favorite stock is the QQQQ the NASDAQ 100 index. I believe the index is undervalued and has been beaten down lately.

Disclosure: I am a GM employee and own a small number of shares of GM stock.

Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisor
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News Letter 10/7/2007

2007-10-07T14:06:00.001-06:00

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The Economy:

The stock market underwent severe fluctuations during the summer of 2007 as economic data and Fed policy decisions shifted investors’ sentiment form bullish to bearish and then back to bullish again. The largest influential factor was the credit crunch caused by loan defaults due to dropping house values. All across the US and especially in Michigan, house values have dropped and the housing bubble that has been brewing over the last few years is bursting. As a result borrowers are increasingly finding they owe more than their houses are worth and they are defaulting on their loans. Banks in turn are revising their lending practices and tightening lending standards. This credit crunch cycle is leading many economists to predict an economic slow down or a recession. They argue that consumers will run out of easy available credit to spend on goods and services which will ultimately lead to a recession. The Fed stepped in at the right moment in August and reduced the discount rate (rate the Fed charges banks) by a 50 basis points and the Fed funds rate (rate banks charge each other) by 50 basis points later in September. The Fed funds rate reduction unexpectedly shocked the markets and reversed a bearish trend in one day. As a result the markets quickly recovered and went up to all time highs. Click on chart below for Stock Market Index performance to date. The Fed’s intent in easing of the money supply was to reverse the credit crunch and infuse cash into the markets to reverse the slow down and recharge the economy. The side effect of money easing is inflation. While the core inflation rate (minus energy and food) has been contained over the last few quarters, going forward inflation will become a concern and will be watched closely by the Fed. Oil prices are at all time highs at $81/barrel as well as many other commodity prices. Commodity prices are also influenced by the currency exchange rates as well. Low US interest rates over the last few years relative to other countries’ interest rates have pushed the US Dollar to recent lows trading at 0.70 Euros and 1 Canadian Dollar. Imported commodities such as oil are more expensive as a result. The weakening Dollar is not actually bad for the economy as exported US products will gain a currency exchange advantage. Companies that export products such as GE will increase their global sales as a result. Foreign Companies that export products to the US will suffer reduced sales.

Future Outlook:

As usual the outlook is mixed among economists. Some economists are stating that the Fed went too far with the 50 basis points funds rate reduction. They argue that the Fed’s action will increase inflation and will weaken the US Dollar further. They predict that the Fed will ultimately have to increase rates back up to counteract inflation and the currency weakness. As a result the rate increase will lead to a slow down and a recession. Other economists state that the Fed has saved the economy from a recession and there will be a resumption of growth into the future. They state that as long as inflation is contained, the currency weakness is not a bad thing and is good for growth. They state that if future earnings grow modestly at 5%, discounting that future growth into the present leads to a conclusion that the markets are still undervalued by 20% meaning that markets have room to grow by another 20%. It is my opinion that barring any major events such as a terrorist act or a disruption in the oil supply, the markets will continue to grow modestly. Long term investing is the best strategy and any market drops are a dollar cost averaging opportunity.

Stocks:

Previous News Letter stock recommendations such as GM and Google have done well. My favorite stock now is Microsoft (MSFT). MSFT has not appreciated as much as other large cap tech stocks with international markets exposure. MSFT is now trading at $29.84. The 12 months average price target is $35.64 for the 21 analysts that follow MSFT. The PEG ratio is relatively low at 1.5 as well meaning the stock is inexpensive.

Disclosure: I don't have any position in Microsoft. I am a GM employee and own a small number of shares of GM stock.

Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisor
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News Letter 4/28/2007

2007-04-28T16:21:00.001-06:00

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The Economy:

There were three negative economic indicators and two positive indicators at the end of Q1, 2007. The economy grew at a slower rate of 1.3% in Q1/07 compared to a growth rate of 2.5% in Q4/06 indicating slowing growth. Inflation rose to a higher rate of 2.2% in Q1/07 compared to 1.8% in Q4/06 indicating rising prices. Oil prices have gone higher to $66.50/bl compared to the low 50’s at end of Q1/06. This does not bode well for inflation in the near term. Gas prices have also gone higher to $2.95/gallon due to high demand and inventory shortages. The housing industry continues to suffer from low demand and lower prices. Housing starts dropped 17% from last year on an annualized basis. On the other hand, there was good news on the unemployment front with the latest unemployment rate at historic lows of 4.4% in March. There was also good news on the corporate earnings front in Q1. Earnings came in higher than expected pushing the stock market to all time highs with the DJIA reaching 13,000. See market index performance year to date in the chart below.

Future Outlook:

Going forward, there are two camps out there. The optimists like Jim Cramer state that we have just started to go higher and the Dow Jones Industrial Average will reach 14,000 by the end of the year. Jim argues that in this bull market there is a shortage of stocks and anytime money managers buy large blocks of stocks they push stock prices higher because there is high demand and short supply for stocks. Morningstar’s Pat Dorsey believes that stocks are still undervalued and the Dow would be fairly valued at 14,000 meaning there is room for the Dow to go up another 7.7%. On the other hand, pessimists point to the negative indicators mentioned above arguing that we are due for a correction. They also argue there is a seasonal drop in stocks in the summer months and since the markets have reached all time highs, investors should sell their stocks and buy back in October after the summer correction. They point to the adage “sell in May and go away”. The seasonal effect is actually real and is related to some money managers taking summer vacations and taking their money temporarily out of the market. My view is that no one can predict the future. I believe that there is a good chance that the markets can go down. If you are nervous, taking your money out of the market during the summer months and placing it in a money market fund would be okay given that on average we have gone up 5.5% year to date. I have personally taken some money out of individual stocks that had large returns. My long term retirement money continues to be invested in mutual funds. I don’t believe in market timing and believe that in the long run markets continue to go higher.

Economic Risks:

As I pointed out in previous News Letters (see links on the left margin), the largest threat to the economy continues to be terrorism, Iran, and the weather. The news yesterday regarding the thwarted Al-Qaeda plot to attack oil installations and government officials in Saudi Arabia is a reminder of the real threat that terrorism presents. Iran’s seizure of British sailors in March drove the markets down because of the fear that the West may go to war with Iran disrupting oil supplies to the world. The hurricane season is upon us as well and any hurricane related disruption in energy supplies in the Gulf of Mexico will have a negative effect on the stock market. Oil is the most important commodity in the global economy and any disruption in its supply will have a dramatic effect on markets and economies world wide. Economies are globally connected. The proof happened in March when China’s central bank raised interest rates to slow down their economy. China had a 10% market correction in one day which immediately lowered markets in Europe, Asia, Latin America, and the US. The global economy is a very delicate balance. Any disturbance anywhere will have a negative effect everywhere.

Stocks:

My favorite stock is Google. Google continues to blow away earnings and steal Internet search market share from Yahoo and Microsoft. Despite the stock price appreciation in recent times, Google will go higher. The analysts’ average price target for Google is $585. Google closed at $479 yesterday. The PEG is at 1.06 which means it is cheap. I think Google will go much higher than the analysts’ target.

Disclosure: I don't have any position in Google. I am a GM employee and own a small number of shares of GM stock.

Mike Katto
CERTIFIED FINANCIAL PLANNER™
Registered Investment Advisor
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