Saturday, September 25, 2010

Economists Should Never Manage Portfolios

I don’t know about you but I am “double dipped” out.

Up until a year ago I thought double dipping was the act of a crude diner dipping a corn chip into a sauce, taking a bite and then re-dipping the item back into the sauce. Now the financial media is littered with economists and perma-bears predicting a double dip recession. The double dip crowd is clearly frustrated by the global equity markets refusing to revisit the panic lows of early 2009. One notable perma-bear is economist David Rosenberg who is a guest columnist for the Globe Report on Business. Now I can never understand why normally intelligent analysts and economists persist into getting into an argument with the capital markets. Personally I have learned long ago the capital markets can remain illogical much longer that its detractors can remain solvent.

A partial list of bearish “double dip” Rosenberg columns:

Bubble or not, Canadian markets in for rude awakening Sep 24, 2010
It’s double trouble to discount a double-dip recession Sep 17, 2010
Trade and invest carefully in an overvalued market May 27, 2010
Economics don't support market's big rally Apr 15, 2010
Current rally has echoes of 1930 snapback Apr 14, 2010
Real test for markets is still to come Mar 25, 2010

It is obvious that Rosenberg has missed all of the 2009 – 2010 bull market advance – you know – the bull that has the TSX Comp up 63% and “safe” stocks like Agrium, Bank of Nova Scotia, BCE. CNR, Loblaw, Rogers and Tim Horton up about 50%. Note that in order to not rub salt, I omitted the red hot gold and base metals stocks,

Now about the rude awakening in the Canadian housing market. In a chart entitled MANIA: the Canadian version, Rosenberg plots the Canadian average residential price from January 2000 to August 2010 stating the “bubble” is due to low interest rates and lax lending standards. Now simple math tells us the annualised return is 7.1% and when you deduct about 1.5% for realty taxes and maintenance and another 2% for inflation your real return on a home over the period is 3.6% per annum – hardly a bubble. Perhaps the REAL reason for the price increase is due to the REPLACEMENT COST doubling over the past ten years. By the way what about the price of crude with an annualised return of 11.6% over the same period? How come no bubble rhetoric from Rosenberg in this relevant topic? See the Crude vs. House chart – should have bought crude.

Friday, September 17, 2010

Measuring Risk Appetite (4)

One way to avoid risky behaviour is to arrive at parties early and not linger to the point when participants get out of control. The party in the precious metal complex began quietly in late 2000 and is now into the tenth year. In the early years the invitees were sophisticated investors who basically are not comfortable in crowds.

Precious metals component Barrick Gold Corporation has been in a secular up trend since 2000. A secular up trend is a long term advance that can span anywhere from 12 to 20 years. The secular up trend will be interrupted by a series of shorter bull and bear markets (cycles) that span about 40 months as measured from trough to trough. A secular up trend will contain at least three of these cycles and possibly extending to five cycles. The first cycle in Barrick ran from a mid 2000 trough to a peak in late 2002 at (1) and then to trough at the 2003 low at (2). The second cycle ran from a trough at (2) to peak in January 2008 at (3) and then trough at the late 2008 low at (4). It is quite normal for the second cycle (2 to 3) to extend beyond the normal 40 months and be the longest of the three or five cycles.

Barrick is now in the early months of a new third cycle advance which should peak at all-time highs sometime in late 2011 at (5). Enjoy the party and leave early.

Thursday, September 9, 2010

Measuring Risk Appetite (3)

In a previous post I commented on the “Doomsday Trades” such as the 10-yr T-Note (TLT) or the Japanese YEN. Investors who embrace these “safe” assets are the perma-bears or lunatic fringe groups who basically couldn’t see a bull market in any asset class – even if it bit them on the ass. Here is a quote from the brilliant 1978 publication Cycles, What They Are, What They Mean, How to Profit by Them - Dick A. Stoken

When risk takers become risk averters, "Consumers now postpone their purchases, while business executives either terminate their operations, or reduce debt, fire workers, and discontinue unprofitable ventures." and, "As the demand for money lessens, long-term interest rates fall below the natural rate (adjusted for past inflation). This fall in the cost of capital to below the natural rate is now an error of pessimism." Stoken is suggesting that when too many become risk averters and stampede into safe places they are usually wrong.

In our iShares Barclays 20+ Yr Treasury Bond chart I have used two studies that best display sheep-like bullish and bearish stampedes in and out of an asset class – in this case the U.S. long bonds. The Percent K is a very slow stochastic and the Percent R is a measure of price deviation from the longer term average. Note the over bought and over sold ranges – always good places to move against the investment sheep. Our studies currently display too many sheep crowding into the error of pessimism space.