Dan’s Blog

Did You Hear That?

Dan Calandro - Sunday, January 26, 2014

“The market” slipped on a banana peel this week and fell 579 points, or 3.5%; “strength” lost just 0.7%, and gold added 1.1%. Speculation about the cause of the adjustment is swirling, with many taking heads blaming it on deteriorating conditions in Emerging Markets.  

First things first…

The Dow Average has been trading much higher than it has in its history. In fact, the Dow ended 2013 eleven-percent higher than it was valued at the peak of the tech-boom – when economic growth averaged a robust 6+% per year in Nominal terms. Today the economy is growing less than 2% in Real terms, whereas the tech-boom averaged 4.5% Real growth annually. Even after this week’s minor sell-off the Dow is still trading near an all-time high multiple to Real GDP. 

The condition of the Market hasn’t changed: economic growth for the last six years has been mute; chronic unemployment is acting like a cancer to recovery; the level of big government welfare donations are draining a massive amount of worth from the middle class; and the world socio-political environment has been on the brink of destruction since the ’08 crash. “The market,” drunk on QE money, seemed never to consider these chronic conditions – until this week, that is, when it finally reacted with some chutzpah. 

Is this the beginning of a major correction?  

Perhaps. 

Generally it’s easier to get your arms around the current environment when a wider view is taken. To recall some recent history, remember that U.S. economic growth had begun to slowdown in 2007, even though the Dow went on to an all-time high later that year (October), which was one year prior to the crash.

In ’08 the economy posted a Nominal gain (1.7%) but shrank in Real terms (-.3%), and stocks corrected severely to the downside late in the year. In 2009 the economy was in full-fledged recession, shrinking 2.8% in Real terms, with stocks hitting their bottom in March. 

The economy recovered in 2010, as GDP grew in both Nominal and Real terms, 3.7% and 2.5% respectively. By 2011 stocks had regained “fair value” – the market multiple the Dow historically trades around – which is signified by the yellow line in the chart below. The chart begins when the Dow Average regained said fair value.

1-24-14a

So in short: “economic recovery” took place in 2010 and stocks recovered in 2011.

Since that time the Dow Average has gained 13% per year; stock market strength via the 15-51 Indicator averaged 17% annual growth; while Real GDP advanced just 2% per year during the same time. 

In a nutshell, stock market growth has greatly outpaced economic output for the last several years. And unlike the previous two booms (technology and housing) where robust economic growth pushed stocks higher, this “boom” is strictly driven by money – QE money to be specific – and the smoke and mirrors that go along with it. It’s purely inflationary. 

These are things significant corrections are made of. 

Instead, however, a media driven by the Wall Street machine attempts to advance the story that emerging markets are to blame, that deteriorating conditions in emerging markets are the world’s problem, and causing stocks to sell-off. If emerging markets are the true foil then I have a bridge to sell. 

Remember when the subprime mortgage crisis was “isolated” to just a few rogue banks?

As detailed in LOSE YOUR BROKER NOT YOUR MONEY, the last “financial crisis” was a systemic problem driven by faulty U.S. government policies, cheap and easy money, and abuse and corruption throughout the financial industry. Losses and negative market impacts were incurred all over the world – but they began here, in America, the world’s largest economy. 

Emerging markets simply don’t have the economic base to drive the U.S. market into a tizzy. They’re too small, and too insignificant in the grand scheme of things. However, weaker markets break long before bigger, stronger markets do. As such, they generally indicate a larger event – especially when the cause, or the disease, originates in a dominant market.

People seem to forget that it was persistently poor Market conditions and runaway inflation that spurred-on the revolutions in the Middle East and North Africa. Countries like Egypt, for example, import the majority of their wheat from the U.S. – so when American government devalues its currency in such a dramatic way and for such a prolonged period of time like it has, everything imported from the U.S. gets much more expensive in those emerging market economies. And when people must work all month to afford one loaf of bread, uprisings and overthrows of governments tend to fester.

According to current U.S. government, the answer to U.S. monetary devaluation that causes runaway inflation in emerging markets is foreign aid packages. Their hope is that foreign aid will offset the currency corruption of U.S. monetary policy. But these billions of dollars in foreign aid rarely get down to the Market level – to the People in those countries – as the aid money is funneled through corrupt governments, dictators, and/or radical militias.  

Quantitative easing (QE) facilitates trillion dollar central government deficits, as the Federal Reserve prints new money and forces banks to lend it back to the central government (by mandating the purchase of U.S. Treasury securities.) That’s the reason the economy isn’t growing. Banks can’t lend to people and small businesses because they are forced to lend a majority of the new money to a central government that can’t afford itself – one that thinks handing out unaffordable foreign aid is a great counterbalance to poor monetary policy. 

Look at the socio-political environment around the world and it’s easy to see that current U.S. foreign policy isn’t working.

Look at the lackluster performance of the U.S. economy and it’s easy to see that current U.S. domestic policy isn’t working either.

Look at the stock market and you will see runaway inflation that is looking to correct back to a reasonable economic worth. 

As mentioned previously, gold has been a leading market indicator since the housing-boom took steam. And since the current boom is a money-driven QE-boom, there’s little reason to think that gold won’t continue to indicate future stock market movements. A correction is due, no doubt, and according to gold it’s coming soon. Its history can be seen below.

1-24-14b

“The market” is definitely telling us something.

The question is: Do you hear it?

Stay tuned and be ready…

I’m here if you want to chat.

Shield

The road to financial independence.™

What is Upon Us

Dan Calandro - Sunday, January 19, 2014

Stocks remained largely unchanged this week as December activity for wages and prices were reported. The Producer Price Index (PPI) for finished goods rose .4%; CPI (Consumer Price Index) rose .3%, and Real hourly earnings fell .3% in the period. That’s prices up (a.k.a. inflation) and earnings down in America, and when the topics of last week’s blog are considered (unemployment and welfare) it’s easy to see that working consumers and taxpayers are the big losers in today’s economy. Perhaps this gave the stock market pause this week.

Or maybe it was the International Monetary Fund (IMF) who warned this week about the rising risk of deflation, the general decrease in prices. While falling prices may sound good to consumers who are experiencing falling Nominal wages, it is an absolute bear to correct in the marketplace.  

Prosperity wants moderate, predictable, and manageable price progression. Investors want the same thing. The reason is quite simple: rising profits are much easily had in a market with rising prices. Inflation is a sign of forward progress, where stronger currencies and vibrant demand-driven markets cause production and labor to expand, which in turn causes the prices of goods to rise. Indeed, runaway inflation is a horrible thing – especially when price inflation greatly exceeds the general rise in wages. However bad that may be, it is much easier to correct than runaway deflation. 

Deflation is the complete opposite of inflation. Falling prices signifies that production and supply are in excess of demand, which causes lower prices to spur-on demand. Such a condition ultimately causes production contraction and higher unemployment, as fewer employees are required to produce fewer goods. Deflation signifies a shrinking Market – one that makes profit and ROI advancement much more difficult to realize. Deflation is a sign of demise, and is extremely difficult to correct. 

Of course, the IMF used the deflationary argument to urge new Federal Reserve chairwoman, Janet Yellen, to avoid "premature withdrawal of monetary support" – a.k.a. QE.

What a load of bull…

If quantitative easing (QE) was an effective monetary program then production would be expanding, market activity would be growing, and labor participation would be rising. In such a case the concept of deflation wouldn’t even be considered a valid point of conversation, let alone reported as a "major market risk." 

After so many years into the multi-trillion dollar QE program the condition of falling prices shouldn’t even be mentioned. Increasing the monetary base causes currencies to weaken and prices to rise – always; as weaker currencies require more dollars to purchase the same amount of goods. That’s inflation, not deflation.   

The problem with QE is that the new money hasn’t gotten down to the basic Market level – Consumers and Enterprise. Instead, the monetary benefit of QE has remained with big Wall Street banks and poorly managed sovereign States. That’s why inflation can only be seen in the stock market. 

The stock market has long been considered a leading indicator of market activity – a prelude, if you will, to what the market economy will experience at some future point in time. But that dynamic has become less true in a world where radical monetary and fiscal policies of central governments placate rich bankers instead of the general populous. 

For instance, recent stock market activity indicates that the market economy is on the upward move and totally recovered from the last downward correction. See below. 


1-17-14a


The Dow Average, looking to indicate the market average, has finally reached its objective of Nominal GDP. Great. It took the portfolio long enough, and many structural changes, to get there. But its performance shouldn’t be mistaken for Real market growth – because as you can see, Real GDP hasn’t grown at all since the last market top.  

Stock market strength via the 15-51 Indicator has almost recovered completely since its September 2012 correction. But this, too, shouldn’t be confused as a reasonable valuation.  

Gold seems to be building a bottom base, but its market is also corrupt. Indeed, its future movements will be interesting to evaluate. However, investors shouldn’t consider its value to be Real in relation to the current Market dynamic. All markets, including the bond market, are extremely manipulated.  

Yields have been all over the place for several years: down, up; down, up, down; up, down…That’s an indication of a market that doesn’t know how to properly value its underlying assets. That is to say, volatility is an indication of uncertainty. And when you consider that the real problems in the American Market are derived from failed monetary and fiscal policies that are creating too much money and too much debt – it’s easy to understand the instability of yields. See below. 

1-17-14b


QE, the monetary force intended to keep yields low, has created another stock market bubble – the irrational exuberance of stock valuations – while not expanding the economic base. So for those saying there is no inflation present in "the market" – they clearly haven’t looked at the stock market. 

But has QE made big banks stronger? Yes – but only to an extent.  

Indeed, big banks have more cash and profit, more marketable securities, and less "toxic" assets. Yes, there is no doubt that they are stronger for it. However, as a condition for QE banks have been mandated to buy significant amounts of U. S. Treasury securities with the new money. 

Mandates corrupt markets and the businesses that operate in those markets. 

For instance, as banks continue to accumulate massive amounts of U.S. Treasuries at all-time low interest rates their fiscal position becomes more and more vulnerable to rising yields. When yields rise the value of bond positions fall. So in the next major financial disaster – one where global currencies and bonds devalue significantly – big banks will have an abundance of depreciating bond assets that they can’t sell; for if they did, it would cause yields to spike even more dramatically, thus making their fiscal positions even worse.  

And low and behold, what is upon us is another "financial crisis" – another one that the brainiacs on Wall Street and in big government didn’t see coming.  

Such a condition can make positioning your portfolio for the year ahead a tricky effort. The best place to begin that process is by clearly defining your immediate (1-2 year) objectives. After that everything gets a whole lot easier.  

Stay tuned…and let me know if you need help.

Asset Allocation: 2013

Dan Calandro - Tuesday, January 14, 2014

It’s a brand New Year, and while researching this week’s blog I was reminded that it’s the same old story. In my travels I was drawn to two Wall Street Journal articles that appeared on-line over the weekend. They were advertised as such:

First, the only way to succeed without trying is to be lucky. And according to the first article that luck is defined as being one of the 5 million federal employees that have the benefit of opting out of the Social Security system and participating in a Thrift Savings Plan (TSP). TSP’s are also available to state and local government employees.  

Thrift Saving Plans are mutual funds run exclusively for government employees – and according to this WSJ  article, "The record of these funds is remarkable," as they generally outperform the S&P 500 by small fractions. This is so unlike the performance of conventional mutual funds available to non-government individuals, which experience failure rates between 65% - 80% in any given year. Only 10% of standard mutual funds outperform the S&P 500 over two years. In a nutshell, mutual funds are terrible investments – second only to Social Security.  

So the government mandates that you must participate in Social Security while they give themselves the option out of it and into Thrift Savings Plan. They reserve higher performing Thrift funds for themselves – while completely mismanaging a Social Security system they do not participate in – and then force 401k plans of non-government individuals to hold lower performing conventional mutual funds. 

Once again, that’s your government working hard for you.

The second article encapsulates the major problems in modern day mutual fund investing. It begins with the rhetorical question: "Think picking stocks is hard? Try picking a good mutual fund manager," and then goes on to explain a scientific approach to evaluating fund managers. While it is impossible to know the science behind the so called R-squared method featured in the article, it also offers want-a-be mutual fund owners this plain advice: "Investors should look for managers who are actually trying to beat their benchmark indexes."  

That’s right folks; unlike TSP fund managers many conventional mutual fund managers don’t try to outperform market returns. In other words, they plan for below-average results.  

It’s time to Lose Your Broker and set your sights higher!

When you experience today’s environment – sluggish and slowing economic growth, higher and higher taxes, and lackluster investment products from the Wall Street establishment – it’s easy to figure that you need an investment alternative that makes the most from what little you can control. Please note that unnecessary risks are not required to beat market returns – nor is the recipe complicated. (See my book for step-by-step instructions.)

Even though most mutual funds failed to outperform the Dow in 2012, it was a good year for stocks. "The market" gained 7% for the year amid dreadful economic conditions. Considering the year’s massive devaluation in currency, gold should have outperformed stocks last year – but it didn’t. Because of that, it was a bad year for gold.  

As mentioned in last year’s asset allocation blog, the market is ripe for gold and not so much for stocks.  And with the Dow trading so high in the action zone, investors should take special care in establishing allocations for the upcoming year. And even though it is a bad environment for currency – cash is still king. You can’t buy low without it; and no one has ever gone broke with it in hand. Cash is an essential mechanism to making money.   

At the end of my book I recommend a balanced approach to asset allocation if you’re not sure how diversify your capital. In the below example, a balanced approach sits in the middle of a "low-risk" and "high-risk" portfolio. Once again, only you can decide what allocation is right for you. These scenarios are simply to show you the effect asset allocation has on performance – and to demonstrate how easy it is to beat "the market" with less capital at risk.

In this example, risk posture is defined as follows:

  Low Risk Balanced High Risk
Cash 33% 33% 33%
Gold 50% 33% 17%
Stocks 17% 33% 50%
Total 100% 100% 100%

All three of these allocations outperformed market returns in 2012. All three had generous cash allocations and above-average 15-51 stock portfolios, the 15-51 Indicator to be specific. Here are the annual trend-lines in chart form.

1-14a

As explained in my book, all investment is long-term. One year does not make a track record. And while most mutual funds comprised of 100% stocks don’t consistently beat "the market", these multiple asset class portfolios make a habit of it with less capital at risk. Below are the same portfolios with five+ year trend-lines.

1-14b

As you can see, the "low-risk" portfolio marginally outperformed all other scenarios and "the market." This is because it was more heavily weighted in gold, which rose 169% over the 5+ year term. The 15-51 Indicator gained 127%; and the lowly Dow added just 7% over the multi-year span – and as we know, that 7% came in the final year, 2012.  

Looking forward, a very hostile environment awaits stocks in 2013: unemployment remains high and job growth is sluggish; global economies are under pressure and slipping into recession; taxes are rising at the federal, state, and local levels; and cost of goods is rising. Chronic fiscal mismanagement and monetary shell games by central governments everywhere threaten currencies and bode well for gold. 

As such, if you have a short-term horizon, say five years, it’s probably best if you lean towards the low-risk profile. If you have a long-term view, like ten to fifteen years, it’s safe to rest on the high-risk side. If you’re not sure what to do, the balanced approach will serve you well until conditions change.

Stay tuned…

ShieldThe road to financial independence.™

Unemployment and Welfare

Dan Calandro - Sunday, January 12, 2014

A pitiful jobs report added to a persistently weak employment market this week when just 74,000 jobs were added to the December payroll – typically a strong month for job market performance driven by the holiday shopping season. Despite the weakness in jobs, the unemployment rate dropped to 6.7% (from 7%). 

How could this be?

Normally a falling unemployment rate signifies a strengthening market economy. But these are not typical times. In the current environment the unemployment rate is falling because more and more people are leaving the workforce and no longer looking for jobs. Though still unemployed, the government doesn’t count the people who have capitulated on success and independence. They simply aren’t counted – which is why the unemployment rate is falling.

As reported several weeks ago, the true problem with employment can be seen through the also falling labor participation rate – now at a 40 year low (63%.) If the employment condition was truly improving like the falling unemployment rate suggests, then labor participation would by rising, not falling. Fewer workers mean less production. And that’s bad.

Make no mistake; this dysfunctional dynamic and the lackluster performance trend of employment is a direct result of schizophrenic social policy.  

Gearing up for mid-term elections that will take place later this year, President Obama is building his platform on "income equality." One of his key agenda items is to raise the minimum wage. Perhaps the president hopes that a higher minimum wage will lure surplus labor off the welfare rolls and place it back into production. But this is yet another gross misconception by him and his administration.  

To substantiate that point, consider that the minimum wage is currently $8.25 per hour. Unemployment and welfare benefits, to the contrary, are much higher than that – especially in states like my home state of Connecticut where unemployment benefits are $13.87 per hour (based on a forty hour work week) and welfare is $14.23 per hour. That’s gross – and it makes raising the minimum wage merely a political talking point. To truly entice able workers off the welfare doles minimum wage would have to more than double – and that’s not going to happen.  

So what’s the real problem with the employment market?  

Welfare, food stamps, subsidized housing, and the promise of free healthcare have given too many people too little reason to work. So they don’t. This breeds Market mediocrity and stagnation.  

According to the Department of Commerce, 13 million people are currently on welfare, 47 million are on food stamps, and 6 million are receiving unemployment benefits. And for those thinking that the welfare problem is a racial issue – think again: 40% of people receiving welfare are black and 39% are white. The welfare problem We face is an American problem – and race has nothing to do with it. 

Consider that once on welfare 27% of the people receive benefits for two to five years, and a whopping 20% of the people receive benefits for more than five years. We’re not talking about the disabled here – we’re talking about able minded and bodied people. Another added benefit for welfare recipients is that they can also earn $1,000 per month income tax free.  

So why would those with little ambition work hard in full-time status? 

The problem with the job market is misplaced social welfare programs that are draining worth and incentive, and diminishing the spirit of independence. Little ambition must be paid poorly – much less than the minimum wage. Otherwise incentive is given to not produce and pay taxes.  

This is the problem with trillion dollar central government deficits. They funnel so much money into state governments that money gets wasted, incentive gets misplaced, and independence is diminished. People receiving welfare benefits think they’re getting a good deal but they’re really not. They’re receiving money in exchange for their self respect and independence, for their freedom. And that breeds a dependent culture – so contrary to the American ideal.

This emasculates markets, investments, and prosperity. It constrains free market activity and puts forth an environment of higher taxes and paltry ROI. 

Keep this in mind when rebalancing your portfolio. 

Stay tuned…and let me know if you need help.

ShieldThe road to financial independence.™

Year Ended 2013: Yields Take Flight

Dan Calandro - Thursday, January 02, 2014
So the word on the Street is "clear": stocks are surging because the economy is getting stronger, the falling unemployment rate is further proof, and QE is being tapered because of it; and all of this is causing yields to rise. These things, they say, are indicative of a stronger dollar and a strengthening market economy
Believe that and I have a bridge to sell you. 
Bernanke’s move to reduce monthly QE was simply a symbolic gesture. Now that he’s ready to retire Gentle Ben appears to now know that it’s time to end his failed monetary program. Bernanke, who ends his Fed term in just a few weeks, took the cowardly action of passing the buck to his successor, Janet Yellen, to bail the U.S. out of the gross misconception that QE is.
Unwinding this monetary abuse is not going to be easy – or painless.
The 10 Year yield was up 72% in 2013. And yes, I hear you: the 10 Year yield started the year at 1.72% and ended the period at just 3.03%. The seventy-two percent increase doesn’t seem like much when talking about these historically low interest rates - but the move is relative nonetheless. 
Remember, QE was employed to keep yields low. Way back in September 2012 (a data point not shown in the chart below) the Federal Reserve launched its controversial third QE initiative, called QE3. Yields were just 1.56% when it began. They are twice that today. Clearly the program did not achieve its desired outcome, as yields went up. See below.
 
12-31-13a
 
So why print more QE money when yields were already so low?
 
Because stock market values continued to climb. The Dow Average was up 26% in 2013; and in a late year surge, stock market strength ended with a 13% gain; gold ended down 28%. This dynamic makes it appear like the economy is getting stronger -- that QE is working.
 
Remember, QE is not intended to raise stock market values. It’s supposed to keep yields low (something QE3 didn't do) which decreases the value of the dollar and increases the value of gold. But this hasn’t happened in this dysfunctional market.  
Instead, QE3 has fueled a new stock market bubble while low yields have enabled sovereign debts to escalate to unsustainable levels – which is so reminiscent of the subprime mortgage crisis. This is the reason Bernanke made the symbolic gesture to taper QE in December 2013. The program is producing the wrong results, and doing more harm than good.
And it is only because stock market values have risen to new all-time highs that QE remains a "viable" monetary program. It portrays an image of economic health and recovery, making politicians and monetary governors look smarter than they actually are.  
This is a major market misnomer. (See: Smoke and Mirrors for more information.)
At the present time higher yields have nothing to do with a stronger dollar or market economy. Instead, the move is driven by an excess supply of U.S. of Treasury securities. This will drive a dovish Federal Reserve to quickly reverse course in ’14 and increase the amount of QE -- to keep the stock market bubble inflating, and to keep hope of a low yield environment alive.
Back in July 2013 the trend lines of stock market strength and gold met (see below). Since then stocks have risen and gold has continued to move down. As mentioned in The Gold Prediction, gold has been a leading market indicator since the money boom began, and many times has indicted stock market movements many months prior. See below.
 
12-31-13b
 
The Dow Jones Industrial Average has recently reached its objective: Nominal GDP; stock market strength has rebounded since its 2012 correction, and gold continues to build a lower base since peaking in September 2011. This suggests a major stock market correction is on the horizon.
If there is one market fundamental to consider in 2014 it is that of yields. Rising yields, and/or inflation, will throw a kink into the global monetary ponzi scheme and send markets reeling. This will pressure central banks, world currencies and the debts of sovereign states, and the activity of their according global economies.
Needless to say these conditions will greatly affect stock market values to the downside.
One recommendation for 2014: cash is king more so than any other recent year. Markets are extremely manipulated and corrupted – and that includes gold, which is poised to reverse course once stock market values correct. 
Stay tuned – and let me know if you need help…
 
 
Shield
The road to financial independence.™

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