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The Independent Investor: Insider Trading Is No Surprise
Over the last few years, government authorities have gone after insider traders with increasing success. Now, news headlines indicate that there was actually a hedge fund club of sorts that regularly traded on illegal information.Why should this surprise us? Over the last few years an increasing number of investors I talk with have argued that "the game is rigged" against us little guys. Time after time, I have watched the markets trade up in advance of good news or down before the opposite occurred. It happens much too often to be coincidence.
Back in the early '80s, straight out of graduate school, I joined Drexel Burnham Lambert, a venerable investment banking firm back in the day. There, I made the acquaintance of Mike Milken, who at the time was diligently putting together a junk-bond empire for Drexel. He moved his operation to California and invited me along, but I joined Merrill Lynch instead to establish their foreign equity effort.
That turned out to be a smart move. Milken and his associates went on to make millions but ultimately went down in flames as authorities uncovered an enormous insider trading scam centered on the "junk bond king." As a spectator, I had a front-row seat throughout the entire sordid affair. Milken and some of his buddies went to jail. Drexel went bust and I understood how deceptive and easy it was for individuals to be sucked into insider trading.
The SEC and the FBI are focusing on specific transactions involving individual securities where insider information was leaked. The FBI contends that there was a criminal ring of analysts, traders and fund managers among some prominent financial firms that regularly took advantage of illegal information and garnered millions in profits for the alleged violators.
Readers may recall that last year, Raj Rajaratnam, the founder of a well-known hedge fund, was sentenced to 11 years in prison for making millions in an insider trading scam. Altogether the FBI has wracked up 56 convictions in their four-year probe called Operation Hedge.
I applaud their efforts. Like the FBI, I believe insider trading has exploded in financial markets and goes far beyond a few hedge funds and their associates. But insider trading between government and the private sector is even bigger than the abuses presently being uncovered among and between Wall Street firms. However, I doubt that either the FBI or the SEC has much stomach to actively probe the connections between our elected officials, government bureaucrats and their campaign contributors within the private sector.
As readers are aware, I have already written two columns denouncing the present legal ability of our senators and congressmen and their families and friends to profit from insider information that they have acquired in the course of the legislative process.
My last column on the subject centered on the passage of the STOCK Act (Stop Trading on Congressional Knowledge), a bill that would have prevented that practice. It was no surprise that House majority Leader Eric Cantor, R-Va., scuttled the bill in December.
Insider trading will remain a serious and debilitating side effect of a financial system where "greed is good" and the amount of money you make is never enough. At most, the SEC and FBI will be able to catch those sloppy enough to leave a trail but the really insidious information exchanges will continue to fall under "business as usual."
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or email him at wschmick@fairpoint.net. Visit www.afewdollarsmore.com for more of Bill's insights.
@theMarket: Europe Downgrades Hit Markets
After a week of slowly grinding higher on exceptionally low volume, the markets swooned on Friday. Europe, once again, was responsible.It was almost comical to watch the talking heads this week as they tried to make a case that the U.S. markets were decoupling from the troubles in Europe. They highlighted the increasingly positive economic data, the possibility of quarterly earnings surprises and the hope that the Fed was preparing for another round of quantitative easing.
My take is that Europe has a longer holiday season than we do. Their movers and shakers just got back to work this week. We haven't decoupled. There was simply an absence of market making news until this week.
All of that decoupling talk disappeared on Friday as a rumor surfaced that credit rating agency Standard & Poor's was ready to downgrade a slew of European countries this weekend. At the same time, JPMorgan's revenues disappointed the market in their earnings announcement, sending the entire financial sector into a tailspin. Retail sales for December (as I predicted) also disappointed the markets. The holiday season failed to live up to retailers' expectations triggering fears that future economic growth was in jeopardy.
My advice to readers is to ignore all these one-off events. The simple truth is that we have benefited from A) The Santa Claus Rally and B) the January Effect. In my last few columns, I explained both and predicted the markets would rally as a result. Both A and B came off like clockwork and are now about over, leaving the markets vulnerable to a pullback.
I'm not looking for anything disastrous to develop, outside of a normal two-steps-forward, one-step-back kind of decline. There are too many positive developments for me to become overly bearish.
Both Italy and Spain managed to sell 17 billion worth of sovereign debt ($21.5 billion) this week without too much trouble. That was a vast improvement over last month when few players were willing to even look at buying bonds from these countries. The European Central Bank left rates unchanged, leaving the door open for possible rate cuts in the future. Even Greece, the bad boy of Europe, is stumbling towards a debt deal in their typical on-again, off-again fashion.
There is also a lot of talk about the possibility that the Fed will launch QE 3 sometime in the next few months. This is partially a result of some dovish-sounding speeches from several Fed members lately. I have my doubts. As long as U.S. economic data continues to improve, I don't think the Fed sees the need for additional monetary stimulus right now.
Of course, we are in an election year and sitting presidents in the past have been known to "lean" on the chairman of the Federal Reserve to goose the economy as November approaches. I think it is still too soon for that kind of monetary monkey business before the elections. But it does help buoy the mood of investors so we will put that in the plus column.
In summary, the markets will pull back and then go higher. That will be a trend I expect will continue for the next several months. I'm not looking for big gains, just a general trending higher by the indexes, interrupted by pullbacks on a periodic basis. The upside could lift the S&P 500 Index to the 1,350 level but from here that's no more than a 5 percent gain from here. As such, we will keep one foot in dividend paying stocks and the other in the fixed income market. In other words stay defensive.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or email him at wschmick@fairpoint.net. Visit www.afewdollarsmore.com for more of Bill's insights.
The Independent Investor: How The Fed Beat The Market Last Year
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The Fed's net income was actually down from a record breaking $81.7 billion profit in 2010 on its $2.9 trillion investment portfolio. Still, they did better than the S&P 500 Index, although not as well as the Dow last year.
The real question is how much risk the Fed is taking in relation to return. It appears that on the metric the Fed is taking on more and more risk to generate a return that is under the "riskless" 3 percent return of a 30-year U.S. Treasury bond.
Take the mortgage market, for example. Over the last three years, The Fed has bet $1.25 trillion that its efforts could turn around housing in America. That bet hasn't panned out. Since they started buying mortgage backed bonds in the beginning of 2009, the value of the housing market has declined 4.1 percent.
Rather than pull in their horns, the Fed is buying another $200 billion more in 2012. That amounts to 20 percent of all new mortgage loans. That may just be a beginning, if you can believe some Fed officials. They indicate the central bank could buy two or three times that amount.
The Fed normally makes its money from interest earned on U.S. Treasury bonds, federal agency debt and securities held by firms such as Fannie Mae and Freddie Mac. That sounds tame enough, but that is not the entire story. By the nature of its charter, the Fed is supposed to deal in risky assets from time to time. Like Star Trek, their mission may be "to boldly go where no man has gone before."
The Fed is a classic buy at the low investor lending money and investing when no one else will. During the financial crisis, when banks, corporations and even countries were experiencing a free fall in prices in all their financial securities, the Fed was the buyer of last resort.
Yet, today, even some of the most sophisticated Americans have it in their head that the Fed uses taxpayer money in its operations. Even the Wall Street Journal reported in a recent story, "Fed's Lofty Profit Becomes Treasury's Gain" that "The central bank has come under attack for taking too many risks with taxpayer money ... ." The facts are that the Fed actually contributes to the pool of taxpayer funds and will continue to do so whenever possible.
Since the Federal Reserve Bank has the power to create money, it does not need to borrow money from, or use taxpayer money. Sure, the Fed might lose money at some point if inflation suddenly spiked and it needed to pay higher interest on bank reserves. If things really got messy and it needed to sell some of its government bonds, it might suffer a loss but those would be, at worst, temporary issues.
Remember, too, that the Fed is both a buyer and a seller with a far longer time horizon than the markets. Its mission is to administer interest rate policy and insure that unemployment does not get too far out of whack. As such, it creates and controls interest rates to a large extent and can create over time an economic environment conducive to those goals.
There is a reason that investors worldwide don't bet against the Fed. Although profits are fairly far down on the list of the Fed's agenda, because of the nature of their objectives, it is more than likely that they will turn a profit as long as they continue to buy low and sell high.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or email him at wschmick@fairpoint.net. Visit www.afewdollarsmore.com for more of Bill's insights.
At The Market: Tug Of War
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As expected, the good news coming out of the U.S. economy has encouraged investors, while higher yields on Italian sovereign debt provided a counterweight that leaves the markets in a tug of war. The lack of news out of Europe allows investors to pay more attention to American data, such as the drop in the unemployment rate to 8.5% from 9.4% this time last year.
Beginning next week, however, European players should be back from their chalets in Switzerland or Spain and the fun begins all over again. At the same time, we face another earnings season and if earnings are not up to investor expectations we could definitely see a sell off.
Alcoa, the aluminum maker, kicks off the earnings season after the close on Monday and the company has already warned that higher costs and declining prices are threatening profits. Retailers admitted that Christmas sales were not as strong as they had hoped. I had warned readers not to fall prey to the holiday season hype on how great Christmas sales would be for retailers. Those who did best were those that offered thrifty consumers massive discounts off list price.
Short term, absent any new positive developments out of Europe, we could see some profit taking in the weeks ahead. That should be no surprise to investors, given my outlook for 2012. In my column "2012 could be another up and down year" I outlined the risks and opportunities we face this year. To sum up, I expect a choppy first half with a possible 'sell in May and go away' scenario. The second half could be better, thanks to election excitement and hope for a more functional Congress and Senate.
I also warned that any number of unknown events ranging from what happens in Europe, The Fed's monetary policy, and actions (or non-action) out of Washington could make any forecasts, including my own, worthless.
Take, for example, this week's rumor (later denied by the White House) that the Obama Administration is planning a mega refinancing ($1-$3 trillion) of the American mortgage market.
Back in September, I wrote in "What the Markets Missed" that such a plan was being debated within the White House. The program would not require congressional approval and could be conducted largely through the Fed, the FHA, Fannie Mae and Freddie Mac. It is an election year, after all, when the sitting President will do all he can to stimulate the economy before the elections. That type of left field developments has the power to dramatically alter the market's expectations.
The cross currents within the markets remain. As such, I will stay defensive with a large percentage of my portfolio sitting in bonds and dividend yielding stock funds. I will let the markets dictate my next move or when to become more aggressive. In the meantime, expect volatility.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or email him at wschmick@fairpoint.net. Visit www.afewdollarsmore.com for more of Bill's insights.
The Independent Investor: 2012 Could Be Another Up & Down Year
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This year a lot can happen. So much depends on forces outside our control that predicting the markets will be up (or down) X percent by year end would be criminal at best. Instead, I would like to broadly outline the possibilities and risks we face in the months ahead and how best to play them.
As I predicted, we are currently in a rally that began before Christmas and should extend for the next few weeks if not months. I don't think we will hit any new highs during this period or if we do it won't be until April. Europe will most likely continue to dominate the news, so we should continue to experience quite a bit of volatility. Be prepared for the 1-3 percent up days followed by the same or more on the down days.
I believe that ultimately Europe will get its house in order but between here and there the markets will be quite choppy. A foot in both the equity and bond markets should play best in that environment. Stick with dividend and large cap stocks and defensive sectors in this period along with corporate and high yield bonds and short-term paper.
Although the U.S. economy continues to improve, it is nothing to write home about. Without additional help from the do-nothings in Washington or an end-run by the president around Congress, unemployment will remain high and growth between 1.5-2.5 percent. That is an optimistic scenario, which assumes that a European recession is inevitable but at the same time contained to their side of the ocean.
If, on the other hand, it appears that Europe's recession is spreading globally then all bets are off. Remember too that stock markets sell first and collect the facts later in this day and age. Just a hint that something like that is in the cards would be enough for a major sell-off in world markets. Therefore it wouldn't surprise me if we have a classic "sell in May (or April) and go away" scenario this year.
Granted that would be a worse-case scenario but one we must all be prepared for. Further hiccups in Europe, fear of renewed recession here at home without further monetary or fiscal stimulus from the Fed or White House could spook sending the S&P 500 Index back towards its 2011 lows at 1,100. Granted, that would be a worse case scenario but one we must all be prepared for. A switch to all bonds would be best in that case.
But remember, we are also in an election year and markets usually begin to anticipate that in the second half of the year. This could give investors an opportunity once again to buy the dip. If history is any guide, the Obama administration will want to do anything and everything they can to boost the economy going into the November election. This year that argument should carry additional weight since both parties are campaigning on the economy and unemployment.
In that case, we could see a major move higher in the averages off the bottom this summer that could move the U.S. market to substantial gains by the end of the year and into 2014. Now, wouldn't that be nice?
If some or most of my forecasts come true for this year, it is quite obvious that a buy and hold strategy will be a recipe for disaster as will all cash, all bonds or all stocks. There will be times during the year investors will want to be both aggressive and defensive and it will be a lot of work, just like last year. There is an old saying that "if you can't stand the heat, get out of the kitchen" or in this case, hire a money manager that can make those decisions for you, but be sure you pick the right one.
Bill Schmick is an independent investor with Berkshire Money Management. (See "About" for more information.) None of the information presented in any of these articles is intended to be and should not be construed as an endorsement of BMM or a solicitation to become a client of BMM. The reader should not assume that any strategies, or specific investments discussed are employed, bought, sold or held by BMM. Direct your inquiries to Bill at (toll free) or email him at wschmick@fairpoint.net. Visit www.afewdollarsmore.com for more of Bill's insights.
