A minor global rally follows a major geopolitical event.When Osama bin Laden’s death was announced, Wall Street rejoiced – albeit briefly. After Wall Street opened for business Monday, the S&P 500 started out trading 0.4% higher and the Dow was up 0.3% out of the gate. Germany’s DAX was up 0.5% and France’s CAC-40 rose 0.3% higher after their opening bells (with Air France and Lufthansa shares notably climbing). Japan’s Nikkei 225 was up 1.0%; South Korea’s KOSPI was up 0.9%.^1,2

However, Monday happened to be a market holiday in China, Singapore, Thailand, Hong Kong and Malaysia, so any effect on their benchmarks was muted. At the closing bell stateside, the U.S. indices ended up pretty much where they had begun the day – Dow, -0.02%; S&P 500, -0.18%; NASDAQ, -0.33%.^1,3

Andrew Wilkinson, the senior market analyst at Interactive Brokers in Montreal, was one of many analysts to downplay the effect. “It seems fanciful to accept that global equity markets had been restrained for a decade for fear that Osama bin Laden might pull off another terror attack somewhere around the globe,” he told Toronto’s Globe & Mail.“The world economy has lived through two recessions since 9/11.”¹

While there was no real “bin Laden bounce” Monday, what about a long-term effect?

Is there a “peace dividend” ahead? Osama bin Laden’s death may boost morale, but it is not likely to have any real impact on our military spending or our economy. “I don’t think this is a big market factor,” Warren Buffett simply told the Fox Business Network. As University of Central Florida economist Sean Snaith said to the Christian Science Monitor,“It’s not a panacea for the country. Oil prices are not coming down. If you still don't have a job, this isn't going to change things for the better.”⁴

When the Berlin Wall fell, the U.S. did get a “peace dividend”: our military spending shrunk by $188 billion (in today’s dollars) across 1985-1998. Today, we still have a presence in Afghanistan and Iraq, and Al Qaeda remains to be dismantled. The federal budget request for U.S. military operations in Afghanistan and Pakistan for FY 2012 is $107 billion, only mildly below the current $115 billion allocation. Osama bin Laden’s death provided a lift to many Americans; while the world may feel safer as a result, the stock market continues to take its cue from traditional financial indicators.⁴

As always, we will continue to update you and watch any of the potential affects this may have on the economy and the markets. Please call us if you have any questions or would like to discuss this further.

Sincerely,

This material was prepared by Peter Montoya Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information should not be construed as investment, tax or legal advice. The publisher is not engaged in rendering legal, accounting or other professional services. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. If assistance or further information is needed, the reader is advised to engage the services of a competent professional.

April 20, 2011
 

As an investor, you’ve probably noticed among the screaming headlines and constant media coverage, that the Standard & Poor’s bond rating division recently threatened to downgrade the credit rating of U.S. Treasury bonds. The U.S. markets dropped 1% on Monday immediately after the news broke, and the S&P 500 index of large cap stocks finished the day down 1.1%.

What was not emphasized in the news coverage is that this is far from an actual downgrade. The announcement actually said that Treasury securities would be given an AA rating (the credit rating of Japan), rather than the current AAA (the highest credit rating, which is also enjoyed by France and Germany), if the federal budget deficit is not addressed within two years.
 

Coming from the same organization which, in 2008 and before, gave AAA ratings to subprime mortgage debt instruments, this credit evaluation might be dismissed--except that other parties seem to be equally worried.   In February, PIMCO, the world's largest bond fund investor, announced that it had sold all U.S. Treasury securities in its $236 billion Total Return Fund. The company is worried that rising inflation and interest rates will cause bond values to drop. But it also noted that sustained deficits in the U.S.--like the much greater debts in Greece, Ireland, Iceland and other debtor nations--would cause global investors to demand higher interest rates on government debt. Higher rates on new issues would cause the value of existing bonds to fall.

But why are stocks falling when the conversation seems to be all about bonds? Investors may be worried that any rise in interest rates would raise the borrowing costs across Corporate America as the U.S. economy is still rebuilding from the Great Recession. But there may also be some concern that stocks haven't fully factored in the flock of black swans that are swimming around various corners of the global economy. An article in the April 17 issue of the Wall Street Journal lays out the case: Japan, the world's third-largest economy, has been staggered by an earthquake, tsunami and nuclear disaster--plus continuing aftershocks and more nuclear problems. North Africa and the Middle East, where much of the world's oil comes from, are seething with unrest and uncertainty. Portugal has joined Greece and Ireland in requiring a Eurozone bailout for its sovereign debt. Closer to home, the article tells us, many economists have dropped their first-quarter estimates of U.S. economic (GDP) growth to below 2%. Six months ago, the more bullish estimates were coming in around 4%.

Looking at all this uncertainty, one might think that getting out of stocks altogether is the wisest, safest thing to do, until things settle down again. The problem, of course, is finding a good place to redeploy the money. Should you buy the Treasury bonds that PIMCO is unloading? Global stocks? The global economic uncertainty has actually caused inflows into the U.S. market, which seems to be an island of relative calm, and has always benefited from investor fear and a flight to quality. Plus, as the Wall Street Journal article points out, the jobs picture in the U.S. is starting to improve. About 230,000 private sector jobs were added in March, and U.S. retail sales rose for the ninth straight month.  Remember there are always episodic events which may cause investors to question their investment decisions but, NO – we do not recommend pulling out of the market or changing your strategy. We and the managers we have chosen are monitoring the situation carefully and we have confidence in these strategies.

Any hint that the U.S. government will lose its best-in-the-world credit rating is likely to be sensationalized, even if the event won't take place for another two years, and even if it is conditional on no action being taken between now and then. If the government's cost of borrowing does go up from the current 3.40% on 10-year Treasuries, it would raise the cost of financing our nation's debts. But the news media never seems to provide a full perspective on these banner headlines. Japan's sovereign debt is proportionately higher than America's, and Japan received the dreaded credit downgrade to AA status earlier this year. That caused Japan's borrowing costs on its 10-year securities, to go up incrementally to, currently, 1.29%.

Stay tuned! Happy Easter!

“It’s easy to make a buck. It’s a lot tougher to make a difference”. ~ Tom Brokaw

Sources:

www.BobVeres.com

Japanese 10-year yields: http://www.tradingeconomics.com/Economics/Government-Bond-Yield.aspx?Symbol=JPY

U.S. government 10-year yields: http://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/TextView.aspx?data=yield

Announcement of S&P's downgrade warning: http://news.yahoo.com/s/nm/us_ratings_usa_sp

Wall Street Journal article: http://online.wsj.com/article/SB10001424052748704487904576267490353062226.html?mod=WSJ_topics_obama#articleTabs_tab_quotes

This material was prepared by Bob Veres’ Inside Information  and does not necessarily represent the views of the presenting party, nor their affiliates. This information should not be construed as investment, tax or legal advice. The publisher is not engaged in rendering legal, accounting or other professional services. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. If assistance or further information is needed, the reader is advised to engage the services of a competent professional.

THE SHORT ANSWER: OIL !!!!!!!!!!!!!!!!!

Libya possesses the world’s 9^thlargest oil reserves.   Even though the Libyans have very little oil trade with the U.S., Libya supplies a lot of the oil and gas to Europe – especially Italy. ; However, the markets are much more concerned about Saudi Arabia, which produces about 20% or more of the world’s oil, and has the world’s largest oil reserves.

 

Will the political revolutions spread to other oil producing nations, causing a prolonged rise in the price of oil? This would significantly disrupt the U.S. economic recovery. Oil is very close to $100 per barrel and a spike in oil hurts corporate profits and consumer spending. It is effectively a tax on businesses and consumers and will reduce GDP. In fact, according to Nariman Behravesh, a senior economist at IHS Global Insight, every $10 increase in the price of a barrel of oil reduces economic growth (GDP) by 0.2% after one year and a full 1% after 2 years.

 

The government would like us to believe that inflation is very low and under control.   But core inflation, as measured by the Bureau of Labor Statistics (BLS), does not include food or energy prices.   Food in the last month alone has risen by 5 to 8%, and gas prices are up significantly in the last month.  And according to my last observation, we all eat food and use energy.

 

BOTTOM LINE: The question on everyone’s mind is “how does all of this geopolitical strife affect me and my portfolio”? We are likely to see the following:

• Increased inflation as indicated previously in food, energy and commodity prices
• Greater short-term volatility in the stock market
• Higher energy prices and gas prices at the pump. Gas could easily be at $ 4.00 per gallon by the end of the summer……….I hope not!
• Greater perceived risk in the stock market
• Belief by the Fed that they will need to keep interest rates lower for a longer period of time

So far the stock market has digested the Mideast/Africa turmoil reasonably well. However, the market has risen for about 6 months in a row without a 10% correction. It would not be unusual if these events triggered a correction. And, if more dominoes fall, a more dramatic decline could occur.

Please be aware that we are NOT predicting a market decline, but just alerting you to the fact that these events call for more caution in our market outlook.

 

As always, please call us if you have any questions.   We do not believe that any corrections are needed in your portfolios at this time.   We believe your portfolio is already appropriately positioned for this type of environment. When we meet with you we will review any specific issues or concerns you may have.

 

As the nicer weather approaches and flowers start to bloom, we look forward to a happy and healthy Spring season.


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Sources: USA Today, Wall Street Journal, NY Times

This information should not be construed as investment, tax or legal advice. The publisher is not engaged in rendering legal, accounting or other professional services. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. If assistance or further information is needed, the reader is advised to engage the services of a competent professional.