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  Quotations - Invest  
[Quote No.30111] Need Area: Money > Invest
"Oversold does not necessarily mean undervalued." - Alan Kohler
Respected Australian financial journalist.
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[Quote No.30112] Need Area: Money > Invest
"[Mike] Smith [ANZ bank chief executive] says investors in Australia's major banks can kiss goodbye to the days when banks reported return on equity of 20 per cent or more every year. Instead the new benchmark would be about 15 per cent. While return on equity falls the need for more equity will become more critical. Smith says ANZ will now be aiming for a Tier 1 capital [adequacy] ratio in excess of 8 per cent. Tier 1 capital is the core capital that is available to a bank as a buffer for unanticipated losses. It is usually expressed as a ratio of risk weighted assets. Australian bank capital ratios are enforced by the Australian Prudential Regulatory Authority, which is one of the more conservative bank regulators in the world. Prior to the credit crisis, banks had Tier 1 ratio targets of 6.5 to 7.5 per cent. ANZ has a minimum Tier 1 target of 7 per cent. Its Tier 1 ratio was 7.71 per cent at September 30 [2008] and will rise to 8.09 per cent following the underwriting of ANZ's dividend reinvestment plan (DRP)... A further twist on the capital position was a question about whether higher capital would protect the bank from the increase in impairment and losses on existing loans. Smith said ANZ was conscious of the need to guard the bank against slowing economic growth and that was why the collective provision had been increased in 2008 to $818 million, compared to $83 million in 2007. The collective provision now stands at $2.8 billion or 1 per cent of risk-weighted assets of $275 billion. The discussion about capital led to questions from analysts about ANZ's dividends in both absolute terms and relative to earnings. Smith's message was that while dividends in cents per share were unlikely to be cut the payout ratio would almost certainly have to fall as the bank built its capital. He said the market could not have put up with a dividend cut in 2008 and that was why ANZ had kept its dividend steady in 2008 at 136 cents a share. 'I think at the moment I would rather keep that (the dividend) as it is,' he said. 'There are an awful lot of shareholders that like the yield'." - Tony Boyd
Published in 'The Business Spectator', 23 Oct 2008.
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[Quote No.30113] Need Area: Money > Invest
"Should governments intervene in markets to dampen down asset booms with tighter monetary policy, etc? Would this stop market crashes, asset depreciation and credit crises? John Maynard Keynes, the famous economist and 'Father of Keynesian Economics' that promotes government intervention in 'free markets', in his book 'The General Theory of Employment, Interest and Money'(1936) in Chapter 22 states, 'The right remedy for the trade [business and share market] cycle is not be found in abolishing booms and thus keeping us permanently in a semi-slump; but in abolishing slumps and thus keeping us permanently in a quasi-boom.' This view-point is not surprisingly supported by most governments as they profit from increased government revenues and increased popular political support in the boom years and therefore have little incentive to do otherwise. Recent US Federal Reserve Chairman, Alan Greenspan after making a tentative attempt at bubble management with his famous 'irrational exuberance' speech in December 1996, decided that it was just 'too hard' [although successful value investors do it regularly] to differentiate a bubble from perfectly rational exuberance until after it had burst, so the Fed should stick to cleaning up messes. As he said in 2002, 'If the bursting of an asset bubble creates economic dislocation, then preventing bubbles might seem an attractive goal. But whether incipient bubbles can be detected in real time and whether, once detected, they can be defused without inadvertently precipitating still greater adverse consequences for the economy remain in doubt.' The argument against this is that when booms proceed for too long and go too high, the risk of catastrophic downturns which become difficult, if not near impossible, to fix increases. An example would be the 2008 sub-prime loan debacle, credit crisis, asset deflation, stock market crash and expensive government bailout of financial institutions around the world. An agency problem exists here where the people who are making the decisions to let a boom run - that is politicians and central bankers, will not be the ones who pay for the eventual mess - that is the general public and investors. In October 2008, Alan Greespan testifying before Congress admitted as much saying that he was in a state of 'shocked disbelief' over the credit crisis brought on by his championing of loose monetary policy [and therefore too low interest rates]. 'With ... home prices rising, delinquency and foreclosure rates were deceptively modest. Losses were minimal. To the most sophisticated investors in the world, (mortgage securities) were wrongly viewed as a ‘steal’ [and therefore adequate risk premiums were not required and the Federal Reserve did nothing to dampen the enthusiasm]. The old proverb, 'An ounce of prevention is worth a pound of cure' seems appropriate advice for future Chairs of the Federal Reserve. So perhaps the best course of action for citizens and investors is not to rely on market prices to accurately reflect long-term value or for governments and central banks to manage an economy for their long-term good. Rather for them to focus on self-reliance, take a highly sceptical view about markets and governments, interventionist or not, and consider following the value investing philosophy, which through its focus on safety paradoxically usually achieves greater long-term returns than the alternatives." - Seymour@imagi-natives.com

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[Quote No.30117] Need Area: Money > Invest
"[The 2008 bear market had incredible volatilty with 800-1,000-point swings up and down on the DJIA in October. So much so that one journalist wrote:] Really, this is not a bear market. It's a great white shark market. This is a Jaws market. Rallies are nothing more than churning chum in the water. It's as if you were to dip your toe in and get your foot bitten off. Swim at your own risk. So let's remember the beaches of Amity [from the horror movie, 'Jaws']. Is there any reason to stay in the water when a mean, hungry shark is out there? In the same vein, is there any reason to stay in the market right now? Would you be better off just selling out and converting it all to cash? Why turn yourself into shark bait, right? But still, if you sell out now, it will be for a low price. Lower than in the past, that's for sure. Then again, if you buy stock, it will also be for low prices. Certainly, almost every share of stock on every exchange is selling at lower prices than in the past. But what about the future? If you can buy low now, is it possible that you might be able to buy even lower in the future?" - Byron King
Financial journalist
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[Quote No.30118] Need Area: Money > Invest
"My experience through the last [recessionary] downturn is that it [the sequence of industry bankruptcies and distressed sales] invariably starts on the Gold Coast [which has an economy based significantly on tourism and discretionary spending] and Queensland, then it tends to move into tourism generally, then from tourism to the clothing and textile industry although we’ve had a reorganisation of that, and then ultimately into retail and of course you’ve got the corresponding drop of commercial property and then you have the drop in domestic property as people liquidate homes to meet guarantee obligations." - Leon Zwier
A litigation laywer and partner with Arnold Bloch Leibler. Published in the 'Business Spectator', 24th October, 2008.
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[Quote No.30119] Need Area: Money > Invest
"[Here is an interesting article that explains the effect on consumer spending of government fiscal policy and central bank monetary policy to stimulate the economy in the face of a looming recession:] We were surprised to see that underlying inflation increased in the September quarter. With the March quarter printing 1.2 per cent and the June quarter printing 1.1 per cent we expected that the slowdown in the economy, which has been very clear through 2008, would have caused some further modest moderation in the underlying measure in the September quarter. In the event underlying inflation actually increased to 1.2 per cent from 1.1 per cent in June. That would have unnerved the Reserve Bank although it is reasonable to assess that inflation responds to slowing demand with a longer lag than the six months that may have been expected. The Governor's speech on Tuesday set out the Reserve Bank's position that inflation would fall in 2009, so until the first print of 2009 inflation was available (April 22) the Bank would be 'free' to focus on policies to avert the recession rather than targeting inflation. That plan coincides with our own view of the policy schedule. We think the Bank will aim to bring rates marginally into the expansionary zone by the first quarter of 2009. The stance of policy will be determined by the level of the variable mortgage rate rather than the cash rate. With the banks having tightened mortgage rates by 50 basis points more than the net tightening of the RBA over the last two years the 'neutral' RBA rate will be 50 basis points less than previous assessments. We would assess the 'old' neutral at 5.5 per cent with the new neutral at 5 per cent. A target of 50 basis points below that 'new' neutral – 4.5 per cent – seems reasonable. That would imply two 50 basis point cuts in November and December to be followed by two 25's in February and March next year. We believe this will be the 'best' policy and is not inconsistent with the previous two easing cycles in 1996/97 (250 basis points to 5 per cent over 12 months) and 2001 (200 basis points over 10 months to 4.25 per cent). Due to the greater urgency of the global credit crisis, this easing cycle should be more rapid. The 275 basis points would be achieved in a seven month period from September to March. Markets are currently pricing in a 50 basis point cut on November 4 (yes, Melbourne Cup Day) when a large part of the market (Melbourne) has public holiday and the Sydney crowd has traditionally been in party mode. We expect the Bank will have to alter this arrangement next year because limited liquidity will risk an unanticipated market response to any 'surprise'. That 50 basis point cut, which is our view, has come back from the 75-100 basis point that had been priced in until last Friday. The risk is that the market takes even more out of the near term outlook. Since the last 100 basis point cut, when the market priced in that 75-100 basis point follow up, we have seen a number of relatively hawkish events. These include the government's $10.4 billion fiscal package; the banks' unexpected 25 basis point rate cut; the RBA Minutes which emphasised that the 100 basis point move should not be interpreted as indicating a new policy approach; the Governor's comments that another credit disaster was unlikely to occur; the message in the Minutes that the original rate cut recommendation was only 50 basis points; and the fall in LIBOR from 4.8 per cent peak to 3.5 per cent on its way back to a normal 2.8 per cent. These events all point to the risk that the next move could be only 25 basis points. We are not changing our call for 50 basis points because we believe that the best policy will be to move swiftly back into expansionary territory so monetary policy can complement fiscal policy in offsetting the undeniably potent impact of the global credit crisis. Our research indicates that the wealth effect will be one potent way in which the crisis will directly impact the Australian economy. In recent years Australians have increased their exposure to market linked forms of savings (direct equities and superannuation). At the end of September 2007 (near the peak of the market) Australians had increased their holdings of equities and superannuation to 270 per cent of household disposable income. That has now fallen to 200 per cent today. Estimates of spending behaviour indicate that for every $1 fall in the value of direct equity holdings households reduce spending by 9 cents; there are no estimates around for superannuation and we have assumed a conservative 5 cents. On the assumption of a 25 per cent permanent fall in the share market and a 15 per cent fall in the value of superannuation we expect spending to fall by 2.7 per cent in 2009 as a result of wealth effects. To offset that fall we need a decent increase in household disposable income which would accommodate a 'normal' rise in household expenditure. Interest rate cuts are an important boost to household disposable income given that job losses and weaker wages growth will be an offsetting drag. Our profile for monetary policy complemented by expected tax cuts will allow nominal household disposable income to grow by a 'healthy' 6 per cent. That would normally allow a 5-6 per cent growth rate in household spending. However with the wealth effect offsetting spending growth by 2.7 per cent we estimate household spending will grow by around 3 per cent in 2009. The savings associated with the wedge between income and spending growth will accommodate the drag on wealth that households have experienced. Without the expansionary monetary and fiscal policy the collapse in consumer spending growth would be an unnecessary drag on growth. In short, expansionary fiscal and monetary policy will be required to offset the growth drag from the credit crisis. One of the most potent sources of that drag is likely to be the wealth effect which will operate through equities and superannuation. Other drags on growth stemming from confidence, reintermediation and the flight of foreign capital will be a direct drag on business investment but that analysis is for another piece." - Bill Evans
Chief economist at Westpac [bank]. Published in the 'Business Spectator', 25th October 2008.
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[Quote No.30123] Need Area: Money > Invest
"When the post-mortems of the [current share market crash, looming recession and] 'crisis of confidence' begin, the role of the media will come under scrutiny. Almost every day there are some informed and plenty of uninformed judgements being made about the possibility of financial or corporate failures, recessions, or economic Armageddon. It's not that the media reporting of the financial crisis has been inaccurate; rather the concern is about the tone and balance of the reporting. When sharemarkets slump, there is saturation coverage with plenty of shots of worried investors or despondent traders. And we are frequently told about how many billions have been wiped off our savings. But when markets have rebounded, the news doesn't get the same prominence. The main worry in the current environment is not that share prices are falling, but rather that gloom and doom projections cause fearful consumers to pre-emptively tighten budgets and spend less and businesses to cut staff. That is, the gloom and doom forecasts turn out to be self-fulfilling." - Matt Comyn
General Manager, Commsec Research Report. Published 25th October, 2008.
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[Quote No.30125] Need Area: Money > Invest
"Big government is walking away as the knock-out winner over the private sector in the latest financial crisis. Washington spinmeisters have placed the blame for the crisis on too much capitalism and too little regulation, with no blame left over for Washington's own bad regulatory, monetary and tax policies. The solution offered by big government is even bigger [interventionist] government. If unchecked, the Washington 'fix' for the financial crisis would create its biggest power expansion since the New Deal." - David Malpass
Forbes Special Market Report: 10/22/08.
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[Quote No.30128] Need Area: Money > Invest
"Today [in October, 2008 with the current credit crisis, looming recession and government stimulus packages and lower interest rates] people who hold cash equivalents feel comfortable. They shouldn't. The policies that government will follow to alleviate the current crisis will probably prove inflationary and accelerate declines in the real value of cash accounts. [Therefore buy shares in good companies now while things look bleak, because successful investors buy low and sell high or in other words, they remember to...] Be fearful when others are greedy, and be greedy when others are fearful." - Warren Buffett
Highly successful value investor, Chairman of Berkshire Hathaway Inc, and one of the richest men in the world. Quoted in October, 2008.
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[Quote No.30129] Need Area: Money > Invest
" The art world is no longer a safe haven - Investors in stamps, jewels and wines may not escape the global economic downturn: Plunging stock markets have pushed many investors into alternative assets such as collectable items they hope will hold their value, but are they really recession-busters? The Royal Institution of Chartered Surveyors’ recent Art and Antiques Survey showed a decline in low to mid-range art and antiques in the third quarter of this year, although the super-rich continue to pay for high-end contemporary and rare pieces. The problem for investors seeking safety in collectables is that, unless they have some degree of expertise, they may be vulnerable to fads, fakes and fraudsters. For instance, Mike Hall, chief executive of stamp dealer Stanley Gibbons, said that during the boom years of 1975-80 'A lot of lower quality stamps were mis-sold by unscrupulous dealers and their value subsequently collapsed'. Remember that, unlike investments, there is no Financial Services Authority through which to seek redress. Those who take time to look into their markets can do well, though, on everything from books, wine and stamps to jewellery and photography. ART: Rics spokesman Andrew Davies of AXA art insurance says: 'There is an urban myth that fine art and antiques are recession-proof. This is wrong. This market lags behind the economic cycle by around a year to 18 months. So people should not rely on it. The bottom end of the market is dead. I went to an contemporary art auction last week where there were 283 lots and only 82 lots sold. That is appalling. Those that did not sell were in the £1,000 to £5,000 range.' Jason Butler, a partner at advisers Bloomsbury Wealth Management, is also sceptical, pointing to the knowledge you must attain or pay for to participate in the art market. He said: 'These assets are illiquid and there is no mechanism for providing a return, unlike the yield with bonds and dividends from equities. You may buy at the wrong time and have to wait years to make a gain. [There are some companies, for example in Australia, that rent out portfolios of art to the corporate sector that their clients have purchased giving their clients a guaranteed rental return for the first two years in the region of 7%.] BOOKS: 'Many are looking for the next JK Rowling with potential for growth in value in the future,' said Robert Harkins of bookseller Anderida Books (anderidabooks.co.uk). An author’s signature can make all the difference. Harkins said: 'JK Rowling signed only 1,700 copies of The Deathly Hallows. First editions of that are worth only the cover price but with a signature they go for upwards of £1,000. For most other authors it does not attract a great deal of value.' WINE: Fine wines have the advantage of enabling investors to drown their sorrows should prices prove disappointing. Joss Fowler at wine merchant Berry Bros & Rudd said: 'The past 50 years have seen the price for the top 20 Bordeaux chateaux rising around 10%-15% a year.' If you are thinking of collecting wine, Fowler said: 'Stick to Bordeaux, the top 20-30 chateaux and the best vintages at current prices.' Wine has to be stored in the right conditions to preserve its value. STAMPS: It is hard to scoff at some of the gains to be made from stamp collecting. There are various stamp stock indexes, of which the GB 30 Rarities is the most prominent. Hall at Stanley Gibbons said: 'It rose by 38.6% in the past year and that was during a period when other asset prices, such as houses, were collapsing.' He added: 'I have made a study of stamp prices going back 50 years and rare stamps in good condition have not gone down in price over that time.' JEWELLERY: Diamonds may be an investor’s best friend — as well as a girl’s — according to dealers who have seen rare vintage jewels surge in popularity. Keith Penton, head of jewellery for auctioneer Christie’s in London, said 'quality, great design and workmanship' are key elements in value and a good place to start would be with 'a classic piece such as an art deco diamond bracelet or diamond ear studs, which surpass the rise and fall of fashion trends'. A sale last Tuesday at South Kensington saw lots selling from £500 to £30,000, including a Fabergé brooch for £3,800, Penton said. GOLD, SILVER AND PLATINUM JEWELLERY: The Rics survey showed jewellery in general being only second after contemporary art in terms of demand although, as with other categories, there is greater strength at the top end of the market. Precious metals such as gold, silver and platinum have risen in price, in part because they are as a classic hedge against economic ills. Jewellery using these metals has risen with that sentiment but collectors tend to go for vintage or antique pieces up to the art nouveau and art deco periods. Classic pieces from the 1930s with the signature of Tiffany, Cartier or Van Cleef & Arpels are reckoned never to drop in value. PHOTOGRAPHY: Photographic prints have been rising against other collectable assets for some time. Francis Hodgson, head of photography at auctioneer Sotheby’s, said our familiarity with the medium is part of its appeal. 'With ceramics, for instance, you will have to have a certain expertise. Any one of us can appreciate a photograph,' he said. Of the market in general, Hodgson said: 'If you look at prices over many years they have held their value spectacularly well.' Evidence of this was shown in a sale at Sotheby’s in May. An album by Felice Beato of 75 photos of the aftermath of the Indian Mutiny of 1857 went for £96,500. It fetched £60,300 in 2000." - Stephen Spurdon
From the U.K.'s 'The Sunday Times' October 12, 2008.
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[Quote No.30140] Need Area: Money > Invest
"There are quite a few signs the Fed[eral reserve or any central bank] should look for when attempting to identify [stock market or real estate] asset bubbles, and reduce the risk of implosion. Consider these 10 elements to identifying bubbles in real time that the Fed, or anyone else for that matter, can use: --1. Standard Deviations of Valuation: Look for traditional metrics - valuations, P/E, price to sales, etc. - to rise two, then three standard deviations away from the historical mean. --2. Significantly elevated returns: The S&P500 returns in the 1990s were far beyond what one could reasonably expect. Consider the years around Greenspan's 'Irrational Exuberance' speech [and the percent return when the long-term average is 7%]: -1995 = 37.58%, 1996 = 22.96%, 1997 = 33.36%, 1998 = 28.58%, 1999 = 21.04% And the Nasdaq numbers were even better. --3. Excess leverage: Every great financial crisis has at its root easy money and rampant speculation. Find the leverage, and speculation wont be too far behind. --4. New financial products: This is not a sufficient condition for bubble, but it seems that every major bubble has somewhere in the mix, new products. It may be Index funds, derivatives, tulips, 2/28 Arms. --5. Expansion of Credit: With lots of money floating around, we eventually get around to funding the public. From Credit cards to HELOCs [Home Equity Line of Credit - an open-ended loan that is secured by real property], the 20th century was when the public was invited to leverage up also. --6. Trading Volumes Spike: We saw it in equities, we saw it in derivatives, and we've seen it in houses: The transaction volumes in every major boom and bust, by definition, rise dramatically. --7. Perverse Incentives: Where you have unaligned incentives between corporate employees and shareholders, you get perverse results - like 300 mortgage companies blowing themselves up. --8. Tortured rationalizations: Look for absurd explanations for the new paradigm: Price to Clicks ratio, aggregating eyeballs, Dow 36,000. --9. Unintended Consequences: All legislation has unexpected and unwanted side effects. What recent (or not so recent) laws may have created an unexpected and bizarre result? --10. Employment trends: A big increase in a given field - real estate brokers, day traders, etc. - may be a clue as to a developing bubble. While we can debate whether or not the Fed should intervene by popping bubbles, we an all agree that, at the very least, they [and government intervention] should not contribute to bubble inflation . . ." - Barry Ritholtz
CEO and Director of Equity Research at FusionIQ, an online quantitative research firm, former-Chief Market Strategist for Maxim Group, a New York Investment bank, managing over $5 Billion in clients assets. Quoted October 22, 2008.
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[Quote No.30141] Need Area: Money > Invest
"Booms and busts have followed each other like nights after days. [Like winters after summers]" - Henry Blodget
(1966 - ), American former securities analyst who was senior Internet analyst for CIBC Oppenheimer during the dot-com bubble.
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[Quote No.30142] Need Area: Money > Invest
"In 2008, as credit and stock markets crashed, the currencies of the U.S. and Japan rose, while most other countries fell. Since both these countries were in recessions this was surprising. That is until you understand that the long-term outlook for the other countries was worse and that these countries could at least be expected to be safe havens for cash during the coming global recession. Another important reason was that for many years hedge funds had cheaply borrowed money from Japan and the U.S. - called 'the carry trade' - in order to invest in other countries with faster growing economies, rising currencies, rising stock markets and higher bond rates, which was all part of 'globalisation' and foreign investment - what is called 'hot money' as it won't necessarily stay in that country for ever. So when it became clear in 2007-8 that a global recession was on the way, due to the vast sums lost all around the world from write downs of now near worthless securitisations of low quality loans [America's sub-prime loan fiasco], these hedge funds started to lose large amounts amplified by their huge leverages [for example $1 equity to $10 debt and higher] and their investors wanting to redeem their investments, required these hedge funds to sell to have the money for them and to maintain their loan debt to equity ratios. Therefore there was tremendous demand for Yen and U.S. dollars as these were required to pay back the debt that had been borrowed in those currencies. This demand was the reason for the rise in their value. Another unusual occurance was that gold, normally a good investment in poor economic times, actually fell. To explain this it is necessary to understand that while many people were buying gold many more, including large hedge funds and institutional investors, were selling gold in order to have the cash to meet margin calls as well as massive investor redemptions." - Seymour@imagi-natives.com

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[Quote No.30143] Need Area: Money > Invest
"The noted British investor, Anthony Bolton, recently announced that he had started buying shares again, on the basis that we probably weren't too far from the bottom of the market. Part of his logic was that the average ratio of share prices to corporate earnings - what's known as the Price-Earnings Multiple [p/e] - never reached particularly high and stretched levels in the bull market that immediately preceded the current stock-market slumps. Unlike the late 1990s, when those price-earnings multiples went into the stratosphere because of mad expectations of the future profits to be generated by dotcom and tech businesses, the rise in stock markets from 2002 to 2007 was driven primarily by sharp rises in corporate profits [margins and volumes], rather than a massive and unsustainable rise in investors' optimism about prospective growth rates for those profits. On Bolton's logic, stock markets ought not to fall too much from where we are now, because average price-earnings multiples shouldn't need to be squeezed too much as an adjustment to the more challenging economic circumstances that companies (and all of us) face. That's the logic. But it only works if the earnings bit of the Price Earnings Ratios doesn't collapse. And that's been worrying me for some time. Because arguably the debt binge - the credit bubble that was pricked in August 2007 - was artificially inflating the sales [volumes], profits [margins] and per-share earnings of companies. How so? Well consumers and businesses famously bought and invested on credit that seemed cheap. And companies also reconstructed their balance sheets to take on more debt, again because debt seemed much cheaper than equity, so by borrowing more in this way - what's known as gearing up - there was an automatic enhancement of earnings per share. To recap, in the upturn the boom in corporate sales, profits and earnings per share were all magnified by the borrowing binge. So here's why there may be no comfort to be had from the apparent reasonableness of bull-market corporate valuations, the relative narrowness of price-earnings multiples. The earnings bit of that ratio may have been significantly and unsustainably inflated by the borrowing binge: the debt bubble may have precipitated an earnings bubble. Now, as you all know, banks and other creditors want their money back, in a vicious process known as 'deleveraging'. Companies that borrowed a great deal are now ruing the day - because the cost of their credit, if they're perceived to be vulnerable to the economic downturn, has soared. And few consumers or business want to borrow to spend any more. Profits are now being mullered [crushed] in the vice of high and rising interest costs and falling sales. In just the past few hours - as we've had official confirmation that the British economy contracted by a bigger-than-expected 0.5% in the three months to 30 September - [and] we've had profits warning after profits warning from huge manufacturers coping with horrible trading conditions." - Robert Peston
BBC's business editor. Published 24 Oct 08.
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[Quote No.30148] Need Area: Money > Invest
"The Reserve Bank of Australia says it intervened to bolster the Australian dollar on Friday, after the currency tumbled to a five-year low. This was only the third time the central bank had intervened in the foreign exchange market to support the local currency since 2001. 'We provided some liquidity on Friday night,' a spokesman for the RBA said. 'Did we buy some Australian dollars on Friday night? Yes we did.' 'The FX market was very illiquid.' He declined to say how much the central bank had spent buying up the local currency. The RBA source said the central bank was not defending any key level in the Australian dollar, which fell to 60.55 US cents on Friday night for the first time since April 2003. The currency also fell to 55.10 Japanese yen during offshore trade, its lowest point since the end of World War II. 'We're not defending any particular level, we're providing liquidity,' the spokesman said. He said the central bank would intervene again if trading conditions were illiquid. 'If the market is illiquid we will be doing the same,' he said. Australia's currency has become what some dealers call 'the whipping boy' of global currency markets, as investors unwind a five-year-old carry trade: the practice of borrowing in cheaper currencies like the yen and Swiss franc to buy high-yielding Australian assets like local government debt. Until recently, Australian interest rates were among the highest in the developed world. More Intervention Seen Some analysts said the RBA would continue to intervene to try to calm the market for Australian dollars and shore up confidence in the local currency. 'The RBA has a good history of providing liquidity during period of erratic price movements in the Aussie dollar and I do not see the last action as more than that,' said Robert Rennie, chief currency strategist at Westpac [bank]. Treasurer Wayne Swan said the decline in the Australian dollar could bring some benefits to the economy, providing some relief to exporters and the tourism industry. That would be some cushion to the economy as signs point to a slowdown, economists said. 'It's generally positive for companies because a lot of our exports are priced in US dollars,' said Eric Betts, equities strategist, Nomura Australia. 'So it will offset some of the impact of the commodity price slump. It will also help the manufacturers because they compete with imports. It will also help inbound tourism.' The government has already announced measures to cushion the economy from the global slump, including a stimulus package to help households and a guarantee to shield local bank deposits from the credit crisis. The guarantee, however has thrown the savings industry into crisis as investors fled managed funds and foreign banks for the relative safety of domestic banks. On Monday, Colonial First State Global Asset Management, a division of the Commonwealth Bank of Australia, became the latest to suspended withdrawal from some funds as the flight to local bank deposits continued. Still, economists said the fall in the Aussie would help many Australian exporters such as CSL Ltd, Foster's Group Ltd and Amcor Ltd, when they convert overseas earnings into Australian dollars for reporting profits. 'There are many more winners than losers,' said UBS equity strategist David Cassidy. 'It's a massive boost for profitability,' he said. Australian miners, such as BHP Billiton Ltd, also rank among the country's biggest exporters, but their currency windfalls have to be weighed against slowing demand from their biggest customers, notably China. Canberra has already announced a $10 billion stimulus package while the RBA has cut interest rates by a stunning 100 basis points to six per cent to support households amid the global credit crunch. The RBA previously intervened in the currency market in September 2007, in the early days of the credit crunch, and in 2001, when the Australian dollar was worth less than 50 US cents." - Reuters/AAP
Published in the 'Business Spectator', 27th October 2008.
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[Quote No.30149] Need Area: Money > Invest
"The Deflationary Recession: If [economist] Nouriel Roubini is to be believed (and why shouldn't he be since his predictions about everything else have been spot-on), because of the decline in oil and other commodity prices and because 'the current recession is likely to prove more severe than any of the previous ten in the post World War II era' it has now become likely that the economy will face a deflationary period, with headline inflation falling below zero. This differs from a 'normal' recession in which inflation is still mildly positive. Bernanke has called this a 'deflationary recession,' and Roubini classifies it as 'stag-deflation.' [rather than stag(nation)-(in)flation] The monetary response could be a move to a zero or near-zero interest rate policy (zero limit bound, or ZLB). A deflationary recession poses certain special risks to the economy. Real interest rates can actually rise when nominal rates are zero (policy is ZLB) because they are equal to the expected rate of deflation, no matter how large it may be. For example, if someone borrows at 0% and deflation 5%, the real cost of funds is 5% because the loan must be repaid with dollars whose purchasing power is 5% greater than the dollars originally borrowed. This has the effect of making borrowing more expensive, with the obvious negative effects on all types of spending. One way to gauge the expected rate of inflation (or deflation) is by measuring the spread between Treasuries (nominal’s) with Treasury Inflation Protected Securities (TIPS). The spread between 5-year nominal’s and 5-year TIPS is currently -0.34%, which means investors expect prices to decrease 0.34% over that term. Even worse is the situation for those who already hold loans they can't refinance at lower interest rates because as the rate of deflation increases the cost of their loans increases, which can lead to a rapid rise in the share of bank loans that are delinquent or in default and ultimately to more distress in the banking sector including failures. During economy's worst encounter with deflation (at the depths of the depression in 1930-33) prices fell about 10% per year. This is why all central banks create of 'buffer' of inflation, which for the Fed is 1%-2% as measured by core PCE. Maintaining an inflation buffer zone allows a central bank to keep nominal policy rates well above zero, providing it with plenty of 'ammunition' to use in the event a drop in demand leads to deflation. Because a recession with deflation is a situation with much worse consequences than a recession with inflation ('normal' recession) the first line of defense, as Bernanke said in a paper from 2002, is aggressive policy aimed at avoiding it in the first place. We can therefore view all of the actions taken by the Fed (and other central banks) as being directed towards avoiding a deflationary period. Unfortunately, we can also say that the risk of severe recession coupled with deflation has increased even in the face of aggressive easing and liquidity policies." - Fusion Trading
Oct 26, 2008
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[Quote No.30150] Need Area: Money > Invest
"These [financial] crises don’t come out of nowhere. Usually they arrive because of a systematic increase in a variety of asset and credit bubbles, macro-economic policies and other vulnerabilities. If you combine them, you may not get the timing right but you get an indication that you are closer to a tipping point. [and that you should become more cautious and proactive:- de-risk and deleverage, develop contingency/exit plans and increase monitoring.]" - Nouriel Roubini
New York University economics professor, who predicted the 2008 credit crisis and share market crash.
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[Quote No.30151] Need Area: Money > Invest
"You'll know you've got to the bottom [of a share market crash] when stocks stop going down and in fact go up on bad news." - Jim Rogers
Legendary investor and commodity trader who co-founded the Quantum Fund with George Soros.
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[Quote No.30152] Need Area: Money > Invest
"I have seen every share crash since 1960 and every time property has followed, albeit that in 1987 it took two years. What happens is that buyers lose their jobs or have lower income; banks take a much tougher line on their lending terms and the economic downturn causes forced sales of property. After a big share fall, for the property market to fall is like night following day. Commercial property is falling because superannuation investors are cutting back exposure. The most vulnerable area of the housing market is expensive houses and holiday houses." - Robert Gottliebsen
Highly respected Australian financial journalist. Published in the 'Business Spectator', October 27th, 2008.
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[Quote No.30154] Need Area: Money > Invest
"Also high up the list of silver linings and lessons learned [from the 2008 credit crisis and share market crash] is the Fed’s apparent change of heart on the topic of bubbles in asset pricing. The breaking of the tech bubble set up the excess stimulus of 2001–03, which in turn created the housing bubble as surely as if a law had been passed that all house prices had to be marked up 50%. And now at last, there are signs of hope: signs that Bernanke is reconsidering: 'Obviously, the last decade has shown that bursting bubbles can be an extraordinarily dangerous and costly phenomenon for the economy, and there is no doubt that, as we emerge from the financial crisis, we will all be looking at that issue and what can be done about it.' So all the unnecessary suffering inflicted on us by short-sighted policies dictated by academic economists may not have been entirely in vain! However it is definitely not a done deal. Few academics change their minds, and few scientific theories founder on the simple facts. 'Science advances one funeral at a time' is how Max Planck expressed his belief in academic flexibility, but a suggestion that we use firing squads would seem mean-spirited. Already, Fed members are making the obvious point that interfering with investment bubbles as they grow by using the 'blunt instrument' of raising rates would likely 'in the short run curtail some economic growth!' But interfering with bubbles forming would not destroy growth, only postpone it, which is undesirable enough. Bubbles breaking, in contrast, reveal the destruction of wealth produced by the extreme misallocation of capital that has sucked so much investment into certain areas – dotcom start-ups, overbuilding of housing, hiring multitudes of real estate agents, and designers of elaborately structured financial notes, for example. And if the bubbles precipitate a true credit freeze-up, then some inputs into really useful investments may be lost forever: factories not built, education postponed indefinitely, and man hours wasted in unemployment. If we collectively become more leery of asset bubbles and their inevitable downsides, it will be a giant step forward. I am not too confident of the authorities, especially the Fed, but I am pretty confident that at least the rest of society will take the formation of asset bubbles much more seriously. We’ll take what we can get." - Jeremy Grantham
Legendary value investor, Chairman and Chief Investment Strategist of Boston money management firm, Grantham Mayo Van Otterloo (GMO). Quoted from his 'Quarterly Letter', Part 2 – October 2008.
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[Quote No.30156] Need Area: Money > Invest
"[Thinking about reversion to long-term mean values for profit margins and price earnings multiples is an effective way to help investors gauge where fair market value is and even when it has risen too high and is due for a fall as well as when it is too low and should rise:] We have a pretty good fix on fair values. For the S&P 500 we believe it is about 975 ±25. This is calculated, as always, by the simple technique of assuming that at fair price we will have a normal P/E ratio, and that profit margins will also be normal [following our big idea, namely reversion to long-term mean. A simple way for the average investor to do this is that, if the share market over decades has averaged price increases of only 7% a year compounded then using the Rule of 72 - which says it will take 72/(x% compound interest rate)= no of periods -years in this case- then the share market should double every 10 years or so. Studying a 50 year chart easily confirms this and therefore it's easy to extrapolate forward and see where fair value should be!! remembering that about 30% above and below this is the average extremes around this long-term mean/trend before share market reverts back to the mean often overshooting by 20-30%]. We also showed two weeks ago how typical it is for great bubbles to overrun badly. Usually we don’t invest our money on estimated likely overruns, but instead filter our money in slowly and hope to get lucky. After all, if stocks are attractive and you don’t buy and they run away, you don’t just look like an idiot, you are an idiot. Still we are informed by our work on overruns. So where are we this time? History says a 50%+ overrun has characterized the aftermath of the three important equity bubbles. I believe we could also come at this from a very different angle: We could work out what we think the likely range of profit margins is going to be in a severe recession, and then look at what multiples have historically been applied to earnings that are equally depressed. In a rational world, low profit margins would be multiplied by a high P/E and vice versa to normalize for the economic cycle. In a Bernanke/French and Fama world, the correlations would be -1 [i.e. directly opposite]. High margins would always be exactly offset by low P/Es and vice versa, so that the market would always sell at fair value or replacement cost. The market would thus always be efficient, and that chunk of the financial establishment that urges the buying and holding of index funds regardless of price would unarguably be correct. In the crazy real world, in contrast, we can’t even get the correlation sign right: it is positive .32, which means that high margins are multiplied by high P/Es and vice versa. Remarkably, this is particularly true at the extremes where the correlation rises. Thus in 2000, the equity bubble that Alan [Greenspan, former Federal Reserve Chairman] could not see forming sold at the highest P/E in history (35) multiplied by the highest margins in history! 1982, in contrast, sold at 8 times depressed margins. This double counting makes the market far more volatile than it needs to be by driving prices far above and far below efficient price levels. Exhibit 1 shows our series on U.S. profit margins [Average over 50 years of 5.5% with highs up to 7.5% and lows down to 3.5%]. This is a pretty dependable mean reverting series so you can be extremely confident that margins will come back to normal. What is easy to forget is that, of course, they spend half their time below normal. In the global conditions that we expect, S&P margins should fall below their normal levels by 20% to 40%. In 1982 and 1974, which were respectively quite severe recessions, profit margins fell by 36% and 39% below normal. Given the extreme current difficulties in the financial and economic scene, margins 36% to 39% below normal would not seem especially Draconian, but let’s be slightly friendly and predict only a 28% overrun this time. These diminished margins have typically been reflected in a below average P/E as discussed above. The historical expected P/E for profit margins depressed by 28% would be 15% to 20% below average; let us assume 17% below. This would give us a market selling at 83% of its normal P/E on profit margins that would be at 72% of their normal. This computes (.83 x .72) to be almost exactly 60% of fair value. Our current fair value estimate for the S&P 500 of 975 modified by a likely overrun of 40% would yield a price of about 585 in an environment of a quite severe economic and profit recession. If the global economy surprises on the upside, however, and somehow profit margins hang in, the result would of course be far less severe. Our conclusion, though, that the S&P is likely to bottom out in the 600 to 800 range within the next two years can unfortunately be seen as not particularly pessimistic from a historical perspective." - Jeremy Grantham
Legendary value investor, Chairman and Chief Investment Strategist of Boston money management firm, Grantham Mayo Van Otterloo (GMO). Quoted from his 'Quarterly Letter', Part 2 – October 2008.
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[Quote No.30157] Need Area: Money > Invest
"...have we learned what caused the Depression of the 1930s? Most important, have we learned enough to avoid doing the same thing again? The Depression began, to a large extent, as a garden-variety downturn [recession]. The 1920s were a boom decade, and as it came to a close the Federal Reserve tried to rein in what might have been called the irrational exuberance of the era. In 1928, the Fed[eral reserve] maneuvered to drive up interest rates. So interest-sensitive sectors like construction slowed. But things took a bad turn after the crash of October 1929. Lower stock prices made households poorer and discouraged consumer spending, which then made up three-quarters of the economy. (Today it’s about two-thirds.) According to the economic historian Christina D. Romer, a professor at the University of California, Berkeley, the great volatility of stock prices at the time also increased consumers’ feelings of uncertainty, inducing them to put off purchases until the uncertainty was resolved. Spending on consumer durable goods like autos dropped precipitously in 1930. Next came a series of bank panics. From 1930 to 1933, more than 9,000 banks were shuttered, imposing losses on depositors and shareholders of about $2.5 billion. As a share of the economy, that would be the equivalent of $340 billion today. The banking panics put downward pressure on economic activity in two ways. First, they put fear into the hearts of depositors. Many people concluded that cash in their mattresses was wiser than accounts at local banks. As they withdrew their funds, the banking system’s normal lending and money creation went into reverse. The money supply collapsed, resulting in a 24 percent drop in the consumer price index from 1929 to 1933. This deflation pushed up the real burden of households’ debts. Second, the disappearance of so many banks made credit hard to come by. Small businesses often rely on established relationships with local bankers when they need loans, either to tide them over in tough times or for business expansion. With so many of those relationships interrupted at the same time, the economy’s ability to channel financial resources toward their best use was seriously impaired. Together, these forces proved cataclysmic. Unemployment, which had been 3 percent in 1929, rose to 25 percent in 1933. Even during the worst recession since then, in 1982, the United States economy did not experience half that level of unemployment. Policy makers in the 1930s responded vigorously as the situation deteriorated. But like a doctor facing a patient with a new disease and strange symptoms, they often acted in ways that, with the benefit of hindsight, appeared counterproductive. Probably the most important source of recovery after 1933 was monetary expansion, eased by President Franklin D. Roosevelt’s decision to abandon the gold standard and devalue the dollar. From 1933 to 1937, the money supply rose, stopping the deflation. Production in the economy grew about 10 percent a year, three times its normal rate. Less successful were various market interventions. According to a study by the economists Harold L. Cole and Lee E. Ohanian, both of the University of California, Los Angeles, and the Federal Reserve Bank of Minneapolis, President Roosevelt made things worse when he encouraged the formation of cartels through the National Industrial Recovery Act of 1933. Similarly, they argue, the National Labor Relations Act of 1935 strengthened organized labor but weakened the recovery by impeding market forces. Looking back at these events, it’s hard to avoid seeing parallels to the current situation. Today, as then, uncertainty has consumers spooked. By some measures, stock market volatility in recent days has reached levels not seen since the 1930s. With volatility spiking, the University of Michigan’s survey reading of consumer sentiment has been plunging. Deflation across the [U.S.] economy is not a problem (yet), but deflation in the housing market is the source of many of our present difficulties. With so many homeowners owing more on their mortgages than their houses are worth, default is an unfortunate but often rational choice. Widespread foreclosures, however, only perpetuate the downward spiral of housing prices, further defaults and additional losses at financial institutions. The Fed and the Treasury Department, intent on avoiding the early policy inaction that let the Depression unfold, have been working hard to keep credit flowing. But the financial situation they face is, arguably, more difficult than that of the 1930s. Then, the problem was largely a crisis of confidence and a shortage of liquidity. Today, the problem may be more a shortage of solvency, which is harder to solve." - N. Gregory Mankiw
Respected Professor of economics at Harvard and author. Published in 'The New York Times', October 25, 2008.
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[Quote No.30159] Need Area: Money > Invest
"Was the crisis [present credit crisis and looming global recession] a result of unregulated 'cowboy capitalism'? Or did it have its roots in phony, government-regulated interest rates, which skewed corporate and personal incentives in favour of debt-based speculation? ...the seven-year up-trend in the Aussie-Yen currency pair has been completely reversed in the last three months. ...The currency pair is as good a symbol as any for what fuelled the global rise in speculation. You could borrow virtually for free in yen and invest in high-yielding currencies and assets. Those assets included Aussie stocks and the Aussie currency itself. The collapse of the yen and dollar carry trades is what's behind the plummeting Aussie dollar. ...It's obvious the current system is breaking down. Globalisation-made possible by cheap money and cheap energy-is contracting. You know for certain that governments, being blame artists, will blame markets. But it's not the market's fault. As with every bubble, from Tulips to the South Seas to the Mississippi Scheme, it's people who pervert markets. Sure, CEOs and corporations turned normal businesses into vehicles for private speculation. But that is a failure of management, not the market. More oversight by corporate boards and shareholders might have made for better discipline in risk taking. But discipline is exactly what people lose in a bubble. The credit bubble was remarkable because it leveraged the interconnectedness of global markets, allowing investors to borrow in weak currencies and invest in high-risk, high-yield assets. It wasn't a regional or even national bubble. It was the whole planet. But in its other essential features, it is indistinguishable from previous bubbles, manias, panics, and crashes. One of those features in fact, is how governments and bad regulations actually enlarge, prolong, and generally abet the bubble. And in this one, because everyone had a stake in its expansion, everyone has tried to keep it going. The best example of this is the determined allegiance to the dollar-pegged world financial system. The price of money is fixed by central banks via interest rates. For years, everyone followed the Fed's lead in the U.S. and set the price of money below rate of consumer price inflation. Australian mined. China produced. Europe traded. OPEC pumped. The U.S. spent. Global bubbles in all asset classes ensued. That is a failure of the highest order by the regulators of global interest rates. Now politicians see massive wealth destruction and blame free markets for screwing things up when it was the non-market price of money that touched off the crisis to begin with. ...keep in mind that the entire strain of the crisis in the U.S. was generated by a politically desirable outcome in residential housing. The original mis-allocation of investment dollars came about because politicians insisted that banks make loans to people who couldn't repay them. Market discipline was actively subverted by political opportunism. The U.S. set up Fannie Mae and Freddie Mac with preferential borrowing terms so those two could buy up mortgages originated by the banks. The banks could sell the mortgages quickly, which put them in the position to fund even more mortgages and expand 'home ownership' in America. We all know how that's working out. Median U.S. house prices continue to fall. The loans made to finance those homes are going bad. The securities made up of bundles of those mortgages are rotting, taking bank capital with them. And insurance sold against default in them is putting the sellers of that insurance into great difficulty. Europe, for its part, has a brewing problem in emerging market debt. Austrian banks are exposed to sovereign emerging market debt to the tune of 85% of GDP. Swiss banks have emerging market debt equivalent to 50% of GDP. It's 25% in Sweden, 25% in the U.K., and 23% in Spain. If more emerging markets go the way of Iceland and default on debt or go bankrupt, Europe's banking system faces major trouble. Just what we needed. More trouble." - Dan Denning
Australian financial journalist. Published in 'The Daily Reckoning - Australia', 27 October 2008.
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[Quote No.30160] Need Area: Money > Invest
"If you can keep a 3 to 5 year view of investing, envisaging where your portfolio will be [then]... you’ll sleep better at night and be better placed than you ever could have imagined." - Alan Kohler
Respected Australian financial journalist
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[Quote No.30163] Need Area: Money > Invest
"On October 16 Warren Buffett wrote an op-ed in the New York Times called 'Buy American. I am.' Quoting from the beginning of the piece: 'THE financial world is a mess, both in the United States and abroad [with the credit crisis, stock market crash and looming American, U.K. Japanese and potentially global recession]. Its problems, moreover, have been leaking into the general economy, and the leaks are now turning into a gusher. In the near term, unemployment will rise, business activity will falter and headlines will continue to be scary.' 'So ... I've been buying American stocks. This is my personal account I'm talking about, in which I previously owned nothing but United States government bonds. (This description leaves aside my Berkshire Hathaway holdings, which are all committed to philanthropy.) If prices keep looking attractive, my non-Berkshire net worth will soon be 100 percent in United States equities.' 'Why? A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful. And most certainly, fear is now widespread, gripping even seasoned investors. To be sure, investors are right to be wary of highly leveraged entities or businesses in weak competitive positions. But fears regarding the long-term prosperity of the nation's many sound companies make no sense. These businesses will indeed suffer earnings hiccups, as they always have. But most major companies will be setting new profit records 5, 10 and 20 years from now.' [Let's explore his optimism in the face of so much pessimism?] I have repeatedly written, earnings, especially when seen from a valuation standpoint, are mean reverting. They will fluctuate around the long-term trend line. And interestingly, that long-term trend line is nominal GDP. (Nominal GDP includes the effects of inflation.) Total corporate earnings for any particular large country and stock market by definition cannot grow faster than nominal GDP (though individual stocks can do so). And since the S&P 500 is largely reflective of the US corporate world, earnings for the S&P 500 index will fluctuate around nominal GDP. ...there is a predictive element when we use nominal GDP. In other words, at some point in the future, earnings will grow back to and then exceed the long-term trend in nominal GDP. So, while we are [today with the credit crisis and looming global recession] in the process of dropping below the mean or below the long-term trend line of earnings in terms of nominal GDP, we can be confident that at some point in the future those earnings will again revert [to and then if history is any guide] above the mean. It seems to have been part of the economic laws since the time of the Medes and Persians. This has important implications for future values. ...[If you assume a 6% growth of earnings which is very close to the long-term rise in nominal GDP] ...at some point in the future earnings will once again revert to nominal GDP trendline [which at 7% doubles every 10 years following the rule of 72/(compounding interest rate per year)= no of years to double], then we can make some projections about what earnings will be in the future, or at least what 'trend' earnings should be! ...What happens if stock market earnings revert to the mean in either 3 or 5 years? [and] P/E ratios once again rise back to 22.5. From last Friday's close, such a reversion would yield very handsome returns: 23.5% compounded for 3 years and 15.9 % for five years. If you believe like Buffett that US earnings will revert back to (and above) the mean, then that suggests this is a time to buy, if you are buying for the long term. " - John Mauldin
President of Millennium Wave Advisors, LLC (MWA), which is an investment advisory firm. Published in his weekly e-letter, 28th October, 2008.
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[Quote No.30164] Need Area: Money > Invest
"[The Australian share market has lost 17.2% of its value this month, and 43.2% over the past year.] Never has the sharemarket in Australia fallen this far without at least one quarter . [Two quarters of negative gross domestic product are necessary for it to be called a recession.]" - Joshua Williamson
TD Securities senior strategist. Quoted in October, 2008.
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[Quote No.30171] Need Area: Money > Invest
"[Each person's superannuation can be looked at a bit like the experience of Daniel Dafoe's 'Robinson Crusoe' character, which was based on a real person, as well as being a great story about self-reliance.] ...if you were stranded on a desert island for ten years, what stock would you want to own for that ten years? Crusoe, in point of fact [in the story] ...was stranded on his Island of Despair for twenty-eight years -which is plenty of time for the eighth wonder of the modern world (compound interest) to work on your behalf. For example, a lump sum of $10,000 invested for 28-years, compounding annually at 8%, would become $86,271. Granted, Crusoe needed to find an investment that compounds at 8% annually, no small feat. It's a little easier if you have more time, where you can survive the cycles that take markets up and down. But assuming he could do so, let's also say he set up a trust before being cast away. That trust, on top of the original $10,000, invested another $1,000 each year for his twenty eight years of captivity. How does he fare then? Remember, time is the great friend of the power of compounding. The more time you have, the more magic even a modest rate of compounding works. If Crusoe starts with $10,000 and puts in an additional $1,000 each year for the rest of his twenty eight years, he leaves the Island of Despair with his man Friday to a Kingly sum of $189,237-an increase of 1,792% from his original nest egg. Now, you might say a man would be hard pressed to live off the income from $189,237 for the rest of his life. And you'd be right. He would need to start with a bigger principal or get a higher rate of compounding (which would involve more risk). But if he were counting on turning that $10,000 into his old-age pension, that man would probably have to draw down his principal too to survive, eroding his annual income. He'd be in a strange kind of race to make sure he didn't outlive his savings, but also that his savings didn't outlive him. Back in the real and modern world, the key is not just making money on your money via compound interest over time. The key is investing in assets that compound your return at an even higher rate without exposing you to inordinate risk. How did Crusoe manage that? He owned farmland in Brasil. Prior to his disastrous voyage (he was sailing to Africa to buy slaves, so in a metaphysical sense he got what he had coming), Crusoe set himself up in business growing sugar, tobacco, and molasses. When his business partners showed him his accounts after twenty eight years, his farmland had dramatically increased in value. But how? First, it steadily increased annual production with small improvements in technology. Second, his farm produce increased in value as well. Timber, sugar, molasses, and tobacco-all these went up in price as the New World became more populated and commercialised. People like drinking, smoking, baking, and sweets. If you think about it, Crusoe's accidental investment strategy had at least one thing in common with Warren Buffett's deliberate [share market] strategy: he invested in assets that generated lots of cash flow, but did not require huge capital investment. These were also assets that were capable of big annual increases in earnings without [the need for additional] access to capital." - Dan Denning
Australian financial journalist. Published in 'The Daily Reckoning - Australia', 28 October 2008.
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[Quote No.30172] Need Area: Money > Invest
"I've made a fortune by selling too soon. [Even though everyone else is still buying shares, I have decided that the market is too much over the long-term average price performance/trend line and will soon revert to the mean so it is best to get out before the fall which can be very sudden.] " - J.P. Morgan
Highly respected early Twentieth century Wall Street banker.
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[Quote No.30183] Need Area: Money > Invest
"[Here is an article that goes some way to explaining why market booms happen and the emotions generated when they crash:] The masks are coming off. It's the end of the party, now we get to see what people really look like. And it's not a pretty sight. You'll recall that one of the fairest of the Bubble Era's revelers was the idea that, over the long run, you would make money in stocks. All you had to do was 'buy and hold.' Who didn't like her? She seemed so easy...so willing...so fetching and attractive. Yesterday, the Dow lost another 203 points. Investors are down 44% so far this year. Worldwide, they've lost $10 trillion this month - far worse than the crash of '29. The most successful economy of the 20th century was the United States of America. The second was probably Japan. It rose from the bombed-out ruins of WWII to become a worldwide export powerhouse, dominating the auto and electronic equipment industries. But yesterday, stock prices in Japan fell to more than a quarter-century low. Investors in Japanese stocks ... have made nothing in 26 years. Here's the press report: 'Tokyo's Nikkei 225 index closed down 6.4 percent to 7,162.90 - the lowest since October 1982 - with exporters like Toyota Motor Corp. and Sony Corp hit hard. The losses came despite a report that the government was considering massive capital injection into struggling banks in a bid to calm jittery financial markets.' 'Decades of pain and still no relief,' adds the Financial Times, noting that investors in Japan have been waiting for a recovery for the last 18 years. With the mask off, stocks in Japan are giving investors a Halloween fright. But what other masks are coming off? How about the sweet mask worn by housing? 'Housing always goes up.' And, 'you can't lose money in property.' Remember those beauties? Those masks hit the floor a year ago. Since then, the whole world has looked at the property market and gasped in horror [Houses in U.S. and U.K. have lost between 20% and 40%]. How could houses be so ugly, homeowners have wondered; they look like they just woke up. Oh and there's oil...down to $63 yesterday [it was U.S. $150 four months ago]. Oil was supposed to go up forever. At least, that was one of the favorite masks of the late Bubble Era. But there are still a few Bubble Era masks that have not yet come off. In fact, the belle of the ball is the mask on 'progress.' People still believe that the world grows and improves - if not steadily, at least episodically. It's certainly true that long periods of history show what appears to be economic progress. Things get better. But occasionally, something terrible happens - plagues, wars, revolutions, Great Depressions and Dark Ages. Then, the world turns backward. The bull market in progress turns into a bear market of progress turns into a bear market of backsliding. Today, people are losing faith in stocks and housing...but they still have faith in progress. Just a few months ago, they thought capitalism would make them rich. But wicked capitalism has disappointed them badly; it didn't guarantee rising asset prices after all. So, now they turn their sad eyes to the feds. 'Oh ye all-knowing, all-seeing, all-powerful ones...hear us. Save us - from capitalism! They figure the feds will do the trick... And sure enough, all over the world the federales are playing along. The G7, the IMF, the central banks, the finance ministers and Treasury Secretaries - all have put on their own masks...strutting around, pretending to know what they are talking about. Curiously, France's president Nicholas Sarkozy is a leading strutter. He's trying to organize a New World Financial Order...based on something other than the dollar. These poseurs don't look too bad - as long as they leave the masks on. Take them off, of course, and you will see the same silly clowns who CAUSED the crisis in the first place. That is what is so amusing about this stage in the collapse of Western Civilization. You see, most of the world's financial press has come around; they see things much the way we do. They see, for example, that the U.S. Fed erred - big time - by fixing the price of credit too low for far too long. Of course, there's nothing in the Manual of Capitalism that allows the feds to fix the price of credit or support the housing market. This was the government at work, not the market. With the misleading signal coming from the credit markets, the capitalists just did what they always do - they overdid it. Still, the world's press, pundits and politicians have convinced themselves that the fault lies not in themselves...but in capitalism. And now, they expect the feds to do something about it. But that's just the way it works...one hallucination gives way to another. One delusion on the way up; another on the way down. Even star mutual fund managers are getting walloped by this market. Chris Mayer offers us a few examples: 'Managers with great track records are faring poorly, and it may help you feel better about how you are doing. Jean-Marie Eveillard, for example, has been running money for 50 years. He's beaten the market handily for a long time. He is a cautious type. He likes gold stocks. He likes Japan. He's down 27% this year. Robert Rodriguez, another cautious money manager who holds a lot of cash and runs FPA Capital, is down 29%. These are among the best of the best, as the market is down more than 40% this year. William Fries at Thornburg is down 43%. David Winters at Wintergreen is down 37%. Wally Weitz at Weitz Value is down 39%. The list goes on and on... 'So you see, nothing is really working well in this market right now - at least not for investors in stocks. However, there are a lot of cheap stocks out there, bargains I haven't seen in a long time. Unless the world comes to an end, which it has a habit of not doing, future investors will be a happy lot. Count me a cautious buyer of stocks.' Caution is the name of the game here..." - Bill Bonner
Bill Bonner is an author of books and articles on economic and financial subjects. He is also the founder and president of Agora Publishing, one of the world's most successful consumer newsletter publishing companies, and the founder and editor of 'The Daily Reckoning', a daily financial newsletter. This article was published in 'The Daily Reckoning - Australia', 29th October, 2008.
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[Quote No.30184] Need Area: Money > Invest
"I've found that when the market's going down and you buy funds wisely, at some point in the future you will be happy." - Peter Lynch
Highly successful fund manager and author.
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[Quote No.30185] Need Area: Money > Invest
"[Who or what is the major culprit of this 2007-8 financial crisis, credit crunch, falling real estate, stock market crash and looming deep and long recession?] First of all the Fed[eral Reserve] kept interest rates too low for too long and created the housing bubble. Secondly the Fed and the other regulators were asleep at the wheel and allowed all these toxic mortgages to be created without controlling it. Three, there was plenty of greed and excessive risk taking on Wall Street. And four, the rating agencies [of the toxic mortgages/sub-prime loan securities that were later found to be well below investment quality] had major conflicts of interest because they were being paid by those that they were supposed to be rating. So the blame is to be shared by many different culprits." - Nouriel Roubini
Economics Professor at NYU's Stern School of Business. 'Nightly Business Report', Tuesday, October 28, 2008.
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[Quote No.30188] Need Area: Money > Invest
"[With the large amounts of fiscal and monetary policy stimulation to cope with the 2008 credit crisis, share market crash and looming global recession, there has been a lot of talk of asset deflation followed by massive inflation:] So should we worry that this financial crisis and its fiscal costs will eventually lead to higher inflation? The answer to this complex question is: likely not. --First of all, the massive injection of liquidity in the financial system – literally trillions of dollars in the last few months – is not inflationary as it accommodating the demand for liquidity that the current financial crisis and investors’ panic has triggered. Thus, once the panic recede and this excess demand for liquidity shrink central banks can and will mop up all this excess liquidity that was created in the short run to satisfy the demand for liquidity and prevent a spike in interest rates. --Second, the fiscal costs of bailing out financial institutions would eventually lead to inflation if the increased budget deficits associated with this bailout were to be monetized as opposed to being financed with a larger stock of public debt. As long as such deficits are financed with debt – rather than by running the printing presses – such fiscal costs will not be inflationary as taxes will have to be increased over the next few decades and/or government spending reduced to service this large increase in the stock of public debt. --Third, wouldn’t central banks be tempted to monetize these fiscal costs - rather than allow a mushrooming of public debt – and thus wipe out with inflation these fiscal costs of bailing out lenders/investors and borrowers? Not likely in my view: even a relatively dovish Bernanke Fed[eral Reserve] cannot afford to let the inflation expectations genie out of the bottle via a monetization of the fiscal bailout costs; it cannot afford/be tempted to do that because if the inflation genie gets out of the bottle (with inflation rising from the low single digits to the high single digits or even into the double digits) the rise in inflation expectations will eventually force a nasty and severely recessionary [former Chairman of the Federal Reserve Paul] Volcker-style monetary policy tightening [to extremely high double digit levels of interest rates] to bring back the inflation expectation genie into the bottle. And such Volcker-style disinflation would cause an ugly recession. Indeed, central banks have spent the last 20 years trying to establish and maintain their low inflation credibility; thus destroying such credibility as a way to reduce the direct costs of the fiscal bailout would be highly corrosive and destructive of the inflation credibility that they have worked so hard to achieve and maintain. --Fourth, inflation can reduce the real value of debts as long as it is unexpected and as long as debt is in the form of long-term nominal fixed rate liabilities. The trouble is that an attempt to increase inflation would not be unexpected and thus investors would write debt contracts to hedge themselves against such a risk if monetization of the fiscal deficits does occur. Also, in the US economy a lot of debts – of the government, of the banks, of the households – are not long term nominal fixed rate liabilities. They are rather shorter term, variable rates debts. Thus, a rise in inflation in an attempt to wipe out debt liabilities would lead to a rapid re-pricing of such shorter term, variable rate debt. And thus expected inflation would not succeed in reducing the part of the debts that are now of the long term nominal fixed rate form. I.e. you can fool all of the people some of the time (unexpected inflation) and some of the people all of the time (those with long term nominal fixed rate claims) but you cannot fool all of the people all of the time. Thus, trying to inflict a capital levy on creditors and trying to provide a debt relief to debtors may not work as a lot of short term or variable rate debt will rapidly reprice to reflect the higher expected inflation. [Or in other words - if the United States had a high proportion of long-term fixed-rate debt, needing neither to refinance or access new borrowing, a 'capital-levy' inflation might work. But it does not - with Treasury skewing recent issuance not to 10- and 30-year bonds but to the short duration end of the interest rate curve, where financing has been far less expensive to obtain.]" - Nouriel Roubini
Professor of Economics at the New York University's Stern School of Business, who predicted the 2008 credit crisis and share market crash. Quote from October, 2008.
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[Quote No.30194] Need Area: Money > Invest
"Although prices are deemed to reflect consensus, it should be remembered that prices are determined not by the majority of shareholders, who are uninterested in buying or selling at the current temporary price, but by the tiny minority who are. [In a boom this minority are very optimistic. In a bust this minority are very pessimistic.]" - Charlie Munger
Lawyer and business partner of Warren Buffett, with the position of Vice-Chairman of Berkshire Hathaway Inc. Highly successful value share investor in his own right.
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[Quote No.30247] Need Area: Money > Invest
"People who claim to know keep telling me [in October, 2008] this is the worst financial crisis since 1930. But what does this mean? Does it mean this recession and bear market will be worse than those in the 1960s, 1970s, 1980s and 1990s? If that’s true then [the Australian] GDP will contract by more than 3.4% (that’s what happened in the worst post-war recession, 1982-83) and the [Australian share market] All Ordinaries will fall by more than 51.8% (which is what happened in the worst bear market, the 23 month horror of 1973-74). Beware all bottom-pickers, I say, including those whose credibility is apparently enhanced by the fact they picked the top last year. I have found no one who became bearish at precisely the right time. Every successful 2007 top-picker I have seen also picked the top in 2006 and 2005, and in fact had been gloomy for years and therefore missed several years of 20% returns. The gloomsters are going to miss the bottom, just as most of them picked the top about five times. On the other hand, the bulls who rode their bicycles over the cliff last November [2007] ... and then again in May [2008] and then again October [2008] are going to buy every bottom except the last one. That’s what Robert Gottliebsen calls the 'Day of No Hope' – it’s when everyone thinks the market has NOT bottomed. So don’t trust yourself, or anyone else, to recognise that day. If people think it’s the bottom, it’s probably not. You only know it’s the true bottom when nobody – including you – thinks it is. Far more useful is steady, careful buying on the way down, and a clear-eyed analysis of where we stand now – that is, the old SWOT. --Strengths: -1. The Government’s budget position. On Friday Treasury released the monthly budget position, and it showed that the fiscal surplus for the year to August was $27.8 billion, the highest on record and $4.6 billion above the full year 2008-09 estimate. Moreover, the net worth of the government was $74.6 billion, most of which is in relatively liquid assets that can be reinvested to stimulate investment. On Friday, the Prime Minister made it clear the government won’t be worried about going into deficit; there is plenty of room for the government to boost the economy. -2. Interest rates are still contractionary. Even if the official cash target is cut tomorrow to 5.5%, it will be above 'neutral', which is thought to be 5%. The Reserve Bank can, and probably will, cut by at least a further 2% over the next few months. -3. Management. At Eureka Report we have been praising Australian management for three years and saying this is a reason to invest in Australian companies. A few skeletons have been discovered in closets lately and most executives are facing uncharted territory, but on the whole the quality argument is still as true as it was during the bull market.... --Weaknesses: -1. Debt. Australia’s household sector is more indebted than it has ever been. Total debt to GDP ratio is now 160%, compared to 100% in 2000 and 50% in 1980. Household debt is more than 150% of disposable income compared to less than 50% in 1990. It means fear will turn into spending contraction very quickly (it already is). -2. New South Wales. The mismanagement of our largest state is a millstone around the national neck. Infastructure projects are being cancelled and state taxes will have to be increased, offsetting the impact of any national fiscal stimulus. -3. China. Our economy is excessively reliant on China, since the hollowing out of the manufacturing sector. I am not advocating protectionism, either in the past or now, but if China’s slowdown is worse than currently expected, we’re in trouble. UBS China economist, Wang Tao, has downgraded her forecast for growth to 7.5%, which is the lowest forecast I have seen and would be equivalent to recession elsewhere. -4. The economy. It’s coming to a dead stop. Recession is very likely, no matter what the Prime Minister says. This morning’s data from the Bureau of Statistics shows retail sales down 1.1% in September, the biggest fall since April 2005. Excluding food, the fall was 1.6%, mostly in discretionary spending in restaurants and cafes (down a massive 6.8% in the month) and clothing (down 4.6%). In some states, retail sales collapsed utterly in September: Queensland and Tasmania were each down 5.3% each and NSW 2.5%. Also, job advertisements fell 5.9% in October. --Opportunities: -1. Value. The trailing price/earnings multiple of the Australian market is now 8.55, according to Craig James of CommSec, which is the lowest it has been for 28 years (since April 1980, when it was 8 times). That ended a decade, the 1970s, when share prices went nowhere for 10 years: the All Ordinaries ended 1979 roughly where it began 1970. (More on April 1980 under 'Threats' below). -2. Yield. The banks are selling at an average yield of 6.8% and have just been handed the greatest market share windfall in history: a government guarantee of their deposits. They will emerge from this is a stronger position than they have ever been. -3. Fear/panic. The time for fear is when stocks are overvalued. It wasn’t as obvious last year that they were overvalued as it is now with hindsight, so we went straight from euphoria to panic, as often occurs. The time for panic is when stocks are overvalued and either interest rates are rising or the economy is deteriorating. We are well and truly past both of those times, and beginning to enter the time of opportunity. --Threats: -1. Earnings. April 1980, when the market’s price/earnings multiple was 8, it was actually the BEGINNING of a bear market, not the end of one. The market fell 35% over 15 months because earnings collapsed during the recession. The P/E multiple went up from 8 because earnings fell faster than prices. The market has already priced in a significant earnings contraction, if this recession is deep and long then our market has not fallen enough. -2. Unemployment/income. The jobless rate is still very low, but is about to start rising. JP Morgan, for one, thinks it will go to 9%; I think 10% is a distinct possibility. What’s more, there has been a huge boom in contracting and small business. It is likely that this will mask the extent of unemployment, as contractors and café owners suffer deep falls in their income while remaining statistically 'employed'. -3. House prices. Yes, I know the property experts in Eureka Report have been saying real estate values will rise, not fall, but I don’t buy it, and never have. The ABS house price index, out this morning, shows a 1.8% decline in the September across eight capital cities. The biggest falls were in Brisbane (3.3%) and Canberra (2.5%). In my view this is not aberration, but an inevitable and necessary correction, but it will doubtless add to the rise in unemployment and decline in small business incomes to produce a bigger retail-spending crunch than September, and a rise in mortgage defaults. This isn’t comprehensive, but then SWOT analyses are always limited to the size of a white board. The main problem with them is that the good and the bad tend to be artificially evened out: if things are really terrific and there are nothing but blue skies above, you waste your time worrying about weaknesses and threats rather than going for it; on the other when you are facing the 'worst crisis since 1930' (whatever that means) you may be lulled into a false sense of security by focusing on strengths and opportunities. Whether or not that comparison with 1930 is merely the exaggeration of Armageddonists in the media and other attention-seekers, an extreme case scenario cannot be ruled out. The All Ordinaries index could fall to 3000–3500 [it is presently about 4000, when twelve months ago it was about 6,700] and the market P/E to 6–7 times in the event of a severe global recession that includes China. And by the way, that sort of scenario can easily include a big rally into Christmas, as we have been tentatively predicting. After all, the US market initially fell 48% in 1929, and then rallied 50% in 1930 before being mugged by economic reality and eventually reaching a low 85% below the 1929 peak. I definitely do not think that is going to happen in 2009, largely because of the strengths listed above. But it might. If the market continues to rally now, that does not mean the bottom was last week. But it is another chance to take out the garbage. [and sell your shares of companies that are over-indebted or have poor business models]" - Alan Kohler
Respected Australian financial journalist. Quoted from the 'Business Spectator', November 3, 2008.
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[Quote No.30248] Need Area: Money > Invest
"[The wealth effect is that changes in prices of shares and houses effects the way consumers spend:] Movements in equity markets are thought to impact consumption by only two or three cents for every dollar of wealth won or lost. Movements in property values, however, have at least twice that impact. With US house prices down about 20 per cent and stock markets down about 40 per cent, US consumers are experiencing a particularly nasty double-pronged assault on their net worths, which explains why the US is sliding into recession." - Stephen Bartholomeusz
Australian financial journalist. Quoted in the 'Business Spectator', 3 Nov 2008.
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[Quote No.30250] Need Area: Money > Invest
"[In this global recession of 2008:] The world didn't get sick all at once. And it won't recover all at once either. Without the ravenous Chinese maw gobbling up ores and coal and oil in great big heaping mounds, commodity-exporting countries are now feeling the pain. Welcome, Canada, to economic hard times. Welcome, also, Australia, Russia, and Brazil. But it's the U.S. - the pied piper of countries worldwide - that led other economies down the path to ruin... Europe followed obediently behind us. Their economies began to sour 6-8 months after ours. It was only then that China reluctantly fell into line. They had their first sub-11 percent quarter in the April-to-May period. Now they're watching consumers from Peoria to Paris ratchet down shopping as hope of a short recession fades. It has taken more than a year for the rest of the world to catch the slow-growth virus. In following us down the rabbit hole, they'll also follow us back up. But it's a process. If we're 10-24 months away from the beginning of a recovery, our fellow travelers are 16-30 months removed." - Andrew M. Gordon
Editor of INCOME, an American monthly financial advisory service that uncovers income-generating stocks.
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[Quote No.30318] Need Area: Money > Invest
"Investing is built on estimates and uncertainties. A wide margin of safety ensures that the efforts of good decisions are not wiped out by error." - Warren Buffett
Highly successful value investor, Chairman of Berkshire Hathaway Inc and one of the richest men in the world.
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[Quote No.30330] Need Area: Money > Invest
"[When trying to see when a recession and bear market will make a sustained recovery rather than a suckers' rally keep the following advice in mind:] In addition, it is worth highlighting that past equity [and business] cycles reveal that the building materials industry is the first cyclical interest rate-sensitive sector [i.e. responds to looser monetary policy and lower interest rates used to stimulate economic activity] to achieve a sustainable rebound ahead of the recovery in earnings. Building materials always lead the cyclical recovery well before that recovery becomes evident to all." - Charlie Aitken
a director of Southern Cross Equities.
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[Quote No.30331] Need Area: Money > Invest
"Every bull market unfolds in three phases. The first is reviving confidence. The second is increasing earnings. The third is rampant speculation. Every bear market unfolds in three phases. The first is abandonment of hopes. The second is decreasing earnings. The third is distress selling [i.e. Significant fundamental under valuation, Unemployment is significant, Bad news is discounted and doesn't move share prices down any more, Low public participation, Media coverage declines, Bankruptcies and failures increase significantly]. At this distressed stage it is time to start buying - a)Focus on stocks with a margin of safety - Low PE ratio -High dividend yield -Low debt to equity ratio and b) Only buy stocks trending up." - Colin Nicholson
Australian share trader and author.
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[Quote No.30346] Need Area: Money > Invest
"Just as the wealth-creation process during a boom creates its own momentum through the virtuous cycle of rising property and share values, rising confidence and rising borrowing and spending, which feeds into still higher asset values, the reverse happens in a bust [recession] ... and the sharemarket gets its most meaningful expression in the shrinkage of both profits and P/E ratios at the same time, reversing the leveraged effect of expanding profits and ratios during the boom. [i.e. - If a company is earning $1 a share and its price/earnings multiple (P/E) is 25 times, then its share price is $25. If the P/E is 10 times and earnings fall by 25% to 75¢ a share, then the share price is $7.50 – 70% lower. The prospective P/E of the Australian market is currently about 11 times, but the consensus analyst forecast is still for a 10% increase in earnings in 2009. The 40% decline in the overall market so far is due to a shrinking of the market P/E from 17 times to 11 times, and a pullback in analysts’ earnings forecasts for 2009 from about 20% growth to 10%. (If this year’s earnings per share is $1, then 17 times $1.20 – next year’s earnings per share, or EPS, assuming 20% growth, equals a share price of $20. If profit growth is 10% instead, next year’s EPS is $1.10. Eleven times that is $12. A fall from $20 to $12 is 40%, which is what has [recently] occurred). But what if profit forecasts move to assuming a fall in 2009 by 20% instead of a rise of 10%? And what if the market P/E comes back to 9 times, rather than 11? That means a forward EPS of 80¢, down from $1 in 2008. Nine times that is $7.20 – down 40% from the current price. That’s how a prospective profit decline of 20% and a notch down in the market P/E from 11 to 9 would produce another fall of 40% from here, and a total fall from last November’s peak of 64%. Will profits fall 20% next year? Will analysts and fund managers begin to factor that in after the interim profit reporting season in March [2009]? I don’t know, but quite possibly. It is certainly more likely than a 10% average profit increase [which they are still forecasting].]" - Alan Kohler
Highly respected Australian financial journalist. Published in the 'Eureka report', November 10, 2008.
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[Quote No.30351] Need Area: Money > Invest
"Stability produces instability, [economist] Hyman Minsky used to point out. Why? Because when investors have no fear that someone will call the cops, they tend to party harder. With no threat of crash or correction, they take more risks in order to squeeze out more gain. [driving a share market boom even higher, before the inevitable crash.]" - Bill Bonner
Founder and editor of the financial newsletter, 'The Daily Reckoning'.
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[Quote No.30352] Need Area: Money > Invest
"Hyman Minsky's universal framework for understanding all bubbles: The late [economist] Hyman Minsky knew that there was nothing new under the sun. If he were alive today, he would have understood exactly the dilemmas raised by today’s explosive growth in real estate prices [2006 in USA]. Minsky developed a simple universal framework for understanding all bubbles [in any market, whether shares or real estate, etc]. The circumstances of each bubble may differ, but each one goes through seven stages. --Stage One – Displacement Every financial crisis starts with a disturbance. It might be the invention of a new technology, such as the internet. It could be a shift in economic policy. For example, interest rates might be reduced unexpectedly. Whatever it is, the world changes for one sector of the economy. People see the sector differently. --Stage Two – Prices start to increase Following the displacement, prices in the displaced sector start to rise. Initially, the price increase is barely noticed. Usually, these higher prices reflect some underlying improvement in fundamentals. As the price increases gain momentum, people start to notice. --Stage three – Easy Credit Increasing prices are not enough for a bubble. Every financial crisis needs rocket fuel and there is only one thing that this rocket burns - cheap credit [low interest rates and/or loose lending standards]. Without it, there can be no speculation. Without it, the consequences of the displacement peter out and the sector returns to normal. When a bubble starts, the market is invaded by outsiders. Without cheap credit, the outsiders can’t join in. Cheap credit is the entrance ticket for outsiders. For example, gas prices have risen sharply in recent years. However, banks aren’t giving out loans so that people can store gas in their garages in the hope that the price will double in three months. The banks, however, are prepared to give loans to people with poor credit to hold condos in the hope that they can be quickly flipped. The rise in easy credit is also often associated with financial innovation. Often, a new type of financial instrument is developed that mis-prices risk. Indeed, easy credit and financial innovation is a dangerous cocktail. The South-Sea Bubble started life as new-fangled legal innovation called the limited liability joint stock company. In 1929, stock prices were propelled into the stratosphere with the help of margin calls. Housing prices today accelerated as interest-only mortgages emerged as a viable means for financing overpriced real estate purchases. --Stage Four – Over-trading As the effects of easy credit kicks in, the market starts to overtrade. Overtrading stimulates volumes and shortages emerge. Prices start to accelerate, and easy profits are made. More outsiders are attracted, and prices run out of control. Accelerating prices attract the foolish, greedy and the desperate to enter the market. As a fire needs more fuel, a bubble needs more outsiders. --Stage five – Euphoria The bubble now enters its most tragic stage. Some wise voices will stand up and say that the bubble can no longer continue. They put together convincing arguments based upon long run fundamentals and sound economic logic. However, these arguments evaporate in the heat of the one over-riding fact – the price is still rising. The wise are shouted down by charlatans, who justify insane prices by the euphoric claim that the world is different and this new world means higher prices. Of course, the 'new world' claim is true; the world is different every day, but that doesn’t mean that prices run out of control. The charlatan wins the day and unjustified optimism takes over. At this point, the charlatans bolster their optimism with the cruelest of all lies; when prices finally reach their new long run level, there will be a 'soft landing'. The idea of a gentle deceleration of prices calms the nerves.The outsiders are trapped in knowing denial. They know that prices can’t keep rising forever, but they rarely act on that knowledge. Everything is safe so long as they quit one day before the bubble bursts.Those that did not enter the market are stuck in a terrible dilemma. They can not enter but neither can they stay out. They know that they have missed the beginning of the bubble. They are bombarded daily with stories of easy riches and friends making massive profits. The strong stay out and reconcile themselves to the missed opportunity. The weak enter the fire and are damned. --Stage Six - Insider profit taking Everyone wants to believe in a new brighter future but a bubble takes that desire and turns it upside down. A bubble demands that everyone believes in a brighter future, and so long as this euphoria continues, the bubble is sustained. However, as madness takes hold of the outsiders, the insiders remember the old world. They lose their faith and start to panic. They understand their market, and they know that it has all gone too far. Insiders start to cash out. Typically, the insiders try to sneak away unnoticed, and sometimes they get away with it. Other times, the outsiders see them as they leave. Whether the outsiders see them leave or not, insider profit taking signals the beginning of the end. --Stage seven - Revulsion Sometimes, panic of the insiders infects the outsiders. Other times, it is the end of cheap credit or some unanticipated piece of news. But whatever may be, euphoria is replaced with revulsion. The building is on fire and everyone starts to run for the door. Outsiders start to sell, but there are no buyers. Panic sets in; prices start to tumble downwards, credit dries up, and losses start to accumulate. Here is the paradox of all bubbles – everyone knows how the fatal combination of easy credit, overtrading and euphoria will affect prices. Minsky didn’t need to write down a thing about the madness of speculation. America’s investors have a lifetime of experience. Within the space of five years, America moved from the tech stock bubble into the real estate bubble. Today’s housing prices are grossly overvalued. Everyone knows that prices will collapse. It might be tomorrow, or it might be two years from now [originally published March 2006, and US house prices started collapsing soon after and kept falling till lost over 25% by 2008 with another 10% drop forecast for 2009.]. One thing, however is certain, the longer it takes for the bubble to burst, the more painful it will be." - Bubble Boy
This is the internet name used by the author of this excellent synopsis of economist Hyman Minsky's 'Financial [stability leads to] Instability Hypothesis', as it relates to market bubbles. It was found on the website askaboutmoney.com.
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[Quote No.30353] Need Area: Money > Invest
"Stability is unstable. [as it leads people to believe the past stability will continue. Therefore they take greater and greater risks, continually increasing both the odds of a period of instability and the size of the potential damage. This is often seen in share market and real estate price bubbles followed by busts. A 'Minsky moment' is the point in a credit, business, real estate or share market cycle when investors have cash flow problems due to spiraling debt they have incurred in order to finance speculative investments; for example when share investors who have bought using margin debt get calls to increase their equity or sell their shares as their share prices fall and their loan to value ratios threaten to go above their loan covenants. At this point, a major selloff begins due to the fact that no counterparty can be found to bid at the high asking prices previously quoted, leading to a sudden and precipitous collapse in market clearing asset prices and a sharp drop in market liquidity. A 'Minsky moment' comes after a long period of prosperity and increasing values of investments, which has encouraged increasing amounts of speculation using borrowed money.]" - Hyman Minsky
One of America's finest theoretical economists, who developed the 'Financial Instability Hypothesis', which the above quote refers to.
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[Quote No.30370] Need Area: Money > Invest
"[If you want responsible management for long-term stable growth in a company the issue of agency conflict, where incentives for agents/managers differ from those of owners, must be addressed more intelligently than the present short-term focussed ones.] The agency conflict on Wall Street is the mentality of 'heads I win, tails you lose.' CEOs, traders, and mortgage-backed security factories were paid more for taking more risk. So it shouldn't surprise us that they overdosed on leverage to magnify [short-term] returns, without considering [long-term] risk. Performance pay should be based on creating long-term shareholder value, not on meeting next quarter's earnings estimate. A good place to start would be bonuses in the form of restricted stock that does not vest [become worth anything for the recipient] for 10 years. I doubt Lehman would have blown up if employees were paid modest salaries with the potential for sizeable ownership stakes in the future. If every employee were paid partially in restricted stock of his or her company, even a small amount, most agency conflicts [between what's best for the employee short-term and what's best for the customers, company, owners and consumers long-term] would be eliminated." - Dan Amoss
He was employed by Investment Counselors of Maryland, which for fifteen years has given investment advice to one of the top small-cap value mutual funds. He now runs the Strategic Short Report, and is a contributing editor for Strategic Investment. The quote was published in financial newsletter, 'The Daily Reckoning - Australia', 12th November 2008.
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[Quote No.30428] Need Area: Money > Invest
"The road to perdition: Until recently, average Americans were only dimly aware that there were two types of banks – the commercial banks nearby and the major investment banks located in faraway New York. Understanding the bank where they conducted business, with people they knew, was enough. The big, impersonal Wall Street banks – which dealt in higher-risk investments with potentially higher rewards – were for companies and the very rich. While ordinary citizens thought little about the distinctions among banks, the government did not. Seventy-five years ago, as the Depression deepened, lawmakers were desperately trying to determine the causes of the crisis (read: looking for scapegoats). Some of the things they found were conflicts of interest and opportunities for fraud linked to the mixing of commercial and investment banking. Congress decided to erect a 'wall' between commercial and investment banking, and so passed the Banking Act of 1933, usually referred to as the Glass-Steagall Act. Glass-Steagall created the Federal Deposit Insurance Corporation (FDIC) to protect depositors in commercial banks, and it forbade commercial banks to underwrite securities or act as stockbrokers or dealers. Glass-Steagall remained in force for six and a half decades, although various deregulatory measures and changes in exchange rules chipped away at it. Notably, in 1970 a rule excluding public companies from membership in the New York Stock Exchange was dropped. The last major private institution, Goldman Sachs, went public in 1999. This allowed investment banks to sell stock to any potential investor and greatly expand their capital base. Over the last two decades of the 20th century, the financial industry lobbied vigorously for the repeal of Glass-Steagall and, in 1999, they got their way with the enactment of the Financial Services Modernization Act. The door was opened to consolidation in the banking industry. With one stroke of a pen, commercial bankers could begin turning their loans into investment products. (Glass-Steagall had prevented them from selling debt-backed securities for which they were the underwriters.) And Wall Street investment banks were suddenly in the mortgage business. It would prove to be a marriage made somewhere significantly south of heaven. We’re not fans of government regulation, but a deregulated marketplace carries with it certain imperatives. It functions as it should only in the absence of both criminal and boneheaded behavior. We can erect oversights meant to prevent the former and laws to punish it after the fact. But all the regulation in the world won’t do much about the latter, since both market traders and the regulation itself may be boneheaded. The biggest factor here was the removal of Glass-Steagall prohibitions, but there were two other important tweakings. The Commodities Futures Modernization Act of 2000 transformed the new mortgage-backed securities into a commodity, enabling them to be traded on futures exchanges with little oversight by any federal or state regulatory body. Completing the trifecta, the Securities and Exchange Commission in 2004 waived its leverage rules. Previously, broker/dealer net-capital rules limited firms to a maximum debt-to-net-capital ratio of 12 to 1. But under the new regulations, five companies – Goldman Sachs (NYSE: GS, Stock Forum), Merrill Lynch (NYSE: MER, Stock Forum), Lehman Brothers, Bear Stearns, and Morgan Stanley (NYSE: MS, Stock Forum) – were granted an exemption, which they promptly used to lever up 20, 30, even 40 to 1. Just as Congress was repealing Glass-Steagall, the tech stock bubble was inflating beyond sustainability. It would soon be pricked, ushering in a brief recession during which investors began the hunt for the next big thing. Back in 1977, Congress passed the Community Reinvestment Act, which had the goal of extending homeownership to the largest possible pool of Americans. Over the next 25 years, legislative supplements, a robust housing market, and aggressive government enforcement of 'fairness in lending' combined to weaken bank standards of who did or didn’t qualify for a loan. But that was just the beginning. In an effort to end a recession in the new century’s first years, the Greenspan Fed reduced interest rates to near nothing and poured liquidity into the financial markets. At the same time, capital that had fled the stock market was looking for action. The commercial banks – and independent mortgagors like Countrywide Credit – were awash in cash. They started lending it, and every borrower’s credentials were deemed excellent, even those with low income, bad credit, and no money for a down payment. The perfect storm was building. But at first, boy, did things ever look rosy. The country’s homeownership rate – 62.1% in 1960, rising to only 64.1% in 1994 – shot up to 68.9% by 2006. As homeowner mania seized hold of the public imagination, people began treating their homes as ATMs. If they needed cash, they borrowed against their growing equity. Real estate speculators flipped houses like crazy. Why not, when there’s no risk? Housing prices only head in one direction, up, up, up, right? It sure looked that way. The yearly average median price of an existing home went from $23,000 in 1970, to $62,200 in 1980, to $97,300 in 1990, to $147,300 in 2000 and crested at $221,900 in 2006. Astonishingly, despite recessions in the early ’80s and early ’00s, there wasn’t a single down year for housing in all that time. However, in 2007 housing became the latest bubble to burst, pricked by unrealistic prices, overbuilding, and the retreat from ultra-low interest rates. Concurrently, as house prices finally began to drop, a whole bunch of those no- or low-interest loans began to reset. Despite the well-earned reputation of some Wall Street high rollers, bankers tend not to be a reckless lot, nor financial dunces. In general, they would rather deploy a large amount of capital into a safe, low-yield investment than put a small amount of capital into something with very high risk. With the new environment, however, the game changed. Commercial bankers found themselves making loans to shakier and shakier recipients, while at the same time, the investment banks and their clients were clamoring for new investment products. So bankers did what any conservative person would do. They hedged their bets. They bundled up their loans and sold the packages to the investment banks. The outcome was essentially the mortgage business being uprooted from the commercial banks and transplanted into the investment houses, which have far less restrictive requirements about reserve capital, far fewer limits on the buying and selling of securities, and far less regulatory oversight. The investment banks did not set out, of course, to become landlords. They just wanted some product to sell for which there was a ready market. As capitalist ingenuity collided with profit motive, they found there was no shortage of products that could be created; the mortgage bundles were sliced, diced, and repackaged into a bewildering array of securities, like structured investment vehicles (SIVs), collateralized debt obligations (CDOs), mortgage-backed securities (MBSs), and on and on. The extent of the slicing and dicing into different levels, what financial chefs refer to as 'tranches,' was such that the original mortgage might be tossed from buyer to buyer, or even itself split into parts. Each time a package was put together and sold, the seller stretched to get top dollar for each tranche, requiring the underlying assets to be risk-rated and then assigned real-world value. In the end, rating services had little idea what they were rating (we're being charitable here), and buyers had no idea what their purchase was really worth. And always lurking in the background was the possibility that defaults on the mortgages supporting the entire process could have a profound ripple effect, given that these products became increasingly leveraged. Knowing this, traders invented credit default swaps (CDSs), those gnarly little creatures that morphed into Godzilla after 2004. CDSs are an insurance policy, a way of dealing with fear, and a device for attenuating the risk inherent in trading products one may not fully understand. Those buying the protection pay an upfront amount and yearly premiums to the protection sellers, who agree in return to cover any loss to the face value of the security. The result is a private, two-party contract, devoid of regulatory oversight. There are a bunch of nasty horseflies in this particular ointment. For one, the holder of that security (who is now 'protected' by a CDS) might turn around and sell it to a third party, who might himself insure and resell it, and so on, creating an impossibly complex chain of ownership and obligation. Additionally, the CDS itself can be traded over the counter. Furthermore, any of the underlying assets might also get partitioned into different tranches, adding to the confusion. And finally, short sellers can work on just about any joint in the structure. And here’s the really big rub. Suppose the party providing the initial insurance protection – having already collected its upfront payment and premiums – doesn’t have the money to pay the insured buyer when a default occurs. Or suppose the 'insurer' goes bankrupt. In either instance, the buyer who thought he was protected finds himself left naked and alone. However, that possibility seems not to have been considered as the financial world created an interlocking system of derivatives that not even a Cray supercomputer could sort out. The only certainty: it was an arrangement that depended on a robust economy and rising house prices. Except, of course, things didn’t work out that way. When the housing slump hit, defaults in the relatively small subprime sector (less than 20% of mortgages) started a chain reaction that raced through the derivatives market, the effects compounding geometrically, until finally the world financial structure was facing collapse. When capital is allocated in a free market, it moves toward the productive, and the economy tends to prosper. By the same token, when it is misallocated, an economy can hit the skids. We’ve had decades of misallocated capital in the U.S. Instead of saving, we’ve been spending - way beyond our means. Rather than investing in something productive, we’ve been gambling, taking on ever greater risks in the hope of the big payoff. Instead of creating the clean balance sheets that support stability – at all levels, personal, corporate, and governmental – we’ve piled up mountains of unsustainable debt. The tragedy is that the prudent will suffer right along with the reckless. Misallocations of capital must be unwound, one way or another, before an economy can get back on its feet. It will be no simple task, and it’s made even more difficult by those who put themselves in charge of the clean-up: certain residents of Washington, D.C. At the center of the storm are two men who propose to save the nation, and they could hardly be more different. Secretary of the Treasury Henry Paulson is the Street’s guy. The former CEO of Goldman Sachs (NYSE: GS, Stock Forum), the most powerful and successful investment bank, he brings a Wall Street insider's perspective to the table. However committed to public service he may be, he cannot be expected to act against the interests of his friends in the banking community. And then there’s Fed Chairman Ben Bernanke, a pure academician. For better or worse, Bernanke’s specialty is America’s Great Depression, and he considers himself an expert on the subject. Above all else, he wants to be remembered as the guy who understood how to steer the country away from the shoals of a Second Great Depression. There is no question that Big Ben and Hammerin’ Hank are trying to navigate in unfamiliar waters. Today’s economy hardly mirrors that of a decade ago, much less the conditions of the 1930s. Back in the spring of 2007, as the initial cracks in the structure began to appear, few were expecting the broken-levee crisis that has since unfolded. Savants such as our own Doug Casey and Bud Conrad saw it coming and said so, but no one in the mainstream was listening. What was actually happening was that the first dominoes – subprime borrowers who should never have been approved – had begun to fall. In and of themselves, they would have been little more than straws in the wind. But because of the multiplier effect of the derivatives market, their influence reached far beyond a few blown mortgages. As more and more debtors were unable to pay, mortgage-backed securities lost value. And then the securities based on the MBSs lost value. And then... Here’s where CDSs were supposed to ride to the rescue. They didn’t, for the simple reason that they had long since strayed far from their original insurance intent and become primarily an instrument that gave derivatives market players access to an asset class (mortgages) without having to actually own the asset. As MBS values were hammered by defaults on the underlying loans, buyers of CDS protection began trying to collect. That hit CDS sellers, who were being drained of cash. Further out, derivatives speculators who had bet the wrong way defaulted or went bankrupt, sending shockwaves back down the line. Slowly at first, and then with increasing speed, the capital necessary to keep the system alive started drying up. Everyone is familiar by now with the institutions that have collapsed or been bought out or taken over by the government. The list of names is stunning: Bear Stearns, Countrywide Credit, MBIA, Fannie Mae, Freddie Mac, AIG, Lehman Brothers, Washington Mutual, Merrill Lynch, Wachovia. Wall Street has undergone a transformation unimaginable a year ago. The big investment banks are gone - bankrupted or swallowed up by someone else. Even the two that remain standing, Goldman and JP Morgan (NYSE: JMP, Stock Forum), have had to reinvent themselves as bank holding companies to save their own hides. The movement of capital among financial institutions is based not only on integrity but on confidence. Right now, that confidence has evaporated. Banks are carrying so much paper of indeterminate value that it’s impossible to price in the risk of making a loan. So they aren’t lending to each other, out of fear that they’ll never get their money back. The credit market, upon which our economy depends, has seized up. When the government finally got around to admitting that there was a problem, it was already too late for any simple fix. So Washington had only two options: stand back and let the market sort things out or take drastic, emergency action. No one knows quite what to make of Washington’s response to the credit crisis. Some are howling that it’s socialism, others that it’s fascism or, at best, corporatism, an unholy alliance of private enterprise and the state. Whatever the name, there is no question that the government is boldly going where none has gone before, helping to bail out some financial institutions and seizing control of others. The Treasury Department now has $700 billion – albeit with some strings attached – with which it can buy up toxic waste paper through the Troubled Asset Relief Program (TARP). Taking this direction, instead of making direct loans, allows the 'assets' they buy to be resold somewhere down the road. And perhaps, the plan’s defenders say, even at a profit. Like that’s gonna happen. Proceeding in ways never before tried, in early October the Fed announced it was opening the Commercial Paper Funding Facility. For the first time, it will buy unsecured paper. To facilitate this and to cover potential losses, the Treasury will deposit an unspecified amount at the Fed. This is in addition to the Treasury’s own buying spree, and the Fannie/Freddie conservatorship, and the expansion of the FDIC to cover deposits up to $250,000, a move likely to send that agency back to the Treasury for another fill-up. All the government’s actions to date have accomplished... well, precious little. For the time being, credit remains frozen. Banks are still making overnight loans to other banks, but only very selectively. The stock market, despite coming off its lows, is extremely volatile after enduring its worst crash ever. Commodities have sold off. States and municipalities are facing severe budget cuts and, in some cases, bankruptcy. Money markets are in trouble. Pensions and retirement funds are at risk. And recession, or worse, looms increasingly large on the horizon. Nor is the crisis purely an American problem. Much of the U.S. bad paper was sold to gullible Europeans, and world economies and markets are so interconnected that if one sneezes, someone else catches a cold. Already there have been big bailouts in Germany and England. The Irish government recently announced it was guaranteeing all bank deposits, which attracted a flood of money from elsewhere in the European Union, enraged other members of the EU, and raised questions of how long that shaky confederation can endure as each country charts its own path through the economic minefield. This is a once-in-a-lifetime event, a train to nowhere, and it will cause no end of suffering. Since we can’t stop it, we’ll do the next best thing, which is to protect ourselves. That means assessing the likely fallout from the government’s meddling in the market, and developing guidelines for the best way to ride out the hurricane. Some consequences are already baked in the cake. Casey Research Chief Economist Bud Conrad has been studying the unfolding crisis for years. Based on his work, this is what we foresee: More financial institutions will collapse. So will many hedge funds. Money market funds are also shaky; although the government will do all it can to keep them solvent, those that invest in anything but Treasury bills are at risk. The economy will fall into recession. By most lights, it’s already here. It won’t be brief, and there is even a chance that despite all the Fed’s pump priming, we could drop into a depression. For however long credit remains tight, business will be unable to function normally, and the consumer-driven economy will grind to a halt. The whole structured finance model under which we’ve been operating is broken. The packaging of mortgages and other forms of consumer debt is impossible when no one will buy the packages. The trillions of dollars of outstanding mortgage derivatives will have to be unwound somehow. Without debt leverage, private equity financing is dead. Raising money for business start-ups or expansion will be extremely challenging. IPOs will be few and far between. Leveraged buyouts are gone. Mergers and acquisitions will mostly be limited to distress sales. At best, the government will succeed at what it’s trying to do, i.e., stave off a depression, by sacrificing the dollar and allowing a fairly high level of inflation. If we’re lucky, it won’t turn into hyperinflation. Interest rates are going up. On the day of the coordinated, worldwide rate cut, the Fed lowered its discount rate by 50 basis points, yet the yield on the 10-year Treasuries rose from 3.5 to 3.7%. The Fed’s credibility is about shot, as it has debased its own balance sheet by swapping good debt for bad. With more than half of its reserves gone, it could itself become the subject of a Treasury Department bailout. It is highly likely that the era of U.S. economic dominance, when the almighty dollar served as the reserve currency of the world, is drawing to a close. But on the bright side... Well, there is no bright side. The hole that we’ve dug for ourselves will take a while to climb out of, and it won’t be easy." - Doug Hornig
Editor, Casey Research. Published in 'The Daily Reckoning - Australia', 13th nov, 2008.
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[Quote No.30429] Need Area: Money > Invest
"[When recessions come, especially accompanied by a lack of easy credit, be very careful about being invested in any company with high debt. For example prefer companies with net debt to equity below 30% at the most, because] As cash flows start falling, the market will become increasingly focused on funding. Perfectly good businesses are going to be destroyed in this recession (as in all others for that matter) by a short-term inability to meet interest payments as well as all the other bills. The credit crisis has turned into an economic downturn, which has now become a corporate funding crisis. Existing shareholders will be diluted as equity is raised for working capital. [and share prices will drop dramatically reflecting this dilution.] The alternative is to be wiped out entirely by the appointment of administrators because directors can’t trade on without taking intolerable personal risks." - Alan Kohler
Highly respected Australian financial journalist. published in the financial newsletter and website, 'Eureka Report', 14 Nov 2008.
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[Quote No.30430] Need Area: Money > Invest
"[The slowing/falling part of]...the business cycle has clearly tempered any major concerns on the inflation front, which a few months ago were paramount in the markets, but down the road, I’ll say three years out... I think it’ll take that long, if central banks have not withdrawn the special liquidity that’s been injected in the markets during these [sub-prime loans, credit, real estate and stock market] crises, then I think that we’ll have a price to pay in the form of higher inflation. And it may seem like a distant thing to worry about, but these post-bubble liquidity injections are always billed as temporary but then they have a way of remaining permanent. You look back and what [Chairman of the U.S. Federal Reserve] Greenspan did post the dotcom bubble [from 2000 on], is liquidity injection. It was designed to save the US from a Japanese style deflation, [the low interest rates] stayed in place for far too long and set the stage for subsequent property and credit bubbles and we’re paying an enormous price for that today." - Stephen Roach
Chairman of Morgan Stanley Asia. Published in the 'Eureka Report', 14th Nov, 2008.
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[Quote No.30441] Need Area: Money > Invest
"[In a business and share market cycle downturn/recession which is accompanied by a credit crisis with too much debt on government, business and especially on the consumers' balance sheets, the normal monetary policy of lowering interest rates and increasing liquidity doesn't work. Government fiscal policy initiatives, for example, infrastructure spending can also have very little short-term effect. This makes the correction particularly deep and drawn out, as everyone stops spending and loans and asset prices fall dramamtically for as long as it takes for balance sheets to improve. The problem is the longer it goes on the worse the assets fall and so the net worth and the poor balance sheets keep falling in a never-ending viscious cycle.] Central banks lower interest rates to try to gin up some activity. They set up another round of drinks, hoping the party will get going again. The Fed cut rates decisively (if a bit slowly) in the '30s. Japan's central bank went further - taking rates down to near-zero and leaving them at that level for years. The U.S. Fed, meanwhile [2008], has already hacked its key rate down to 1%. It's ready to cut more... if need be. But the central bankers are missing the point. They're like a liquor salesman at an AA meeting. Everyone is desperately trying to sober up - not go on another bender. Of course, the feds will get a few people to take up the bottle again... but these poor saps will be even worse off. In this type of correction, people need to correct the mistakes of the late bubble. That means getting balance sheets back in balance. And that means spending less and saving more. Economists describe this problem as 'pushing on a string'... or a 'liquidity trap.' The central bank can make more credit more readily available, but it can't force people to borrow. Yesterday's news headlines included one that went to the heart of the matter; 'Government to force banks to lend.' But the problem is not so much the banks - it's the economy itself. Banks would be happy to lend - if they could be reasonably assured of getting their money back. But in a crumbling economy... who knows?... While monetary policy won't do much good, fiscal policy might... The principle is simple. If businesses won't spend... and consumers won't spend... the government will do the spending. This is the idea made popular by Keynes and known today as 'Keynesian' economics. 'We are all Keynesians now,' said [U.S. President] Richard Nixon back in the '70s. As we said, the idea was irresistible. Keynesian spending doesn't really make people better off, but it has three things going for it: 1) It gives politicians an excuse to spend more money 2) It looks like things are getting better... and at least government is 'doing something' 3) It tends to keep the lights on In the coming U.S. downturn, (we say 'coming' because the worst of it is still in the future) consumers are likely to pull hard on their belts and send the rate of saving soaring. Maybe not the 20%-30% you see in Japan and China, but at least back to the 10% we saw before the 1990s. That will remove more than $1 trillion from the economy. Directly. Indirectly, it will remove a lot more... So what's [the U.S. President Elect] Obama going to do? Simple, he's going to do what his most persuasive advisors tell him to do... he's going to borrow all those savings and put them to work. Everyone wants the safety of Treasury paper. Fortunately, the Obama Administration is going to give them plenty of it. They'll absorb the trillion or so in U.S. savings... and then everything else they can get their hands on - including much of the rest of the world's savings too. The U.S. deficit will soar - along with the national debt. Rates will rise. And then... maybe 18 months from now... maybe 10 years from now... it will get really interesting... [when inflation will rear its ugly head worse than ever]" - Bill Bonner
Founder and editor of the financial newsletter, 'The Daily Reckoning'. Published in the Australian version, 14th Nov, 2008.
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[Quote No.30442] Need Area: Money > Invest
"Ben Graham's Earnings/Price Ratio: I've been reading The Intelligent Investor lately, and recently came to an interesting part of the book. Graham introduces an easy, but important ratio for the more low-risk, defensive investor. It is the Earnings/Price ratio, which is simply the same thing as the P/E, but flipped around. He uses this ratio, along with the rate of high quality (AA) corporate bonds to do a simple valuation to see if a stock is reasonably priced. The Earnings/Price technique is primarily for either evaluating a market index, or low-growth corporations. This is because companies with a good amount of growth priced into them look overpriced when you go with Benjamin Graham's value investing techniques, including this one. The way you use this ratio to evaluate the stock market or a single stock is to take the high-grade corporate bond yield rate, and divide that number into 100. With this result, any stock at a good value will have a P/E at least 20% lower than that number. Another way you can do this is by take the high-quality corporate bond rate, and any stock (or stock index) should have a E/P at least as large as that number. Before we try it with today's numbers, let's review the key points: E/P = Earnings / Price, P/E = Price / Earnings, E/P should be at least the amount of the high-grade corporate bond yield rate, P/E should be no larger than 20% of the high-grade corporate bond rate divided into 100. According to BondTalk, 10 year AA-rated corporate bonds [in 2006] are yielding 5.54%. Divide that into 100 and you get 18.05 (rounded). 20% of that is 14.44. The current P/E ratio of the S&P 500 is 17.49, putting it near a 20% premium over what Ben Graham would call a good value." - David Kretzmann
Posted Bloggingstocks.com Jul 31st 2006
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[Quote No.30443] Need Area: Money > Invest
"Remembering a Classic Investing Theory: More than 70 years ago, two Columbia professors named Benjamin Graham and David L. Dodd came up with a simple investing idea that remains more influential than perhaps any other. In the wake of the stock market crash in 1929, they urged investors to focus on hard facts — like a company’s past earnings and the value of its assets — rather than trying to guess what the future would bring. A company with strong profits and a relatively low stock price was probably undervalued, they said. Their classic 1934 textbook, 'Security Analysis,' became the bible for what is now known as value investing. Warren E. Buffett took Mr. Graham’s course at Columbia Business School in the 1950s and, after working briefly for Mr. Graham’s investment firm, set out on his own to put the theories into practice. Mr. Buffett’s billions are just one part of the professors’ giant legacy. Yet somehow, one of their big ideas about how to analyze stock prices has been almost entirely forgotten. The idea essentially reminds investors to focus on long-term trends [sometimes called long-term mean reversion] and not to get caught up in the moment. Unfortunately, when you apply it to today’s stock market, you get even more nervous about what’s going on [today in 2007]. Most Wall Street analysts, of course, say there is nothing to be worried about, at least not beyond the [sub-prime] mortgage market. In an effort to calm investors after the recent volatility, analysts have been arguing that stocks are not very expensive right now. The basis for this argument is the standard measure of the market: the price-to-earnings ratio. It sounds like just the sort of thing the professors would have loved. In its most common form, the ratio is equal to a company’s stock price divided by its earnings per share over the last 12 months. You can skip the math, though, and simply remember that a P/E ratio tells you how much a stock costs relative to a company’s performance. The higher the ratio, the more expensive the stock is — and the stronger the argument that it won’t do very well going forward. Right now, the stocks in the Standard & Poor’s 500-stock index have an average P/E ratio of about 16.5, which by historical standards is quite normal. Since World War II, the average P/E ratio has been 16.1. During the bubbles of the 1920s and the 1990s, on the other hand, the ratio shot above 40. The core of Wall Street’s reassuring message, then, is that even if the mortgage mess leads to a full-blown credit squeeze, the damage will not last long because stocks don’t have far to fall. To Mr. Graham and Mr. Dodd, the P/E ratio was indeed a crucial measure, but they would have had a problem with the way that the number is calculated today. Besides advising investors to focus on the past, the two men also cautioned against putting too much emphasis on the recent past. They realized that a few months, or even a year, of financial information could be deeply misleading. It could say more about what the economy happened to be doing at any one moment than about a company’s long-term prospects. So they argued that P/E ratios should not be based on only one year’s worth of earnings. It is much better, they wrote in 'Security Analysis,' to look at profits for 'not less than five years, preferably seven or ten years.' This advice has been largely lost to history [especially today's 'go-go' analysts but not the really successful value investors, like Buffett, who is one of the world's richest men and arguably its greatest ever long-term investor]. For one thing, collecting a decade’s worth of earnings data can be time consuming. It also seems a little strange to look so far into the past when your goal is to predict future returns. But at least two economists have remembered the advice. For years, John Y. Campbell and Robert J. Shiller have been calculating long-term P/E ratios. When they were invited to a make a presentation to Alan Greenspan in 1996, they used the statistic to argue that stocks were badly overvalued. A few days later, Mr. Greenspan touched off a brief worldwide sell-off by wondering aloud whether 'irrational exuberance' was infecting the markets. In 2000, not long before the market began its real swoon, Mr. Shiller published a book that used Mr. Greenspan’s phrase as its title. Today [in 2007], the Graham-Dodd approach produces a very different picture from the one that Wall Street has been offering [that all is well]. Based on average profits over the last 10 years, the P/E ratio has been hovering around 27 recently [when its long-term mean average is around 16]. That’s higher than it has been at any other point over the last 130 years, save the great bubbles of the 1920s and the 1990s. The stock run-up of the 1990s was so big, in other words, that the market may still not have fully worked it off. Now, this one statistic does not mean that a bear market is inevitable. But it does offer a good framework for thinking about stocks. [In fact shares were very over valued and fell dramatically into a severe bear market and a deep and long economic recession starting in 2008]" - David Leonhardt
Published in 'The New York times', August 15, 2007.
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