Thursday, September 30, 2010

Stocks Buck the September Curse

Ken Fisher once told me to always expect the unexpected. He was talking about stocks. What he meant was that stocks rarely do what everyone expects them to do. For example, on average, stocks have done worse in September than in any other month. Many investors were betting the same would be true this year.

It wasn't to be. The S&P 500 surged 8.76% this September, which was more than enough to push the index into positive territory for the year. In fact, during the past 20 years (i.e. 240 months), the S&P 500 has done better than that on only three occasions. It gained 11.16% in December 1991, 9.67% in March 2000, and 9.39% in April 2009.

Our Forbes Special Situation Survey portfolio went along for the ride and then some. It gained 10.88%. Terex Corp. (TEX) did the best, surging 22.31%.

I continue to hold a bearish view on the economy. Housing and employment are what I worry about the most. Nonetheless, I am still avoiding bonds. Because interest rates are so low, bonds are too risky for my taste. I would rather hold a mix of cash and selective stocks.

Friday, September 24, 2010

The Gold Bubble

Vahan Janjigian issued the following commentary on Sept. 24 in a Special Report to subscribers of the Forbes Special Situation Survey.

Although our focus at the Forbes Special Situation Survey is equities, we can’t help but notice the extremely strong bull market in gold. In our opinion, however, gold prices have gone up much too high. Like equities in 2000 and housing in 2006, we are concerned that gold will be the next bubble to burst.

Historically, gold has been considered a safe haven. Investors often hoard gold and other precious metals when they are concerned about the economy or the value of paper currencies. Since global economies have been shaken to the core and are still teetering, a run up in the price of gold makes perfect sense. However, it is the extent of the run up that concerns us. In early 2007, before the financial crisis hit, gold was selling for less than $700 per ounce. Today, it broke above $1,300 per ounce for the first time.

Although gold does have some industrial applications, the strength in its price has nothing to do with increased demand. Furthermore, gold’s primary use is in jewelry and demand there is actually down. So investors are clearly buying this precious metal out of fear. They are afraid that the Fed and the Treasury are not on the right path to restoring the health of the economy. They are also afraid that the U.S. dollar will lose even more of its value if the Fed actually embarks on another round of quantitative easing (i.e., the so-called QE II).

We agree that the government has made considerable mistakes in trying to stimulate the economy. Nonetheless, we believe that gold prices have surged too high. The stock market is up almost 70% from its March 2009 low, yet gold has rallied about 40% during the same period. This positive correlation is historically unusual. Furthermore, the Fed will eventually have to ease up on its efforts to stimulate the economy. When the Fed begins to reverse course, gold prices could tumble dramatically.

One thing we have learned over the years is that a bubble can get much bigger before it pops. Therefore, it is entirely possible that gold prices could go much higher. Momentum investors might want to go along for the ride. However, while we agree that gold should be a core holding in most portfolios, we suggest that at this time it makes more sense to pare back on your exposure to gold. Those who have more guts might even want to take a short position against the metal. The proliferation of exchange-traded funds (ETFs) on the market makes shorting gold relatively easy. Some ETFs that short gold include GLL, DZZ, and DGZ. However, we strongly urge you to carefully research these and any other financial instruments before you execute a trade. ETFs sometimes use a significant amount of leverage. This could cause you to lose much more money than you might have anticipated if gold prices continue to rise.

Friday, September 17, 2010

CNBC Worldwide Exchange


I got up at 4:30 this morning to do my first interview on CNBC's Worldwide Exchange. I had a little trouble hearing the first question, but things went well after that. I expressed my continuing concerns about the economy--in particular the jobs market and housing. I was also asked about gold. I have to admit up front, I've been wrong there. I really see no justification for the tremendous rally in gold and I certainly wouldn't get in now. But then again, like I said, I've been wrong about gold for quite some time!

Tuesday, September 14, 2010

To Dip or Double-Dip?

There has been a lot of talk lately about whether or not we will have a double-dip recession. I have long been in the camp that says a double-dip is a real possibility. I believe the probability for a second recession is higher now than it was last March. But how does one actually assign a number to this probability?

The economists Nouriel Roubini and Martin Feldstein are perhaps the most bearish on the economy. They say the chances of a second recession are about one in three. This means they believe that if the economy were to experience the same exact conditions it is experiencing now hundreds of times, one-third of those times would result in a recession. Another way to look at is that the probability that we will not have a second recession is about 67%. In other words, even the most bearish economists believe there is a much better chance that we will avoid a second recession than there is that we will actually have one.

That doesn't mean we should not take seriously the probability of a second recession. Yesterday, Warren Buffett expressed his confidence that a second recession would not occur. But I don't think that Buffett would entirely rule out the possibility. It is encouraging to hear him say that Berkshire Hathaway's businesses are "coming back almost across the board." He also claims that headcount at his companies has risen.

Some experts have complained that the real problem is that the banks are refusing to lend money to businesses--particularly small businesses. Instead, they are being cautious and keeping lots of capital on their balance sheets. Of course, to some extent, they are being forced to hold onto their capital due to regulatory requirements. So it was interesting to hear Buffett say, "I know Wells Fargo, they would love to have $50 billion more of loans now. Go in and talk to the banker."

This sounds like an invitation to me. I would encourage small businesses to do exactly what Buffett suggests. Let's put Wells Fargo to the test and see if they are really willing to make those loans.