Why the NASDAQ's solo ascent this year is a problem

Through August 18th. The NASDAQ is up 7 1/4% while the other three major domestic indexes (DJI, S&P 500 and Russell 2000 small cap) are stuck in a range of -1.6% to +2%.



This comparison illustrates that after a 6 year long rally, the list of winners is beginning to shorten. The implications are important to understand especially since our domestic market hasn't seen a 10% correction since 2011. Bulls prefer stock market moves that are all inclusive. A rising tide should lift all boats. When that isn't happening it's an indication that investors are becoming more selective in what positions they hold, sell or add to. The margin for error shrinks and corporate mistakes (poor earnings, high valuations product or service issues) are punished more severely. 

When a broad rally begins to narrow the fundamental empirical business statistics become more important than price trends and momentum. We've seen this play out in real time as quarterly earnings were released. This renewed focus on fundamentals also leads corporate leaders to resort to any (legal) measures possible to reproduce good numbers. Despite their efforts reported earnings for the second quarter are down 1% and more telling (because it cant be fudged as easily) revenue dropped more than 3% (factset).

The narrowing breadth of winners comes at a time when overseas, the Chinese market can't find it's footing. Domestically the Fed has promised to raise rates at their September meeting at the same time that politicians will be reconvening to once again take up the debate over raising the debt ceiling (US Treasury Secretary Jack Lew sent a letter to congress last month begging for help on the matter).

The next few months will be filled with enough drama to agitate bulls and bears which will be a good environment to have some cash on hand for bargain hunting.
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What is your plan for a correction, over-correction or crash?

Earnings are suspect, wages, consumer spending and new home sales are problematic, the Fed is talking about raising interest rates and the US market hasn’t seen a 10% correction since 2011 (Yardeni).

With both the Dow and S&P negative for 2015 it’s an appropriate time to ask some questions. Let’s start by taking a look at the Chinese stock market which is being driven primarily by individual investors who have recently discovered how to invest on margin (borrowed money). 

The rapid rise and fall of the Chinese stock market this year is useful example of the powerful effect of human emotions on investing success. As the market peaked in May investors not only piled in but doubled down by borrowing money on margin. This was after a 150% move up when rational investors should have been contemplating taking profits. In less than a month the market dropped 35% as fear took over. 

Back home second quarter earnings are coming in and the results are not what one would expect in the middle of an economic expansion. 187 of the 500 companies in the S&P 500 have reported and earnings are 2.2% less than a year ago (factset). This is before Exxon Mobil and Chevron report at the end of July. 

A correction at this point shouldn’t surprise anyone. Since the market as gone 4 years without one, the chances of the market correcting more than 10% are elevated. Some investors will be facing the first correction of their investing career. What will they do? Will they let fear take over? Will they engage or disengage? Will the robo-advisors survive? What will you do when it arrives?

The single most important question that you need to answer is this: Will you have the cash to buy in when prices drop? A correction (or worse) is an entry point not an exit point. This is counter intuitive to most investors because it goes against their emotions. If prices drop you have to have some buying power to take advantage of it. 

The second question to answer is this- Where can I raise cash now so I’ll have some buying power then? If you are contributing regularly to a company sponsored plan (401k, etc…) your next paycheck will give you buying power. If you are fully invested now consider building up some cash by rebalancing some of the riskier asset classes in your portfolio back to where they were two years ago. 

Once you have a cash stash, consider where you might deploy it when a correction arrives. What asset classes are underweight in your portfolio? Many investors could use more exposure to foreign stocks and bonds. 

This isn’t market timing. It’s prudent, proactive asset management designed to take control of the greed and fear that makes other investors reactive. 

 

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Staying Clear of the Blast Radius

“The more you sweat in times of peace, the less you bleed in war.” General Chiang Kai Shek of China

China is having a tough time right now. The Shanghai Composite has dropped 35% in less than a month. When 80% of a market’s participants are retail investors speculating with borrowed money, this sort of volatility shouldn't be surprising.

The decline has erased more than 3 trillion dollars of gains. Compared that to the Greeks attempting to renegotiate payments on a paltry 60 billion Euros of debt that mature in the next 5 years. After this decline, the Shanghai market is still up for the year (as the S&P 500 turns negative for the year).

As second quarter earnings season gets underway this week, we learn if US companies took appropriate measures to minimize the effects of these global problems. By comparing the European and Chinese economies to the US, it’s unlikely that they are outside the blast radius of these events.

The time to enact safety measures to protect against this sort of volatility was a last fall when the European Central Bank, concurrent with the end of Quantitative Easing in the US, initiated their own stimulus program.

The Peoples Bank of China (PBOC) is sweating out their market decline by announcing several rushed solutions that are destined to exacerbate problems. Short term selling restrictions offer temporary relief but real price discover will occur when (and if) they lift them. Time will tell.

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China's Aluminum Glut Will be a Big Problem for Alcoa

 

As the Chinese economy shifts from manufacturing to consumer consumption, it is slowing down. China accounts for half of global aluminum output so this slower grow inevitably leads to a glut of materials. Societe Generale SA calculates that global supply outstrips demand by 800,00 tons in 2015 and prices have collapsed.

 

Alcoa announced the closure of their smelter in Brazil. With a headwind this storng it's not surpirsing tha the stock is down 30%. Their quarterly earnings announcement after the close today will be insightful.

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Where does the time go?

Can you believe we are half way through 2015?  Why is it so hard for me to believe?  Because I have not really slowed down since tax season with all the projects and youth sports that continue year-round.  I know that’s how your life is too.  It may be work, kids or other responsibilities, but no one seems to have enough time.  With our hectic lives, we need to make sure we take care of the important items in our tax and financial lives before the time just slips by.

The best thing you can do is start now.  One of the roles of a responsible adult is not spending money frivolously, but to use it to attack some areas of need in our financial lives.  Some good areas to focus on are:

1 Establish or replenish your emergency fund to cover those unexpected large expenses.

2 Pay off some nagging debt, especially any credit card debt incurring high interest rates

3 Save for retirement. Studies show 45% of working-age adults have NO retirement assets.

4Get a jump start on college savings – A 529 Plan is a good plan to consider.

To get started towards our goal, let’s start with a modest $100 per month for the rest of the year.  That accumulation of $600 by the end of 2015 could be the foundation of an emergency fund or a start to a young child’s college education funding.  How much different will it feel to have $600 put away towards one of your goals?

Don’t get to the end of the year and wonder why the time goes by so fast, there is no better time than now to analyze your financial situation and see if any changes need to be made.  I’ve outlined several options that would be good things to do with your money, but which one is right for you?  How much do you need?  If you need assistance in pulling your financial picture into focus, please give us a call.

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Through the iPhone Glass

 

My family and I recently returned from a Disney vacation. Despite the prevalence of mouse ears on almost every surface, shirt and head, I noticed an item that even more people had on display. Everywhere I turned, someone had their phone out to record a character, a castle, a ride or even in some cases, a squirrel. I often unintentionally walked through pictures, and witnessed many people bumping into one of our strollers or walking into the street because they were only watching their screen.

I've seen the same behavior at concerts. Instead of cigarette lighters, camera phone lights shine throughout the arena during the show. YouTube has plenty of videos of concert clips, parade floats and Mickey Mouse sightings to keep us entertained for hours. Why do we then feel so compelled to video every step of our lives?

Social media has created a way for us to show our friends what we're up to ( Look at me checking in at the five star restaurant in Vegas!) or let your friends know what great seats you have for the Garth Brooks concert. Is that really a picture that you'll get developed, enlarged and framed?

 

Viewing these events through our smartphone screens condenses our view and distracts us from what's actually happening. If you're focused on recording the fireworks display or live tweeting an episode of your favorite sitcom, are you really enjoying them? You can only see what's happening on within the angle of the screen. We're too consumed on capturing the moment rather than basking in it, and we are distracted by the limited view, rather than focusing on the entire picture.

 

The same holds true with financial planning. It's easy for people to focus on certain aspects of their financial plan, typically investment performance. Market information is ever present in the media and often misused by investors to monitor their financial health. There's an app that will give you your account balance on command, but that information is very limiting as a component of your overall financial goals. That doesn't cover questions like "what do you want your retirement to look like?" or "how much money will you spend each month when you stop working?" or "how would you react if your account values dropped by 25%?"

 

Understanding client motivations, fears and desires sits at the crux of providing prudent counsel. There's not an app for that.

 

You wouldn't drive a car down the interstate looking only through an iPhone screen. You shouldn't look at your financial future, or your life, in the same way. If you need some help in focusing on your overall picture rather than what's on the screen, give us a call.

 

It's okay, you can use your smartphone for that.

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