The Big Picture For The Week Of June 1, 2008

A Celtics/Lakers final? Really? What year is this?
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Mid Morning

It has been a while since I've posted anything about New Zealand.

Over the last 12 months the NZ 50 Index is down about 17% versus 8% for the S&P 500. The NZ dollar in that time is up against the greenback by close to 10%.

I sold out of New Zealand across the board a little over two years ago but have always kept tabs on what's going on. I am quite certain I will go back in one way or another at some point.

Here is a news item about Fonterra, a privately held dairy co-op that the management has talked about taking public but the farmers who belong to the co-op do not want it to go public as they feel their payout would be cut.

The idea behind going public is to raise the capital to recreate their very successful model in other countries. New Zealand gets more attention as a forex destination than as an equity destination but I think the listing of Fonterra would raise the awareness dramatically and do wonders for the economy.

New Zealand has a host of economics issues but that is not new. My thoughts on Fonterra are just thoughts and if it never lists we'll never know.

In trolling for New Zealand stuff I found a company called NZ Farming Systems Uruguay ticker NZS in New Zealand and apparently no pink sheet symbol in the US. It is a very small company that owns dairy farms all over Uruguay with an eye toward increasing it's footprint into neighboring countries. The company is profitable.

It has only been public since late last year and it has been up a lot. How different is this from the Australian Meat Fund? I have no idea whether anyone should buy this stock I just found it but it is interesting. If you know anything about it please leave a comment.
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Friday Randoms

This chart comes courtesy of Michael Kahn in Barron's. The support that became resistance on the chart will either matter or it won't, given my expectations that this is a normal bear I expect it will matter but we'll know soon enough.

I stumbled across this article from theStreet.com about OEFs than own ETFs exclusively--so a fund of funds. I took the article to generally be skeptical which I agree with to a point.

If I were buying an actively managed fund I would want the manager to use whatever tools he thought were best to use. If that included ETFs fine but that's not what these funds are.

The focus is funds of ETFs. There were several mentioned including the Wilmington ETF Allocation Fund (WETIX). The allocation as of January 31, 2008 (according to Yahoo Finance) as follows;

iShares Russell 1000 Growth Index 54.56%
iShares MSCI EAFE Index 25.41%
Vanguard Emerging Markets Stock ETF 14.96%
iShares MSCI EAFE Growth Index 5.01%

The turnover is low at 44%, the description implies it uses an active strategy and it charges 0.70%. Well, what do you think of this?

IndexUniverse reported yesterday that Ameristock is closing it's five treasury bond ETFs (I'm using the word bond even though that term is only partially correct along with notes and bills); 1 year (GKA), 2 year (GKB), 5 year (GKC), 10 year (GKD) and 20 year (GKE).

I wrote an article about these when they listed for TSCM that was skeptical of the second to market nature of these and the potential lack of utility for people that need a specific income stream from their portfolio.

Will McClatchy took me to task on Seeking Alpha in response to my Ameristock article on my belief that knowing exactly what your income stream will be from your bond exposure is preferable to having a variable income stream that cannot be predicted. If I read Will's article correctly (you should read it, my take might be wrong) he believes having the maturity constant is preferable and leads to a truer asset allocation.

I don't think this would be palatable in the real world for someone who takes income from their portfolio as opposed to someone who uses fixed income products to manage equity volatility. In some segments of the bond market, like treasuries, individual issues are generally the better way to go. With things like convertible bonds I prefer a product. Where foreign sovereign is concerned I think it it depends. Forgetting about order size for a moment, buying debt from a developed AAA rated country is not absurdly risky. Emerging market bonds obviously kick it up a notch as does investing in foreign corporates (which I am currently trying to learn more about). Now bring order size back in and foreign debt becomes out of reach for most individuals.

To be clear I am not talking in absolutes as there are as many unique situations as there are investors but you should read Will's article, think about what I have said and make up your own mind.
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Mid Morning

A reader asked me to touch on the risks associated with buying foreign stocks that trade on the pink sheets.

Foreign ordinaries and ADRs can both trade on the pinks. You know it is an ord if the ticker ends in F and you know it is an ADR if the ticker ends in Y.

So here is a screen shot from Yahoo Finance for the pink sheet traded ordinary shares of Auckland International Airport. This is pretty typical of the how little information you might find. What can anyone do with that? Well it does verify the symbol anyway.

Anyone interested in this stock would need to do a little detective work. One source that might provide more info, but not always, is pinksheet.com. Today there is no extra info for ACKDF.

For quote info you could look up the symbol for the stock on the local market which in this example is AIA.NZ and Yahoo usually has that. AIA.NZ closed overnight with an offer of NZ$2.18, multiplied by Yahoo's quote for NZDUSD=X of 0.7778 works out to $1.68 in US dollars as a possible price to get an execution depending on your broker.

Realistically $1.68 won't get it done. In most instances you need to pad your limit order by some amount. It seems that the amount needed for padding varies with no concrete guideline.

It is also possible your brokerage firm can get you a quote where you can get an order done. I would add that Schwab charges an astronomical fee/commission to retail investors to get this sort of business done.

So the risks, and I'll say issues is a better word, that should come through from above include lack of good quote information, unfriendly market dynamics, the obvious need for a limit order and very little chance of a short term trade (for those who are inclined this way).

Additionally most company websites have information available that you would expect to find on the website for a US company so studying the fundamental story is not much different but some companies don't have much information on their sites as was the case with Climate Exchange (small personal holding) as I mentioned this morning.

Above I outlined the currency work that needs to be done with ordinary shares, the ones whose tickers end in F, but with ADRs, the ones ending in Y, do not require currency conversion.

This whole thing clearly is a step up in time commitment and complexity, hopefully no one took my comments as otherwise, but people inclined to spend the time needed, or even a little more time than they currently do because one stock is compelling, then why not?

I just turned in an article to TSCM about the Portugal ETF. One of the names in the fund is Brisa (BRSAY) which is a toll road. I don't think it is a monumental stretch that a portfolio with a blend of ETFs and a few stocks could make room and time for one stock in a theme no easily isolated otherwise. This is not right for everyone but neither is it wrong for everyone either.

To be clear, ACKDF and BRSAY are just examples, I do not own either one nor am I a buyer anytime soon, if ever.
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Infrastructure

The infrastructure build out going on globally has legs. I saw one report a week or two ago that estimated more than a trillion dollars will be spent every year through 2015. You could probably find a report that said whatever you needed it to say but clearly there is going to be a lot of capital deployed for quite a while to come.

I wondered if you could find an infrastructure stock for each SPX sector. Maybe this can be a collaborative effort. I know I will miss things so please feel free to comment on what I do miss. In this way we might all learn something.

Some of things I mention will be a bit of a stretch which is the point, its a theoretical exploration.

Technology- This one is not easy. Part of the modernization of many of the countries is the Internet. This for sure means networking products and storage of data. The bigger names would include Cisco (CSCO) and EMC. There are obviously smaller names and foreign names that could be part of the discussion.

Financials- Ok I may be own my own with this one but I think that the exchange stocks represent the financial infrastructure of a country. Most of the exchange stocks I know of (both domestic and foreign) have been pounded on in 2008. One exception is is a stock I wrote about for TSCM in March called Climate Exchange PLC (CXCHF) which is listed in London. They are the main player in carbon credit trading. The growth in trading volume is huge yet is so small it might as well not even exist yet. I bought a little personally but I had a tough time doing the diligence I think is necessary to own it for clients, maybe I can access more information in the future.

Stock or futures exchanges are infrastructure for the flow of capital. There is modernization within that occurs. Some countries have very primitive stock markets that will only modernize in the future. Who knows how quickly this will happen but it will happen. This may involve more consolidation or other forms of investments but I believe the theme is investable for people who are so inclined.

One other thought here would be Macquarie Group (MQBKY) and Babcock & Brown (BBNLF), two Aussie banks with a lot of infrastructure funds between them.

Healthcare-I have two thoughts here but the argument is weak. First is hospitals. I found four but there are probably others. Lifepoint (LPNT), Community Health Systems (CYH), Health Management Associates (HMA) and Tenet Healthcare (THC). I have never studied this group. I am vaguely familiar with Tenet for what I believe were some accounting issues a few years ago. All four of these are a long way from their 52 week highs which is a surprise, I might expect a counter-cyclical aspect to these.

The other thought would be any companies that do medical billing. I am not aware of any stocks that do this but if you know of any please leave a comment.

Industrial-This is one of the easiest sectors. You could include any of the toll roads, airports, engineers, certain parts of the water theme or Japanese nuclear plant builders.

Energy Infrastructure Fund (-Pipelines and the like probably fit the bill here. The two biggest names in the iSharesIGF) for this space are Williams (WMB) and TransCanada Corp (TRP). Some may disagree but I think windmills fit in here. Vestas (VWDRY) is big cog here but there are others.

Telecom- The story here is similar to tech. One way or another more people will have telephone access (most likely cell phone). This could also mean things like towers; American Tower (AMT), Crown Castle (CCI) and SBA Communications (SBAC) are three I found. If you know any others please leave a comment.

Utilities-This one is easy too. Pretty much anything in the SPDR FTSE/Macquarie Infrastructure ETF (GII), which is 90% utilities probably fits.

Materials-This one is weak too but I suppose mining equipment (but then that drifts into industrial), mining companies that are big producers in countries that primarily resource countries, maybe certain kinds of chemical companies, anyone else have some ideas here?

Staples and Discretionary-I don't have anything here. If there are any you can think of here please leave some comments.

This post is really about process. There have been past posts about some of these things and hopefully this one furthers the discussion.
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Mid Morning

I'm Out!!

So says Indonesia to OPEC.

Cracks in the OPEC cartel? Big changes coming to the global oil patch?

Well probably not. Not sure if this is common knowledge or not but Indonesia has been a net importer of oil for a while so shelling out for membership didn't seem to make much sense.

I have not really studied Indonesia much because it is very complex politically and socially, my perception anyway. Obviously at times the stock market and the currency do well but there seems to be extra variables here that create the potential for more volatility relative to other emerging markets.

What do you think?
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Proxification

This post will tie together a few things I've touched on in the past.

The chart covers ordinary shares of Statoil (STL.OL), Norway's OBX Index (XOBX.OL), Yara International (YAR.OL) and Norwegian Property Group (NPRO.OL) for the last year.

I've been writing about Norway for years now and have written many times about using Statoil as a proxy for the country, most recently last week I disclosed selling some of the position.

The case for Norway has always been the same which is that anything good for oil will be good for Norway. Additionally it is a commodity based economy with surpluses galore and it is at a different point of the economic cycle (commodity based economies are often at a different point in the economic cycle which usually makes for good diversification). Contrast that with the US which is a service based deficit country.

My hope with Statoil has simply been to capture Norway, for good or for bad. If there was value to be added it would come from just owning the country. As the chart shows the stock correlates closely to the index. Statoil is by far the largest stock in the index and so getting the proxy aspect right in this case was very easy.

Also charted is Yara which is chemical and fertilizer company and like other stocks in the space is up a lot. It would have been a great hold obviously but I do not think it is a proxy for Norway. NPRO owns retail and office properties in Norway and has done what a lot of other real estate stocks have done. I'm sure it will have its day in the sun again but whether it does or not it is also not a proxy for the country.

There is no ETF for Norway that can be accessed by US investors. In going through the top down process my thought about oil lead me to Norway (several years ago). The thing that mattered first and foremost was exposure to the country then once I decided yes, Norway the next step was to figure out what I thought would be the best tool; stock, ETF or some other type of fund.

I didn't find any funds so that meant stocks. Statoil was and is the biggest component and it is an oil company (natural gas too) which was the catalyst behind my interest. Additionally I liked the rest of the story so I bought it.

If you are one to pick a country you might go through a similar process of building a case for the country then figuring out whether you just want to go along for the ride like with Statoil or if you are going to try to add value versus that country's index. If you just want to go along for the ride then a country fund could work but you need to be cognizant of how the sector weightings fit in with everything else you own. The advantage of an ETF in this context is avoiding single stock risk and the downside might be that you give up dividend yield.

Some folks are turned off from buying an individual foreign stock but there may be hope for those folks as an ETF from NETS just listed for the Portugal PSI 20 under ticker LIS. If they were willing to commit to Portugal I think we can infer that other uncovered countries will be on the way at some point.
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Absolute Beginners

I remembered a film by this name (Absolute Beginners) existing but as I look at that movie poster it rings no bells.

In my readings I stumbled across an absolute return OEF which sent me looking for others in the category that I hadn't previously heard of just to take a look under the respective hoods and see if there were any themes that carried over or any other trends to learn from.

It seems there can be many different flavors of absolute strategies, almost a catch all (not a criticism). As I looked at the holdings of a few of them I only noticed a couple of recurring things.

The first thing was liberal use of ETFs to presumably just capture pure exposure of broad markets or big sectors. It is interesting to see ETFs show up in mutual funds.

Some might squawk about a fund owning a fund but one common strategy is pairs trading and using an ETF for at least one side of the pair can reduce risk. Instead of shorting Citigroup (C) and having to pay out almost 6% in dividends might it make more sense to use ProShares Ultra Short Financials (SKF)? After all C and iShares Financial (IYF), which is what SKF is double shorting, have an 0.89 correlation and instead of paying out Citi's dividend you can collect SKFs t-bill interest.

Some fund managers would find that line of thought compelling which is why ETFs show up in some funds but some obviously will not think ETFs make sense.

Another thing that showed up was high, think 40-50%, cash balances. Keep in mind that the reported holdings were old and these funds may not have high cash now. A lot of cash is valid but with cash rates so low it means the rest of the portfolio needs to work harder if the goal of the fund is something like CPI plus X%.

If Ken Heebner opened an absolute return fund and said he was going to put 90% in t-bills and split the remaining 10% between two stocks he said would go up at least 100% in the next 12 months the implied return would be something close to 12% and I think people would line up around the block. While that example is ludicrous a lot of cash does not have to be bad depending on the overall strategy.

If you have interest in the effect created in this space you probably need to explore the various approaches that exist (or as many as you can find anyway) and find the best intellectual and emotional fit. If a manager likes 30% cash balances and you don't it's probably a bad fit for you.

It also seems like most of the funds in this space are expensive, in the vicinity of 2%. Given the differentiation in the space I think shopping for a cheap one might be very difficult. Maybe I'm wrong but with absolute return I think you really are betting on the brains of the manager as opposed to something like an actively managed large cap value fund. If LCV is doing very well it is likely that your LCV fund is going to do well too but if LCV does poorly your fund would also do poorly and it would be deemed acceptable.

But a fund manager who uses some sort of arbitrage to deliver absolute needs to deliver the same return with his strategy in all market conditions. If he can actually do that he might be worth 2%. Obviously if 2%, or something close to it is too much for you then you shouldn't buy the fund.
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Memorial Day

The Connie Mack show focused on guaranteed income in retirement this week with a writer from Kiplinger's, a portfolio manager and an annuity salesman.

Annuities are a touchy subject. I am inclined to agree with any negative sentiment about them you can come up with but I know quite a few people here on the mountain who have them and they all seem to say the same positive things about being able to sleep at night.

The writer (her name was Mary Beth Franklin) talked looking at using guaranteed income for the fixed expenses. She used the example of people needing $6000 per month with $3000 of that being fixed expenses. In her example if social security (which she included as guaranteed income) paid $2000 per month she suggested a suitable annuity to cover the other $1000 of fixed expenses and then the portfolio (assuming there is one) would cover the other $3000 for the month.

If some annuities are as square of a deal as Ben Stein implies then this might be viable.

When the show came around to the annuity salesman I got lost in what he was saying or more correctly I think he was saying things without saying anything and I wondered how the hell the typical person could ever understand all of the nuances of the product. I for one get the feeling that I know what I don't know as far as annuities are concerned if you follow me. To be clear I am not licensed to sell annuities and it is not long into a conversation before it loses me.

Which circles back to people I know socially who love them; makes me wonder what they do not know.

The portfolio manager (his name was Louis Stanasolovich) seemed to be saying do it yourself. He talked a little bit about building your own (or having him build it for you, but not in an inappropriate salesy way) endowment-like portfolio using the sorts of products I have written about before.

Stanasolovich also made interesting comments about portfolios that "come in" which I took to mean portfolios of people who hire him. He said that these portfolios never are "never managed well." There is obviously a skew to the portfolios he sees because if the portfolio was doing well by the client's measure they would not have hired him in the first place.

Still this might be a call to review what you have, look under the hood, maybe shell out a little bit for a website or two that can analyze what you own and make sure your portfolio is "managed well."

Based on all the interaction I get to have through the blog, theStreet.com, Seeking Alpha, meeting people in the course of running our business and interacting with other investment managers at these conferences I attend I can tell there is a wide range of knowledge and skill level but anyone who seeks out blog content must want to learn more than they currently know so they can be more knowledgeable and have a better chance of having enough money when the need it.

I'll repeat that all of us are in the same boat; we are trying to learn more than we now know so we have enough when we need it.

Yesterday we had a helicopter land at the fire station for a training exercise. I have been directly involved with one air evacuation of a patient and while nothing went wrong the number of things that can go wrong is astounding and yesterday's training was a good reminder of that. Can you even see the tail rotor in the picture? If you ever need to be anywhere near a helicopter always, always, always stay to the front.
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Sunday Morning Coffee

A few random items with your mocha.

IndexUniverse is reporting a couple of interesting ETFs in the works from StateStreet including an equity fund for frontier Africa, an equity fund for GCC and a convertible bond ETF.

Obviously Africa and GCC aka the middle east would be new exposures for US based investors and the convertible bond fund while not new offers the potential for a superior wrapper.

The exposure for now through CEFs is ok but in the last few months or so the flaws of the CEF structure have really been spotlighted. I would imagine that a convertible ETF would have to do a lot of index sampling and I'm not sure what sort of impact that would have on performance but I am hopeful that it turns out to be better than the CEFs. Individual issues in this space are one of the more difficult types of bonds to analyze and then pick, at least for me anyway.

There was an interesting article in Barron's by a couple of decision makers at Comstock Partners about operating earnings versus reported earnings and how people pick the one that supports their bullish or bearish argument.

I have never believed that the PE ratio was much of a predictor of price. It obviously helps with valuing companies but PEs can be high and prices go up and be low and prices drop.

The accompanying chart of of the S&P 500 from the first six months of 2003 which saw a meaningful lift in prices that seemed to start when the PE was above 25. There are obviously other periods like this.

You might look at the chart, consider what happened over the previous couple of years and come up with a pretty good yeah, but which I think would only support the notion of PEs not being reliable predictors of future price action. First quarter 2003 was a major turning point in the market yet the PE was very high.

Charles Kirk had a couple of links that caught my eye.

First was this little ETF article from Morningstar about ETFs that they feel are candidates for closure due to insufficient assets and poor performance. The article is another example of their total lack of understanding of what ETFs are.

Obviously if a fund is not economically viable it runs the risk of being closed. I have read different numbers as to where they become profitable so while I do not know the exact number it is safe to say a $20 million fund is not a profit center.

But the notion of poor price action is not enough to determine whether an ETF has "stunk up the joint" or not. I counted 47 funds on the deathwatch list (if I miscounted feel free to leave the correct number). In eyeballing the list I don't believe there are any on there that I ever considered buying but included in there were several pure beta exposures.

Apparently the ProShares Ultra Russell 2000 Value (UVT)--so double long SCV--is on the list because it only has $9 million in assets and is down almost 34% over some period of time. Again if ProShares can't justify keeping a $9 million fund open then they should close it but the idea of poor performer makes no sense.

The fund listed in February, 2007. 2007 was a bad year for small cap. So the fund provides double long exposure to a segment that has done poorly (very normal for small cap in a bear market), of course the fund is down a lot. Do you think the next time small cap value leads UVT will be one of the best performers?

All this fund is is beta. Today is either a good time to own this specific beta or it isn't. Two years from now will either be a good time or a bad time to own this specific beta. Assuming the fund tracks what it is supposed to track, UVT will never be a good fund or a bad fund it will simply be exposure and the investor will either be correct or incorrect with his timing.

One last little tidbit where Daniel Gross debunks the idea that 1.3 million people are making a living on eBay. Personally I buy two or three things a year on eBay but this is one I hope can work out. I know one or two people who who make money on eBay (I do not know if they make enough to be more than walking around money) but there is demand for a lot of the stuff on there the variable is whether it is viable as a part time job or not. The idea of building a small stream of income by eBaying stuff seems ideal for retirement but perhaps this article is telling us it is not realistic for most folks.

The picture is Bank One, Chase Field JP Morgan Field where the Diamond Backs play from when the Red Sox were in town last June. Larry got us insane seats.

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The Big Picture For The Week Of May 25, 2008

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Mid Morning--Special Yet More Snow In May Edition

A few random thoughts.

This image links to a sort of animated presentation at the FT about who produces, exports etc how much oil and how it moves around the world.

It is constructed in such a way that Norway falls through the cracks but it produces 2.4 million and is the fifth largest exporter.

Here is a link to a Yahoo Finance article about "paid volunteerism" as a strategy for income in retirement. I always look at what the daily retirement article is at Yahoo Finance and I probably read one or two a week and think this one is a good one.

The retirement solution for Americans is clearly evolving into something different that will require ingenuity. While this is clearly a very serious issue for all of us the aspect of this that it poses a challenge to be overcome is fascinating. I am optimistic about our ability to adapt to a different entitlement system, taking on second careers, multiple streams of income and so on but unfortunately some folks will get left behind. Wrapping your hands around this now hopefully means you won't be one of them.

I got an email from First Trust announcing what I believe is the first exchanged traded 130/30 product. The ticker is JFT and it is an ETN not an ETF.

If a picture is worth 1000 words you can look for yourself at what the strategy is.

BTW I was not able to find anything on the First Trust web site. I have been in the skeptical camp WRT to 130/30 strategies, we'll see if this fund proves me wrong.

A reader left a comment saying he thought I was cautiously bullish based on my recent comments and posts. Um, no. I have the same disposition I have had for what seems like ages. Normal bear market, normal cycles, capitalism can continue to work but the markets are evolving. Despite being in the bear camp I am generally an optimistic person and expect things to work out over time but with the expectation that I need to take the bull by the horns to play a role in how things do work out for my wife and me. I encourage everyone to do the same.

Did you see the segment on The Network about the store in California selling medical marijuana? Why isn't pot legal so we can tax the hell out of it? No I am not a pot smoker nor would I be if it was legal.

We had more snow this morning! Latest snowfall since we've been here. We got a little less than an inch and it has started to melt already but it is still around 40 degrees out. Very cool.
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Complex Simplicity

There's been a quote from Ron Lieber (not pictured here) in a NY Times article making the rounds that I think is very constructive.

He says: Index (mostly). Save a ton. Reallocate infrequently.

So this got me to thinking a little bit about constructing a portfolio with ETFs that while I think is far from lazy does not require stock picking, country picking or selecting style. The mix for the most part includes newer funds or funds that don't seem to get a lot of attention. No percentages as we think this is a no-no for the blog.

Domestic Large Cap

Claymore Ocean Tomo Patent ETF (OTP) TTM it beat SPX by 7% with a touch higher yield

Developed Foreign Large Cap

PowerShares DWA Developed Market Technical Leaders (PIZ) It beat EFA by 7% since inception which appears to be in January

Domestic Small Cap

First Trust Small Cap Core AlphaDEX (FYX) TTM lagged IWM by 3%

Developed Foreign Small Cap

iShares MSCI EAFE Small Cap (SCZ) about even with IWM since inception in December

Emerging Market Large Cap

WT Emerging Market High Yield (DEM) beaten EEM by roughly 5% since inception in July

Emerging Market Small Cap

SPDR S&P Emerging Market Small Cap (EWX) this fund just listed so no performance info

Domestic REIT

Vanguard REIT ETF (VNQ) has had a slightly better TTM than iShares REIT Fund (IYR)

Foreign REIT

iShares Global Real Estate Ex-US (IFGL) it has lagged the much larger RWX since inception

Broad-Based Commodity

Rogers Intl Commodity ETN (RJI) beat DJP by roughly 5% since October

Currency

PowerShares Dollar Bearish Fund (UDN) US dollar hedge without picking a country

Intermediate Treasury

SPDR Intermediate Term Treasury ETF (ITE) actually looks inferior to the seemingly similar but much larger iShares 7-10 year (IEF)

High Yield Debt

SPDR High Yield Bond ETF (JNK) stands up very well versus PHB and HUG since its very recent inception

Inflation Bonds

SPDR Barclays Capital TIPS ETF (IPE) the lesser know product

Emerging Market Fixed Income

iShares Emerging Market Bond Fund (EMB) one fund in a category of two

I'm sure there are a couple of segments I forgot (I chose not to include mid-cap but there are quite few choices for domestic, a few for foreign developed but I don't think any for emerging).

The mix seems like it has too much going on to be lazy but if any proponents of lazy portfolios want to weigh in please do.

Lately there has been a theme going around (both here and elsewhere) about whether US markets will provide enough returns for financial plans to work. Depending on how something like the list above was implemented I think it could go a long way toward mitigating the consequence of 6% average annual returns in the US but probably not do much for people looking to reduce volatility.

That point makes for a good side tangent that if you do allocate more to developed, emerging and frontier you may increase your volatility longer term. It might be what you need to do depending on where you are in relation to your number...just something to keep in mind.

A generic mix like this provides the 30,000 foot exposure but I think giving up sector and country selection, although these things can be difficult to get right, puts the portfolio at a disadvantage in my opinion. Underweighting financials for the last year or so versus domestic indexes and underweighting Japan versus foreign indexes for the last 18 years were not that impossible to do but should have added value for anyone who did it.

The intellectual debate over this is always interesting. The comments from readers saying stock picking and sector picking in not ideal for most people is valid, my comments saying it is not as black box as some would have you believe are also valid and there can never be one right answer only what is right for you.
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Mid Morning

Everyone knows oil is a one way trade, it can only go up which is exactly why I shaved off a little Statoil (STO) this morning.

I have no idea what direction the next $15 will be for crude oil but the price has practically gone vertical as has the price for STO.

Chances are if you own any oil stock that is not a refiner or own some sort of oil sector fund it too is up a lot but at the hair over $43 I got as an average price this morning STO is up 38% YTD. As the oil ETF I use is also up a ton, not as much as STO, I am a little heavier than I want to be.

The trade specifically was to sell 25% of STO (subject to any unique client situations). I sold it in the pre-market at an average price of $43.09.

I have done this sort of trade before with Statoil and other stocks including Vale (RIO). There is nothing wrong with taking a little off the table and the stock still going up.

It is sort of a no lose proposition. If oil keeps going up then I would expect STO to keep following along and if oil goes down I would of course expect STO to drop.

If oil goes to $200 then just about everything energy will go up and I would shave down STO again (don't key on $200 because I might shave down at some other level, the key thing is when something gets very big and out of balance I tend to shave it down).

One amusing nugget about this trade that ties into the post I had a few weeks ago about renting a stock for the dividend. STO went ex-div yesterday for $1.65. The price got reduced down to $40.81 and made back the reduction almost immediately.
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Lost Decade

The S&P 500 opened for business on Jan 3, 2000 (the first trading day of the year) at 1469.25. It closed yesterday at 1390.71.

According to an interesting article by Randy Forsyth at Barron's if you add the dividends in it would be break even. I'm not sure if that is exactly right but you get the idea. I've referred to this as a big round trip to nowhere.

Most of the article focuses on thoughts from Robert Arnott in which he reasonably concludes that double digit expectation are too high and that investors should plan on average annual returns of 6-7%.

If you've been reading this site for a while you know I generally agree with that conclusion and actually have been writing about this for a while but I think the article misses a crucial point which I tried to capture in the above chart with the spray can feature (which I probably won't use again) of the Paint program.

Going back to the numbers in the first paragraph and forgetting the dividends the S&P 500 is down 5.39% this decade. However if an investor had the misfortune of getting scared out on December 31 2002 and got back in one year later they would be down 25.13% decade to date.

The average annual decline per year this decade has been 0.67% but for anyone missing the best year of the decade the average annual decline jumps to 3.14%. I think this supports something I have touched on before about the risk taken in getting completely out of equities when things look bad.

If instead of being completely out an investor was simply a little defensive and instead of being up 26% with the SPX in 2003 they lagged and were only up 20% that year then decade to date they might be down 11.5% which still fits the definition of lost decade but I don't think is anywhere near as bad as being down 25%.

I've been bearish for ages but have also been plenty long, had a little more cash than normal and been hedged a little thus the risk has been lagging up a lot as opposed to missing it altogether which I think the above numbers show can be a huge game changer.

If you look at most decades I think you will see that most of the return comes from two or three very good years (the 1990s as an obvious exception) and missing them will blow you up. You might be able to make your plan work with 6% average annual returns but you gotta be there to get it.
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Mid Morning

Jonas Ferris from Cashin In on Fox pokes some good fun at WisdomTree on Seeking Alpha for poor timing on listing its currency funds (and while he was at it for the timing of its value tilted funds too).

Ok, as I went back to the article to provide the link I saw the article has been removed with the following message left; This article has been removed, pending investigation of claims of material error.

Well I didn't notice any factual error but it is safe to say that Jonas does think the timing of a bunch of new currency products right here is bad. Without worring about whether he is right or wrong for the moment I think one crucial thing was missing which is the asset class nature of currency products.

Not everyone believes that currency is an assets class (I do) which is fine but for the folks that do view it as an asset class the timing of the listing should not matter. If currency is an asset class then a diversified portfolio will always have some exposure; maybe more exposure if the timing is "good" and less if it is not.

So then the question becomes are the WisdomTree products a better mousetrap where there is competition like with the euro and the yen? Where there is no competition, like with the real (ticker BZF) does the product capture the effect? These are ten minutes old (intentional hyperbole) so time will tell if these do work but the timing of the listing does seem to miss the point.

As someone from WT might say you could short them if you think the dollar is cheap (BTW a quick call to Schwab and they do have a few shares of BZF to lend).

Most ETFs are simple exposure to an asset class. Today is either a good day to buy that asset class or it isn't. That statement will always be true in the future as well. Today maybe being a bad day has nothing to do with whether the asset class is viable or not or whether fund does what it is supposed to or not.

A fund is only a bad fund if it does not do what it is supposed to do.

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H-Shares

I can remember seeing that the NETS line of ETFs had a China H-Share fund in the works and finally it listed under ticker SNO. Like Heather over at IndexUniverse I thought it would be very interesting.

After further review, I'm not so sure it is much different than FXI.

The attached chart has a few things going on but the black line represents iShares China (FXI) and the yellow line represents another H-Share ETF that trades in Hong Kong (the US pink sheet ticker is HSUXF). They trade almost identically.

Looking under the hood, SNO is 50% financials while FXI is 41% financials. Energy; SNO 23% FXI 16%. The most glaring sector difference is telecom which FXI has 16% and SNO is a little over 3%. This is mostly attributable to FXI's largest holding being a 10% weight in China Mobile (CHL), which I own for a couple of people, but since it isn't technically an H-Share it is not in SNO.

The largest names in SNO include a lot of banks you might have heard of if you watch CNBC Asia or pay attention to names that some US banks have invested in. Petrochina is also a heavily weighted name in SNO.

A while back I owned FXI personally, but my primary exposure was Sinopec (SNP). When the China theme was newer I was less concerned about the heavy exposure to financials but at this point the ETFs would not be my first choice because of the heavy financial exposure.

To the extent lack of transparency from Chinese companies bothers people this would seem to apply even more to banks. Additionally given how relatively new things like capital markets and mortgages are the chance of big mistakes happening within the sector does not seem like a stretch (it happened here and is still unwinding).

It seems easier to own things that you know people use like gas from the gas station, coal to heat their homes, cell phones and a few other things.

Also on the above chart is a small holding in SNO called China Molybdenum which has a pick sheet ticker of CMCLF. Molybdenum is used to strengthen steel. China Moly IPO'd a year ago April. The growth numbers from 2006 to 2007 were huge, debt plummeted and it initiated a dividend. China is one of the big sources of molybdenum and China Moly appears to be a big fish in this pond long with Shanghai listed Jinduicheng Molybdenum. I'd not heard of China Moly before now so I know nothing about it but it is interesting enough that I want to learn a little more.

I charted it above and also included Thomson Creek (TC) which is the only pure play I had been previously aware of. The two correlated very closely for a while but then diverged for reasons that are not obvious at first glance. My interest in learning about the company is not so much to buy it but to learn a little more about the space. I've read and heard some very bullish things about it over the last few months and I think learning more makes sense.

If anyone knows anything about China Moly and is will to share please leave a comment.
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Mid Morning

Yesterday the stock market opened strong and got stronger taking the S&P 500 noticeably above its 200 DMA.

Then it sold off (but closed up a point on the day) to close just a whisker below the 200 DMA and obviously this morning it is down a quite a bit on a few things including inflation data.

Does yesterday's turn around combined with today's open add up to something meaningful?

Given my bias toward a normal bear market and my reliance on the 200 DMA I obviously think it is meaningful.

Yesterday I did some work to figure out the first step of re-equitizing which I would have done today if we held the 200 DMA yesterday and were following through today. It took a fair bit of time to figure the amount of shares everyone would buy which is maybe why the market turned around (hey, we are all entitled to our little paranoid delusions, like why anytime I turn to the Celtics game the other team goes on a run).

My opinion about the market has not changed but sticking to my exit/entry plan I would have bought in today with one stock if we kept the 200 DMA and maybe this will occur later this week. If it is off to the races then adding one stock means a smaller lag, if we in fact have failed at the 200 DMA that I am where I have been all along.

You should notice that the focus is not nailing this, it is simply to stick to a plan set out ahead of time whose goal is to avoid a chunk of down a lot. If you appear right, fine, if not that is fine too. You should probably care more about your money than your track record for calling turns in the market.
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Inflation Products

Are we heading towards or already suffering from inflation like we had in Huggy Bear's time?

There is no shortage of opinion in either direction but really the only thing most folks probably care about is how higher prices for every day items like gas, food and healthcare effect them versus how lower prices for their homes effect them. It stands to reason that people would each view this differently.

I don't think people should be so fixated on the current value of their home but they are and so my own take is that a lot of people would be more concerned about what was a $400,000 house a year ago now being at $360,000 than gas being $10 more per tank or spending $12 more at Walmart every week, however I would not argue with anyone saying the $10 and $12 are more important.

Regardless of what you think about inflation rates, we have had relatively low inflation over the last decade or so and having it be a little higher for a while seems reasonable so it makes sense to build in some inflation protection into a diversified portfolio. That might mean TIPS to some folks, gold to others, equities too can help offset inflation over the long term, maybe REITs are the answer.

This brings us to a related comment left by long time reader OG. He said he is not sure what the optimal mix of gold and TIPS would be.

This chart comparing GLD and TIP (both of which are client holdings) probably makes it clear as mud what the mix should be.

I don't see any sort of correlation but I do believe both of them serve important inflation related purposes but they will deliver different effects to a diversified portfolio. Since 1971 gold has had huge moves up, a huge move down and periods of seemingly not doing much. You obviously expect much less action, as shown in the chart, from TIP.

If you believe in both (and I do) but are not a fan of volatility then perhaps an equal mix of the two could help with managing the volatility. FWIW I tilt a little heavier to TIP versus GLD but I have some mining stock exposure which has done well but I think of it as more of a regular equity holding than a pure inflation hedge.

A close to even split may not seem too interesting but the most important thing is having any exposure at all. At different times, obviously different mixes would be the best. When GLD was going up to $100 you should have more GLD. When GLD was headed down to $84 you should have had more TIP. If you are not likely to win between the two then it is better to just focus on whether owning the asset class is appropriate for you and if it was is the best way for you to do it.

OG then followed up with an idea for an exchange traded product tied to "real" CPI that he would only trust Barry to devise. Barry'd be a good choice. I touched on this before too. I think the idea of indexing CPI rates from different countries, regions or other logical baskets of countries into an exchange traded product and perhaps levering them 1.5-1 (that's one point five to one) would make for a very compelling security. A CPI basket of the GCC countries looks pretty good to me right now as long as those countries continue to peg to the greenback.

David Swensen and others have talked about inflation protection as being an asset class. This makes intuitive sense after all these years of somewhat low inflation. There have been a few other TIP products that have come along since TIP (maybe some of the OEFs are older than TIP) but more importantly this seems like a space that is destined to evolve into more innovative choices like the SPDR Intl Inflation Fund (WIP) which I own for some clients.

Obviously I think the CPI fund idea is interesting but there must be others being studied in various labs throughout the industry. Picking up a few hundred basis points from increases in CPI plus a little interest seems like a good way to invest in what is happening on the ground in a region without taking stock market risk. It could offer a new type of emerging market exposure for folks not too comfortable with iShares Emerging Market (EEM) or other broad EM funds.

One last point about inflation protection as an asset class is that you don't want it to be the best performing thing you own. Ideally stocks would be going up and inflation would be tame. Is there anyone who does not want that? Stocks always going up with tame inflation may not be real world, except for the 1990s anyway, but I think that is what people would prefer--not that their hedges are doing great.

Congrats to John Lester on throwing a no-hitter for the Red Sox last night.
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Mid Morning

Solid Gold!

I found this article at Seeking Alpha from someone I am not familiar with who spelled out the fundamental (read bullish) case for gold.

For anyone new, I have had exposure to gold one way or another since before this site started and will keep gold (I expect) for the foreseeable future.

I am neither bullish or bearish, I view gold as an important diversifier for external shocks to the stock market and the fact that the trend has been up for so long has obviously helped returns.

In the article the author states "In order for gold to drop, here are some of the things that need to happen:" and then spells out 16 reasons that he feels supports his assertion.

The point of my post is not to debate the fundies of what gold should do. Even if he is exactly right on all counts gold could still go down. Things go in the opposite direction from what they should all the time. Gold as measured by client holding GLD hit a high of $100.44 on March 17. It then hit a low of $83.96 on May 2, so a 16% drop in six weeks.

I doubt that the fundamentals were any different on March 17 than when the author first wrote his article. Further I doubt buying at the high would lessened the potential zig from gold versus equity market zag if there had been a meaningful external shock.

The point is not to disagree with the author about anything but simply to add a reminder that no matter what the story behind something the price can easily go down.
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Monday Potpourri

A reader left some info about a postage stamp index (the context is alternative asset investing). I found the Stanley Gibbons website which owns the index for stamps and also has an index of autographs.

The SG 100 Index (the stamp index) from 1997 to 2005 lagged property but beat stocks (for some reason their chart only goes to 2005). They do provide data through April, 2008. YTD the SG 100 was up 1.43% through April 30. In 2007 it was up 5.01% which was pretty close to the S&P 500. In 2006 the SG 100 was up 4.5% which badly lagged the S&P 500.

I think it is worthwhile to take a gander at these things but I'm not terribly interested. I doubt there will be a stamp ETN and I doubt there will be an art ETN (as mentioned yesterday) but who knows, I am certain there will be a sports card ETN (joke).

I found this article yesterday about inflation and whether or not to own TIPS or TIPS products. I have had one TIPS product for a while. It did nothing for ages then had a big move up into a run of doing nothing again for a while and has since come off a little. If you are thinking of buying something like this I would suggest not having grand expectations for the short term. Owned in the proper amount I believe they add value but chances are that things aren't going too well if your TIPS fund is your best performer. My hope is that they add value over the long term.

Lastly a stock I own for clients is rumored for a takeover. This is a mixed blessing especially if this comes to a name you use as a narrow proxy like a sub-sector or country as is the case with the name in question. This is a positive in the short run of course but if you own a stock to capture something narrow, chances are you think it is the best way to access the theme. You might be right about that or wrong but you obviously own the one you think is the best choice for the long run (differentiates long term versus short term).

When the deal closes, or maybe sooner (there is an argument to be made for selling as soon as the news hits which I have done before but that was when the stock getting taken over was more easily replaced) you need to swap into something else assuming the sub-sector or country is still important to you.

(This makes the obvious case for keeping at least vague tabs on what is going on elsewhere in a theme you care about. For example if you own Vimplecom (VIP) you might want to know a little about Mobile Telesystems (MBT). I don't own either one but if you have VIP and Telenor (TELNY.PK) ever decides to buy the rest of VIP (not a prediction just an example) and you still want Russian cellphone exposure there's a good chance you'd be buying MBT.
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Sunday Morning Coffee

Two things this morning.

First up is the Boomer Angst special on The Network the other night. I have to say that I was expecting a lot more people don't plan to fail they fail to plan tag lines so kudos for that.

My brother and I spent some time chatting about the show yesterday. I noticed no mention of living below your means and Larry felt that not enough attention was paid to real estate but the one comment (he missed it and I filled him in on it) was flat out wrong.

We both agreed that "get out of debt" could have used a little more meat on the bone as far as how to do that.

One related topic that I don't think came up but whether it did or not is something I have been thinking more about which is the unexpected. Last week we had to get two new tires for our pickup truck and it cost $400. It was just one of those things that comes up but go look at your check book (or more likely Quicken), how many just one of those things have come up in the last year?

Plumbing issues beyond your experience level, new tires for your car or dogs who eat rocks (this has never happened to us) don't know you are retired and living on a fixed income. This sort of thing could be very problematic for executing a well devised retirement plan.

The other topic is along the lines of alternative assets from an article in Barron's about investing in things like art, wine and fiddles (well, rare violins). The article mentioned the MEI Moses Art Index which I think I had heard of but don't really know anything about.

In looking for the MEI Moses site I found a couple of older articles about art funds, that appeared to actually buy and sell pieces of art, that implied the funds struggled.

This chart is from the MEI Moses site (I do not know why it only goes to 2006) and you can see several instances of meaningful divergence from equities.

I had a tough time finding return numbers for the art index, there is some info here but it was not crystal clear to me the exact time covered but as of some date in 2007 the art index outperformed the S&P 500 total return for one, five and ten years.

I have no idea what anyone should expect in the future but the return seems like it has been steady so an ETN indexed to MEI Moses (I do not know how a provider would hedge such a thing) could have a place in a portfolio once it was properly studied.

From a slightly bigger picture this ties into finding close to equity returns from things that are not equities for some portion of your portfolio. If you could get a steadier 6% or 7% from things that don't look like equities would you be interested? Some folks would be and if this ever becomes easily investible maybe it can be one of those things.

The picture at the top of the post is in downtown Juneau. Thanks for all the kind comments about Kramer. As some folks commented this goes with having dogs (or cats). A few days of sadness are worth all the positives of having dogs. You expect to outlive your dog (which is why they are not like children) so you know they will pass away at some point. Thanks again.
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The Big Picture For The Week Of May 18, 2008

In Memory of Kramer
September 15, 1992-May 16, 2008

Joellyn and I adopted Kramer in December 1992. She was a great dog who logged many a 9 mile hike with us (she went 12 once). One great story; for a short time we had a chihuahua named Tootie and Kramer hated Tootie when we first brought Tootie home. However in the first two weeks we had Tootie she got out twice (she squeezed through an envelope sized opening in the pen and was out in the woods) and both times Kramer, despite hating Tootie, came and got me to warn me something was wrong and I found Tootie both times.

No video this week. I'm going to repost a comment I left yesterday (tidied up a bit) about this article from Morningstar picking five funds for the next 15 years.

Five funds for 15 years is a ludicrous concept. The way in which people skim articles they might get the impression you can buy these funds for that long without doing follow up over time.

They like several funds for the manager. I am in no way taking a shot at any of the managers but a lot can happen to a manager in five years.

Remember Foster Freiss, Alberto Vilar, Bill Miller and the guy who liked Senetek, symbol STNKY, like stinky, Heiko Thieme. Five years is a long time in this context and they are going out 15 years.

This sort of thing is a total disservice. Aside from 15 years being a long time to expect someone with years of successful track record behind them to stick around the only forward looking analysis you can do is to simply say yeah I think this guy will keep doing a good job which is of course no analysis, it is a leap of faith.

No doubt that the track of these guys justifies a leap of faith but there could not have been any analysis done to tell you to buy these funds for 15 years.
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A Swan By Any Other Color

John Authers has been blogging from a CFA conference in Vancouver this week and had this post the other day about Nassim Nicolas Taleb's presentation that I was slow to find.

Taleb had a couple of interesting thoughts about diversification. As quoted from the Alphaville post, "Diversification doesn’t work. You might need as many as 12,000 companies before it truly works."

Up front I should say that I view this differently than he does in this comment.

I take his comment to mean that he thinks owning the broadest of index funds is how to diversify and so buying the world makes the most sense, in this context. This is the crux of the passive indexer's argument of how to invest.

Of course this assumes the investor is interested in a diversified portfolio. As I read these comments about diversification I think about the first time I saw him (which was on the Connie Mack show) and he said to put 85-90% of your money into t-bills from around the world and go berserk (my word not his) with the remainder which implies taking a very undiversified approach, generally risk adverse but not a diversified equity portfolio.

Based on what I know of him (which may not be much) I would think he would prefer the mostly t-bill with a little bit of en fuego approach which I find to be far more interesting to ponder. If you had 90% of your money in t-bills, what would you put the 10% into?

The other nugget I found particularly interesting even if not new was the general idea, I am paraphrasing here, that volatility is manageable the vast majority of the time, more than the "than the predicted two-thirds of the time." But when volatility is not manageable is when people come unglued.

I don't necessarily think of volatility in the same way as he expressed it but it obviously rings true in that most of the time market chugs along smoothly (it has an up year close to 3/4 of the time) but people get very upset when the big declines come and obviously most folks don't see it coming.

It is this sort of thing, seeking out warnings like the 200 DMA (or similar) or the inverted yield curve, that becomes very important, as I see it anyway. They provide warnings of potential problems. This is a big focus of my practice and my writing. They will never let you quantify what might be coming but chances are you don't need quantify, you'd be happy enough to avoid it, or some of it anyway. If you know people freak out when the market rolls over into bear phase doesn't it then makes sense to watch out for when a bear phase might be starting?

Some obviously say no but not me.
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Mid Morning

A reader asked about what the "little guy" should look for in trying to access foreign bonds.

Assuming the question of how is answered with a fund of some sort I would want to see exposure to all sorts of different countries not just very high yielding paper. With a bond fund I would be happy with little to no price appreciation and a fairly steady yield that was at a premium to US treasuries.

It seems like the yields in a lot of places are higher than in the US so I would think it would be possible to weave together high yielders and low yielders, deficit versus surplus, importers versus exporters, emerging versus developed and so on to offset, as opposed to hedge, currency movements.

Obviously if the dollar continues to be weaker against every currency (longer term trend) then there would be some price appreciation and if the dollar snaps back (very recent trend) then these funds would likely face some price erosion.

If I were looking for a broad based foreign bond fund that is what I would look for and in lieu of that ideal I suppose I would look for something that I thought came close to that ideal. If that ends up being an actively managed fund for you then you obviously face the risk that the manager does something a little different in the future or that the fund gets a new manager.
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Bonds

I have one of these (except mine isn't coated in gold) for the gym and for hikes. Turns out you can't leave them in your pocket when you do laundry. Oops.

I was reading an article last night about how a couple of different advisors are using bond ETFs and I had a thought about the entire bond market.

If ever there was a segment of the capital markets that needs to be demystified and made more investor friendly it is the bond market. When I write about investment products and what I'd like to see come to the market I often use the word evolution to describe what is going on with ETFs. I think the bond market needs revolutionary change not evolutionary.

The bond market in general is huge. A certain issue may or may not be available at any given time, I get that but the method of price discovery involves placing a phone call looking for a price and getting call back later in the day with a price. If you have to sell you are never going to feel good about the bid you get quoted.

I am very interested in foreign bonds and have written about them several times noting that the minimum order size is $100,000 which makes it tough for do-it-yourselfers to access the space. I think that sort of minimum is totally unnecessary if we are talking sovereign debt.

Even with more esoteric segments of the market there has to be a way to to centralize inventory so that investors can input parameters through a series of drop down menus and the search will deliver what is for sale. The investor either likes what he sees or he doesn't.

Schwab Institutional has something like this for US treasuries, munis and certain corporates but it is a limited inventory, I am talking about centralized inventory. If someone wants five year paper from Chile they should be able to plug that in, see how much is offered and at what price and be able to buy the amount they want. If they want $10,000 out of $4 million offered, they should be able to do it without getting hosed.

Similar to equities I think access for narrow exposures could allow for a superior risk adjusted result. With equities at least investors can choose individual stocks over ETFs or vice-versa but with fixed income this is not necessarily true unless they have huge portfolios. If your portfolio is $10,000 you can put into any stock, or stocks, you want and get a fair price--it may not be a good idea but you have the choice. Not so with fixed income.

Could people hurt their portfolios? Yes. Would be worse than what some folks do to themselves in their equity portfolios? No.

There are probably all sorts of reasons (read excuses) why this can't be done and so I say again that revolutionary change is long overdue, the bond market does not have to be quite so cryptic. At some point maybe congress will Sarbanes/Oxley the bond market or maybe better yet the industry will do something before that happens (to be clear, I am not saying that congress mandating something is the best solution).
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Mid Morning

You may have seen that WisdomTree launched its first batch of currency ETFs today.

Chinese Yuan (CYB)
Indian Rupee (ICN)
Brazilian Real (BZF)
Euro (EU)
Japanese Yen (JYF)

The yen was included in the press release emailed to me but I think Bruce Lavine said on CNBC that it was not coming today and the JYF ticker does not seem to work.

Personally I am excited about these, especially the yuan and the real but as I usually say in my TSCM articles, give these time to show that they can do what they are supposed to.

The chart above is of the Chinese yuan (charted backwards to make it apples to apples) against the Market Vectors Chinese Yuan ETN (CNY) since the ETN's inception. In that time the yuan is up a little over 1% which is a decent move for two months for a currency but the ETN is down 2%.

I might be missing something but according to the Van Eck site CNY should track the S&P Chinese Renminbi Index less the fee. In the year ending March 31 this index was up 8.68%. The actual exchange rate in that time saw the yuan rise 10%, a 1.32% lag for the index. The market for yuan is complicated and that sort of variance is not shocking. But in just two months the variance between the fund and the actual exchange rate has been more than 3% and to look at the chart the correlation looks like it is negative.

I don't know if this will fix itself or not but it has given a bad first impression so I say if you have any interest in the WisdomTree products, and to be clear I do, I would say to give them a little time.
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Looking For Returns In All The Right Places

Tuesday one of my colleagues and I met with someone and we were talking about portfolio stuff and there was a snippet of the conversation that, based on how I framed my answer, might be a useful way to think about where returns might come from.

The chart is the USD versus the Norwegian krone for the last year. The chart shows the trend of dollar weakness in krone terms.

The blue dot to left is about where I got in last spring using two year sovereign debt. The move from six to about 5.05 is almost a 16% gain in one year, we will take in a little bit of coupon interest in the next few days too.

There are all sorts of things like this that in a given year can give equity like returns without exposure to equities. I would not expect the something, like Norwegian sovereign debt, to provide equity like returns every year but there is always something (many things actually) capable of this.

Finding one of these every year is not a realistic expectation and obviously knowing where to look is difficult. I think the idea behind this is that, depending on the time you can or want to spend, each do-it-yourselfer can follow a certain amount of things. For one person it might be ten things and for another it might be two.

When I say things I am talking about some of the ideas I have touched on in past posts that I watch like debt from quite a few countries (only have exposure to three mind you and no single client has more than two of them), hydro funds and the like. These are a couple of things I watch perhaps you have a couple along these lines you watch and know a little bit about. If you know a little bit about pulp futures, for example, you might be in touch with when might be a better time to add exposure.

Maybe none of this ring true to you, so maybe I am saying this could be something new to seek out and learn about. This ties into the idea that US equity returns might be a little lower than normal for a while longer. Lower than normal returns from things like the S&P 500 might cause some folks to seek out more exposure to stocks or sectors that are both hot and volatile in order to get their returns.

So maybe instead of relying on 10% into Potash (POT) and 10% into Petrobras (PBR) you could allocate to something you know about that is not a volatile equity but can deliver an equity-like result. Perhaps the benchmark for this concept is getting 15% from US treasuries in the very early 1980s.
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Mid Morning--Special Snow In May Edition

Things work a certain way.

This is our eleventh May at our cabin and one thing we can count on every year is that no matter how warm it might get in April it will get very cold and maybe even snow, like it is today (that picture is from this morning), sometime between May 10th and May 15th.

Invariably someone will make a comment in April about it being warm from there on out and it is always wrong. The cyclicality of this is very reliable.

There is an obvious parallel here with the bear phase of a stock market cycle. There are always feel good rallies in a bear that cause people to think it will be a bull from there on out and it is always wrong.

Of course this could be a first or maybe despite it quacking like a bear it is not, but there is nothing new about big lifts during bear markets.
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New Sub Sector

New to me anyway; publicly traded airports.

I have spent the last few days trying to learn a little about some of the publicly traded airports (many airports from foreign countries are publicly traded companies).

There are close to 20 of them, that I know of anyway. To be clear I have just started looking at them so I still have plenty to learn but I think I might be noticing something with a few of them; they seem to have a low correlation to benchmark index of the respective country of origin.

This is true of the Paris airport versus iShares France (EWQ), sort of true with Singapore airport (pictured above) and iShares Singapore (EWS), Japan airport and iShares Japan EWJ, Vienna airport and iShares Austria (EWO) to name a few.

So what does this mean? Well that remains to be seen I suppose but where I think this is heading is tapping in to what is happening on the ground in a country without correlating to the stock market of that country which at times could be the right position. This might tie into the idea I have had about indexing GDP growth from some countries into an ETF or ETN and using that as a proxy for a country or region.

As I say I am still early on in the learning process but I think there might be something here. Airports are part of the infrastructure theme and the initial impression is that the businesses are not that complex compared to other segments. For now the only thing out there that comes close to an investment product is the Macquarie Airports (MQRSF) which as I understand it owns stakes in quite a few airports around the world.

This is either what I think (hope?) it will be or it isn't but doing the work to learn and then come to a conclusion, whether it is right or not, is an example of what I have been talking about for a while which is coming to grips that equity returns in the future may not come from the areas we expect and so we need to learn about different areas.
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Mid Morning

The global slump of 2008-09 has begun as poison spreads - Telegraph

The above article is incredibly gloomy but it brings up a couple of points that are worth considering regardless of whether the outcome is as dire as posited in the article.

By now you know that Vallejo, CA filed for chapter 9 bankruptcy but what I did not know is that Half Moon Bay (a very neat little town) is facing the same path and it seems as though there will be others.

The article also mentions several recent corporate bond defaults that while small could be canaries.

These things are all reasons to be concerned and while the magnitude may be within the realm of normal (my opinion) or not it seems very difficult to believe that the lift in stocks in anything but a feel good rally and it seems difficult to believe we will avoid a recession of some sort.
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The Best Way To Capture A Country?

A reader asked about the best way to capture a country for an investment portfolio.

Well sorry to disappoint but there can be no single best way. Depending on the country there could be a lot of funds, just one fund or no funds.

For countries that do have funds, the make up of the funds would have to be very relevant for deciding whether the fund is a good fit or not.

As an example, Sweden, pictured in this post, has an ETF that trades under ticker EWD. I have been favorably disposed to Sweden for quite a while and wrote about EWD in January 2006 for TSCM.

In that post, while generally positive on EWD, I expressed concern about its then 22% weight in Ericsson (ERIC). That concern came to matter last fall when ERIC plummeted and now the stock has only a 10% weight in the fund. For clients I have preferred an individual stock for Sweden than the ETF.

For clients where 40 stocks don't make sense, however, I have no problem using an ETF for Australia. Most clients own a stock but I don't hesitate with the ETF for accounts where ETFs are more appropriate.

Brazil is a little less clear to me. I have used a stock for exposure to Brazil in most instances but have never owned iShares Brazil (EWZ). Brazil is obviously thought of as a resources country but EWZ has a meaningful weight in bank stocks. Over the last year EWZ is up a lot but the weighting to financials, which have lagged the resource stocks, has caused EWZ to trail behind the the big NYSE, resource ADRs. For whatever reason I have always preferred one of the resource stocks for Brazil over anything that included financial stocks.

This contrasts or maybe contradicts that I use a bank stock to capture Chile. There is an ETF, which I think highly of and also a closed end fund. I think any of the three could be fine proxies, more so than with Brazil anyway. Clearly that is a subjective interpretation of the products and the countries.

As mentioned above there are countries for which there is no fund to serve as a proxy. For some folks no fund means no dice. This is where it becomes difficult but foregoing a country for lack of the fund is not ideal, IMO. Long time readers will know I have been a fan of Norway for a long time. I have had one stock for about three and a half years and two year sovereign debt since last spring and both have contributed significantly to returns in the time I've owned them.

Obviously an investor can only do what they are comfortable with and what allows them to sleep but that does not mean an investor should not learn more about something they are not comfortable with in order to perhaps reassess what they can do.
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Sunday Morning Coffee

I referred the following quote in the comments during the week but in a video on Bloomberg Stephen Roach said that no country has ever devalued its way to prosperity and the US won't be the first.

A few times since the tech bubble burst I've heard or read people pointing back to some very specific indicators/factoids from when the bubble was inflating with the tone being that an extreme bursting was obviously going to happen.

Sometimes I get the feeling that we are now confronting things that come the middle of the next decade people will look back and say things like "with an $8 trillion dollar deficit of course the market..." and then they'll fill in with whatever does in fact happen. Another one might be "well the dollar cut in half in just ten years so of course..."

My stance on this line of thought has been the same for a while which is there is visibility for lower, but still positive, stock market returns, higher interest rates than we've had for most of this decade, like maybe ten year treasuries in the sixes or sevens and the slow realization that the US will not be the most important economy in the world in the 21st century.

If it is not clear, I do not believe the US will be some sort of post-apocalyptic outpost where we barter with gasoline or whiskey. I even wonder whether many of us will even notice. In fact if this turns out to be correct I suspect history would say this shift started in the late 20th century, maybe with the Plaza Accord?

Something that should be obvious toward this point is that capital has clearly flowed into other countries. Look at the five largest companies in the world and the US does not dominate as it used to; Gazprom is on there along with a couple of Chinese companies.

A skeptic might note that part of the problem with the tech bubble was all the companies that were larger than $100 billion. I don't think $100 billion is the key number anymore, maybe its $200 billion or $250 billion but maybe this is an issue; Gazprom made a high on Friday in dollar terms and has a $347 billion market cap. Or maybe it isn't; Petro China (PTR) is down 47% and according to Yahoo Finance has a market cap of $253 billion.

The market cap issue is something to be aware of. Petrobras (PBR) is up to $283 billion, China Mobile (CHL), client holding, is down to $334 billion. The more important thing is that significant capital has rotated into these countries during this decade and I doubt any of us are surprised. At the same time the US market has had a big round trip to nowhere.

The ascendancy of these countries, possibly at the expense of the US, is a big, big macro theme and however you are capturing it now you may need to capture more of it. Don't take that as bigger bets but maybe the path is more smaller bets. Instead of owning three or five other countries maybe you need seven or eight.

I write about this a lot but I think it is becoming more obvious that this will be important for our financial futures.

The picture is from Phantom Ranch which is at the bottom of the Grand Canyon.
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The Big Picture For The Week Of May 11, 2008

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Mid Morning

In the last few days I have heard several comments on the network from on air personalities saying how ticked or mad comments when the market is down or "you must be happy" types of comments on up days.

This does a disservice to anyone who might be new to the markets as it encourages people to assign emotions to otherwise normal market action.

I doubt the current trading elicits too much of an emotional response from people so saying don't get worked up may be obvious but in all likelihood the chance to succumb to emotion will occur again.

So if your response today to don't get worked up is no kidding, hopefully you will remember that response if the market does in fact slide off the mountain again.
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Country Fund Mania

Country funds often get a bad rap from MSM even though any S&P 500 index fund is also a single country product. The utility of country funds is that they allow access into an investment destination without having to pick a stock. The downside to them, for example, could be that a weighting in banks might hold back what might generally be a technology exporting based country.

A potential issue with using a bunch of country funds is ending up too lopsided in some sectors and zeroed out in others. I was curious to see if a portfolio of just country funds could be assembled that captured some regional and economic diversification without ending up 35% in financials. So I plugged in the following ETFs into Morningstar to see what I could see.

iShares Canada (EWC)
S&P 500 (SPY)
iShares Australia (EWA)--personal holding
iShares UK (EWU)
iShares France (EWQ)
Market Vectors Russia (RSX)
iShares Taiwan (EWT)--a few clients own this one
iShares Malaysia (EWM)
iShares Israel (EIS)
iShares Brazil (EWZ)

A quick disclaimer before proceeding, I gave very little thought to the ten chosen and I'm not disclosing the simplistic weighting on the off chance someone tries to implement this.

Without looking under the hood just yet it is clear that the mix captures regional and economic diversification. You don't need to know too much about stock picking or portfolio construction to realize that but this was probably never in doubt.

As for the sector break down, shockingly the weight to financials (all sector info according to Morningstar) was only 19.95% versus 17.43 for the S&P 500. Tech was a meaningful underweight at 8.42 versus 16.73. The other overweights were telecom, materials, energy and industrials. The underweights were healthcare, staples, discretionary and utilities by a whisker.

According to portfolio science the stats are mediocre. The overall beta was 0.95, the correlation to the S&P 500 0.88 and the standard deviation was 23.91 versus 21.08 for six months. The average market cap was about half of the S&P 500 and the yield was a little better at 1.96%.

Morningstar was not able to calculate the performance for 1 year because EIS is too new. So backing that one out the portfolio was up 7.57% for one year (actually it only went back to May 31, 2007 for some reason) versus a 7.46% loss for the S&P 500 as measured by SPY. The Tel Aviv 100 Index was down 8.9% in the period studied so if EIS had existed it would have take a small bite out of the return.

The portfolio is mostly foreign and foreign did much better so the result is not a surprise--again foreign has done better. The next time the US is the best performing market a portfolio like this that is mostly foreign would obviously lag.

The bigger macro of this exercise is that it probably removes home bias (well, I think it does anyway). I also think that by drawing various types of countries it reduces, not eliminates, currency risk, for example lately the British pound has generally struggled against USD while the Aussie has been strong.

I think anyone putting some thought into country selection and weighting, and again I did not, could create a diversified portfolio without having to pick stocks or sectors or manage things like cap size or style.

The downside includes ignoring the things listed in the above paragraph which at times will hurt performance although that might not be fair, if you don't manage those things now you would not miss them in the future.
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This Might Come In Handy

World Interest Rates Table
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Mid Morning

Another ETF filing with a hat tip to IndexUniverse.

WisdomTree has filed for the Middle East Dividend Fund that will include Bahrain, Dubai, Egypt, Jordan, Kuwait, Lebanon, Morocco, Oman, Qatar and the United Arab Emirates.

The prospectus has no info on country weightings (none that I found anyway) but surprisingly 54% of the companies have market caps greater than $2 billion.

WisdomTree has an awful lot of very interesting funds on the shelf that I'd love to see list but thus far have not. Some of the filings are so old now that I doubt they will list so we'll see if this middle east fund ever lists or not.

One thing seems pretty clear to me, frontier markets will open up to investors one way or another pretty quickly. PowerShares has a frontier fund in the works which takes in a few other countries but given the role of middle eastern countries and investment funds are now playing on the global stage a narrower fund like the one WT filed for is inevitable even if it is from another provider.

As I was working on this post the following comment came in on this morning's post that deserves a follow up.

I sure wouldn't attempt the kind of sophisticated trades that you're positing. For me, it's just enough to know that they're out there if I ever get to that point.

I mentioned the potential of trading the spread between platinum and gold or AUD/NZD. No argument from me on the reader's point. I would add though, is that a dynamic exists between many different things like Oz and New Zealand. As it becomes possible to more easily trade off of these dynamics means that people will submit articles to places like Seeking Alpha. And while you may never trade AUDNZD via ETFs you might equity exposure to Australia and understanding the dynamic might make you more knowledgeable about the country you own.

Now apply that to other exposures in your portfolio like maybe gold.
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Thursday Tidbits

Speaking of Romania the Slovakian koruna will be no more as Slovakia has been accepted into adopting the euro starting Jan 1, 2009 (save for a potential snag or two). I don't know a lot about Slovakia but the bigger macro for these countries is smaller, faster growing, cheaper labor, younger population than the European old gard makes them generally attractive as an investment destination.

IndexUniverse is reporting that there will be two platinum related ETNs from ETRACS listing very soon, one will go long platinum and have ticker PTM and the other will go short platinum with ticker PTD.

This chart compares the platinum product from ETF Securities in the UK versus GLD (client holding). The basic case for platinum as I understand it is there is less of it than gold and it gets consumed for industrial purposes.

Van Eck launched a double long euro ETN, ticker URR, and a double short euro ETN, ticker DRR. These look a little funky to me as there are more moving parts to the calculation than you might think. IndexUniverse explains it here.

According to the IndexUniverse article the index for URR is up 12.8% YTD through April 30. According to Yahoo Finance the Rydex Euro Fund (FXE) is up 6.9% so despite my perceived funkiness that seems pretty reasonable. DRR YTD through April 30 is down 10.68%.

Rydex has filed for new currency ETFs; Russian ruble, Hong Kong dollar (this is an odd one, HKD is pegged to the greenback), South African rand and Singapore dollar. Hat tip to 24/7 Wallstreet for this info.

All of these new products, which I just heard about yesterday, tie in with the ongoing thread of more products allowing for more sophisticated portfolios. For do-it-yourselfers who are inclined to learn about them and proceed with moderation (this comment assumes the products all work which remains to be seen) I think this is a big positive.

Anyone saying they can't keep track of all of them, I hear you. There have been a slew of double long and double short commodity products that I cannot keep straight. For my tastes commodities are volatile enough that single exposure is good enough for me.

As more things come it creates some interesting sorts of pairings like trading the spread between platinum and gold or the AUDNZD rate (once/if the WisdomTree New Zealand ETF lists). Even if you have no plans to make these sorts of trades learning about them may offer some utility for what you are comfortable doing.

Of the products mentioned in this post I am most interested in the Sing dollar. I have been interested in it for a while, hopefully they follow through with it.

One commodity ETF or ETN I'd like to see is coffee. I am of the opinion that coffee consumption in Asia could skyrocket yet still have virtually no market share but if correct that could have a meaningful impact on the supply and demand equation for coffee. To be clear coffee will never be the drink of choice in Asia.

And finally from the hey that farm in Uruguay doesn't look so bad file is this rather lengthy look at the state of the US power grid. Yikes.
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Mid Morning

A reader left a lengthy comment about Modern Portfolio Theory that you can read here.

Where better to go to discuss theory than the Delta Tau Chi house at Faber College? Fortunately this post will be short as I am no MPT scholar.

First here is the Investopedia quick and dirty on MPT.

Basically the reader aspires to be a money manager, spent some time working for someone very big in the industry who succeeded by not using MPT and so the reader seems conflicted by this.

Really, I don't think the reader is conflicted, he doesn't believe in it, maybe that will be temporary or maybe not.

MPT is a very important building block for professional management of a portfolio. The principles behind it are important and despite the reader's experience and what is contained in this link left by the reader MPT can work. I think this is rather obvious.

However, like anything else it is unreasonable to expect it to be the single best method for all market times. My advice to the reader, since he cares at all about not believing in MPT, is to learn it as best as he can. MPT is a building block. Once you learn something cold you can then begin to pick it apart, explore the flaws and finally take from it what you need (if anything) and discard what you do not.

FWIW, I think I take some from MPT but also discard parts of it as well which I think is consistent with my idea of taking bits of process from many places to create your own process. I would also note that I have never thought so tangibly about believing in it or not in the same manner as the reader.
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The Only Three Stocks You'll Ever Need!

Despite Flo's excitement that headline is misleading.

In posts that talk about stock picking versus all fund portfolios versus some combination of the two, comments get left opining that stock picking is difficult or risky or whatever. So for the fund investor who goes narrower than an SPY, EFA, AGG mix could they spend the time and do the work to own three stocks from themes that were especially compelling to them for which there was no sector or country product?

Sticking with three narrow themes for which I have no exposure, let's say an investor believes Cyprus (oh yeah, there's a stock market there) is the place to be, well for that person there is only one choice (that I know of); The Bank Of Cyprus (BCYPF) and it has been a pretty good proxy for the General Index of Cyprus (YTD the bank is down 28% and the index is down 29% and the charts look identical).

How about shipping stocks? A lot of people seem to like these, the story is clearly compelling (stuff's gotta get there from here) and many of them pay very large dividends. There are quite a few stocks that are in shipping one way or another but no sector fund to own.

Lastly let's say an investor thinks the plane leasing stocks are going to finally turnaround (they have been bludgeoned), there's a handful of these but no fund. Some of them capture the growth in passengers in places like India and if they can get their cash flow squared away they offer the chance for enormous dividends.

To be clear I don't own any of the three, I've tried to learn a little about them and do watch them to varying degrees.

So the question is could a fund investor reasonably learn about two or three or four disparate themes and devote 5% or maybe even 10% of the portfolio to them while putting the rest into some sort of well planned, properly diversified combo of broad-based ETFs or, if they are so inclined, sector funds (properly weighted)?

This is obviously core and explore. As far as risk of individual stocks, let's start with the premise that regardless of anyone's stock picking acumen it not difficult to discern when a stock is a lottery ticket, like a biotech whose only drug is in phase 1 or a mining company that has never actually mined anything. So that pretty much rules out a one day 75% hit to one of the three stocks.

The realistic risk from a bottoms up problem (meaning the wrong stock was selected), as opposed to a top down problem (like you buy a Chinese stock that cuts in half at the same time the market cuts in half), might be from an earnings problem which seems is usually no worse than a 20-25% hit (that is a relatively extreme reaction but of course there has been worse).

Another risk might come from something like losing out on a contract as recently happened to Boeing (BA), although the immediate impact was quite mild.

One last risk that seems to come up a few times lately (to be clear this is in no way an exhaustive list of risks) is some sort of balance sheet/accounting issue which again seems to max out at worse with a 20-25% immediate reaction.

One risk that is not very likely is fraud. If the probability of fraud is low then the probability of owning more than one fraud stock at the same time is incredibly low.

Additionally 2-3% each into three different stocks from different themes can mitigate some of the top down risk (like owning three discretionary stocks late in the cycle). Combine all of that with some sort of stop loss strategy on the three and the risk would seem to come in off the ledge a little bit.

The point of all of this is not that you should go out and buy stocks today. But if the only way into an important theme important is with a stock you should be open to the possibility of buying a stock.
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Mid Morning

This rather sparse chart is of the benchmark BET index from Romania.

It may not be obvious on first glance but the market is down 34% from its closing high last July 24.

Romania is part of the EU but not the EMU. Today their central bank raised rates by 25 beeps, 50 was expected, to 9.75%. Inflation is pretty hot (in the eights), GDP growth is good, estimated in the fives this year but it has been on a down trend for the last couple of years and it is a deficit country.

I'm not sure how keen they are about trying to join the EMU but the mix of stats says that is probably a ways off but interestingly the currency, the leu, is up about 4% against the greenback this year but the ride to 4% has been wild.

I think Romania might be one of many countries where owning the currency as a proxy for the country might be just as good if not better than equity exposure. Romania does have that ascendancy theme that most of central and eastern Europe has and that stands to benefit a lot of the currencies (maybe it already has), also the currencies returns (ex-Turkey and maybe Hungary) may not be as lumpy as equities over the next few years.

For now there is no easy way to capture Romanian equities or the leu. Take this for a bigger macro. There will be more choices along these lines. In the next few days investors keen on Brazil will have access to the real via a Wisdom Tree fund that will trade under ticker BZF. The landscape for stocks, bonds and cash from other countries will only get bigger.

Before you read an article from Morningstar poo-poohing currency ETFs, for some people the currency might be a more suitable proxy than equity for frontier markets. Something to explore.

In looking at a few thing to write this post I gotta say I found the country looks to be beautiful. Lots of mountains, old and interesting architecture and of course it borders on the Adriatic (that is a Cheers reference and actually Romania is on the Black Sea). Anyone ever visited, is it a interesting as it appears to be?
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More Theory Time

I've always wondered whether there really is a way make money long term by renting stocks for the dividend-dividend capture as it is known. There are of course funds that do this but the results while generally ok over longer periods of time have been not so great in the last few months.

Before we get into this, even if it makes sense strategically it would be very tax inefficient so the context is in an IRA of some sort. Lets say the theory would be to put something like 50-60% of the portfolio in one of the total world funds and the rest would be used to rent stocks around their dividend dates.

To keep the math simple lets assume 3% into 15 names at any one time. A quick mechanics note is that on ex-date a stock price is reduced before the open to account for the dividend. For example a stock closes at $100 today. Tomorrow it goes ex-div for $0.50. If it closed tomorrow at $99.50 it would show unchanged. Obviously buying at $100, taking in a $0.50 dividend and selling at $99.50 is a waste of time and commission dollars.

The idea would be to buy before ex-date and sell it for at least what you paid for it after ex-date or in the example about buy at $100, take in the $0.50 and then sell for at least $100. So the stock would need to work back up to the pre-dividend price. In a healthy market this doesn't take that long but of course it may never make back the dividend.

Below is a list of real stocks with the name changed (we're not handing out fish here) along with the most recent dividend and the days needed to make back the ex-date reduction.

Enormous Domestic Bank 1.6% (this was the yield for the quarter, so annual 6.4%) made back the ex-div reduction in six trading days (intra-day)

Big Foreign Oil 5.4% (this was a once a year div) made back the reduction in six trading days

Hot Potato Shipping 1.6% (for the quarter) made back the reduction the next day

Fat Yield Foreign Tech 2.1% (for the quarter) made back the reduction in five trading days

Big Cap Telecom 1.1% (for the quarter) made back the reduction in 15 trading days

Good Ole Boys Tobacco 1.04% (for the quarter) made back the reduction in six trading days

Widows and Orphans Electric 1.34% (for the quarter) 58 days and counting (the next div is right around the corner)

Emerging Market Bank 4.9% (annual) four days to make back the reduction

Big Global Health 1.1% (quarterly) two days to make back the reduction

US of A Chemical 1.1% (quarterly) five days to make back the reduction

Not So Big Chinese Company 5.3% (annual) 16 trading days to make back the reduction

Great White North Bank 1% (quarterly) made back the reduction next day (intraday)

Ginourmous Conglomerate 0.9% (quarterly) made back the reduction next day (intraday)

Non-Oil MLP 2.2% (quarterly) made back the reduction next day

Emerging Market Oil 8.1% (annually) made back the reduction in nine days

That's 15 names, one did not work and I was able to find these by only looking at 21 stocks. There is a long term upward bias to the market so it may be so that since I grabbed the most recent dividends and the market has generally trended higher in that time it appears to be working out. If I had done this two months ago it may not have worked out as well as now and to be clear a lot of ideas work when the market is in an uptrend.

These stocks listed above are real stocks but they would just be a sampling of what I think would be needed to to maintain a fully invested portfolio that presumably would turn over ever month. If all 15 of these paid in the same month (sorry but I didn't want spend all day building a database I'm not going to use) then the yield on this portion of the portfolio would have been 2.65% for the month.

Is that representative of every month? The argument no is because the list brings in several annual pays to which I would say there would be a few months in the year where you could really load up on annual pays.

If someone with the time and inclination to do this could muster 1.5% per month it would be a monster home run.

It is possible that certain CEFs and other sorts of investment products could work too.

How large would the data base of stocks need to be to pull this off? The example above is with 15 stocks. 15 times 12 is 180 stocks but obviously you could bring that number way down as most of the stocks pay quarterly and so they could be bought four times per year.

The flaws abound but there is not much realistic risk of a bunch of stocks like this (notice there is no undue sector risk relative to SPX) cutting in half all at once unless the overall market cuts in half. Of all of the stocks studied plenty dropped close to 20% with the market and only one, the Chinese stock, from the top down to the bottom dropped by 50%.

I am in no way advocating picking stocks just for the yield. Buying a stock without a thorough study of the company is straight up stupid. Obviously there would need to be some sort of exit strategy discipline. Widows and Orphans Electric has not worked out on this go around, probably because utilities in general have not done great, but nonetheless it has not worked. Holding for 58 days would not make sense, relative to the strategy because that's a long time to not capture another dividend which is the point of the exercise.

Obviously just because I had an easy time finding names that worked does not mean it would work in the future. There is an up-market logic that says it could work but there is no guarantee.

Another big risk that comes to mind is behavioral. For instance this could start out, in an up market, working just fine leading to a little more risk being taken, which might also work out, leading to a little more risk and the next thing you know you have six shipping stocks with colossal dividends and then the rug gets pulled out from underneath as was the case last year.

The human reaction of taking more and more risk when something seems to be working for a while repeats over and over.

This is not something I am going to do. I do not think it is a substitute for a diversified portfolio. I do think it is very worthwhile to explore crackpot ideas like this because it does provide the chance to look at portfolio construction from different perspective which is very constructive.
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Mid Morning

The picture and chart are from one of two rice articles I found today in the WSJ.

As you can see the price of rice has sold off about as quickly as it lifted at the very end. There is nothing too unusual about that sort of chart action during manias.

While I do not know where the decline stops I think it is a good bet that the selling will slow before the price gets back to the levels it was late last year.

Not long ago rice was at $10 so obviously even if this correction goes all the way back to $15 that leaves it 50% above where it was.

That probably means the panic and rationing would be over but as I mentioned a few weeks ago the longer term consequence of a 30-50% rise could turn out to be meaningful.

I think this is something to pay especially close attention to.
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Yemen Jager

Feliz Cinco de Mayo, amigos.

Yesterday on the Connie Mack show, retired Oppenheimer fund manager Bill Wilby made a very simple but very smart observation about oil that resonated with me.

Essentially he said that oil has made its way up to $120 all the while as the US has struggled economically. Not to turn this into a debate about whether there is a recession or not or how bad or whatever, but clearly the US economy, which consumes about a quarter of the world's oil supply, has not been going great guns yet oil has rocketed higher.

Wilby says that when the US does get back on track it could push oil up to $200 per barrel. I'm not terribly concerned about getting to the figure or not but that big of a move in the next few years would, I have to think, create problems of a harsher magnitude than we think we have now.

In my opinion it seems fairly obvious that China and India's demand will continue to increase and with 2-2.5 billion people combined even small increases in demand can matter. Additionally there are a bunch of countries with 70-120 million people that are a little earlier stage in their development that will also consume more oil over the course of the next decade.

We know there is some oil out there that potentially adds to supply (Tupi, Carioca, Bakken, Alaska) but we also know there is decline (Cantarell, North Sea to name a couple off the top). I've read some divergent opinion as to what the net effect is, but at a minimum supply would seem to be challenged.

The one part of Wilby's comment I can't reconcile is that from here, US GDP growth really taking off with oil where it is or even $15 lower seems like a big headwind. To be clear I am saying that if we technically go into a recession and oil stays up around this level, when we come out of the recession to start the next expansion it might be a little more sluggish than normal. So maybe this removes the nearer term notion of $200 but still maintains a path for higher prices from here as the decade winds down.

The investment implication, if you buy into any of this, would seem to be either an overweight position in energy stocks or if equalweight, equalweight with higher beta than just owning Exxon (MOB) or iShares Energy (IYE).

What about solar and other alternative energies? I think I have more faith in the technology than the stocks. The industry is in its infancy, solar accounts for only 0.06% global electricity consumption. While I think solar will become much more relevant it might do so with different companies than we know now, point being be careful with that one.
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Sunday Morning Coffee

Get ready for that triple shot whatever it is you order.

Direxion Funds, the kings of levered products, just filed for a bunch of triple long and triple shot short ETFs.

According to Index Universe the list is as follows;

1) MSCI Broad Market
2) Nasdaq 100
3) Dow Jones Industrial
4) S&P Midcap 400
5) Russell 2000
6) Nikkei 225
7) MSCI EAFE
8) MSCI Emerging Market
9) S&P BRIC 40
10) FTSE/Xinhua China 25
11) Indus India
12) S&P Latin America
13) MSCI Commodity Related Equity
14) Energy Select Sector
15) Financial Select Sector
16) DJ US Real Estate
17) S&P US Home Building Select

As with the double long and double short these will, assuming they actually list and do what they are supposed to, open the door to several different types of strategies ranging from speculative gambling to what is essentially portfolio rocket science.

As with the double products, the Direxion ETFs objective is on a daily basis not over any longer period of time. For an understanding of how this can create surprises for people; over the last 12 months SPY is down 5% but over that same period the double long S&P 500 (SSO) is down 20%. For the calender year 2007 SPY was up 3.5% and SSO was down 3.5%. That doesn't necessarily mean the product doesn't work but somehow the combination of up and down days netted those two results.

I think the long products would give a better longer term result in a market that was trending up as opposed to a market that has been rolling over but that's just an opinion.

Chances are some folks will get very aggressive with these, I would probably only be interested in the triple short S&P 500 or maybe triple short EAFE as a hedge for when the market is below its 200 DMA and some other folks will create some very sophisticated pairings of long/short, single/double/triple, different indexes and so on.

A portfolio using only broad-based products could have neutralized out the financials very efficiently with the triple short financials without disrupting too much of the rest of the portfolio. Unfortunately the rocket science applications of these products don't get written about very often but maybe between now and when these funds list I can dig something up.

While it should go without saying I'll say it anyway levered products used incorrectly offer the risk of an absolute blowup. A position on the wrong side of the trade on a day where the market moves 2% could result in an 8% loss. Check the math? No, the goal would be three times but occasionally it moves more or less than the objective and this sort of scenario on a given day is plausible.

For anyone looking at these as an efficient hedge, trust me, a little bit will go a long way.

The picture is from a coffee house Parua Bay in New Zealand.
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The Big Picture For The Week Of May 4, 2008

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It's A Rally And It Feels So Good

From the bottom to the top the chart shows a rally of 9.3% in about a month. That is an old chart with the date removed.

The current rally is a little over 10% from the low in mid-March.

The rally charted felt pretty good. The rally now feels pretty good.

A while back I started using the term feel good rally (I may have made it up, not sure if I can take credit for it or not). The context of saying that is if the market is in the bear that I think it is, we will have several feel good rallies along the way.

Feel good rallies are a normal part of the bear market landscape. This is either a run of the mill feel good rally or I am wrong and this whole financial crisis/housing price deflation/bond market distortion will turn out to be nowhere near as important as many people thought.

What do you think is more likely?

I am convinced this is a bear market rally, there is no convincing me otherwise. That does not guarantee I will be right of course. I think what I think but regardless of what I think I will add a name or two or shave off some double short if the S&P 500 goes back above its 200 DMA. For me, re-equitzing would be gradual because it could obviously go above the 200 DMA for a few days and then go back under making for a real fakeout.

In the past some have posited that the 50 DMA crossing over the 200 DMA in either direction might be a more accurate trigger point for getting defensive or re-equitizing, depending on the direction. That might indeed be a better way to go. For this cycle I will stick with 200 DMA and between the end of the current bear, regardless of when that is, and the start of the next bear market I'll try to figure out if I think the crossover is the better mousetrap.

The bigger macro for me is having an objective point where to go on defense and then a point where to re-equitize. The goal has been simply to miss a big chunk of down a lot. If the specific tactic turns out to be the best strategy that's great but it far from the priority.

BTW the chart covers the first quarter of 2002. The S&P 500 was about 34% lower four months later.
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Mid Morning

The market appears to be pricing in the chance that Argentina could default on its sovereign debt (hat tip Mish).

Defaults are not everyday occurrences but they do come along every now and then. Venezuela seems to threaten to default every so often and Argentina did default in earlier in the decade.

I took a look at a few funds to see which ones would be impacted. PowerShares Emerging Market Bond ETF (PCY) has no exposure. iShares JP Morgan Emerging Market Bond ETF (EMB) has a 1.66% in an Argentine issue that goes out to 2033 (an unrelated note EMB has a small weight in a Gabonese Republic bond, wow, Gabon). The SPDR International TIP Fund (WIP) has no exposure--I own that one personally and for quite a few clients.

For closed end funds; the Templeton Emerging Markets Income Fund (TEI) had a 9.68% weight in some Argentine paper due in 2012 as of 11/30/2007. Morgan Stanley Emerging Market (MSD) has a little under 2% in Argentina as of March 31, 2008. Morgan Stanley Emerging Market (EDD) has closer to 5% in Argentine as of March 31, 2008.

As an FYI I could not get the info for MSD and EDD until I got to the tenth page of stuff. I nominate Morgan Stanley for the worst web site of the week.

I would suggest anyone owning any fund that might have exposure to call and find out where the fund is right now. The info I was able to find on the Internet is obviously old.

I have written about quite a few of these funds for TSCM and I always note the extent to which they tend to swing for the fence in terms of yield with exposure to not only Argentina but also Turkey and Hungary. From where I sit I would want to know what is under the hood of a fund like this if I owned it, especially with the actively managed funds in order to minimize the chance of getting blindsided.

Notice I'm saying minimize as opposed to avoid. Every so often you are going to get blindsided by something but the extent to which knowing some details about what you own and paying attention to the news might spare you a little.
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Worst Ever? Really?

By now you know that a chap named Vincent Reinhart has dubbed the Fed's bailout of Bear Stearns as "the worst policy mistake in a generation."

I will leave trying to quantify the consequence to others but it is worth understanding what this could mean if he is right.

His use of the word generation applies a very long term connotation to when we might see the final shoe drop.

Much of the blame, rightly or wrongly, for today's problems is attributed to the Fed having kept rates too low for too long. Assuming that is true it took three years for that to come home to roost.

We must assume that Reinhart thinks the Bear Stearns bailout is worse than that as I assume he knows what the word generation means. If the scope and magnitude are as bad as he says then we might be well into the next decade before this fully unwinds.

In this context many people fear a repeat of the 1970s and of course many have said this is the worst time since the great depression. Regardless of what you think of that, stock market wise we have already looked like both the 1970s and the 1930s (different magnitude from the 1930s of course) which is a very long round trip to nowhere for the stock market.

All three periods (1930s, 1970s and the naughties, heh heh) have plenty of differences too. In this current round trip to nowhere there have been plenty of places to make money. I suspect that if we have a 15 or 20 year, W-shaped round trip to nowhere there will be plenty of places to make money in the second half of the W.

Something I have mentioned before is that people in Japan have financial goals that they are saving and investing for. Since 1989 a local investor in Japan has had no reasonable shot of reaching any far off financial goal in their stock market. This forced them to one way or another seek out closer to normal returns elsewhere.

I don't believe the US will be the quagmire that Japan has been but if it takes another ten years for the market to get right then we all need to figure out what to do, we need to be resourceful enough to find normal returns elsewhere. Hopefully you have done some of this over the last few years.

In the post the other day about not caring about how much Greenspan is to blame, someone on Seeking Alpha heckled me with oh right, so the only thing that matters is the money in your portfolio. You are one good citizen.

Agreeing with the heckler, which is valid, seems to be more about solving the world's problems. My take portfolio wise is more about each of us solving our own problems or better yet preventing our problems from happening. When this site started I was talking about seeing myself at 50% foreign in the coming years which would be an effort to avoid a problem--that being below normal returns from the home market.

Regardless of whether the US market and economy are great or lousy over the next 20 years we still need to save and plan.
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