Market Week: October 29, 2012

October 30th, 2012

The Markets

Despite good economic news, particularly from the housing market, disappointing corporate earnings continued to contribute to strong downdrafts last week as any halting attempts at a rally generally gave way to renewed selling. The large caps of the Dow and S&P 500 were hit hardest among the domestic indices, while the Global Dow fared even worse.

Market/Index

2011 Close

Prior Week

As of 10/26

Week Change

YTD Change

DJIA

12217.56

13343.67

13107.21

-1.77%

7..28%

Nasdaq

2605.15

3005.62

2987.95

-..59%

14.69%

S&P 500

1257.60

1433.19

1411.94

-1.48%

12.27%

Russell 2000

740.92

821.00

813.25

-..94%

9..76%

Global Dow

1801.60

1959.01

1915.30

-2.23%

6..31%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

1..89%

1..79%

1..78%

-1 bps

-11 bps

Equities data reflect price changes, not total return.

Last Week's Headlines

·                      Sales of new homes rose more in September than in any month since April 2010. The 5.7% increase over August put new home sales a whopping 27.1% ahead of the previous September. If sales were to continue at that pace, the Department of Commerce said, it would take 4.5 months to deplete the inventory of new homes for sale–the shortest amount of time since October 2005.

·                      U..S. economic growth accelerated in the third quarter, rising to 2% from 1.3%, according to the Bureau of Labor Statistics' initial estimate. The increase was driven in part by a 14.4% increase in construction spending, consumer spending that rose 2%, and a 3.7% increase in federal spending, primarily on the military, while capital spending by businesses fell 1.3%.

·                      More than 80 CEOs of some of the largest and most well-known U.S. corporations issued an open letter urging Washington to attack the national debt. The letter didn't endorse either presidential candidate's economic proposals. However, it did call the approach developed by the bipartisan Simpson-Bowles Commission–a combination of spending cuts, increased tax revenues, and measures to limit health-care costs and strengthen Social Security–an "effective framework" for attacking the debt problem.

·                      Significant orders for commercial aircraft helped durable goods orders soar almost 10% in September–their biggest increase in more than two years. However, even setting aside the nearly 32% increase in the transportation category, orders for goods intended to last at least three years were up 2%.

·                      As expected, the Fed will continue to buy $40 billion of mortgage-backed securities each month. The Federal Open Market Committee said that without such support, the current moderate economic growth might not be enough to produce improvement in the labor market.

·                      After reaffirming Spain's bond rating the previous week, Moody's downgraded 5 of Spain's 17 regions.

·                      The U.S. Justice Department filed a $1 billion suit against Bank of America, charging that the bank fraudulently sold Fannie Mae and Freddie Mac defective mortgages that were processed without proper quality checks.

Eye on the Week Ahead

More earnings reports, fewer days until November 6: In addition to corporate earnings, Friday's unemployment data will be of interest, as will any potential economic impact of Hurricane Sandy.

Key dates and data releases: personal income/spending (10/29); home prices (10/30); business productivity/costs, U.S. manufacturing (11/1); unemployment/payrolls, factory orders (11/2).

Data sources: Includes data provided by Brounes & Associates. All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indexes listed are unmanaged and are not available for direct investment.

why the closing of the markets because of the storm is good news

October 29th, 2012

The markets are closed today, and probably tomorrow. That means, for option writers, that there
is a decay in the option value without the risk of the stock moving against you. So, for example, if
you sold calls on a stock, while the market is closed the stock can’t go over the call price, but the
value of the calls continues to slide to your benefit.

-
Every cloud has a silver lining.

-
merv

BOTTOM FEEDING

October 29th, 2012

BOTTOM FEEDING
-

With the Dow dropping, as predicted, about 250 points its time to think about buying. Certainly this should be true of Apple stock, which dropped from over 700 to under 600 for a brief moment. A hundred point drop is worth a look.
-

As a covered call writer, of course, some of this made money for me. Some of the stocks I’ve mentioned recently are down slightly, but some are up. For example, I’ve been following a test strategy on Bank of America for the past five months, based on holding a long term put at $5, and selling short term puts against that hedge each month. This strategy has been very successful, but I don’t think I can attribute the success completely to the option strategy. BAC has moved up steadily from about five to over nine, and that’s what has made the positions profitable. Had I bought the stock at 5 I would have made twice as much money, but that’s option writing.
-

Another example of a stock that’s remained really hot during the decline is Whirlpool. You might remember my mentioning that I bought some at $55. That position was called away on a call option at $85, at a really nice profit. But the stock has continued to move up toward $95. Yes I thought it was a good stock, but not THAT good, and I have no idea why it is moving up so strongly.
-

The housing market ETFs have continued to be good. The Freeport-McMahon gold and copper play has remained pretty flat, but with FCX at $38 during this dip I feel it’s a good purchase. The experts say that the demand for copper is stable, and while China is buying less of it right now, the supply has dwindled considerably so another shortage looms in the future.
-

Exxon, another of my favorites, has gone up so much I sold off the positions and took the profit. Green Mountain Coffee, where I wrote puts at $20, has shown good strength and, while it might not go back up to $100 a share where it once was, it seems like a good solid company, and I’ve made a nice profit on the put premiums.
-

So what’s gone down? Nothing else can compare to Apple’s drop. When the stock was at $690 I sold a put spread that would have made $4,000 for the month if the stock did not decline below $625. But it did, and for a while I had an unrealized loss of $25,000 (after gains of $17,000 earlier in the year). Now the stock has shown some strength and I’m optimistic that it might go back up over $625 before the expiration date on November 16th.
-

Meanwhile, however, when the stock was about $600 I sold five naked puts at $580 and took in a premium of $12,500. I think that Apple is still one of the best companies in the world, and still has a lot of innovative products to come. I’m impressed with their potential for TV and remote speakers controlled by the IPAD, and I love the look of the new mini IPAD. So if I have to buy the stock at $580 a share I’m OK with that. And if the stock goes up and I just keep the $12,500 premium I’m OK with that as well, and that will also mitigate my loss on the November put spread.
-

So much for what has happened so far this month. What’s going to happen in the future?
-

Some are unhappy with the projected increase of 2% per year growth. I don’t see why. As long as we are continuing to grow, especially after such a bad period, I think it’s a good sign. And the experts are saying there are lots of good signs.
-

For one, there is usually a growth spurt right after an election. For another, corporate earnings continue to do well. Third, Europe seems to be coming out of their slump. And forth, China, while not growing as it once did, continues to grow. So it is very likely that 2013 will be a good year. Let’s look at some data:

-
(chart showing history of Dow Jones during election cycles not available in this format)
-

If the past is any predictor of the future, the market will go up later this year.

-

And finally we come to the same stock I’ve complained about for the several years that I’ve held it and it hasn’t moved up, Walgreen. It seems like such a good company, with good stores, and new stores opening up all the time. The experts said that I should have bought CVS instead, and based on price for a time, they were right. But, in looking at the data, I’m holding on to my WAL. The PE is much lower than CVS, and the dividend is much greater.
-

On the other hand, I might have to sell it to pay for my Apple stock if that goes below $580 next January.
-

Merv Hecht

Market Week: October 22, 2012

October 22nd, 2012

The Markets

Despite a relatively strong start to the week, weak earnings reports took the wind out of the sails of domestic equities. The Dow lost 205 points on Friday–coincidentally, the 25th anniversary of the stock market's single biggest percentage loss ever–while disappointing results from several key tech companies hit the Nasdaq hard.

Market/Index

2011 Close

Prior Week

As of 10/19

Week Change

YTD Change

DJIA

12217.56

13328.85

13343.67

.11%

9..22%

Nasdaq

2605.15

3044.11

3005.62

-1.26%

15.37%

S&P 500

1257.60

1428.59

1433.19

.32%

13.96%

Russell 2000

740.92

823.09

821.00

-..25%

10.81%

Global Dow

1801.60

1918.06

1959.01

2..13%

8..74%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

1..89%

1..69%

1..79%

10 bps

-10 bps

Equities data reflect price changes, not total return.

Last Week's Headlines

·                      There was good news from the residential construction industry. Housing starts shot up 15% in September; that's the biggest increase since July 2008. The third straight month of increases put housing starts almost 35% ahead of last September. Even better, new single-family starts were up 11% for the month. Building permits, an indicator of future activity, also were strong, according to the Commerce Department; September's 11.6% increase meant that permits were more than 45% higher than a year earlier.

·                      The National Association of Realtors® said home resales fell 1.7% in September. However, the year-over-year picture is better, with an 11% increase from a year ago.

·                      A 1.1% jump in retail sales in September represented the third straight month of increased sales, according to the Commerce Department. That meant spending was 5.4% higher than the previous September. The largest increases were seen in electronics and appliance stores, which were up 4.5% during the month of the iPhone 5 launch; gas stations and nonstore retailers also saw solid gains.

·                      Gas prices also contributed to a jump in consumer inflation; the Bureau of Labor Statistics said September's 0.6% increase in consumer prices was primarily caused by gas costs that were up 7% for the month. Aside from volatile food and energy costs, prices rose 0.1% for the third straight month. That put the annual inflation rate at 2% over the past year, slightly higher than August's 1.7% annual figure.

·                      Moody's reaffirmed Spain's investment-grade bond rating, though it coupled the Baa3 ranking with a negative outlook. Meanwhile, representatives of European Union countries debated how quickly to set up a common banking supervisor. The new entity's legal framework is scheduled to be drafted by the end of the year, but the supervisory agency would not become functional until later in 2013.

·                      The Philadelphia Fed's manufacturing survey saw a sizeable increase in September; after five months of contraction, the survey rose to 5.7 from -1.9 in August. However, the -6.2 reading on the Fed's Empire State survey–the third consecutive negative figure–was less encouraging. Meanwhile, the Federal Reserve said oil and gas wells that had been sidelined by Hurricane Isaac resumed production, helping send industrial production up 0.4% in September; it's now up 2.8% since last year.

·                      For the seventh quarter in a row, China continued to see slower economic growth. The National Bureau of Statistics said Q3 gross domestic product there fell from 7.6% to 7.4%, its weakest level since early 2009.

·                      The Conference Board's index of leading economic indicators rose 0.6% in September after an August decline of 0.4%.

Eye on the Week Ahead

In light of last week, fresh earnings reports are likely to generate even more interest than usual, while the first estimate of third-quarter economic growth will doubtless fuel more political rhetoric on both sides about the state of the economy. Also, the Federal Open Market Committee will hold its last meeting before the election.

Key dates and data releases: new home sales, FOMC announcement (10/24); durable goods orders (10/25); initial estimate of Q4 gross domestic product (10/26).

Data sources: Includes data provided by Brounes & Associates. All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indexes listed are unmanaged and are not available for direct investment.

Managing your 401(k): MORE important and LESS difficult than you think

October 19th, 2012

Putting it on the back burner

It’s easy to put important tasks on the back burner, such as properly investing your 401(k), when there is no hard deadline. You work hard for your money, and you would probably rather have more of it in the long-run, but you may feel that it is too time-consuming, stressful or uncomfortable to deal with. For these reasons, people tend to put off financial matters for too long. But I am telling you that properly managing your 401(k), IRA or other tax-deferred account is neither time-consuming nor stressful. People think such decisions are difficult because investing isn’t something we learn in school, so many people don’t understand a 401(k), let alone how to manage it.

If you fail to make appropriate investment choices in your 401(k), you are potentially leaving many thousands of dollars on the table—money that can be used for retirement, or even earlier under certain circumstances. Money may not be your sole motivation for working, but I know that nearly everyone prefers a bigger nest egg. And contrary to popular belief, you don’t have to be a veteran investor to evaluate your investment choices and choose the most appropriate option for your age, risk tolerance and life situation.

Simplifying the 401(k)

Because the rules can be complex, many people have trouble understanding retirement accounts. Just think of your 401(k), 403(b), IRA, Roth IRA, etc. as normal investment accounts—you use cash to purchase securities—but with certain advantages and limitations.

The advantages of retirement accounts far outweigh their limitations. With a 401(k), employers often match your contributions up to a certain percent of your salary (typically 3% to 6%), so a major portion of your retirement account can be free money. Your contributions to most retirement accounts are also tax-deductible, and while you will be taxed on withdrawals from the account, these usually take place during retirement, when your tax rate is typically lower. Finally, because no tax is due on gains within the account, you can invest without having to worry about the tax implications of various types of investments.

In a traditional brokerage account, you can choose from the full universe of stocks, bonds, mutual funds and exotic investments such as derivatives. In a 401(k) account you are usually limited to the options your employer has decided to offer, typically 10-15 mutual funds. Below is a typical menu of retirement plan options:

(1) Money market (cash) fund: For the soon-to-be retiree, or the ultra-conservative investor not worried about inflation (side note—you should be worried about inflation). Warning: for many 401(k) plans, this is the “default” account, meaning that if you do not bother to choose funds, all of your retirement money may sit in cash, currently earning 0.1% or less!

(2) Government bond fund: Made up of US Treasury bonds, and sometimes bonds from other government agencies (e.g. GNMA). Slightly less conservative than a money market fund, but also no inflation protection. If you have an inflation-protected option (called TIPS, or “Treasury Inflation-Protected Securities”) , this can be a better long-term choice than the non-inflation-protected government bond fund.

(3) Domestic Equity fund: Composed of common stock (equity) of US companies. Sometimes there are domestic value and/or growth options available. Value funds attempt to buy undervalued securities, while growth funds look for companies that will generate higher future returns than their industry peers. There can also be small- and/or mid-cap stock funds that buy equities in smaller US companies; such funds can provide good diversification and a little extra growth.

(4) International Equity fund: Similar to the domestic equity fund, but with non-US stocks. These funds typically hold large-cap equities based in non-U.S. developed countries.

(5) Emerging Markets Equity fund: No surprise here—these funds hold the stock of companies based in emerging markets. Because the equities of these companies tend to be less liquid than their developed-country counterparts, these funds usually hold large-cap stocks and stay away from smaller stocks.

(6) Investment-Grade Bond fund: A bond fund made up of U.S.-based high-quality credit issuers. These funds tend to be much less volatile/risky than equity funds, but this comes with an expectation of lower return as well. And there is no inflation protection here, either.

(7) High-Yield Bond fund: Made up of bonds issued by lower-credit (riskier) issuers, typically smaller and/or more leveraged companies. Because they come with a higher risk of default (failure to repay bondholders), these bonds pay higher interest rates than investment-grade bonds. These funds are riskier than investment-grade bond funds, but investors can expect higher returns as well. There is also some inflation protection here, for reasons that are too complex to explain here.

(8) Target Date funds: Some plans offer diversified funds that base the investment choices on when you plan to retire, and there are usually options at five year intervals (e.g., Target Date 2020, Target Date 2025, etc.). As you may expect, the farther away your retirement date, the more aggressive the investment choices tend to be. These funds tend to be expensive, with higher annual fees than the choices above.

(9) Alternative/Specialty: These are the least common types of fund offerings within retirement plans; examples of such funds include commodities, natural resources, real estate, regional banks and other “exotic” funds. These funds tend to be more expensive than standard stock and bond funds.

Which option(s) make sense for me?

Are you a 30 year-old trying to go “all-in” to the stock market so you can grow your retirement as much as possible over the next 30+ years? Are you a 50 year-old parent who wants to make sure another recession doesn’t deplete your retirement savings? Factors like these go into determining the mix of investments for your situation. An old rule of thumb is to have (100 – Your Age) as the percentage of equity in your portfolio: based on this rule, a 30 year-old would hold a portfolio of 70% equity. We usually don’t recommend you follow such a naive rule, but it’s at least a place to start for the novice. Also keep in mind that you can pull money out of most retirement accounts before retirement, but unless it is for a cause the IRS deems worthy of a “penalty-free” withdrawal, it will come with a steep penalty (12.5% in California) in addition to the regular tax burden.

Some 401(k) plans, and all IRAs and Roths, come with a “self-directed” option, meaning you can open your own brokerage account and invest in the full range of assets, not just those offered by your employer. In most cases, you can have an investment manager (such as KCS—hint, hint) handle the investing for you. The cost is often only slightly above what you would pay your employer for the privilege of investing in the very limited range of options they offer, and spending the time and energy trying to figure it out on your own. If you are interested in learning whether this “advisor-directed” option makes sense for you, or if you have other questions about your 401(k), 403(b), IRA, Roth IRA or any other tax-deferred retirement plan, please contact us at (310) 734-4740 or e-mail me at [email protected]

Dr. Ken Waltzer MD, MPH, AIF, CFA
Founder and President – Kenfield Capital Strategies (KCS)

Kenfield Capital Strategies™ (KCS) is an SEC-registered investment adviser. Our services include discretionary management of individual and institutional investment accounts, along with comprehensive financial, estate and tax planning services.

The Economic Implications of Decision 2012

October 19th, 2012

Originally, I was going to write a missive about economic myths, especially those perpetuated by politicians. But after watching the recent presidential debate and feeling like I wanted to strangle both candidates, I’ve changed my mind. I’m tired of politics and the election, of politicians making up facts on the fly or simply manipulating statistics to their advantage, and of candidates doing their best to avoid answering questions.

Here’s the bottom line: economically, it doesn’t much matter which candidate wins the White House, which party controls Congress, or what the top marginal tax rate is. The economy and the financial markets have done well under both Democratic and Republican administrations (and poorly under both), under united and divided Congresses, and under a wide range of personal tax rates. There’s also little or no correlation between the rate of GDP growth in the U.S. and the size of government relative to GDP (for you math geeks, the R-squared peaks at .15 with a 4-year delay, with r=-0.39). There is also no relationship between GDP growth and the size of government across countries.

So vote for whoever you want, but not because you think the economy will perform radically better or worse under one or the other. Vote for the one whose beliefs and policies you like best, or even the one with the coolest tie.

I will bust one myth, however, that the top personal tax bracket has an effect on economic growth. A recent study by the non-partisan Congressional Research Service concluded:

“Analysis … suggests the reduction in the top tax rates have had little association with saving, investment, or productivity growth. However, the top tax rate reductions appear to be associated with the increasing concentration of income at the top of the income distribution…. The evidence does not suggest necessarily a relationship between tax policy with regard to the top tax rates and the size of the economic pie, but there may be a relationship to how the economic pie is sliced.”

I do like lower tax rates both because it means that both I and my clients pay less, but also because lower brackets reduce the incentive to cheat or expend effort avoiding taxes. But I’m not going to delude myself into believing that lower taxes for high earners (which includes me) is necessarily good for the country. I can be selfish and pragmatic at the same time. (On the other hand, I think that lower corporate tax rates would be good for the country while potentially saving me money as well. This also might induce a lot of sole proprietors to incorporate, which they should be doing anyway.)

Regardless of what Mitt Romney says or what we would like to hear, it’s highly probable that tax rates will be going up in future years, even if they stay where they are for 2013. Build up your nest egg for the future while saving taxes today. It’s a good idea no matter who occupies the West Wing.

Dr. Ken Waltzer MD, MPH, AIF, CFA
Founder and President – Kenfield Capital Strategies (KCS)

Kenfield Capital Strategies™ (KCS) is an SEC-registered investment adviser. Our services include discretionary management of individual and institutional investment accounts, along with comprehensive financial, estate and tax planning services.

Market Week: October 15, 2012

October 16th, 2012

The Markets

Equities took a 2%-plus hit last week. Whether it was caused by profit-taking, a gloomy forecast from the International Monetary Fund, reaction to initial third-quarter earnings reports, or some combination, the decline cost equities their attempt at a new post-2007 high. Meanwhile, oil prices bounced back above $90 a barrel, while the stock market's troubles also meant a bit more appetite for U.S. Treasuries.

Market/Index

2011 Close

Prior Week

As of 10/12

Week Change

YTD Change

DJIA

12217.56

13610.15

13328.85

-2.07%

9..10%

Nasdaq

2605.15

3136.19

3044.11

-2.94%

16.85%

S&P 500

1257.60

1460.93

1428.59

-2.21%

13.60%

Russell 2000

740.92

842.87

823.09

-2.35%

11.09%

Global Dow

1801.60

1957.83

1918.06

-2.03%

6..46%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

1..89%

1..75%

1..69%

-6 bps

-20 bps

Equities data reflect price changes, not total return.

Last Week's Headlines

·                      The International Monetary Fund cut its forecast of global growth to 3.3% for this year (from 2011's 3.8%) and 3.6% next year (although its 2.2% forecast for the United States is slightly higher than previously estimated). However, the IMF's annual report warned that its growth estimates depend on the eurozone addressing members' debt problems and the United States avoiding the so-called "fiscal cliff." Otherwise, the IMF called the risk of a serious global slowdown "alarmingly high."

·                      There continued to be relatively encouraging news out of the housing market. Mortgage foreclosures nationally fell to a five-year low in September, according to RealtyTrac®. The 180,427 foreclosure filings were 7% lower than the previous month and down 16% from a year ago. The biggest declines were seen in California, Georgia, Texas, Arizona, and Michigan, while states where foreclosures must go through the judicial system, such as Florida, Illinois, Ohio, New Jersey, and New York, continued to have substantial year-over-year increases.

·                      Standard & Poor's downgraded Spain's sovereign debt to BBB- (one notch above junk status) and gave it a negative outlook for the future, indicating the likelihood of future downgrades. However, the yield on the Spanish benchmark 10-year bond remained under 6%.

·                      Once again, higher gas prices helped push inflation at the wholesale level up 1.1% in September. However, producer prices overall remained relatively stable, as the year-over-year inflation rate was a moderate 2.1%.

Eye on the Week Ahead

The bailout watch on Spain could intensify in advance of the European Union summit on Thursday and Friday. Domestically, a flood of earnings reports as well as housing and manufacturing data will suggest the state of the economy.

Key dates and data releases: retail sales, business inventories, Empire State manufacturing survey (10/15); consumer inflation, industrial production, international capital flows (10/16); housing starts (10/17); Philadelphia Fed manufacturing survey (10/18); home resales, options expiration (10/19).

Data sources: Includes data provided by Brounes & Associates. All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indexes listed are unmanaged and are not available for direct investment.

Fiscal Cliff

October 12th, 2012

In the past, the month of October has given investors a scare. This year, it is the election that comes right after Halloween that could turn into a trick or a treat for investors as Washington policymakers debate the fiscal cliff.

The 2013 headwinds, often referred to as the “fiscal cliff,” comprised of both tax increases and spending cuts are due to go into effect on January 1, 2013 and total over $500 billion, or 3-4%, of the U.S.’s economy. While that may not sound like much, the United States has never experienced a drag of more than 2% of the economy that did not result in a sharp decline in the economy and the stock market. These tax increases and spending cuts for 2013 are already in the law and would need to be changed to be less of an economic drag. If not, a return to recession may be looming in 2013.

There is only a ghost of a chance that the fiscal cliff gets resolved before the elections. However, the so-called “lame duck” session that takes place between the November 6 elections and the end of the year holds some promise for getting a deal done.

Most polls, including the LPL Financial Research “Wall Street” Election Poll*, point to the status quo in the White House and the Senate as a high probability outcome for these elections. Although there would be no change in control, holding the White House and the Senate given the sluggish, zombie-like economy could be considered a victory for the Democrats, and to top it off, the Republican’s majority in the House may shrink. If this happens, a deal in the lame duck session to mitigate the fiscal cliff would probably be reached, but it would likely be closer to the victorious Democrat’s terms which primarily consist of higher tax rates.

Alternatively, the election is bound to be close and if the shift in momentum that began with Romney’s debate performance continues, there is the potential for a Republican sweep of the White House and Congress. If so, Washington goes from being gridlocked to unlocked and a deal in the lame duck session, or early next year, that extends the Bush tax cuts would be likely.

There is always the haunting possibility that Congress fails to craft a deal in the lame duck session and the United States goes over the fiscal cliff into the darkness of a recession. However, we find this outcome relatively unlikely as Washington has a lot of experience in kicking the can down the road to avoid short-term pain and will likely find an eventual compromise.

The more likely risk to the markets is what Congress may do in the lame duck session on the way to this eventual compromise. We only have to look at the negotiations around the debt ceiling increase in August 2011 to see how bad the process of negotiations can be for the markets. Back then, we ultimately got the eventual compromise of an increase in the debt ceiling, but not without a 13% stock market decline in a week and Standard & Poor’s lowering the U.S.’s triple-AAA credit rating.

The elections will influence the direction of the negotiations, but it may be the journey—not the destination—on the way to the deal to mitigate the fiscal cliff that has the most potential to spook the markets and contribute to volatility in the coming months. We believe a deal will be forthcoming, but only after the elections can we expect Washington to begin to attack this monster.

Sincerely,
Westside Investment Management

Market Week: October 8, 2012

October 8th, 2012

The Markets

Encouraging manufacturing and employment data helped the Dow hit a level less than 4% below its pre-2008 high, while the S&P 500 was roughly 6.5% away from achieving the same target. Meanwhile, oil slipped below the $90-a-barrel mark, offering some hope for a little relief on gas prices down the road.

Market/Index

2011 Close

Prior Week

As of 10/5

Week Change

YTD Change

DJIA

12217.56

13437.13

13610.15

1..29%

11.40%

Nasdaq

2605.15

3116.23

3136.19

.64%

20.38%

S&P 500

1257.60

1440.67

1460.93

1..41%

16.17%

Russell 2000

740.92

837.45

842.87

.65%

13.76%

Global Dow

1801.60

1921.70

1957.83

1..88%

8..67%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

1..89%

1..65%

1..75%

10 bps

-14 bps

Equities data reflect price changes, not total return.

Last Week’s Headlines

· The unemployment rate fell in September to 7.8%, its lowest level since January 2009. The Bureau of Labor Statistics said the addition of 114,000 jobs to the nation’s payrolls cut the unemployment rate by 0.3%, the biggest monthly decline since January of last year. The greatest job gains were seen in health care, transportation/warehousing, finance-related companies, and business and professional services.

· After a three-month summer slump, U.S. manufacturing showed growth in September. The Institute for Supply Management’s index of manufacturing activity hit 51.5% (any figure above 50% indicates growth), while a more than 5% monthly gain put new orders at 52.3%. The ISM’s measure of the services sector also was up; the 55.1% reading represented the fastest pace of growth in six months.

· A nearly 35% decline in demand for transportation-related equipment–primarily aircraft–helped cut U.S. factory orders by 5.2% in August. However, the Commerce Department said that excluding the volatile transportation sector, orders were up 0.7%.

· Construction spending fell 0.6% in August, according to the Commerce Department, but was still 6.5% higher than a year earlier. A 1.7% drop in private nonresidential construction was responsible for the monthly decline; residential construction rose 0.9%.

· Members of the Federal Open Market Committee have discussed using numerical thresholds for unemployment and inflation to determine when to begin raising the Fed’s target interest rate. The FOMC has said it anticipates keeping interest rates low through mid-2015. Minutes of the committee’s most recent meeting also indicated the Fed expects moderate economic growth for the next few quarters that will accelerate sometime in 2013.

Eye on the Week Ahead

Tuesday’s announcement by Alcoa–the unofficial start to the Q3 earnings season–will give investors something to mull over other than politics and economic data. Wholesale inflation numbers could show the impact of energy prices.

Key dates and data releases: balance of trade (10/11); wholesale inflation (10/12).

Data sources: Includes data provided by Brounes & Associates. All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indexes listed are unmanaged and are not available for direct investment.

Market Week: October 1, 2012

October 3rd, 2012

The Markets

As investors reviewed mixed U.S. economic data and waited for news on Spain’s financial stability, equities fell for the second straight week. The anxiety helped boost U.S. Treasury prices once again.

Market/Index

2011 Close

Prior Week

As of 9/28

Week Change

YTD Change

DJIA

12217.56

13579.47

13437.13

-1.05%

9..98%

Nasdaq

2605.15

3179.96

3116.23

-2.00%

19.62%

S&P 500

1257.60

1460.15

1440.67

-1.33%

14.56%

Russell 2000

740.92

855.54

837.45

-2.11%

13.03%

Global Dow

1801.60

1973.65

1921.70

-2.63%

6..67%

Fed. Funds

.25%

.25%

.25%

0 bps

0 bps

10-year Treasuries

1..89%

1..77%

1..65%

-12 bps

-24 bps

Equities data reflect price changes, not total return.

Last Week’s Headlines

· The rate of U.S. economic growth continued to slow in the second quarter. The Commerce Department’s final estimate of Q2 GDP was 1.3%; that’s less than the 1.7% previously estimated and lower than Q1’s 2% rate. The Commerce Department said lower crop yields caused by the severe summer drought in the Midwest were a major factor in the downward revision. Corporate profits after tax were down 0.4% after a 6.7% increase in Q1, but were up 14.5% from a year earlier.

· Home prices were up 1.6% in July and were 1.2% higher than in July 2011, putting them at their highest level in nearly two years. It was the third straight month in which all cities measured by the S&P/Case-Shiller 20-city index saw increases, and 16 of those cities also were up from last year.

· Meanwhile, August sales of new single-family homes fell 0.3% during the month, the Commerce Department said, though they were still almost 28% higher than a year ago. The median home price–$256,900–was the highest it’s been since March 2007 and 17% higher than last August.

· Half of the 14 Spanish banks that underwent stress tests to determine their stability could need as much as €59 billion in fresh capital, while the other half (which represent roughly 62% of all 14 banks’ total credit obligations) are okay. The Spanish government also unveiled a budget that includes new tax increases and austerity measures, which set off a fresh round of protests.

· Americans spent more in August, but they cut back on savings to do so. According to the Commerce Department, personal spending was up 0.5% during the month, but because incomes were up only 0.1% (and down 0.3% after taxes), the savings rate fell to 3.7% from 4.1%. Meanwhile, the Bureau of Labor Statistics’ yearly snapshot of consumer expenditures showed consumer spending up 3.3% last year. It was the first yearly increase in three years (though the 3.2% increase in consumer prices might account for much of it), and the average income before taxes was up 1.9% to $63,685.

· Plummeting sales of commercial aircraft helped cut orders for durable goods–those intended to last at least three years–by 13.2% in August, according to the Commerce Department. That was the largest decline since January 2009. However, excluding the nearly 35% drop in transportation-related equipment, new orders were down only 1.6%.

Eye on the Week Ahead

As the final quarter of 2012 kicks off and the days to the November election tick down, unemployment data will be even more closely watched than usual. Minutes of the discussion that led up to the Federal Reserve’s QE3 decision also will be of interest. Finally, global investors will wait to hear whether Spain’s new budget and banking report will affect its credit rating or the likelihood of a request for financial assistance.

Key dates and data releases: U.S. manufacturing, construction spending (10/1); auto sales (10/2); U.S. services sector (10/3); U.S. factory orders, FOMC minutes (10/4); unemployment/payrolls (10/5).

Data sources: Includes data provided by Brounes & Associates. All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indexes listed are unmanaged and are not available for direct investment.