2012: Off to a Good Start; More to Come

In December, when my 2012 view became positive, I questioned whether I was misinterpreting the value of the LTRO and the Chinese reduction in their Bank Reserve Requirements, as I appeared to be alone in my assessment. Jim Cramer screamed the sky was falling and virtually no one, on any station, seemed to appreciate the two events. In my January 2nd newsletter I outlined the basis for my belief as we were significantly increasing our equity exposure. Since then, I am more convinced that this year will reward us.

I finally found support this weekend, from Jeremy Siegel (Wharton finance professor) who through his analysis of rolling 5-year periods and the market’s valuation, wrote that the Dow should end 2013 at 15,000 (2 out of 3 chance) or 17,000 (50/50 chance). Of course this was met on Monday be a barrage of talking heads who stated the kind of gibberish that one espouses when covering all possibilities, such as “I am long-term bullish, but the market seems overbought short-term”. Many others said that the 20% gain since the October lows is “too much, too fast”. These prognostications, though possible, are not based on anything but feelings. It brought back memories of 2009. In my March 2009 Forbes article I stated that it was time to get invested – we had TARP and a near $1Trillion stimulus being thrown around. As Professor Siegel has his naysayers, I had mine at the time. After just a few weeks the market had gained more than 20% off the March 9th bottom and the talking heads said the market had moved too fast and was setup for another test of the bottom. And then too, their statements were based on feelings rather than an intelligent assessment of the economics at hand.

As a point of illustration, look at the chart below. The red arrow shows you where the market was when it had realized the same gain from the March ’09 bottom as it has today from the October bottom. Feelings can leave a lot of money on the table. I am not saying the market will be a straight line up, but considering everything, I believe that Dow 17,000 by the end of 2013 may be the more likely of Professor Siegel’s scenarios.

Consider the following:

1. The S&P 500 was flat last year but average company earnings rose by 18%.
2. More than 70% of all S&P 500 companies have beaten earnings estimates for each of the last 10 quarters.
3. Based on expected 2012 earnings and a P/E of 14.6 (ten year average), the S&P would be 1560 at year end.
4. Ben Bernanke will do whatever he can to keep interest rates near zero for the next three years.
5. The ECB will add another €1 Trillion euros or more to the already €500 B in the LTRO at the end of this month – Europe’s QE.
6. China is on course to lower bank reserve requirements now that their inflation is within their parameters.
7. Greece will almost certainly receive their bailout once their austerity measures have become law.

The further infusion by the ECB, through its LTRO (Long-Term Refinancing Operation) will add a large measure of liquidity to the European banks, buffering the possibility of contagion (Italy’s 10-year Treasury yield is now below 5.6%), or even the removal of Greece from the euro.

Certainly, Central Banks of the G4 (USA, Great Britain, Europe, and Japan) have shown that it is now their dominant strategy to expand their balance sheets at any sign of trouble, so we can be fairly comfortable in knowing that we have a safety net should foreseen or unforeseen trouble arise. Great Britain has just this month, added another £50B to their quantitative easing program, taking its total to £325B while cutting their interest rate to 0.5%, the lowest in history.

With central banks everywhere adding to their money supplies, the sad reality is that the bankers who were enriched by the bad loans and the politicians with their billions each year in deficit spending (now for four years in excess of $1.3 Trillion/year here at home), will have citizens of the western world pay for their looting. The trillions of dollars, euros, pounds and other participating currencies will ultimately be paid through inflation. The decline in purchasing power and the increased cost of commodities will most adversely affect the poor, those on fixed incomes, and unsuspecting investors who rely on savings, CDs, and bond interest (especially those in bond funds). It is more important than ever to maintain a hard-asset bent to our portfolios. In addition to gold, copper, iron ore, oil, pipelines and companies with prime real estate holdings, we have been assessing a number of real estate limited partnerships which may be held in Fidelity accounts, to compliment our portfolios with assets with lower correlation to the stock market and offer excellent hedges to a devaluing dollar. More will follow on these shortly.

Last month I wrote about the benefits of a National Energy Policy based on natural gas. Natural gas emits 40% less CO2 than gasoline, and very little of any other pollutant. You might say it is so clean that you can burn it in your kitchen – try that with gasoline (No, not really). I did a little calculating and thought you might find this of interest. It takes 126 cubic feet of natural gas to equal the power of one gallon of gasoline or diesel. That means that one mcf of natural gas is equivalent to 8 gallons of gasoline. An mcf of natural gas cost about $4 delivered to your home and 8 gallons of gasoline costs $28 (assuming $3.50/gallon). If an mcf of nat. gas rose to $7.00 it would still cost you only 1/4 as much to drive each month.

If the typical driver is using $150/month of gasoline, he would save over $100. There are over 200 Million drivers in the U.S. If the average monthly savings is only $100, this would be a $20Billion/month stimulus to the economy. It would stimulate job growth and severely impact the ability of countries like Iran to wreak havoc since the price of oil would drop dramatically. The drop in the price of oil would also be a stimulus for those still using gasoline and other forms of oil, as well as all other countries who currently import oil. Natural gas vehicles are throughout the world – Austin and many other cities use them for their fleets, they are prevalent in Europe and Pakistan has almost 100% of its cars and trucks powered by natural gas. Pass it along.

The U.S. has over 100 years worth of natural gas and more is being found every day. We will begin exporting it early next year. I’d like to use it here, but we will at least be invested in the companies that will be producing and shipping it to buyers all over the world.

Happy Valentines Day,

Ph. 5 12.345.6789

2009 S. Capital of Texas Hwy. 2nd Floor
Austin, TX 78746


Market View: March 2011

With recent volatility, I think a note on basic investing is valuable. First, markets move both up & down. Don’t get too elated when they make big moves up or too anxious when they make a big move down. Ask yourself if anything has really changed or is this a short-term reaction of traders. The difference between traders and investors is, over time, investors make money and traders do not. This does not mean that we will not reduce the size of positions and gather cash for future bargains, but wholesaling out of the market is almost always fruitless. The usual result is you catch a lot of the downside, or all, since no one can forecast the top or bottom, but usually you miss more of the upside than you missed of the down, resulting in a lot of activity which almost always results in lower returns and higher taxation.

I’ve examined years of client returns and this is almost always the case. It is human nature to want to be fully invested when things seem to be going strong and to be fully in cash when the market has a few bad days. The more one acts on those emotions, almost certainly, the lower the returns will be.

Ask yourself what has materially changed. If sectors are rotating due to macroeconomics, then I believe we should change with them. Remember, CNBC is there to keep you tuned-in. Almost every money manager who appears, is selling their book (wants you to buy what they own or sell what they are shorting). The hosts try to build a story around what is happening – but they are seldom accurate in their assessment and almost never get tomorrow correct.

Special Note: For MLP K-1s and the income tax forms associated with them, you may click on this link and download your specific forms. They should save you or your accountant time in preparing your tax return. Click on: https://www.taxpackagesupport.com/(S(lln2cs55l22svhagfvmd2g45))/k1SupportHome.aspx

Our Strategy:

In the summer of 2008, we increased cash and equivalents to about 50% because there was a material reason to do so. Thousands of sub-prime, adjustable-rate mortgages were about to start resetting in September thru December. These were the type that paid nothing down and nothing at closing, had monthly payments at a 1% rate with 6% added to the mortgage each of the first two years. Add closing costs which were rolled into the mortgage and these mortgages were typically 20% plus higher than the inflated purchase price – there was simply no reasonable expectation that these would not result in foreclosure.

Today, we are watching our oil supply. Unfortunately, we are reliant on countries with large populations of radical Muslims to provide us with the oil to keep our country running. Vast oil and natural gas reserves are literally beneath our feet, nuclear power is available but has been shunned, while we send our money overseas, much of which goes to finance the terrorists that we spend hundreds of billions to fight. I hope that changes soon, but for now the question is how to protect and grow our investments in this environment.

We are gathering cash from investments that do not lend themselves to high-priced oil, to reduce our overall exposure and to provide us the opportunity to buy good companies cheap. It is an important distinction that we are not buying hot stocks, we are buying solid companies which are well-positioned to grow in a world where millions of people are moving from being peasants to middle-class citizens every month.

Mid-East & Oil Turmoil…

The Spellman ReportEgypt, Libya, Tunesia and other Middle East nations have a host of human and political issues, but the impact on our markets has been somewhat muted. They’ve had the effect of making a market rally pause while the price of oil has risen some $20/barrel. Though the reduction in Libyan crude is not of the magnitude to cause an oil shortage, it does increase the susceptibility of the crude oil markets to other potential supply shocks. If the political unrest were to spread to Algeria, we might see a further spike in oil prices as the combination of Libya and Algeria supply constraints would be larger than Saudi Arabia could cover. It is in the world’s and Libya’s interest to help General Gaddafi find a new (not so pleasant) home as quickly as possible.

Shy of further contagion, we are likely seeing the near-term peak on oil prices, for Saudi Arabia has a vested interest in keeping the prices from rising so much that they choke the global recovery, or even worse, inspire the United States into adopting an energy policy which might reduce and eliminate our dependence on OPEC oil. Continued high oil prices should be bullish for natural gas since it is a low-cost, relatively clean energy source that is economically sensible. And now that Great Britain, the Eurozone, and the United States are all broke, I don’t believe we will see much movement towards solar or wind which require large government contributions to make them economic.

We have increased our holdings in the companies that do the drilling and service work on new wells as I suspect that big oil companies will have very active drilling programs with oil above $75 (right now most oil is priced around $115/bbl). You might call this the pick and shovel approach for it was the suppliers of basic tools who made the big and consistent money during the gold rush.

Still another area to watch is the copper market and infrastructure. Once the middle east settles, copper and other infrastructure related commodities and companies should rise quickly. This should give new money a chance to get in to some great companies that seemed to just keep running up, without giving new investors the opportunity to buy-in on a dip.

The dollar…

The dollar has long enjoyed its position as the world reserve currency. It has afforded us many luxuries such as cheap oil and gas and the ability to live beyond our means. Only now, our government has taken this to a level that the world will not tolerate. In 2005, our federal budget was $2.4 trillion. In 2010 it was $3.6 T and 2011 it is $3.8 trillion. $200 to $400 billion dollar deficits were uncomfortable, but last year and this year our federal government has seen fit to expand those deficits to $1.6 trillion each year! This does not count the Fed’s quantitative easing since their near $3 trillion is technically buying assets (of course most of those assets are IOU’s from the federal government. Don’t try this at home.

This seems to escape many if not most, Americans. Unfortunately, the traditional buyers of our debt fully understand that in the past two years the dollar has been printed and guaranteed future printing to the extent that it has fallen 20% against the Canadian dollar and the Swiss franc, over 30% against the Aussie and almost in half against gold. Even China is once again allowing their yuan to appreciate against the dollar. Just three years ago when the financial crisis began, the dollar was still viewed as a flight to safety. In fact for over 60 years, any time there was economic turmoil in the world, people would run to the dollar. Last year, when Greece was exposed, the flight to safety went to gold and the Swiss franc. Currently, with the middle east in turmoil, again the flight to safety went to gold and the Swiss franc. It is painfully obvious that the rest of the world is losing faith in our ability to pay our debts and fifty years from now it is very likely that this decade will be remembered as the decade that the dollar lost its status as the world’s reserve currency.

I know that sounds doom and gloom, but unfortunately that is exactly what is taking place. In fact, as much as Tim Geithner would like to convince you of our “Strong Dollar Policy”, he himself has chided China for keeping their currency undervalued. Congress and the President have done the same. Even Ben Bernanke said just two weeks ago that he was not responsible for inflation in emerging markets. He said “if they don’t want inflation, they should just let their currencies appreciate”. If we want everyone else to allow their currencies to appreciate against the dollar, we are practicing a weak dollar policy and the dollar will drop in value.

The silver lining (yes that is a hint) is that we do not have to be among the victims. Victims will include anyone holding cash savings, CD’s, bond mutual funds and long-term debt. If you are earning 3% in a CD, sending 1% to the IRS, leaving you with 2% earnings, while the dollar is declining in value by >10% per year, you have found a safe way to go broke without noticing. Using that scenario, you will lose 1/3 of your purchasing power in just five years. In ten years you could buy less than half as much. This is why we have so heavily weighted our portfolios towards companies that are not only profitable, but have hard assets. Hard assets will compensate you for the dollar’s devaluation. This is a sector rotation to hard assets and away from intellectual property and forms of cash.

IThe Spellman Reportn an environment where your currency is devalued, labor and intellectual property such as software and services, become cheaper while commodities and equipment become more expensive. I would rather own the things going up in value (probably does not need saying). By the same token, a bank holding a 30-year mortgage will actually make no money or even lose money on the mortgage. I believe as this unfolds, you will also find home prices stabilize and rise as astute investors realize that buying a house at or near construction cost and using a 30-year mortgage will almost certainly result in paying the mortgage with relatively worthless dollars in the future.

Again I may depress. But again, there is a silver lining. While the dollar burns, we do not have to be victims of the fiddling in Washington. There are many opportunities to insure our financial futures – they just require action. I believe our portfolios are well positioned to do just that. In fact, since rotating to this portfolio in early 2009 due to the new government spending and market conditions, we have considerably outpaced all major indexes. Of course there will be short periods when banks or computer makers or software does especially well and we will miss that, but I do not expect those times to be long in duration. The macro-picture of the world and of world currencies just does not support those sectors. They had their moments in the past two years, but had you owned the S&P 500 less those sectors, you would have out-performed the entirety of the S&P.


The Spellman ReportFinally, the moment I’ve been waiting for… China has clearly begun to allow their currency to appreciate, again.

As QE2 started to cause inflation in China, they did what they always do to fight inflation. They raised their interest rates and raised bank reserve requirements. This is from the classic playbook for Central Bankers. It attacks inflation by choking down the economy. It has always seemed to me that a better alternative would be to allow your currency to appreciate with the economy. It fights inflation since each dollar or yuan is worth more so less are required to purchase a good or service. In effect, it makes your citizens richer – if your currency appreciates 20%, a $1,000 has the purchasing power of $1200, so income and savings become worth more and your citizens can purchase more goods, purchase gasoline cheaper, and boost the economy from within.

As you can see in this chart, China held the yuan firmly pegged around 8.35 yuan per dollar until July 2005. For the next three years they allowed it to appreciate an average of 7% per year. That continued until May of 2008 when the financial crisis erupted and China pegged the yuan again, but this time at 6.84 per dollar, almost a 20% appreciation in less than three years. The peg remained until a few months ago when the yuan began to appreciate just slightly, but now can be seen beginning to appreciate again at about an 8% annual rate.

Number of yuan per dollar

As this continues, we will want to own companies who sell to these (richer) Chinese consumers. Whether the companies are domiciled in the United States, China, or some other country is of much lesser importance.

Frank began his career in 1978 and has distinguished himself as a local and national authority on investing.  Frank appears regularly on CNBC, Fox Business News and Bloomberg television. He is a contributing author to Forbes Magazine and is often quoted in the Wall Street Journal.  He has been an analyst and investment manager since 1997, using his economics and statistical mathematics background to guide his philosophy of Sector Rotation Management.

Contact Frank Beck.

Information included in this column is not to be taken as investment advice.  The information is general in nature and may not be appropriate for your individual situation.

The comments, graphs, forecasts, and indices published in Stock Market View are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical inasmuch as we have investors who enter various investments at different times.

2011, What’s in Store…

Frank Beck

Frank Beck

Happy New Year and may 2011 investing be as profitable as 2010 which saw our accounts quadruple the returns of the World Stock index and double the U.S. markets, which were the best in the world last year. As we enter 2011 we can expect a mixed bag of opportunities and challenges. Emerging markets continue their growth while the U.S. hangs on and Europe fights for survival under mountains of debt and devaluing currencies. Since August, when Ben Bernanke, Fed Chairman, began telegraphing his intention to launch QE2, Treasury and corporate bond prices have dropped sharply, while the stock markets have climbed higher. This has the effect of prolonging our current positions of commodities, precious metals and stocks (those companies which have hard assets and/or sell to emerging markets). This trend can continue until interest rates rise high enough to compete with this list. At that time, bond fund investors will have been decimated and bonds will sell at discounts that should offer us very attractive returns as we rotate parts of our portfolio to the newly advantaged sectors.

One of the biggest errors in investing is the view that the economy and the markets act as one. It is important to understand that the European and U.S. markets are made-up of hundreds of multi-national companies (MNCs) whose revenues have grown so large that they dwarf the GDPs of many countries. The MNCs earn their profits outside their host country avoiding countries with adverse taxation (such as the U.S. which now has the highest corporate tax rates of any competitive country). It is estimated that there are more than 20,000 MNCs operating in the global economy, with over 100,000 overseas affiliates running cross-border businesses. Through a tactic known as “transfer pricing”, MNCs allocate income to subsidiaries in tax havens while attributing expenses to higher taxing countries. Governments will no longer be able to rely on corporate taxes as a means for more spending. However, countries like Brazil are realizing this now and have reduced corporate taxes and are reaping the benefits of full employment. They are actually importing labor as there are more jobs than people.

Bernanke's Magic ElixerFor investing, there is a more important ramification of QE2 and MNCs. In its simplest form, “quantitative easing,” (QE) is nothing more than massive money printing, designed to dilute the value of US-dollars floating in circulation. And since most globally traded commodities are priced in dollars, when the value of the dollar goes down, the prices of commodities and precious metals usually climb higher. China’s trade minister Chen Deming lamented, “Uncontrolled printing of dollars and rising international prices for commodities are causing an imported inflationary shock for China and are a key factor behind increasing uncertainty.” The US money supply, as measured by MZM, has mushroomed by nearly $500 billion since late April, and is fueling the explosive surge of the “Commodity Super Cycle,” to record heights.

Therefore, the only viable option left for Beijing that could hold down the cost of soaring raw materials, is to succumb to pressure from the Fed and US-Treasury, and allow the yuan to climb further against the US-dollar. Right now, Hong Kong based currency dealers expect the yuan to gain roughly 6% this year, hitting 6.25 /dollar in late 2011.

Further, QE2 is contributing to the global trend away from the dollar. I expect that sometime this decade we will see the dollar’s role as the world’s currency reserve, be replaced with a global basket of currencies and/or commodities. Though the dollar will certainly remain an important ingredient in such a basket, it will still have to weaken. Going from the sole currency reserve to a shared position means that precious metals and commodities will continue to rise in dollar prices.

Missing the importance of this has prevented most investors from participating in the gains that hard assets have provided. More unfortunate is the fact that most Americans are not investors – they may have a 401(k) which offers very limited choices. Sadly, those choices seldom offer much or any exposure to precious metals, commodities, or MLPs and participants are typically invested to a fairly large percentage in cash and bond funds – the two areas which will suffer the most.


Investment OpportunitiesThere are very few Amazons, so investment opportunity, today, requires finding companies that are selling to the emerging markets or have needed resources or strategic hard assets. I’ve discussed emerging markets, high dividend stocks, hard assets, and natural resources in many issues over the past five years, so there is not much new to report, other than that they are still in tack and should remain so until interest rates rise enough to compete for investment dollars. At that time, bond fund investors will have been decimated and bonds will be selling at attractive discounts, providing us another opportunity.


Predicting the future of the Chinese economy rests on a trend that has held true for thirty years. Like a boulder rolling down a slope, China’s economic growth continues to pick up momentum. The immense force of 1.3 billion people struggling to rise above poverty is the driving force behind that momentum. Although China has become the world’s number two economy, the na tion remains much poorer than western countries on a per-capita basis. That means the Chinese dominant obsession will continue to follow the maxim of the late Supreme Leader, Deng Xiao Ping. He famously said, “To get rich is glorious.”

The Chinese are doing just that and consumer spending is growing at a rate near 18% per year. Along with government spending, there are hundreds of billions of dollars being poured into companies building infrastructure or serving the needs and desires of the growing numbers of the middle class. From cell phones to hamburgers, the growing consumer class wants the same types of luxuries found here. Even Rolls Royce sales in China will soon eclipse those in the United States. This year, they expect to sell 800 of the ultra luxurious Ghost sedans at a price of nearly $1,000,000 each.

Though we only held a few positions in the BIC (Brazil, India, China) this year, and none in Russia (I don’t like the idea of making 30% until the government decides to own 100% of my assets), I expect their markets to be attractive again, once they no longer feel the need to raise interest rates or otherwise tighten fiscal policy. Another example of sector rotation, this should offer us another opportunity to re-enter these markets in a significant way, at attractive prices and attractive long-term growth potential.


Though the economy struggles to add enough jobs and the dollar is under attack, the U.S. is still the world’s biggest economy. It is the most innovative and it is highly efficient by any standard. Surprisingly, only one in five Americans believes that the U.S. has the largest and disappointingly, only 30% of Americans say their portfolios have reaped notable gains since the market low in March 2009.

This should be the year for the large multi-nationals which have accumulated mountains of cash and are operating lean and efficient businesses. Generally they are selling at attractive valuations and can offer growing dividends. Choosing those with the best valuations and the best exposure to emerging markets should provide us another profitable opportunity.

Of course we will pay close attention to the amount of leverage at hedge funds and banks, which combined with the bad mortgages, caused the worldwide pain of 2008. If interest rates rise, we will rotate our portfolios accordingly (as noted above). The wildcard is Europe. We will monitor the sovereign debt problems there and act accordingly as Europe and the U.S. are economically conjoined.


I never expect a smooth ride, but this year offers opportunities in almost every scenario, though it will certainly require making changes along the way. We should be able to make any rotations needed while still managing for another year of gains without much taxation.

May 2011 be your best year for good health, good luck and good fortune.

Frank began his career in 1978 and has distinguished himself as a local and national authority on investing.  Frank appears regularly on CNBC, Fox Business News and Bloomberg television. He is a contributing author to Forbes Magazine and is often quoted in the Wall Street Journal.  He has been an analyst and investment manager since 1997, using his economics and statistical mathematics background to guide his philosophy of Sector Rotation Management.

Contact Frank Beck.

Information included in this column is not to be taken as investment advice.  The information is general in nature and may not be appropriate for your individual situation.

The comments, graphs, forecasts, and indices published in Stock Market View are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical inasmuch as we have investors who enter various investments at different times.