The Dollar Bubble

A lot has been written and said about our weak dollar. Advocates state that a weak dollar is good for our export business and rotten if you happen to be a retiree planning a vacation overseas.

That said, I say, 'Phooey on both.' I'll explore what I mean in a later blog. The big thing with the beaten up dollar, that Treasury Secretary Geitner is attempting to shore up or at least stabilize, is the carry trade. Carry Trade, you say? It sounds like something from a 1920s movie. No, that was carriage trade. Carry trade is when investors, usually banks and sovereign funds, borrow cheap dollars and buy higher yielding assets somewhere else. With interest rates at or close to zero our government is basically giving away money, and it doesn't look like they'll change their philosophy any time soon.

Investors use the difference between what they pay to borrow and what they buy to make billions of dollars in profits, almost a no-brainer. It is a form of arbitrage with virtually no risk.

The last time investors enjoyed such a run was when the Japanese yen was kept at artificially cheap rates and ran for a period of 12 years. The dollar may do the same, according to Richard Franulovich, a senior currency trader in a November 11th Forbes interview. In fact, Franulovich doesn't think that even if the United States hikes rates it will take years to get competitive with other countries. The carry trade may continue all the while.

Unwinding such complicated currency trades would be a global event and if circumstances changed quickly it could have serious implications. That is the real risk for everyone who is unmindful of global investment reality.

The sudden strengthening of the dollar would have carry trade investors scrambling to liquidate holdings. They would have to sell what they own to pay back the dollars they borrowed. The fallout from such a massive liquidation would have the same repercussions investors experienced in the 2008-2009 market sell off. Unwary investors would see their holding plummet in value, and for them it would be for no explicable reason. This added, unseen and unmindful risk is something investors with short-term goals need to be aware of. The problem is most investors, broker and 'so-called' planners are clueless to global economics. And, just in case you still don't get it- this is a new global economy.

Wall Street Shares Blame

• Time Magazine had a recent cover piece on why Main Street hates Wall Street. This certainly didn't take too much research since more than a few brokers are not too thrilled with the past and current shenanigans of certain banks, brokerage firms and government officials. Let's face it, writing about the poor relationship between Wall Street and the rest of the world is as easy as explaining why California hates Detroit. But it's wrong. The scribblers paint with a wide brush and not everyone in the business is culpable.

  This is like assuming every broker, planner or advisor is a Bernie Madoff. While its easy to blame someone else a lot of times people need to be responsible for their own investment actions. They lose money because they don't know what they're doing or place their trust with people that have no business investing other people's money.

  Let me share some of my experiences with you. One of my current best clients came to me because his neighbor moved. I am not making this up.

  When I first met Tom and his wife it was the mid0-90s and they had a tech-Internet heavy portfolio that when I met them they wouldn't let loose of until someone pried it from their cold...well, you know the phrase and then one day I got the phone call because as Tom explained, their next door neighbor moved and the neighbor had been giving Tom tips on what dot com junk to buy and sell. The neighbor sold aluminum siding or something for a living and was simply following the herd in his dot com recommendations and sharing his world of knowledge with Tom. What did the neighbor care what he told poor Tom what to buy and sell, it wasn't like it was his money to lose after all. When Tom and his wife discovered exactly what they owned and the risk they were taking with all their retirement money it was easy to convince them to move to safer more stable investments.

  Or, how about this one -Years ago I held a seminar and after the meeting a woman approached me with a huge welcome home, sailor, smile on her face, and told me she was planning on getting into the business (the investment business, dear reader) and she was going to do it as soon as she retired and offer her services to her friends and neighbors. I am really very good at picking solid investments, she boasted, showing me some top notch dental work. 'Really," I said, "who do you follow?' She gave me a blank look and finally after what must have been a full minute turned a lovely pink and said, 'I read Money Magazine.'

  And a few weeks back a senior client who has been with me for 15 years fired me because their 40-year old son had suddenly morphed into a financial genius, graduating from tightening bolts on stuff for a living, and was taking over their retirement plan investments. He helped pick our Medicare insurance,' the wife almost in tears told me as they were leaving. (That's a qualifier, huh?) Can anyone spell future disaster?

  Then there was, many years ago, a woman I was referred to who showed me some fancy annuity brochures and paperwork on several limited partnerships she had invested in. It was all the money she had in the world. I asked who was her broker and she told me it was a Detroit fireman who moonlighted as a broker. Ah ha! Which wasn't as bad as the school teacher who gave $100,000 to a fast food manager to invest for her. He too was moonlighting in the investment business.

  Finally there was the lady I had coffee with the other day who wanted me to be aggressive with her portfolio and buy Exchange Traded Funds. Why, I asked. 'People are getting rich buying ETFs,' she said. She had been an aggressive investor her entire financial life, she said, but lost big when the dot com bubble burst and again in 2008. But this time she knew it was different. When I asked he what she knew about ETFs she was stumped and didn't know the first thing except buy and hold was dead. The sad fact is someone will find her and take whatever is left of her retirement fund.

  So there are just a few examples of poor judgement and people who could blame Wall Street but Wall Street had as much to do with their losing money as I have qualifying for the next Olympics. Here's a few tips for finding someone qualified to help you:

  Make sure they work full time in the investment business and have a series 7 license to sell all products not just insurance and mutual funds.

  They carry Errors and Omission insurance and make them show you the certificate. Lots of people lie, unfortunately.

  You never write checks payable to the broker no matter what they say.

  Never simply buy a product, invest for the long term with a plan. Preferably it's a plan that you articulate not what they say you should buy.

  Finally, don't do business with someone that obviously makes less money then you do. Let the new brokers practice losing money on someone else.

Mutual Funds, The Supremes & Fees

By the time you read this the Supreme Court may have already decided on reducing the fees that the mutual fund industry charges its customers for managing their money.

The case is all about how much is too much. The entire magilla began when three shareholders of a certain mutual fund family filed suit stating that the average retail fund customer paid twice as much for the fund's management services as did the same fund's pension and institutional clients.

The mutual fund management responded that they did more work for the retail customer and therefore the higher fees. And, when you think about it if you manage a one million dollar pool of money versus a ten thousand dollar account it does make some sens that the larger account is the same amount of work, earns substantially more in fees even at the smaller percentage of assets.

Not so, pipes Jack Bogle, founder of Vanguard Funds, and a consumer advocate for low fees and index fund management. Fund fees have taken the wrong road and have gotten totally out of hand.The higher the fees the less the client is able to retain. Even the smallest increase becomes substantial over a period of 10, 20 or 30 years. This coming from a man who earned millions and millions selling the American investor on indexing; or what I call charging a fee for no active management. To me this is no different then Michael Moore poking fun at rich people while banking hundreds of millions from his books and movies.

Now before you get all giddy that the load mutual fund industry is getting their comeuppance I should mention that the mutual fund in question is a no-load. The lead manager of the fund took home $12 million dollars in 2002 as compared to the average fund manager who earned some $800,000. The year in question was a rotten year for investors who lost 22% if they had invested in the S&P 500 but lost 14% if they had invested with the fund in question. So was the fund manager worth all that money? Probably not, but that's a question for investors and the Board of Directors to deal with and not the Supreme Court.

Giving a win to the shareholders is going to open a Pandora's Box of misery for the entire fund industry. Lawyers will declare open season on all funds before you can say Jiminy Cricket. And Harvard law professor Jesse Fried agreed by saying the Supreme Court victory would keep costs down by having plaintiff attorneys monitor fund company compensation structure. That's a nice way of saying it'll be feeding time at the shark pool.

This could be more about clamping down on income earned by money managers then it is about mutual fund's expense rations. If that is indeed the case the money management talent will move to where they will be fairly compensated.

In the end you have to wonder why these fund shareholders picked this fight when there are thousands of fund choices out there where they could invest their money, many offering identical services at less cost? Make no mistake if the activists win the average fund investor will lose with higher fees going to lawyers to protect the fund's interest.

Navigating Inflation

If you didn't study history you would think that inflation would have been the fallout during the Great Depression of the 20s and 30s. Inflation was actually non-existent from 1920 through 1939. In fact the average annual inflation rate for the 1920s was a measly 0.08% and a negative 1.94% for the 1930s.

Inflation, defined as an increase in the price of goods and services, wasn't a problem through WWII, the Korean conflict, the decade of the hippie(Puff the Magic Dragon) until the decade of the 1970s when it soared in excess of 7% per year and continued through 1982. It coincided with the Nixon decision to remove the dollar from the gold standard.

The primary benefit of the Gold Standard was that it guaranteed long-term price stability. In other words real monetary policy could not be manipulated by central banks as long as they were on the Gold Standard. Unemployment was an issue under the Gold Standard but inflation wasn't.

Consumer Price Index is not the same as inflation even though people quote and even confuse the CPI number as the rate of inflation. The CPI math calculation uses sleight of hand in crunching the numbers. The government uses an arbitrary year as a base year to set the base number 100. Everything is then calculated off that base year. Currently it is 1984 but a few years back it was 1967. The CPI is calculated every month based on a basket of products but does not include food and energy which gives a false reading as both are items used by all of us including those living on fixed incomes.

Government like a little bit of inflation. It shows the economy is growing. Wages almost always lag all other inflation indicators which is the biggest reason that people never feel like their making headway or living any better today then they did yesterday even though they have bigger cars, homes and toys then they did a decade or two back.

Contrary to wide spread belief inflation will not drastically impact every lifestyle when it does arrive. Those most affected will be those that need to buy goods and services such as the young and middle-aged adult with children. College education, health care, new mortgage interest, energy, utilities and food will increase in cost. But if you are retired and do not need to buy new appliances, cars and furniture while not sending kids to college, inflation will impact you modestly.

Retirees can prepare themselves for an almost certain inflationary period by eliminating all variable debt in exchange for fixed (including home mortgages), purchasing needed major appliances, cars and furniture now and making sure they do not lock in long-term fixed interest savings.

Energy and food expenses will certainly be problems for many retirees. However with some adjustments to current savings and investments those increases can be nullified. The biggest challenge will be for retirees to recognize and accept changes in their investments and savings. Something probably more difficult then anything peace negotiators in the Middle East have encountered.

Market Correction?

It's a confirmed Bull market, baby, you can take it to the bank. The guys in Washington have said the recession, depression, whatever they call it is over and all signals are that this running Bull is going to continue until it blows right through 14000 on the DJIA and head to 36000.

Really, Paul?

Nah, I'm having a little fun, dear reader, because there's been a lot of euphoric talk and whenever I hear grown men giggle and politicians starting to take credit for a job not yet finished I know something not so good is about to happen.

There was a recent article in one of the financial newspapers I receive written by someone who said he knew what he was writing about and he predicted a straight line recovery, an express to the penthouse, because, he said, the market collapsed nose first and it is only logical to assume it'll do the same coming back. It's the old straight down-straight up theory of investment management.

I am here to tell you that this was not a nose first market descent but it took almost a full year and a half. It didn't happen overnight, though we may think it did.

The same was true with the 2000 Internet bubble. It took two years to find a bottom and almost five to move back up before it started to fall apart again.

How do I know this? All you need to do is look at a chart of the S&P 500 and in March 2000 the index was 1527 before it tumbled and in October 2007, its most recent high was 1565 before making the trek down to where it is today. Whoever said that the markets nosedived and would quickly recover the same way has been too lazy to simply look at a chart that clearly indicates a market that took almost 1 1/2 years to find the most recent bottom.

Students of our domestic economy know that recessions last on average 16 months and periods of economic expansion average almost four years before pulling back.

We're almost a decade beyond the folly of the Internet bubble and we've yet to see the return of the NASDAQ high of 5132. No sharp V recovery for that market.

In 2008 the stock market didn't just fall off the cliff in one day. It started in 2007 and weakly crawled into 2008. Back in early 08 we were told that we'd be out of the mild recession by the elections. The experts were wrong and what we had was a bigger mess than 1987 and 2000 combined. This wasn't a sharply etched V but a slow slide that took almost two years to get to where we are.

Expect this recovery to slowly work its way through the mess banks and government created. It took years to make and it'll take another few years to get back where we once were. How do I know this? History, especially in markets, always seems to repeat itself.

A Bit of Good News Goes A Long Way

Professional money managers base their decisions on what to buy and when to buy on cold hard facts. Amateurs, for the most part, do their buying on hope and what their gut tells them. So far the amateurs are leading the markets higher, or so it seems because professionals shouldn't be acting like this.

Lat week the Aussies raised their interest rates and the markets responded by pushing equities, bonds and commodities higher. It's not supposed to work that way. Yes, we've seen the dollar get crushed lately, which should make oil sparkle, since it is traded in dollars. But, we shouldn't be seeing everything going up all at the same time, certainly not bonds and gold.

To give the investor their due their is a lot of money that has been idling on the sidelines and looking to be put to work. Any excuse to jump in seems to work. My concern is that gold is trading at all time high this year. This increase is signaling inflation, and seems to be sustainable while bonds are also holding their own. Bonds, if there is inflation, should be pulling back while gold should keep on trucking. That's not what happened and something has to give. Either we're seeing the a glimmer of inflation or we're not.

Our domestic equities have also held their own, moving higher as the dollar losses ground. Stocks in the S&P 500 are multi-national, meaning they make money here and there and everywhere. A weak dollar works just as well for our domestic based companies as it does for our overseas friends when the dollar goes kaput.

Geithner and Bernanke both agree we need more stimuli to get our economy percolating rather than a rate hike. Unemployment is predicted to hit 12%, home sales and prices are weak, commercial real estate is near life support, retail sales are anemic, workers have not seen their wages increase even though manufacturing had a touch of an increase but just a touch, and to be blunt we're not out of the woods by any stretch of the imagination. Increasing interest rates at this point is probably the last thing on this administration's mind. The economy is still fragile and while the investment folk like to point out that they 'look ahead' six months when making their buying or selling decisions there doesn't appear to be a lot of really great news on the horizon unless you do what the Wall Street folk appear to be doing which is squinting really hard and keeping their fingers and toes crossed.

The Aussie rate hike doesn't look like it'll start any stampede to higher rates by other central banks, although it did give a boost, of a sort, to the markets for a day or so.

Capital Marx

Back in the day, I'm talking 1960s not the dark ages, a lot of professional ball players had to have off-season jobs in order to make a living. They just couldn't make ends-meet with what they earned playing baseball, hockey, football or basketball. When the season ended they painted houses, worked construction and a few even sold life insurance. If the team won a championship it was highly unlikely the player could take the rest of the year off and bask in their celebrity status.

Detroit Tiger Hall of Famer Al Kaline, during his peak years, turned down a contract for six numbers because he didn't think he was worth it. Today some ball players get paid that much in a week and couldn't carry Kaline's dirty socks.

Which brings me to today's rant and the compensation of some corporate CEOs and the lack of value they bring to shareholders. These are the leaders that only know how to increase their corporate bottom line by firing employees, slashing benefits and selling off divisions. For this the top-level execs are compensated extravagantly and totally out of whack with reality.

Neill Minow, co-founder of The Corporate Library, an independent research firm, met with Treasury Secretary Geithner this past summer to discuss this exact subject of executive compensation.

She talked to Geithner about what the management at Citigroup was planning, earlier this year, to increase compensation to certain employees by 50% because of government mandated reduced bonuses. This was sort of a mulligan for loyal execs. Citi, which was close to first in line for TARP, and now a wholly owned government subsidiary, is not the only company not caring about shareholder value. Minow proclaimed that what Citi planned on doing was, '...doing more to destroy capitalism than Marx.'

A.I.G., another bailout poster child paid out $165 million to employees in the financial services division, the same folk who helped bring us the 2008-2009 recession. How does anyone justify this, asks Minow.

Many of us remember the lack of responsibility and run-away destruction at K-Mart that destroyed the retirement of thousands of employees and left shareholders with nothing. Not only was the leadership incompetent the same was true of the Board of Directors that did nothing to stop the corporation's eventual bankruptcy.

Minow has made significant leadership changes at American Express, Kodak, Waste Management and confronted Sears to implement improvements in their company's stock plan.
Manow cannot do this work alone. As investors it is our responsibility to ensure that we invest in companies that are responsible in all phases of their business and if we buy mutual funds to make sure that fund management is pro-active in demanding CEO and Board of Director accountability.

Failing that as consumers we vote with our pocketbooks and that certainly is something all businesses understand.