Get Back What You Lost!
Wednesday, October 22, 2008 | Teeka Tiwari
Over the last few days I have received many questions about the current state of the market, specifically about oil, gold and commodities in general. Yesterday we aired a special video report in an effort to answer your most pressing question, “Where do we make money right now?” Below are the answers to most of the questions that I received. You can access the archived video directly by going here now.
Inflation/Deflation/Depression/Recession
Q. Do you think, given all the current and coming strains on our economy, that we will experience something akin to Japan's "Lost Decade" – i.e., virtually no growth or appreciating share prices – AND with rising inflation thrown in?
A. The action in oil and gold would have you believe that deflation is coming, I don’t buy it. All the steps being taken by the Treasury and the Fed are inflationary not deflationary. What happened in Japan was very different from what is happening in America. Deflation is predicated upon restrained consumer spending; that’s an oxymoron as far as the American consumer is concerned. The American consumer is compelled to spend non-stop all the time. This is a very different psychology from the Japanese.
Additionally the Japanese never forced their banks to come clean. Ours banks have and will continue to do so, this speeds up the recovery process, which gets credit flowing again. And that's inflationary not deflationary.
Gold/Dollar
Q. Why is the price of Gold weakening despite the general lack of confidence in paper assets? Has it lost its perceived "safe-haven" status? What is the longer-term outlook for Gold?
A. The dollar is up on safe-haven buying which is pushing down the price of gold. The U.S. Treasuries' actions are inflationary not deflationary, lowering rates and printing stacks and stacks of 100 dollar bills to rescue our banking system will bring inflation. As the safe-haven buying of the dollar abates, we will see a reassertion of gold prices.
Q. Will the U.S. Dollar be able to hold onto its recent gains, or is this perhaps just a short-term phenomenon? What is the U.S. Dollar’s longer-term price outlook vs. the Euro?
A. The dollar should outperform the euro because I believe our economy will emerge from recession before theirs will. I think Europe will be a long time digging itself out from under its banking crisis.
The key asset to look at is the ETF UUP. It measures the performance of the US Dollar Index. Right now the dollar has stabilized after experiencing an 8-year bear market. A break below $22 would indicate the resumption of the downward trend but that’s not something I expect to happen anytime soon.
When and if the UUP does break below this level it will be a huge green light, telling us to load the boat on gold and commodities.
Oil
Q. Could you please give us your opinion on where you see commodities going, specifically oil, in the next year? If we truly are in a global recession do you see prices continuing to fall?
A. Oil is under high pressure from the flight of speculative hedge fund money and the very real demand destruction that took place when oil came close to $150 a barrel. It will take many months for the oil charts to repair themselves and we should view the commodity as being in a consolidation phase.
The short to intermediate term bias for the action in oil looks down, not up, as global growth fears and a reining in of leverage keeps a lid on oil prices. Longer term however I don’t see the oil run done, like a phoenix rising from the ashes, oil will be back, but it won’t happen overnight.
We’re in for a fairly long “reload” period before oil can get ready to be a leader again. In the interim, lower energy costs are going to boost household incomes and corporate balance sheets quite dramatically. Lower winter fuel costs could not have occurred at a better time for consumers.
Indicators
Q. What indicators will you use to determine if the market has hit the bottom?
A. Are more sectors moving to buy signals? Is it broad based? If I see the majority of the 40 sectors that I follow move to buy signals but the DOW make a new low, I’m going to know that the DOW action is a head fake and that the general market is headed higher.
Now if I see the DOW going higher but my sector signals are saying sell, then I will know that the market is trying to sucker us back in. It’s the sector action that will tip us off. So far we are seeing more and more sectors move to buy signals indicating that money is coming back into the market in a broad way.
Sectors
Q. As we come out of the bear rotation, will we see the traditional rotation to Small Caps first, then Technology as leading the "new" bull upturn? Or will the beaten down Financials and Homebuilders lead the way?
A. The banks and the REITS look to be the sectors that will lead us out. Tech may be muted due to restrained corporate spending budgets but healthcare, specifically anything to do with stem cell research and life longevity research are shaping up to be big macro winners. Also keep a close eye on the green technology space. This is a mega-trend just beginning to find its footing.
Income
Q. What should I do now as a retired person who needs monthly income from my investments that have dropped over 60%? (I am mainly in energy and gold which I thought would be safe when the overall market dropped).
A. I think we are seeing some compelling opportunities in the corporate bond market and bank preferred stock area. Also don’t forget residential REITS; they are paying excellent yields and so long as they are well capitalized they are a good bet. People still need a place to live no matter how tough things get.
Mutual Funds
Q. I must admit, I have relied on mutual funds primarily in the past, but I am wondering if I would do better to continue to rely on them or to sell them and start buying up some of the badly beaten-down Blue Chips with good dividends and do some trading as well. I think I'd best learn how to manage my money myself and rely less on others. Your advice would be helpful.
A. It really depends where you are on your time horizon on your investments. Retirement investing in stocks works with near perfect results over a long enough time frame, typically 30 years. The average return for the S&P 500 over a 30-year period is approximately 11% (including dividend reinvestment).
We’ve had eight years of lousy market returns so if you’ve had to retire over the last eight years, this has just been an awful time. Stock and commodity bull markets cannot happen at the same time. If one is booming, the other is failing and that is exactly what we have experienced since the year 2000.
Oil went to $147 and the DOW went to 7,800! That’s in part because higher commodity prices slows profit growth and without rapid profit growth you can’t have rapid market growth. Always remember that the stock market is a slave to earnings growth real or perceived.
Depending upon which yardstick you use, we are about 8-10 years into this current commodity cycle. History suggests we could have another 5-8 years of commodity inflation ahead of us before commodity prices peak.
When they do peak and start to crash for real, that action will provide the basis for a sustained and massive bull market in stocks. It is during that time that we see a regression to the mean in stock market returns, that’s where we go from 3% a year market returns to 30% a year market returns. That’s the way that the 11% a year number over 30 years ends up evening out.
So to get back to your question, I ask you a question when do you need your money?
If you need it within the next five years, a more hands on proactive approach may be the way to go. But if you don’t need it for 10 years or more, previous financial history suggests leaving it alone.
This of course assumes that you are invested in excellent market proxies as opposed to having all of your long-term assets in just one sector. The key to long-term investing success is diversification, I’ve always approved of splitting up long-term investments among 5 sectors –
1. Big Cap Growth
2. Small Cap Growth
3. Big Cap Value
4. Small Cap Value
5. Emerging Markets
If I had $5,000 a year to invest for 30 years and no other market knowledge, I would place a $1000 a year in each sector for 30 years. By doing so I would virtually guarantee myself about an 11% rate of return. Remember though you can use mutual funds or ETFs to make these buys BUT you must make sure you use either no-load funds or ETFs with very low management fees. Even a broker fee of 1% a year will devastate your long-term compounded rate of return. This is a strategy anyone can use to fund long-term financial goals using the stock market.
Economy
Q. How severe do you think the recession will be in terms of its duration and unemployment rate etc.? Besides Consumer Staples, can you think of any stock/sector that will buck the trend during recession/depression?
A. With the information I have in front of me today I would find it highly unlikely that we are headed for a depression. Even a back-breaking recession looks avoidable at this time.
Will there be pain?
Absolutely, companies are laying people off, people are spending less and credit is getting tighter. This has far-ranging effects on our economy. I think the Healthcare stocks will do well and the Banks and Financials should also do well as they begin to recapitalize and repair their balance sheets.
Q. Is there a possibility of double-digit inflation or even hyperinflation going forward?
A. If commodities get revved up again too quickly this could be a very real possibility. Our first tip off would be a complete collapse of the US dollar. If we see that then we’ll know it is time to hedge with gold and physical commodities, and we can use various ETFs to get that exposure.
Q. What is going on with Gold and Gold mining companies, is the government manipulating the market on this through not allowing failures or is it naive to think it should bounce to a inflation-adjusted new high, and any idea on the timeframe of a breakout or otherwise?
A. I think that they are ridiculously cheap but they will take their cue from the dollar. As the dollar goes, so goes gold.
Q. I've read that extraction of new gold from mines is decreasing about 70,000 ounces each year. Do you think gold will soak up many of the dollars being fed into the global financial system?
A. No, not until people lose faith in the greenback and so far the exact opposite is occurring. People are viewing the T bill market and therefore the US Dollar market as a safe haven. Right now, safe-haven buying is trumping the long-term inflationary effects of the Treasuries' actions. BUT that will reverse at some point. As market participants become less fearful, they will exit dollars and we could see the value of the dollar fall quite dramatically. This would reignite prices in gold, oil and commodities in general.
Q. What's your outlook over the next 1 to 3 years for oil? What's your outlook for the Financial sector in the U.S. and E.U. over the next 12-18 months?
A. The E.U.’s in the briar patch right now and I’m not sure that they have the ability to handle this crisis in a timely and decisive fashion, the jury is still out as far as I’m concerned. The survivors of the U.S. financial services sector will do well as they consolidate their failed competitors businesses into their own. As I said earlier, oil is on its rump right now and needs to consolidate its action before it can go anywhere.
Q. How do you see gold, oil and natural gas faring in the next 6 months? Will inflation start to be a major factor in the market and in the cost of living?
A. If we have a very cold winter we may get some speculative action in oil and nattie gas. outside of that it’s the perception of how deep a recession we will experience in 2009 that will drive energy prices over the next year. A quick shallow recession will help energy prices; a deep punishing recession will obviously hurt them.
Q. Which indicator do you use to know when there is a reversal likely to occur in the market or in a certain stock?
A. Again I am looking at the sector action; if the sectors are improving en masse then I’m going to get bullish right quick.
Q. What is a safe way to make a steady amount of money in the market without a great deal of risk, either in fluctuations of the market or in high amounts of capital? I am not talking about dividends four times a year but a steady monthly income.
A. Short term US Treasuries are the safest interest bearing instruments at this time but they don’t pay much. Outside of that, all interest-bearing instruments should be considered to contain some risk. For higher risk plays, you might want to consider municipal bond, corporate bond, preferred stocks and REITs.
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Teeka Tiwari
Chief Investment Officer
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