Schwartz Financial Weekly Commentary (2/10/14)

 

 

The Markets

American stocks bounced last week like a skier pounding moguls on an Olympic freestyle course. Some found it difficult to understand why stocks had their best week since December of 2013. Barron’s said:

 

“We just can’t figure out why the markets were strong. It’s not like the news this week was terribly good. The Institute for Supply Management’s manufacturing survey fell to 51.3, well below forecasts for 56.5. The U.S. added just 117,000 jobs, well below forecasts for 170,000. You would think investors would be worried that the economy was running out of steam.”

 

Experts cited in the article suggested banks have been easing lending standards. Historically, that has been a positive for the economy and may offer insight to gross domestic product growth, industrial production, employment, and profit margins months from now. Others believe the downturn was due to hedge funds derisking their portfolios, and some credit earnings with stocks’ positive movement as almost 66 percent of companies in the Standard & Poor’s 500 Index that have reported this quarter have exceeded earnings expectations forecast by analysts.

 

Bonds aren’t doing what they were expected to do either. When the Federal Reserve sounded the bell in January – marking the beginning of the end for its third and biggest round of bond buying (called quantitative easing or QE) – it seemed logical bond prices would fall and interest rates rise. After all, basic economic theory suggests less demand should drive prices lower. Perversely, despite the Fed reducing its purchases, Treasury bonds have gained value and yields have fallen. The same thing happened when the Fed ended the first two rounds of quantitative easing and may reflect fear that economies will lose momentum without the Fed’s strong monetary support.

 

Let’s hope markets continue to do as well as America’s snowboarders. Last week, Americans took Olympic gold (in the men’s and women’s events) on a slope-style course many competitors had trouble navigating and believed might be too risky.

 

Data as of 2/7/14	1-Week	Y-T-D	1-Year	3-Year	5-Year	10-Year
Standard & Poor's 500 (Domestic Stocks)	0.8%	-2.8%	19.1%	10.9%	15.6%	4.7%
10-year Treasury Note (Yield Only)	2.7	NA	2.0	3.6	3.0	4.1
Gold (per ounce)	0.7	4.8	-24.5	-2.2	7.1	12.0
DJ-UBS Commodity Index	1.9	2.2	-9.0	-7.6	2.6	-0.7
DJ Equity All REIT TR Index	0.7	4.3	3.1	9.6	21.0	8.4

Notes: S&P 500, 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.

 

how have low interest rates affected economies, governments, and individuals during the past few years? Late last year, McKinsey & Company released a report that took a closer look at “the distributional affects and risks” of quantitative easing (QE) and low interest rates. In other words, who was affected by QE and low rates and how?

 

If you’re an investor with an interest in income, you’ve probably got a pretty good idea about how it affected you! The report found, from 2007 through 2012, households in the United Kingdom and the United States:

 

“…together lost $630 billion in net interest income, although the impact varies across groups. Younger households that are net borrowers have benefited, while older households with significant interest-bearing assets have lost income.”

 

The other side of that coin is declining yields caused the value of previously-issued bonds to increase. McKinsey estimated corporate and government bonds in the Eurozone, United Kingdom, and United States gained about $16 trillion in value during the period. Housing prices also may have benefitted as the cost of mortgage credit fell.

 

British and American households weren’t the only ones affected by central bank policies. McKinsey found governments in both regions benefited to the tune of about $1.6 trillion! In part, this was because debt service costs – the money required to cover the payment of interest and principal on debts – was significantly reduced during the period.

 

Corporate profits also got a boost from low rates. The study found U.S. and U.K. corporate profits also benefitted as companies in each country gained about 5 percent during 2012 because of ultra-low interest rates. Higher profits, unfortunately, did not translate into higher investment possibly because of tighter lending standards and uncertainty over recovery. According to The Economist:

 

“In the United States, net private non-residential investment fell by 80 percent as a percentage of GDP between 2007 and 2009. Although it has recovered since then, U.S. business investment is still at its lowest level as a share of GDP since at least 1947. Investment in Europe is similarly weak.”

 

Why look at distributional impacts? It helps economists identify risks countries may face in the future. For instance, The Economist estimated governments may see debt service costs increase by as much as 20 percent. In the United States, that would translate into $75 billion annually.

 

Weekly Focus – Think About It

 

“The best and most beautiful things in the world cannot be seen or even touched – they must be felt with the heart.”

--Helen Keller, American author and political activist

 

Value vs. Growth Investing (1/31/14)

Name	1-Week	YTD	4-Week	13-Week	1-Year	3-Year	5-Year
US Market	0.73	-2.46	-1.96	3.69	22.12	13.44	18.90
Large Cap	0.92	-2.58	-2.08	3.37	21.43	13.36	17.48
Large Core	0.53	-2.87	-2.46	1.32	22.08	14.97	18.42
Large Growth	1.69	-1.26	-0.44	6.71	25.68	14.45	19.56
Large Value	0.47	-3.72	-3.47	1.91	16.69	10.63	14.45
Mid Cap	0.56	-1.54	-1.05	4.92	24.27	13.78	22.57
Mid Core	0.87	-0.73	-0.41	5.34	22.54	14.56	23.16
Mid Growth	0.78	-0.42	-0.12	7.06	24.30	12.52	21.68
Mid Value	-0.01	-3.55	-2.71	2.23	25.78	14.13	22.77
Small Cap	-0.87	-3.76	-3.28	3.49	23.17	13.00	22.79
Small Core	-0.58	-3.76	-3.11	3.39	22.13	11.81	22.10
Small Growth	-1.24	-3.96	-3.67	3.16	27.04	13.74	22.52
Small Value	-0.78	-3.57	-3.08	3.92	20.50	13.47	23.76
US Core	0.52	-2.52	-2.10	2.26	22.10	14.69	19.66
US Growth	1.32	-1.27	-0.59	6.55	25.47	14.04	20.24
US Value	0.28	-3.68	-3.29	2.12	18.81	11.54	16.75

 ©2004 Morningstar, Inc. All Rights Reserved. The information contained herein: (1) is proprietary to Morningstar; (2) is not warranted to be accurate, complete or timely. Morningstar is not responsible for any damages or losses arising from any use of this information and has not granted its consent to be considered or deemed an “expert” under the Securities Act of 1933. Past performance is no guarantee of future results.  Indices are unmanaged and while these indices can be invested in directly, this is neither a recommendation nor an offer to purchase.  This can only be done by prospectus and should be on the recommendation of a licensed professional.

 

Office Notes:

 

Guoliang Tunnel

 

Every year, I have clients and friends tell me about goals they’d like to accomplish, challenges they intend to conquer, or places they plan on visiting.  I love hearing about their fondest hopes and dreams, because my goal is to help people achieve theirs.

There are two types of goals that seem very popular.  The first involves travel.  Most of my clients want to “see the world.”  They want to visit and experience the different cultures, landmarks, and sights that make our planet the lovely jewel that it is.

The second type of goal involves mankind’s capacity to create.  By this I mean that many people feel the urge to build or make something with their own two hands.  It could be anything from a treehouse for the grandkids to an oil painting to hang on the wall.  Some people even dream of restoring a classic car or building their own cabin. 

Recently, I came across a story that involves both these two goals.  It’s the story of the Guoliang Tunnel; a place that combines both unparalleled natural scenery and the amazing capacity mankind has to create.  The tunnel is so interesting; I thought I’d share the story of it with you.

The village of Guoliang lies in the Taihang Mountains in central China.  For most of its history, it could only be reached by a very rugged path carved into the mountainside.  In many respects, the village was isolated from the rest of China.  As the rest of the country began to grow and modernize around them, Guoliang was effectively left stuck in the past.

This wasn’t a situation anyone in the village wanted to be in.  For years, the villagers lobbied the government to build a modern road that could connect Guoliang with the lands below, but to no effect.  That left the people with two options: abandon Guoliang, or build the road themselves.

They chose the latter.

Building a road themselves, however, was a monumental task.  For one thing, it required them to actually tunnel through the side of a mountain.  Second, because they had no access to modern construction equipment, the job had to be done by hand.  Third, to afford the supplies they would need, the town had to sell off many of their animals and other provisions.

But necessity is the mother of invention, and will-power the father of creation.  With that in mind, thirteen of Guoliang’s citizens worked for over five years to hollow a road out of the rock; scraping, chiseling and carving, measuring the work in feet, inches, and centimeters.

When they finished, the outside world realized that the people of Guoliang had not only created a road, but a work of art.  The tunnel they had fashioned was held up by natural rock pillars, creating a series of “windows” in the side of the mountain.  It’s a sight that no one who has seen it could ever forget.

The result was the perfect melding of lovely scenery with human drive and ingenuity.  The road not only connected Guoliang with the outside world, but ushered in a new era of unprecedented tourism for the entire area.

Not every story has to have a lesson, but if there’s a lesson here, it’s that no matter who you are or what your circumstances, you can achieve whatever goal you set your mind to.  Whether that goal is visit the natural wonders of our planet, build something with your own two hands, or combine the two together, nothing is out of reach.  If the people of Guoliang can do it, you and I can, too.

To see pictures of the Guoliang Tunnel, visit this website: http://www.atlasobscura.com/places/guoliang-tunnel.

I wish you the best as you work toward your own goals in life.  Please let me know if there’s ever anything I can do to help!

 

Regards,

,

Michael L. Schwartz, RFC®, CWS®, CFS

 

P.S.  Please feel free to forward this commentary to family, friends, or colleagues.  If you would like us to add them to the list, please reply to this email with their email address and we will ask for their permission to be added. 

 

Michael L. Schwartz, RFC®, CWS®, CFS, offers securities and advisory services through Independent Financial Group, LLC., A Registered Broker/Dealer,  Member FINRA-SIPC. Schwartz Financial and Independent Financial Group are unaffiliated entities   

 

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