Weekly Commentary – May 7, 2012

The Markets

The most important news last week may have actually happened this past weekend.

On Sunday, voters went to the polls in France, Greece, and Germany and the results could have a major impact on world markets. French voters sent incumbent president Nicholas Sarkozy packing and, instead, elected Socialist Party candidate Francois Hollande. Hollande “has pledged to shift the burden of economic hardship onto the rich and to resolve the protracted euro sovereign-debt crisis by softening the current prescription of austerity,” according to The Wall Street Journal. While his strategy is debatable, it will likely cause a rift with Germany and add uncertainty to recent eurozone agreements.

Greek voters also went to the polls and “delivered a stinging rejection of the two incumbent parties, with many people casting ballots for smaller, far-left and far-right parties,” according to the The Wall Street Journal. This, too, will likely result in more political and economic uncertainty. And in Germany, incumbent Angela Merkel’s party suffered some setbacks in state elections.

What’s leading to all the angst in Europe? Here are three things:

1.      Recession fears – 11 European countries have now experienced two consecutive quarters of economic contraction.

2.      Unemployment fears – the unemployment rate across the eurozone is at a record high.

3.      Business confidence fears – April’s read on the manufacturing PMI for the eurozone – a measure of confidence among businesses – fell to the lowest since June 2009.

Sources: MarketWatch, The Guardian

The bottom line is citizens are voting for change, but “political realities will complicate even more what is an already delicate economic and financial outlook for Europe, the world’s largest economic area,” according to Mohamed El-Arian, CEO and Co-CIO of PIMCO, as reported by CNBC.

These elections show that the economic crisis that began in 2008 is still rippling throughout the world.

Notes: S&P 500, DJ Global ex US, Gold, DJ-UBS Commodity Index returns exclude reinvested dividends (gold does not pay a dividend) and the three-, five-, and 10-year returns are annualized; the DJ Equity All REIT TR Index does include reinvested dividends and the three-, five-, and 10-year returns are annualized; and the 10-year Treasury Note is simply the yield at the close of the day on each of the historical time periods.

Sources: Yahoo! Finance, Barron’s, djindexes.com, London Bullion Market Association.

Past performance is no guarantee of future results.  Indices are unmanaged and cannot be invested into directly.  N/A means not applicable.

WHAT DO DOTS HAVE TO DO WITH BEING A BETTER INVESTOR? In his fascinating new book, Imagine: How Creativity Works, author Jonah Lehrer describes the creative process and what steps we can all take to be a little more creative. One of those steps is to talk to more people and expose yourself to new situations. By “colliding” more often with people who are not like you and throwing yourself into new environments (like a foreign country), your mind will come up with more new ideas than you could have thought of on your own.

And, while business owners may not like this, Lehrer’s research suggests, “The most important place in every office is not the boardroom, or the lab, or the library. It’s the coffee machine.” It’s those casual conversations with colleagues that generate new interactions and spark ideas.

This leads to an important point about investing.

Brian Uzzi, a professor at the Kellog School of Management, studied the instant messages (IM) sent by traders at a large hedge fund over an eighteen-month period. As reported in Lehrer’s book, these traders sent more than two million messages over that period and the average trader was involved in 16 different IM conversations simultaneously – talk about multitasking! Essentially, these traders were rapidly communicating with each other and trying to make sense of the latest news so they could profitably trade on it.

As summarized by Lehrer, Uzzi concluded, “The best traders were the most connected, and people who carried on more IM conversations and sent more messages also made more money.” Further, Uzzi said, “The act of investing is like solving a difficult puzzle. These traders are trying to connect the dots. Because the traders are listening to their network, they manage to accomplish what they could never have done by themselves.”

In essence, successful investing partly relies on “connecting the dots” of information that bombard us. While we’re not day traders like the people Uzzi studied at the hedge fund, the concept of connecting the dots still applies – albeit on a much longer timeframe. And, to connect the dots, we have a large network of colleagues who can help us separate the daily noise from what’s truly meaningful.

Weekly Focus – Think About It

“Everyone who’s ever taken a shower has had an idea. It’s the person who gets out of the shower, dries off, and does something about it who makes a difference.”

–Nolan Bushnell, founder of Atari, Inc. and Chuck E. Cheese’s Pizza-Time Theaters

Varbeco Wealth Management

Test facebook post

March Jobs Report

The Labor Department said only 120,000 jobs were added in March, the smallest gain since October. Economists surveyed by Reuters had expected 203,000 jobs. There is reason to believe that the lower number was partially due to the weather being so good in the early part of the year. So what is usually seasonal employment started earlier than is typical.

Although the jobs numbers were decidedly soft, the unemployment rate went down, dropping to a three-year low of 8.2 percent. The Bureau of Labor Statistics churns out a massive amount of data every month. If you dig into the data an interesting picture emerges. First, the unemployment rate fell by .1%. But the number of people who are actually employed dropped by 31,000. So how can the unemployment rate fall? Because the number of people looking for a job dropped by 164,000. If you aren’t looking for a job, you are not considered unemployed. Thus the “participation rate” rate declined enough to lower the over-all unemployment rate.

Real disposable income growth has now dropped to just .3% year-over-year, which is very much at odds with the job creation figures. Unless that job creation reflects extraordinarily low paying jobs! Closer inspection of the payroll data helps to shed some light. Since the recession ended in June of 2009, total non-farm payrolls in the U.S. have grown by 1.84 million jobs. However, if we look at workers 55 years of age and older, we find that employment in that group has increased by 2.96 million jobs. In contrast, employment among workers under age 55 has actually contracted by 1.12 million jobs. Even over the past year, the vast majority of job creation has been in the 55-and-over group. Employment for all other workers has been sluggish and has turned negative.

Here’s a quote from John Hussman’s recent market commentary. “In short, what we’ve observed in the employment figures is not recovery, but desperation. Having starved savers of interest income, and having repeatedly subjected investors to Fed-induced financial bubbles that create volatility without durable returns, the Fed has successfully provoked job growth of the obligatory, low-wage variety. Over the past year, the majority of this growth has been in the 55-and-over cohort, while growth has turned down among other workers. Meanwhile, broad labor force participation continues to fall as discouraged workers leave the labor force entirely, which is the primary reason the unemployment rate has declined. All of this reflects not health, but despair, and helps to explain why real disposable income has grown by only 0.3% over the past year”.

Overall, employment and the economy in the U.S. are getting better, just not as fast as we would
like.

David J. Vargo

Source: www.hussmanfunds.com

Debt Cancer

We are coming to the point in the United States when even the US government will no longer be able to borrow at very low long-term rates. That point is probably a few years off.  We have time to change paths, but the longer we wait to get the deficit under control, the fewer choices we have and the more painful they are. NO country can run deficits the size we are currently running, along with unfunded deficits over four times the size of the economy, without consequences.

The growing debt and the deficit is a deadly cancer on the economy. It will deal a mortal blow if not dealt with. As we know, it is better to deal with a cancer as soon as possible. Putting off treatment will not make the cancer go away by itself. Our “Debt cancer” is clearly growing and malignant. It will soon overwhelm our national economic body. But dealing with a cancer is not without cost and pain, whether on a real personal level or a metaphorical national level.

The problem is solvable. It is not that there are not a lot of solutions. Unfortunately, we have a lack of political will or political cohesiveness to deal with the problem.

This election should ultimately be about dealing with the deficit and putting the country on a path to a sustainable budget. This is a paramount issue. Economic Analyst John Mauldin recently said “Not dealing with the deficit runs the very real risk of the bond market treating us just as it is treating Italy (and Greece) and any other country that gets to the point where its debt is unsustainable. Not this year or the next for the US, but almost certainly before 2016. And once the bond market loses faith in a country, it takes a massive restructuring to restore that confidence”.

Both Obama and whoever the Republican nominee is owe the American people an answer today as to what they will do if given a chance. What cuts will you actually make? And do not suggest that it can be done by getting rid of waste. Everyone promises to do that and it doesn’t happen. What actual reforms of entitlements will you ask for? Who will you be willing to upset?

The country does not need vague policies and ideas, we need specifics. A real budget proposal, with details, just like a family or business in crisis would create. We don’t need someone to tell us what they think we want to hear, but what they will actually do to deal with the most pressing issue of our time.

We are running out of easy solutions. Like an untreated cancer patient, we must look around and realize that time is running out. We do have time, but we need to use it wisely.

David J. Vargo, CFP®, CMFC

President, Varbeco Wealth Management, LLC

(877)972-7900