That Was The Week That Was – 3rd Week November

Inflation and a contagion fear from Europe are the two worrisome problems du jour and the outlook is either the EU is cooked like a Christmas goose or they can work their way out of the mess. Some experts point to the fact that EU’s problems will infect the U.S. but may take a few years to really impact us and then stick around for a very long time. Bill Gross of PIMCO said on Friday that the European problem is the U.S.’ biggest problem. What the problem is and how the United States could be infected will be discussed in this blog. Wednesday, prior to the markets open, inflation numbers came in less than expected, thus giving the Federal Reserve more leeway to stimulate the economy. Still, inflation at some point will rears its head and investors best be prepared.

The Euro-zone’s debt problems stem from overspending by certain countries. Those countries not only borrowed too much but with an economic slowdown have little resources to pay those loans back. The primary concern is with the PIIGS or Portugal, Italy, Ireland, Greece and Spain. The problem emerged late in 2009 and has been of deep concern since 2010. The fact that all these countries are using a common currency complicates the issue. The fear is that if even one country defaults that a domino like reaction will cascade throughout Europe. When that happens other banks and countries will suddenly stop lending and doing business with everyone in Europe and everything will standstill while the economies fall into a depression.

• Monday News suggested a solution to the crisis as the Europeans would meet the week after next to discuss selling Euro-Zone bonds that would replace existing individual sovereign bonds. Germany, it was reported in the WSJ, hates the idea believing it’ll get stuck paying back for their spendthrift neighbors. Here’s the chart from Eurostat a German company that provides statistics to European countries.

The Reasons Why Europe Is Important to US: Standard and Poor’s reported 30% of our overseas business is done with European nations. Europeans are also big buyers of our debt, real estate and stocks. Just go to Florida and see all the apartments and real estate our foreign friends own. Our bigger banks have large holdings of European bonds, and while there is no fear our banks will go bust when the overseas bubble bursts our banks will certainly lose substantial money. As an investor even our defensive stocks are global and subject to what happens in Europe: Cocoa Cola, Philip Morris, Kraft Foods, Newmont Mining, McDonalds and EMC Corp.  No question that the U.S. business will slow down if and when Europe falls into a recession. Thanks to Jim Woods at Investor Place for much of the above he shares with us. Ford and especially General Motors have reported slow downs in European sales.

It’s ALL about protecting the banks! Buyers of Sovereign Debt protect their investment by buying what is called Credit Default Swaps, an insurance offered by hedge funds, insurance companies, banks and brokers, in case bonds default. The total net exposure worldwide is estimated to be about 30 times the United State GDP. In other words there is not enough money to cover all the debt that is ‘supposedly’ ensured. AIG, before 2008, didn’t even bother with the charade of setting aside reserves for claims when they sold Credit Default Swaps to investors of mortgage bonds–they simply pocketed 100% of the premiums and when the mortgage market went bust they got bailed out by us.

Problem is that the  insurance on sovereign debt may hinder any negotiation of sovereign debt haircuts, according to WSJ Monday last. Credit Default Swaps are insurance to protect in case of default. If that’s the case, the question is, why should an investor readily agree to a discount, or a haircut, on the bonds they own?  Knowing this leaves the EU with little  room to  negotiate with holders of large chunks of sovereign debt from distressed nations. European Banks, according to BusinessWeek Bloomberg, painted a much different, if not a Catch-22 story. European regulators are demanding more banking reserves and as European banks sell sovereign debt to raise the cash and lower risk this process causes bond rates to rise. Institutions across the region are slashing their lending to PIIGS nations exacerbating the problem even further. This selling is causing rates to rise. It is the rising interest rates which, when compounded, become unsustainable and cause default.

The European Central Bank was chartered to be the lender of last resort- to banks. It has a mandate not to loan to governments – a rule implemented because what happened when Germany experienced hyper-inflation in the 1920s and a trillion marks equaled one dollar. Back then the central bank  printed money the way Charmin now prints toilet paper. The United States Federal Reserve has no such compunction against printing oodles of cash to bail out banks, financial institutions and even foreign countries. But the ECB is taking the high road and making noise that it would rather stick with principal and see a global catastrophe rather than print and hand over one Euro. The ECB officials ensconced in their comfy new Frankfort offices point to their charter which expressly forbids such nonsense of lending to save nations. The Federal Reserve, on the other hand. has printed $600 billion in Treasury securities, reducing the value of our dollar and exposing us to future inflation. The Bank of England, according to Randall W. Forsyth in Barrons.com, has largely followed our script. That leaves the ECB which experts contend will, in the end,  do the same. The result, throughout the world, will be a cheaper currency for each and every one of us along with inflation.  We will contend with it in the marketplace but it will be after the crisis of liquidity. One fire at a time.

Eric St-Cyr was offered his early Holiday present and asked what one investment he would like to own in last week’s MarketWatch.com blog. The Eric suggested that in stressful times the one thing all people had to do was eat and so he opted to buy the Agricultural Exchange Traded Fund. He reasoned that this was a great inflation hedge across all foodstuffs. His choice was PowerShares DB Agricultural Fund (DBA). The fund represents sugar, various wheat, cattle, cocoa, coffee, hogs and cotton.

Farmers buy back land they sold to developers just a few years earlier. (This reminds me of when the Japanese bought almost every American iconic piece of real estate back in the 80s such as Rockerfeller Center and Pebble Beach Golf Course for boku* yen and eventually American investors bought it all back for a song.) In the WSJ, November 14th, the news that the Arizona dairy family Vanderweys bought a 760 acre farm in foreclosure from Liberty Developers for $8 million that was bought by Liberty in 2004 for $40 million. The demand for farmland is being fueled by price hikes on everything from corn to cotton. One mega-farmer summed it up by, ‘Why should a farmer sell land now when everyone is making so much money?’ Investment in raw land through ETFs and mutual funds for the average investor is difficult since land alone doesn’t create income/cash flow. Funds concentrate on those areas of real estate that provide income or capital gains. The PowerShares AG ETF possibly makes a sensible substitution here.

*Boku in Japanese means a lot. In the 60s I met an American middle-weight fighter and he went by the fight moniker Boku.

The uber-rich are down on stocks. Barrons reported yet another survey where the Uber’s were Gloomy Gus’ on stocks-53% being downright pessimistic while 13% upbeat.  Still the big boy hedge fund investors have been trading equities and some, like Warren Buffett, stocking up on stocks. The Buffett bought his first ever tech stock – IBM. He bought a 5.5% interest in Big Blue at the stock’s highest value in a long time. Share closed around $190 and Buffett’s price wasn’t far from that. IBM trading at 11-13 times forward earnings. The Buffett also bought shares in Visa and CVS. He also added to his holdings in  Wells Fargo. Some wags are saying the Oracle of Omaha has finally lost it with his IBM purchase. The Buffett and others think that IBM can only go higher.

Monday markets off 73 points on the Dow and $14 off on gold.

Speaking of  The Warren Buffett… his stock, Berkshire Hathaway, owns some of the finest domestic companies and most bought on the cheap. Buffett adds to his current holdings when his favorites find favorable value. Recently he put more money to work in equities than he has done in 15 years and analysts think that Berkshire Hathaway is undervalued by about half. Today shares in both the A and B of Berkshire Hathaway are trading at book value. Something they haven’t done since 1992. Here’s a smattering of what he holds: Cocoa Cola, American Express, Bank of NY Mellon, Costco, DirecTV, Dollar General, Exxon, Intel, IBM, Kraft, CVS Caremark, GlaxoSmithKline and GE. And, lets not forget his insurance companies, including GEICO.  Steve Sjuggerud, editor of True Wealth, recommended shares in Berkshire as a buy saying, ‘Whenever you can put your money with the greatest investor in the world at close to liquidation value, you should…’

The Most Owned Stocks by Congress…it’s perfectly legal for a member of Congress to sit on a Committee and act on insider information they learn in that committee, which would put the rest of us in jail, as reported on 60 Minutes a week ago Sunday. Nancy Pelosi looked like a deer caught in headlights when asked the question at a news conference if it was proper for her to act on insider info. And, fixing the reporter with a gaze that could melt cobalt, she shot back, ‘What’s your point?’  (Even Willy Sutton didn’t have that much chutzpah) So here are the stocks most widely owned by our beloved leaders…er representatives in the District as reported last week in Barrons.com and Bloomberg: Exxon, AT&T, Wells Fargo, Intel, Pfizer, Cisco, Microsoft, Bank of America, Proctor & Gamble and GE. Doesn’t this remind ya’ll of Hilary, back in 1978, buying 10 cattle futures for $12,000 (she only had $1,000 in her checking account at the time!) and parlaying that into $100,000, with absolutely zero experience trading futures?

Fund & Institutional Money Managers Rotate Holdings and many are doing so now according to Tuesday’s CNBC. Financials are obviously not the place to be and many investors are finding their way to cash heavy tech. In this climate it’s impossible for the average investor to make moves that emulate the heavy hitters but by allocating across a wide range of sectors they can take advantage of where the markets are moving.  Bank of America sliding down to $6.00, again, even though book value is higher.

Looking to be Bold? Rare earth mining is in play. After bouncing off their lows experts contend that the future looks bright but bumpy. Major players include Molycorp and Rare Earth Element, Ltd. Experts contend that this is a volatile sector and investors have to consider their personal time frame and risk. Molycorp, for example, is  58% off its highs.

Michigan Retirees now will have to pay 4.35% Michigan Tax on Retirement Plan withdrawals effective January 1, 2012. There are exemptions for those who are or reaching age 67 in 2012; plus, a tax on a portion of income for those retirees who will be between the ages of 60-66. As always check your situation with your tax advisor.

Market fought back all day Wednesday from a deficit until Fitch, the ratings firm, opened its yap and said that U.S. banks could have some troubles if the European situation worsened (like that was a big surprise). And in the last trading hour the markets sank, lead by the banks, another 156 points on the Dow to close down 191 points. Interestingly gold was down $12 and oil up to close at $102.90. (This is both good and bad news. Good if you own oil/energy and bad if you’re a consumer as the trickle down will hit the pumps soon enough). Remember oil holding around $85 not that long ago. Bank of America fell under $6.00 a share. Let’s not forget home heating oil will start perking up as is the season. And major banks are toxic as investors are selling.

Ben Weiss Builds a AAA portfolio: Here’s a question, how many companies have a AAA rating?  Anyone? It’s 8. No longer Berkshire Hathaway, GE or Toyota- all gone from those high ratings. Twenty years past there were 80 companies and now, sob, only 8. The following eight have $105 billion of cash in their coffers and appear to be safe in the medium term from a downgrade. Here are the eight that anyone can own and build an income producing portfolio: Exxon, Microsoft, Johnson & Johnson, Imperial Oil, Automatic Data Processing, MTR Corp. ST Engineering and SMRT Corp.

Green Mountain stock – GMCR fell hugely when allegations of fraud were broadcast to investors. The company stock traded over $115 when whispers felled  stock prices in the coffee giant. The company produces those containers that one inserts into a brew-maker and makes a single serving of coffee, hot chocolate or tea in less than a minute. This method of coffee delivery seems to be the delight of many. Now Mitchell Pinheiro, of Janney Montgomery Scott, say that no matter the problems the company has the stock is worth $125 a share over the next 12 months. Shares closed up $52.30. The Cramer said ‘nyet!’ on owning Green Mountain.

Another Sell-off Thursday markets fell  230 points before regaining its composure and only losing 135 on the Dow. Gold was down to $1720 before closing at $1731. Oil fell to close a smidge under $100. We’ve been on this train before.

Angie’s List IPO came out Thursday and I don’t get it. This is like a on-line everyday Welcome Wagon for everyone from plumber to lawyer in 175 local markets. It’s supposed to be providing only those most highly rated firms as voted by consumers in the local area. Right! I used the service once and the highly referred plumber showed up driving a beater, old dirty street clothes, unshaven and reminded me of someone who’s picture would be hanging at the local post office. Still Angie cranked out $62.6 million in the first nine months of 2011. The stock closed up 20% from its IPO price of $13.00.

If inflation is on the horizon…and we know it is, wouldn’t that make owning stocks a best thing, just about the smartest thing ever to own? I was thinking way back when I was a kid for a buck I could buy a Big Mac, fries and Coke. Hasn’t inflation increased the cost of goods and also the price of shares?

 The Business of some Wall Street Traders is Always Finding a Short-Cut: In last week’s WSJ the story emerged about Pipeline Partners, a firm that matches large blocks of stock/bond buyers with sellers. Pipeline caters mainly to institutional investors that do not want every Tom, Dick and Harry on the Street to know what they are buying and selling in huge amounts. Pipeline has told clients that they matched orders without an intermediary. In other words the trades were secret. But, according to the SEC, Pipeline allowed a firm called Milstream access to the order information and Milstream acted on that information, placing trades before the customer orders were placed. Milstream, oddly enough, is a selling subsidiary of Pipeline. Pipeline was fined $1.2 million and cut loose two of its top executives without admitting or denying guilt. What a country!

Happy & Safe Thanksgiving to all!

Finally- FDIC closed 2 banks Friday bringing the total in 2011 to 90. Markets also closed mixed with stocks off 3% for the week.

Questions call Paul @ 877 783 7080 or write him @ pstanley@westminsterfinancial.com. Share this blog with someone who cares about their money.