- With the Dog Days of
Summer almost behind us, children are headed back to school
and most colleges and universities have already begun. From
an investor’s point of view, June, July and August were
anything but a “bowl of cherries.” The market was extremely
volatile, and following a strong April and May, the Standard
& Poor’s 500 Index will end August slightly below its March
close. We have only about 60 days before we elect a new
President. This generally brings a period of optimism and
thus a sense of renewal for the American dream. While so
many talk about the “dark clouds,” we are always looking for
the “silver lining.” Neither the bad times nor the good
times last forever. What makes us cautiously optimistic even
with all the concern that is going on around us? First,
short-term interest rates, which are set by the Federal
Reserve, are at 2%, and while this rate is not the lowest we
have had in history, it is certainly below the average.
Long-term rates, which are set by the bond markets, are low
and thus are making real estate purchases and business
loans relatively affordable. The Federal Reserve has
continued to provide liquidity to the markets, and that
liquidity is working its way through the economy.
- This Bear market has been
led, in large measure, by the financial stocks, which have
done a significant amount of writing off their bad assets.
While there is likely more to come, at this point it’s hard
to believe that they have much more to write off. In fact,
we are starting to see some early signs of liquidity amongst
some of these securities. On another front, the weak banks
will be absorbed by the stronger ones. That’s not just the
ones that will be taken over by FDIC, but includes those
banks that just don’t have much capital remaining. Thus,
down the road, the banking sector will likely be as strong,
if not stronger, than it ever was. The banks will get back
in the business they should be in, taking deposits and
making loans. However, we anticipate that the banks will not
be making “stupid” or “foolish” loans like they did over the
past five or six years. Credit standards will be much
higher, not only for home purchases but for businesses as
well. If business owners want to borrow money, most likely
they will need to have a strong business plan and convince
the bank that they will generate profits that will provide
the cash flow to repay the loan.
- We are not happy about
the unemployment rate creeping up to near 6%. We have always
felt that 6% is an important psychological number. We are
equally unexcited about the American economy shedding an
average of 50,000 jobs per month. However, we have seen
worse economic times in our history when job loss has been
in the 100,000 per month range and in some cases up to
200,000 jobs per month. It is also important to keep in mind
that unemployment numbers are generally a trailing
indicator, not a leading indicator of what is happening in
the economy.
- The speculators in oil
have been punished over the past six weeks and eventually
the price of oil will seek a more natural level. Still, with
oil climbing the way it has, a lot of effort is going into
alternative forms of energy. This “new” interest in
renewable forms of energy, such as wind, solar, hydrogen,
etc., will cause a lot of money to be invested in research,
which will not only have a positive effect on the price of
oil but also on the general economy. Make no mistake,
the leading scientists of the world and the capital to
foster innovation are mostly in the U.S. If oil had not
jumped up so sharply in price, we might have floundered for
years before focusing on this important area.
- Let’s turn to housing. In
the past couple of years, we have witnessed one of the
largest declines in home prices in history. Of course, this
followed a very speculative time in the real estate market
where money was practically “free,” which allowed it to chase
the real estate markets across the country. The inventory of
homes on the market is the highest it has been in a long
time. There’s a lot of new construction that is not being
absorbed, and the natural process is, of course, for prices
to come down. And they have come down to a much more
realistic level. Unfortunately, many people believed that real estate prices would
continue to rise forever. Of course, that’s how bubbles
happen in the first place. We are seeing the first signs of
improvement in residential real estate sales in certain
areas of the country.
- It used to be the
American dream to own a home and have accumulated enough
money to have a “comfortable” retirement. Going out on a
limb, we’ll talk about the Baby Boomers. Many Boomers are
not going to retire at 60 or even 65. One reason is that
most of them can’t afford to, and many of those who can
afford it are not ready to quit working. Hopefully, the
Boomers who were unable to retire on schedule and who
continue to work will recognize the error of their ways and
stop excessive borrowing and constantly utilizing the equity
in their homes. We expect America will eventually become a
“nation of savers” once again. These savings, rather than
consumption, will help spur the economy forward into a
healthier state. It won’t happen overnight, but when we look
back 10 years from now, we think you will see how much of
the gloom and doom of today laid the groundwork for the
success of the economy going forward.
- It probably comes as no
surprise that the world’s largest economy as measured by
Gross Domestic Product (GDP) is the United States at $13.84
trillion. Just how big is it? Number two, Japan, has an
economy of around $4.4 trillion. In other words, it would
take three Japans to reach the same level as the United
States. Germany is in the number three position at $3.3
trillion, and the remainder of the top five are China in the
number four position at $3.2 trillion and the United Kingdom
in the fifth position at $2.8 trillion. The fastest growing
economy belongs to China at 10.1%, but it also has one of
the higher, but not the highest, inflation rates at 7.1%.
The highest inflation rate during 2007 belonged to Russia,
where it was an astounding 15.1%! Indonesia also had
double-digit inflation at 11%, and then Turkey and Saudi
Arabia followed at around 10.5%. The median age of a
country’s population can be a predictor of its economic
future. Those countries with an aging population generally
have a sagging economy. The oldest populations in the world
are usually found in Europe, and Italy is currently leading
with a median age of 42.9. At the other end of the spectrum,
Saudi Arabia has a median age of only 21.5 years. Where is
the United States? More to the older than younger side, with
an average median age of 36.7 years. (Sources: Bloomberg;
CIA; World Bank)
- We have been
hearing a lot about the visions the Presidential
candidates have for the country. While there are some
startling differences, there are also a lot of
commonalities. One area that has more differences than
similarities is health care. It is clear that Obama would be
more prone to continue the employer-sponsored health
insurance plans in existence today. McCain would much rather
place the responsibility on each individual, requiring them
to purchase personal health insurance policies. To make this
financially feasible, he would use a tax subsidy either in
the form of a tax rebate or a tax credit. Thus, from an
investment standpoint, should McCain win the election, we
expect his vision will be a problem for insurance companies
that provide group insurance through a managed care
organization, and a boon for insurance companies that sell
individual policies. Whatever happens, things can’t continue
as they are in either the private or the public programs
(Medicare and Medicaid). What is clear is that something
must be done.
- Perhaps American workers
are beginning to realize the importance of saving for
retirement. During these difficult economic times,
especially with food and energy costs rising, it would not
be too surprising to think that American workers are cutting
back on their savings levels. It appears, however, that just
the opposite is occurring. Fidelity Investments recently did
an analysis of almost 17,000 corporate retirement plans
covering 11.5 million people. During the first six months of
2008, contributions to these retirement plans increased by
7% versus the same six month period in 2007. A trend like
this will be very positive for future retirees. Looking
beyond the numbers, however, most of the contributions may
be coming from Boomers, who, after having educated their
children, are finally saving as fast and as hard as they can
for themselves.
- Regardless of who gets
elected President, expect something to happen with estate
taxes. In 2009, the maximum amount that can be passed
tax-free will jump from $2 million to $3.5 million. In 2010,
there will be no estate tax, and in 2011 the exemption drops
back to $1 million. The estate tax has been around since the
‘30s. It may surprise people that, for all of the talk about
the tax itself, it currently touches a surprisingly small
number of people. It was at its highest impact during the
‘70s, when in 1976 around 7.5% of families paid some type of
an estate tax. That was when the unlimited marital exemption
did not exist. In fact, the maximum exemption was only
$60,000. As the exemption rose, the percentage of returns
versus deaths dropped, and in 2004 less than 1% of all
families had to pay some form of estate tax. The highest
estate tax collections occurred in 1999 when $24.8 billion
was collected. This is a relatively small sum in the grand
scheme of things when you realize that the federal budget
deficit is into the trillions of dollars. (Sources: IRS;
Heritage Foundation)
- With unemployment
nearing 6%, one has to wonder what might happen to the stock
market. Unemployment is a lagging indicator to what is
happening in the economy. When a slow-down initially occurs,
businesses don’t immediately lay off workers. It is only
when things slow down further that businesses cut payroll
expenses. When the economy first begins to recover,
businesses are generally reluctant to add workers due to
fears that they may be seeing a false positive. It is only
after they feel more confident about the future that they
begin to add employees. The unemployment rate increase in
May of .5% has occurred 11 times previously. During those
previous occurrences, the S&P 500 rose by at least 17.6% and
had an average gain of 26.8% over the next 12 months. Given
where the market stands currently, it is hard for people to
put this into perspective; thus our reasoning behind
pointing out the importance of not focusing on the
unemployment figures as a leading indicator, but rather
viewing it as a lagging indicator. (Sources: Department of
Labor; BTN Research)
- Much has been said about
McCain becoming the oldest President, should he be elected.
But what about Obama’s youth? Obama turned 47 this month.
The youngest President ever elected was John F. Kennedy who
was 43 years, 236 days old when he was sworn into office.
Second place belongs to Bill Clinton at 46 years, 154 days
old. You would have to go back around 140 years, however, to
get to the third youngest President, Ulysses S. Grant at 46
years, 236 days old. When you stop to think that Grant was
leading the Army during the Civil War, he really was a very
young General.
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