In This Issue:
Sometimes Good News Can Be Bad News
Treasury Bonds May Be A Bubble
It’s Time To Choose Shorter Bond Maturities
Three Ways To Win If Treasuries Decline
Investing In Times Of Extremes
Staying Healthy During Impossible Times
The Bottom Line This Week
The
optimistic mood that lifted the stock market two weeks ago didn’t last very
long. In fact it might have been the smallest January bounce on record. After
the 2nd, prices started to move back down again.
There
is some solace in noting that the market is still up some 20% from where the
zigzag rally started on November 21. Despite all the turmoil, it may turn out
that the bear market reached bottom at that time. We shall know soon enough.
In
any event, by the time last Friday afternoon rolled around, the Dow and the
Nasdaq were down 4.8% and 3.7% respectively. During the first three days of
this week, the market continued to decline sharply as more disturbing economic
numbers were announced.
Sometimes Good
News Can Be Bad News
Ironically,
one of the biggest worries investors have right now is falling oil prices. A
few months ago when oil was approaching $150 a barrel, each decline was met
with jubilation. But with oil selling below $38, as it is today, every decline
indicates that the economy is continuing to weaken.
In
addition, President-elect Obama’s request for an additional $350 billion in bailout
money would have been welcomed when the program was new. At the time, the
monetary booster shot was seen as a way to get America going again. Now, the
need for more funds is seen as a sign that the economy may be in worse shape
than investors thought.
Lastly,
Citigroup’s (C) apparent decision to
sell 51% of its Smith Barney division to Morgan
Stanley (MS) would have been welcomed as an acceptable way to prevent Citi
from failing. Now the sale looks like the financial services industry is
continuing to implode.
Treasury Bonds
May Be A Bubble
U.S.
Treasury bonds have been a popular refuge from the financial carnage of the
past few months. Although Helicopter Ben drove interest rates down, investors
can at least be confident that Treasuries won’t default. When the bonds mature,
Uncle Sam will pay them at their full face value.
However,
investors may be in for a nasty shock if they wish to sell their bonds rather
than keep them. The bonds could be worth a lot less than they were when they
were purchased.
The
problem is that bonds are subject to the same market pressures as any other
security. In today’s frightened world, Treasuries are in great demand. But that
may not be true tomorrow. When the economic outlook improves, investors will
find better-paying places to put their money, and the Treasury bond market will
go hisssssss.
Bonds
will also take a hit if interest rates start to move up. In that case, older
bonds will drop in value because they will pay less interest than new bonds.
In
fact, for every 1% increase in the yield of 10 year bonds, investors can expect
to see lower-paying bonds drop 7% in price. When the declines begin, bond
holders will need to choose between two undesirable options: they can either
hold the lower-paying bonds until they mature, or they can sell them at a loss.
Letter to the bank - Dear Sirs, In light of recent developments,
when you returned my check marked "insufficient funds," were you
referring to my funds or yours? -- Ellen Brown
It’s Time To
Choose Shorter Bond Maturities
Unfortunately,
Treasury bond declines are likely since all the bailout money that is being
poured into the economy will almost certainly lead to higher inflation and
interest rates within a year or so. Unprepared bond holders will be caught in the
lurch.
The
best way to prevent bond losses due to rising interest rates is to roll them
over to securities with shorter maturities. Not only will you avoid the
declines, you will capture the higher rates that come along. When rates start
to level off at some point in the future, it will be time to lock them in by
purchasing bonds with longer maturities.
Three Ways To
Win If Treasuries Decline
Even
better than avoiding Treasury bond losses is to profit from rising rates.
One
way is to short a bond ETF such as iShares Lehman 7-10 Year Treasury Bond Fund (IEF). However, we don’t recommend this method
because losses can mount up quickly with a short sale that doesn’t work out.
A
much better strategy is to invest in an inverse
Treasury mutual fund such as ProFunds
Rising Rates Opportunity 10 (RTPIX). http://finance.yahoo.com/q/pr?s=RTPIX
This no-load fund is structured to move in the opposite direction to the daily
price changes in the 10 year Treasury Bond.
More
aggressive investors can buy an exchange traded fund that will rise twice as much as price changes in Uncle
Sam’s bonds. The most popular of the inverse Treasury ETF’s is ProShares Ultrashort Lehman 7 – 10
Year Treasury ETF (PST). http://finance.yahoo.com/q/pr?s=PST
Just remember, the lever can swing both ways.
Staying
Healthy During Impossible Times
Speaking
of levers that swing both ways, the same is true of the public’s outlook about
the future. As we’ve seen during previous downturns, fear can turn to greed far
faster than anyone at the time would believe possible. Moreover, the turns
often occur when the way ahead looks especially bleak.
We
think the foundations have already been laid for some turnarounds later this
year. Prices for fine art, jewelry, rare cars, yachts, stocks, and (in some
regions) real estate have fallen to ridiculous levels. More importantly,
knowledgeable people in each of those markets realize that many items are screaming
bargains.
However,
few people are reaching for their wallets as yet because they think prices
might go even lower in the future. One man we know who deals in expensive
watches says many affluent customers come in every week to check prices. If they
notice that a watch has been marked down from the week before, they won’t spend
a dime. Our client believes the fear of paying too much, and feeling foolish,
is a stronger emotion than the desire to get something they want at a good
price.
However,
when customers see that prices are starting to move up, they will usually make
their purchases quickly. Often a buying frenzy begins that can be breathtaking.
We
don’t know when the tide will turn for stocks and other valuables that are
currently priced very cheaply. We do know, however, that the turn is coming. If
you want to make the most of it, you should be in position before the race
begins.
When Nothing
Works, Quit Worrying About It
We
had a client call last week who was beside himself with worry about what to do
with his small company. He couldn’t see any way to stay in business. The harder
he tried to keep everything going, the more damage he was doing to his health.
Our
client’s plight reminded us of a famous psychological experiment that was done
sixty years ago. Two sets of monkeys were put in cages that were wired to give
them harmless but unpleasant shocks on a random basis.
Both
cages contained electrical switches that the monkeys could manipulate. In one
cage the switch did nothing. In the other cage, the switch would prevent the
next shock from coming – but only if it was used at just the right time.
After
a few weeks, medical exams were done on both groups of monkeys. The group that
had inoperative switches were fine. But the “executive monkeys” that had to
decide how to stop the shocks, were nervous wrecks. Several of them even
developed ulcers.
We
think the conclusion to be made from the experiment is clear. If you are in a
no-win situation that you can’t control, don’t ruin your health attempting to
do the impossible. Do what needs to be done to survive the crisis, and live to
fight another day.
The Bottom
Line This Week
The
worldwide economic decline sent a flood of buyers to the safety of U.S.
Treasury bonds. As a result, their prices went up and yields declined.
We
think the Treasury bubble will begin to deflate sometime in the coming months.
To avoid being caught in the trap, readers should roll their maturing bonds
into those having shorter maturities. Aggressive investors can profit from
declining bond prices by using inverse funds.
Many
markets appear to be oversold, and an increasing number of knowledgeable
investors know it. The situation is ripe for a rebound that could begin later
this year. To participate, investors should take positions early, or be
prepared to act very quickly when the turnaround begins.
Disclaimer
Copyright 2010 The Association for Investor Awareness, Inc. All Rights Reserved
All material presented herein is believed to be reliable but we cannot attest to its accuracy. Investment recommendations may change and readers are urged to check with their investment counselors before making any investment decisions.
Opinions expressed in these reports may change without prior notice. The Association for Investor Awareness, Inc. (AIA) and respective staffs and associates may or may not have investments in any companies, stocks or funds cited herein, may or may not have long or short positions and/or options and warrants relating thereto and may purchase and/or sell these securities or options at any time in the open market or otherwise without further notice. AIA, its Officers, Directors, Employees and Affiliates may receive compensation for the dissemination of this information.
Communications from AIA are intended solely for informational purposes. Statements made by various contributors do not necessarily reflect the opinions of AIA and should not be construed as an endorsement either expressed or implied. AIA is not responsible for typographic errors or other inaccuracies in the content. We believe the information contained herein to be accurate and reliable. However, errors may occasionally occur. Therefore, all information and materials are provided "AS IS" without any warranty of any kind. Past results are not necessarily indicative of future performance.
Posted
01-15-2009 10:55 AM
by
Research & Editorial Staff