Investments: Spread the risk to maximise returns
Getting the balance right could make the difference between a winning and a losing portfolio.
By Paul Farrow
Last Updated: 4:52PM GMT 13 Mar 2009
You will often have heard investment professionals talk about the need to build a balanced portfolio spread across a variety of asset classes.
It is, therefore, perhaps surprising that research reveals that many private investors know next to nothing about asset allocation when it comes to building their investment portfolio.
Research has shown that nearly four out of 10 investors admit that they have little idea how their portfolio is split between equities, bonds and cash.
Even fewer investors are aware of the split in their portfolio by geography, sector or size of stock. Half of those polled confessed that they did not know how their portfolio was structured by country, while 49pc admitted to a similar ignorance about sector exposure, and 48pc were not sure how the portfolio was split between large, mid and small-cap stocks.
Put simply, asset allocation is the balance between the major asset types of property, cash, fixed interest and equities in an investment portfolio.
Getting the balance right is vital if you want to achieve your financial objectives. Fail to do so and it is easy for you either to buy the wrong kind of investment or to create a portfolio of investments that is unlikely to generate the desired results.
The stock market turmoil between 2000 and 2003 showed just how important it is to have a balanced portfolio. People whose portfolios were heavily exposed to equities suffered disproportionately large losses as share prices plummeted.
On the other hand, those with balanced portfolios that had decent exposure to fixed-interest investments such as corporate bonds, property and cash would have fared a lot better. The three asset classes produced positive returns as share values fell, which would have helped offset the stock market losses and eased the pain.
In recent years it has been harder to call – most assets have fallen in value. Overexposure to assets such as emerging markets and commercial property would have hurt you more than exposure to safer investments such as cash and gold.
In real life, the eventual mix of assets in your portfolio will depend on your own personal circumstances, such as your age, earnings, attitude to risk and financial objectives. People with more substantial portfolios, for example, are sometimes advised to introduce more sophisticated investments such as hedge funds and structured products into the mix.
Building a portfolio is also a question of managing risk versus return.
Risk is not just about potential capital losses – you also have to consider the risk of inflation and a potential reduction in income if circumstances go against you. For example, people in their thirties and forties may be prepared to have a greater exposure to equities because they can afford to take a longer-term view and will be looking to grow their portfolio.
People who are nearer to retirement are more likely to want to preserve the capital they have got and adopt a more cautious strategy, with a bigger exposure to corporate bonds. The sensible investor takes into account the amount of risk they are able to tolerate, both psychologically and in terms of their individual needs.
It is therefore vital to understand the different levels of risk inherent in various types of investment. Overly concentrating on a single asset class will increase the risk to a portfolio unnecessarily.
Investors have traditionally adopted a pyramid strategy for building a portfolio, starting with cash, then fixed interest, with equities at the peak. The consensus is that you start with a solid foundation of cash before dabbling in equities or bonds – some say a cash nest egg should represent three, or even six, months' salary.
It is difficult to generalise as individual circumstances will be different, but broadly speaking many experts agree that people seeking medium to low-risk capital growth should aim to have a portfolio that is 60pc invested in equities, 25pc in bonds and 15pc in cash. Those seeking a high, regular income, on the other hand, would do better with just 20pc in shares, 20pc in cash and the remaining 60pc in bonds.
As mentioned earlier, the balance of assets will depend on factors such as age, attitude to risk, financial objectives and the length of time over which you intend to invest.
For example, equities should be viewed as long-term investments – that is to say, held for at least five years. If you cannot afford to wait for that long, you should concentrate on lower-risk, fixed-rate investments such as bonds. If you are looking at less than three years, you should probably limit yourself to cash-based investments.
In the past, as people grew older their investment portfolios became risk averse. They reduced their exposure to equities and generally avoided investments that put their capital at risk. But times are changing and this may not be the right strategy to adopt.
In real life, it is not just the asset mix that investors need to consider when building a portfolio. There are also tax implications, be it capital gains, inheritance tax or income tax liabilities.
For example, it is prudent to make sure you are not handing over more money to the taxman than you need. Individual savings accounts (Isas) allow you to invest up to £7,200 each financial year and gains are free from capital gains tax.
The tax credit on dividend income has recently been scrapped, which means basic-rate taxpayers get no income tax benefit with Isas, but higher-rate taxpayers still do. This is because they will still get a net dividend payment worth 25pc more than they would if their investments were outside an Isa and they had to pay tax.
Obvious practicalities dictate that our Fantasy Fund Manager game will be played over the short period of less than a year, rather than a decent real life investment horizon of five years. Many investors are buying corporate bond funds and equity income funds – whether they will be the winners come next year, who knows.
The shrewd professionals are usually ahead of the game – they take profits before the price has peaked and often buy before values have bottomed.
http://www.telegraph.co.uk/finance/personalfinance/investing/4984569/Investments-Spread-the-risk-to-maximise-returns.html
Saturday 14 March 2009
Long-term investing doesn't work!
Don't Invest Like Jon Stewart's Mom
By Tim Hanson
March 13, 2009 Comments (15)
Hey, that was a lot of awkward fun, wasn't it?For those of you who missed The Daily Show with Jon Stewart last night, you'll have to turn to one of a million or so links on the Internet to see the rousing conclusion to "Basic Cable Personality Clash Skirmish '09," a.k.a. the weeklong feud between TheStreet.com's (Nasdaq: TSCM) Jim Cramer and Comedy Central's Jon Stewart. For those who would rather waste that 22 minutes of their life on Minesweeper or NCAA basketball, here's what we learned.
1) Yes, Jim Cramer is a manic clown.2) Jim Cramer's nephew writes the Mad Money show while wearing his pajamas.3) CNBC is not good at hard-hitting reporting.4) Jon Stewart's pretty peeved about all this and ready to drop a few f-bombs to let folks know it.5) Long-term investing doesn't work.
Wait, what?As a practitioner of long-term investing here at The Motley Fool, I was pretty shocked by this revelation. But there it was as the interview was wrapping up. Let's go to the transcript:
Jon Stewart: My mother is 75. And she bought into the idea that long-term investing is the way to go. And guess what?
Jim Cramer: It didn't work.
[Jon Stewart assents with some Arthur Fonzarelli-type hand motion and concurrent clicking noise.]
We'll assume that was an assent Now, I'm not going to pull a Rick Santelli and call Jon Stewart or his mother a loser because that would bring down the wrath of The Daily Show and Dora the Explorer (who my nephews envy, and if they saw her swearing at me in Spanish it would absolutely kill them) upon me. But even if Jon Stewart's mom -- like all of us long-term investors -- has lost a great deal of money over the past 16 or so months, that's not evidence that long-term investing doesn't work.
In fact, long-term investing is the only way to protect yourself from the manipulations, machinations, and generally idiocy that drive stock price movements on a day-to-day basis. And if Jon Stewart's mom truly is/was a long-term investor, then she should have come through this current calamity relatively ok provided she has been a long-term investor for the long-term and had been sticking to a disciplined multi-decade asset-allocation game plan. That means keeping a mix of stocks and bonds, and within that stock allocation having a mix of asset classes. It doesn't mean simply loading up on General Motors (NYSE: GM), Eastman Kodak (NYSE: EK), and Bear Stearns because Jim Cramer told you "Bear Stearns is fine!" -- and only those three stocks -- and throwing up your hands because it doesn't work.
Here's why
Let's assume Jon Stewart's mom started investing 30 years ago, in 1979, at age 45. Let's further the following simple allocation strategy:
She invested simply in the Vanguard 500 Index (Nasdaq: VFINX), a low-cost market-tracker that holds giants today such as ExxonMobil (NYSE: XOM), General Electric (NYSE: GE), and Wal-Mart (NYSE: WMT).
At age 55, she realized that she was nearing retirement and should be increasing her allocation to principal-protecting bonds, using the rule of thumb that her bond allocation should be equal to her age.
Finally, let's assume that she invested the same amount of money, be it $1, $100, $1,000, or $10,000, at the beginning of each and every year.
Where would she be today following a greater than 50% collapse in the stock market?
I realize that's a lot of assumptions
Now, portfolio simulations like this are tricky to pull off and don't account for all the details -- such as, in this example, frictional costs or dividend yields which I'm assuming canceled out -- but they are illuminating. And according to my conservative math, for every $1 that Jon Stewart's mom put in over the trailing 30-year period, she would have $1.63 today. So, if all told, she had deposited $500,000 over the years (in annual $16,667 increments), she would have $815,000 today.
Now, let's be honest, that's not great.
It's not 10% or 20% annual returns, it's not turning thousands into millions, and it's not an enormous stock market success story. But it is certainly enough to live on and evidence of how long-term investing -- provided it's practiced with discipline and an eye toward asset allocation -- can protect your wealth and give you the opportunity to make money.
Because let's be honest, though the stock market is down today, it will rebound. Commerce around the world is too strong for it to be otherwise. And the worst thing Jon Stewart's mom could do today is -- at her son's behest -- give up faith in long-term investing as the market stands at a 10-year bottom.
In sum
Numbers, jokes, and snarky comments aside, what I'm saying is this: Rather than be angry, let's recognize that the stock market, like most human endeavors, is flawed. There will be disasters and blow-ups from time to time, just as there will be bubbles. Let's use this as an opportunity to educate more Americans about how to take control of their finances and ignore the market's manic day-to-day movements.The solution is not to scare Americans into thinking the stock market is some Ponzi scheme controlled by immoral cretins that can never work for them. See, over time, those cretins are found out. And over time, everyone can make money in the stock market and enjoy a more secure retirement by having a long-term investing timeline and sticking to a disciplined asset allocation plan. That means not abandoning bonds when stocks are outperforming and not abandoning stocks when bonds are outperforming.
Read/Post Comments (15) Recommend This Article (21)
http://www.fool.com/investing/general/2009/03/13/dont-invest-like-jon-stewarts-mom.aspx
By Tim Hanson
March 13, 2009 Comments (15)
Hey, that was a lot of awkward fun, wasn't it?For those of you who missed The Daily Show with Jon Stewart last night, you'll have to turn to one of a million or so links on the Internet to see the rousing conclusion to "Basic Cable Personality Clash Skirmish '09," a.k.a. the weeklong feud between TheStreet.com's (Nasdaq: TSCM) Jim Cramer and Comedy Central's Jon Stewart. For those who would rather waste that 22 minutes of their life on Minesweeper or NCAA basketball, here's what we learned.
1) Yes, Jim Cramer is a manic clown.2) Jim Cramer's nephew writes the Mad Money show while wearing his pajamas.3) CNBC is not good at hard-hitting reporting.4) Jon Stewart's pretty peeved about all this and ready to drop a few f-bombs to let folks know it.5) Long-term investing doesn't work.
Wait, what?As a practitioner of long-term investing here at The Motley Fool, I was pretty shocked by this revelation. But there it was as the interview was wrapping up. Let's go to the transcript:
Jon Stewart: My mother is 75. And she bought into the idea that long-term investing is the way to go. And guess what?
Jim Cramer: It didn't work.
[Jon Stewart assents with some Arthur Fonzarelli-type hand motion and concurrent clicking noise.]
We'll assume that was an assent Now, I'm not going to pull a Rick Santelli and call Jon Stewart or his mother a loser because that would bring down the wrath of The Daily Show and Dora the Explorer (who my nephews envy, and if they saw her swearing at me in Spanish it would absolutely kill them) upon me. But even if Jon Stewart's mom -- like all of us long-term investors -- has lost a great deal of money over the past 16 or so months, that's not evidence that long-term investing doesn't work.
In fact, long-term investing is the only way to protect yourself from the manipulations, machinations, and generally idiocy that drive stock price movements on a day-to-day basis. And if Jon Stewart's mom truly is/was a long-term investor, then she should have come through this current calamity relatively ok provided she has been a long-term investor for the long-term and had been sticking to a disciplined multi-decade asset-allocation game plan. That means keeping a mix of stocks and bonds, and within that stock allocation having a mix of asset classes. It doesn't mean simply loading up on General Motors (NYSE: GM), Eastman Kodak (NYSE: EK), and Bear Stearns because Jim Cramer told you "Bear Stearns is fine!" -- and only those three stocks -- and throwing up your hands because it doesn't work.
Here's why
Let's assume Jon Stewart's mom started investing 30 years ago, in 1979, at age 45. Let's further the following simple allocation strategy:
She invested simply in the Vanguard 500 Index (Nasdaq: VFINX), a low-cost market-tracker that holds giants today such as ExxonMobil (NYSE: XOM), General Electric (NYSE: GE), and Wal-Mart (NYSE: WMT).
At age 55, she realized that she was nearing retirement and should be increasing her allocation to principal-protecting bonds, using the rule of thumb that her bond allocation should be equal to her age.
Finally, let's assume that she invested the same amount of money, be it $1, $100, $1,000, or $10,000, at the beginning of each and every year.
Where would she be today following a greater than 50% collapse in the stock market?
I realize that's a lot of assumptions
Now, portfolio simulations like this are tricky to pull off and don't account for all the details -- such as, in this example, frictional costs or dividend yields which I'm assuming canceled out -- but they are illuminating. And according to my conservative math, for every $1 that Jon Stewart's mom put in over the trailing 30-year period, she would have $1.63 today. So, if all told, she had deposited $500,000 over the years (in annual $16,667 increments), she would have $815,000 today.
Now, let's be honest, that's not great.
It's not 10% or 20% annual returns, it's not turning thousands into millions, and it's not an enormous stock market success story. But it is certainly enough to live on and evidence of how long-term investing -- provided it's practiced with discipline and an eye toward asset allocation -- can protect your wealth and give you the opportunity to make money.
Because let's be honest, though the stock market is down today, it will rebound. Commerce around the world is too strong for it to be otherwise. And the worst thing Jon Stewart's mom could do today is -- at her son's behest -- give up faith in long-term investing as the market stands at a 10-year bottom.
In sum
Numbers, jokes, and snarky comments aside, what I'm saying is this: Rather than be angry, let's recognize that the stock market, like most human endeavors, is flawed. There will be disasters and blow-ups from time to time, just as there will be bubbles. Let's use this as an opportunity to educate more Americans about how to take control of their finances and ignore the market's manic day-to-day movements.The solution is not to scare Americans into thinking the stock market is some Ponzi scheme controlled by immoral cretins that can never work for them. See, over time, those cretins are found out. And over time, everyone can make money in the stock market and enjoy a more secure retirement by having a long-term investing timeline and sticking to a disciplined asset allocation plan. That means not abandoning bonds when stocks are outperforming and not abandoning stocks when bonds are outperforming.
Read/Post Comments (15) Recommend This Article (21)
http://www.fool.com/investing/general/2009/03/13/dont-invest-like-jon-stewarts-mom.aspx
Avoid This Triple Whammy to Your Wealth
Avoid This Triple Whammy to Your Wealth
By Dan Caplinger
March 13, 2009 Comments (1)
In the latest installment of our series on government reports that make you say "duh," the Federal Reserve announced today that on the whole, American households were poorer at the beginning of 2009 than they had been the previous year.
That's not news to anyone. But the key lesson you should take from the report may not be so obvious. While falling real estate values and dropping stock prices are mostly beyond your control, you can help reverse the trend of falling net worth by focusing on the one thing you can do to improve your finances: cutting your debt.
Some ugly numbers
The Federal Reserve's flow of funds report typically makes great reading material if you're short on sleeping pills. But recently, those with a morbid sense of curiosity have pored through the document looking for further proof of just how bad the current economic climate really is.
The most recent release doesn't disappoint on that score. Total assets amounted to $65.7 trillion at the end of 2008, down nearly 8% in just the fourth quarter and almost 15% for the year. As you'd probably expect, the losses spanned across household balance sheets -- real estate values fell about 11% in 2008, while financial assets dropped 18%.
On the liability side, although households' overall debt levels finally ended a streak of large annual gains, they certainly failed to shrink significantly, clocking in at $14.2 trillion. Mortgage debt fell very slightly, but consumer credit more than offset those losses.
The net result was an $11 trillion loss in net worth, to $51.5 trillion. That's an 18% drop just since last year and the lowest level since 2003, representing the undoing of five years' worth of appreciating wealth for American households.
Impact on business
Even worse, though stable debt levels may not sound like great news, they're having a huge negative impact on businesses that count on consumer or corporate spending -- in other words, just about the entire economy. Here's just a sample of warnings about first-quarter earnings that companies have announced so far this year:
Company
Date Announced
Growth Estimate for Current Quarter
Growth Estimate for Next Quarter
Applied Materials (Nasdaq: AMAT)
Feb. 2
(141.7%)
(157.1%)
Procter & Gamble (NYSE: PG)
Jan. 30
(1.2%)
(10.9%)
Novartis (NYSE: NVS)
Feb. 24
(18.6%)
(20.4%)
Intel (Nasdaq: INTC)
Jan. 19
(92.0%)
(78.6%)
Adobe (Nasdaq: ADBE)
March 4
(8.3%)
(30.0%)
Source: Company press releases and Yahoo! Finance.
In addition, the debt freeze among consumers could spell more danger ahead for companies that rely on debt financing for sales, including homebuilders like Pulte Homes (NYSE: PHM) and high-end electronics and appliance seller Best Buy (NYSE: BBY).
How to keep getting richer
Unfortunately, out of the three main areas the report identifies, you can't do much about two of them. Real estate prices won't set a bottom until they're good and ready, and most homeowners have little choice but to sit and wait for a recovery. Similarly, investors in stocks have seen big losses, and while this week's bounce in stocks has been encouraging, it's likely that there will be more volatility before stocks establish a strong foundation for more extensive gains.
What you can do, however, is to do your part to keep the other side of your personal balance sheet in line. Although some may blame rising savings rates for continued weakness in the economy, that's no excuse for you to maintain irresponsibly high debt levels for yourself.
If you dedicate yourself to reducing debt and keeping your savings levels up, then you'll be better able to weather a storm of decreasing asset values. Although you still may not see your net worth recover to year-ago levels in the near future, keeping debt under control will make that eventual recovery a lot faster -- and easier to achieve.
Read more about how to keep your finances healthy:
Four ways you may be destroying your retirement.
Where smart investors are putting their money today.
Don't rely on this retirement plan.
Fool contributor Dan Caplinger has mostly stayed out of debt, at least for now. He doesn't own shares of the companies mentioned in this article. Novartis is a Motley Fool Global Gains pick. Procter & Gamble is a Motley Fool Income Investor recommendation.
http://www.fool.com/retirement/general/2009/03/13/avoid-this-triple-whammy-to-your-wealth.aspx
By Dan Caplinger
March 13, 2009 Comments (1)
In the latest installment of our series on government reports that make you say "duh," the Federal Reserve announced today that on the whole, American households were poorer at the beginning of 2009 than they had been the previous year.
That's not news to anyone. But the key lesson you should take from the report may not be so obvious. While falling real estate values and dropping stock prices are mostly beyond your control, you can help reverse the trend of falling net worth by focusing on the one thing you can do to improve your finances: cutting your debt.
Some ugly numbers
The Federal Reserve's flow of funds report typically makes great reading material if you're short on sleeping pills. But recently, those with a morbid sense of curiosity have pored through the document looking for further proof of just how bad the current economic climate really is.
The most recent release doesn't disappoint on that score. Total assets amounted to $65.7 trillion at the end of 2008, down nearly 8% in just the fourth quarter and almost 15% for the year. As you'd probably expect, the losses spanned across household balance sheets -- real estate values fell about 11% in 2008, while financial assets dropped 18%.
On the liability side, although households' overall debt levels finally ended a streak of large annual gains, they certainly failed to shrink significantly, clocking in at $14.2 trillion. Mortgage debt fell very slightly, but consumer credit more than offset those losses.
The net result was an $11 trillion loss in net worth, to $51.5 trillion. That's an 18% drop just since last year and the lowest level since 2003, representing the undoing of five years' worth of appreciating wealth for American households.
Impact on business
Even worse, though stable debt levels may not sound like great news, they're having a huge negative impact on businesses that count on consumer or corporate spending -- in other words, just about the entire economy. Here's just a sample of warnings about first-quarter earnings that companies have announced so far this year:
Company
Date Announced
Growth Estimate for Current Quarter
Growth Estimate for Next Quarter
Applied Materials (Nasdaq: AMAT)
Feb. 2
(141.7%)
(157.1%)
Procter & Gamble (NYSE: PG)
Jan. 30
(1.2%)
(10.9%)
Novartis (NYSE: NVS)
Feb. 24
(18.6%)
(20.4%)
Intel (Nasdaq: INTC)
Jan. 19
(92.0%)
(78.6%)
Adobe (Nasdaq: ADBE)
March 4
(8.3%)
(30.0%)
Source: Company press releases and Yahoo! Finance.
In addition, the debt freeze among consumers could spell more danger ahead for companies that rely on debt financing for sales, including homebuilders like Pulte Homes (NYSE: PHM) and high-end electronics and appliance seller Best Buy (NYSE: BBY).
How to keep getting richer
Unfortunately, out of the three main areas the report identifies, you can't do much about two of them. Real estate prices won't set a bottom until they're good and ready, and most homeowners have little choice but to sit and wait for a recovery. Similarly, investors in stocks have seen big losses, and while this week's bounce in stocks has been encouraging, it's likely that there will be more volatility before stocks establish a strong foundation for more extensive gains.
What you can do, however, is to do your part to keep the other side of your personal balance sheet in line. Although some may blame rising savings rates for continued weakness in the economy, that's no excuse for you to maintain irresponsibly high debt levels for yourself.
If you dedicate yourself to reducing debt and keeping your savings levels up, then you'll be better able to weather a storm of decreasing asset values. Although you still may not see your net worth recover to year-ago levels in the near future, keeping debt under control will make that eventual recovery a lot faster -- and easier to achieve.
Read more about how to keep your finances healthy:
Four ways you may be destroying your retirement.
Where smart investors are putting their money today.
Don't rely on this retirement plan.
Fool contributor Dan Caplinger has mostly stayed out of debt, at least for now. He doesn't own shares of the companies mentioned in this article. Novartis is a Motley Fool Global Gains pick. Procter & Gamble is a Motley Fool Income Investor recommendation.
http://www.fool.com/retirement/general/2009/03/13/avoid-this-triple-whammy-to-your-wealth.aspx
To Mark-to-Market, or Not to Mark-to-Market?
To Mark-to-Market, or Not to Mark-to-Market?
By Matt Koppenheffer
March 12, 2009 Comments (6)
As investors and traders keep trying to figure out whether the market has bottomed, or whether Citigroup's (NYSE: C) health report holds any truth, one question seems to pop up over and over again: Should we jettison mark-to-market accounting?
The assumption is that forcing companies to mark their investments to markets that are under significant pressure, or downright frozen, helped exacerbate the panic that has engulfed Wall Street for more than a year now. Opponents of mark-to-market accounting believe that if banks and other financial institutions weren't forced to mark down their assets, there wouldn't be the dire concerns over liquidity that pushed Lehman Brothers over the precipice and into bankruptcy, and forced Bank of America (NYSE: BAC), Citigroup, and JPMorgan (NYSE: JPM) to take billions in government money.
But worrying about mark-to-market lets a bigger issue slide.
Leveraged into oblivion
Mark-to-market certainly played its part, but the only reason it had such a catastrophic impact was because of the massive leverage employed at the major financial institutions. Had banks and brokerages used only a moderate amount of leverage, marking down assets wouldn't be nearly as big of a deal. Sure, the firms' book values would still fall, but it's less likely that those markdowns would imperil them.
As we increase the leverage on a firm's balance sheet, though, ever smaller losses can start to put it at risk of failing. Lever it up 2-to-1, and assets would have to decline 50% to wipe out the firm's net worth. Lever it up 3-to-1, and it takes a 33% drop to leave the company grasping at straws. Put leverage at 10-to-1, and it only takes a 10% hit to assets to get to the same end. Of course, 10-to-1 leverage was on the low end of what financial firms were doing. Here's a look at where some of the major financials stood when their 2007 fiscal years ended:
Company
Assets
Financial Leverage
Citigroup
$2.2 trillion
19.3
Goldman Sachs (NYSE: GS)
$1.1 trillion
26.2
Merrill Lynch
$1 trillion
31.9
Lehman Brothers
$691 billion
30.7
Bear Stearns
$395 billion
33.5
Source: Capital IQ, a Standard & Poor's company. All numbers are as of fiscal year end 2007.
For sake of comparison, Coca-Cola was leveraged 2-to-1 at the end of 2007, Halliburton was at 1.9-to-1, and Wal-Mart (NYSE: WMT) clocked in at 2.5-to-1. Of course, we can also note here that the danger of leverage is certainly not industry-specific. Lately, we've been treated to the tribulations of the U.S. automakers, but we shouldn't have been surprised -- Ford (NYSE: F) had an amazing 50-to-1 leverage at the end of 2007, and as for General Motors (NYSE: GM), well, the last time it didn't have a negative book value was in 2005, when it was leveraged 32-to-1.
The answer to mark-to-market
Even if mark-to-market isn't the right question right now, there's still an answer to it: It needs to be kept in place. Turn to any accounting book, and you'll see that the purpose of a balance sheet is to provide a picture of the company's assets and liabilities at a point in time. If financial institutions want to give investors additional disclosure showing them what management thinks its assets are worth, that's great. But for a balance sheet to be a worthwhile measure, we need to be marking assets to market when markets exist.
Keeping mark-to-market in place has the added benefit of discouraging financial companies from stacking up similar levels of leverage in the future. If they have to prepare their balance sheets for potential adverse market movements -- as opposed to the placid stability of a given company's valuation models -- then 30-to-1 leverage suddenly sounds a little less appealing.
There's no doubt in my mind that the debate will rage on over whether mark-to-market should be pulled, and the opponents of the convention may even come out on top. But investors who want to avoid buying into stars destined to become supernovas need to keep in mind that massive leverage, not mark-to-market accounting, was the real seed that grew into financial disaster.
Further financial Foolishness:
The Biggest Bubble the World Has Ever Seen
Who Should Go to Jail?
It's Time to Sell and Walk Away
The Coca-Cola Company and Wal-Mart Stores are Motley Fool Inside Value recommendations. Fool contributor Matt Koppenheffer owns shares of Bank of America, but does not own shares of any of the other companies mentioned.
http://www.fool.com/investing/value/2009/03/12/to-mark-to-market-or-not-to-mark-to-market.aspx
By Matt Koppenheffer
March 12, 2009 Comments (6)
As investors and traders keep trying to figure out whether the market has bottomed, or whether Citigroup's (NYSE: C) health report holds any truth, one question seems to pop up over and over again: Should we jettison mark-to-market accounting?
The assumption is that forcing companies to mark their investments to markets that are under significant pressure, or downright frozen, helped exacerbate the panic that has engulfed Wall Street for more than a year now. Opponents of mark-to-market accounting believe that if banks and other financial institutions weren't forced to mark down their assets, there wouldn't be the dire concerns over liquidity that pushed Lehman Brothers over the precipice and into bankruptcy, and forced Bank of America (NYSE: BAC), Citigroup, and JPMorgan (NYSE: JPM) to take billions in government money.
But worrying about mark-to-market lets a bigger issue slide.
Leveraged into oblivion
Mark-to-market certainly played its part, but the only reason it had such a catastrophic impact was because of the massive leverage employed at the major financial institutions. Had banks and brokerages used only a moderate amount of leverage, marking down assets wouldn't be nearly as big of a deal. Sure, the firms' book values would still fall, but it's less likely that those markdowns would imperil them.
As we increase the leverage on a firm's balance sheet, though, ever smaller losses can start to put it at risk of failing. Lever it up 2-to-1, and assets would have to decline 50% to wipe out the firm's net worth. Lever it up 3-to-1, and it takes a 33% drop to leave the company grasping at straws. Put leverage at 10-to-1, and it only takes a 10% hit to assets to get to the same end. Of course, 10-to-1 leverage was on the low end of what financial firms were doing. Here's a look at where some of the major financials stood when their 2007 fiscal years ended:
Company
Assets
Financial Leverage
Citigroup
$2.2 trillion
19.3
Goldman Sachs (NYSE: GS)
$1.1 trillion
26.2
Merrill Lynch
$1 trillion
31.9
Lehman Brothers
$691 billion
30.7
Bear Stearns
$395 billion
33.5
Source: Capital IQ, a Standard & Poor's company. All numbers are as of fiscal year end 2007.
For sake of comparison, Coca-Cola was leveraged 2-to-1 at the end of 2007, Halliburton was at 1.9-to-1, and Wal-Mart (NYSE: WMT) clocked in at 2.5-to-1. Of course, we can also note here that the danger of leverage is certainly not industry-specific. Lately, we've been treated to the tribulations of the U.S. automakers, but we shouldn't have been surprised -- Ford (NYSE: F) had an amazing 50-to-1 leverage at the end of 2007, and as for General Motors (NYSE: GM), well, the last time it didn't have a negative book value was in 2005, when it was leveraged 32-to-1.
The answer to mark-to-market
Even if mark-to-market isn't the right question right now, there's still an answer to it: It needs to be kept in place. Turn to any accounting book, and you'll see that the purpose of a balance sheet is to provide a picture of the company's assets and liabilities at a point in time. If financial institutions want to give investors additional disclosure showing them what management thinks its assets are worth, that's great. But for a balance sheet to be a worthwhile measure, we need to be marking assets to market when markets exist.
Keeping mark-to-market in place has the added benefit of discouraging financial companies from stacking up similar levels of leverage in the future. If they have to prepare their balance sheets for potential adverse market movements -- as opposed to the placid stability of a given company's valuation models -- then 30-to-1 leverage suddenly sounds a little less appealing.
There's no doubt in my mind that the debate will rage on over whether mark-to-market should be pulled, and the opponents of the convention may even come out on top. But investors who want to avoid buying into stars destined to become supernovas need to keep in mind that massive leverage, not mark-to-market accounting, was the real seed that grew into financial disaster.
Further financial Foolishness:
The Biggest Bubble the World Has Ever Seen
Who Should Go to Jail?
It's Time to Sell and Walk Away
The Coca-Cola Company and Wal-Mart Stores are Motley Fool Inside Value recommendations. Fool contributor Matt Koppenheffer owns shares of Bank of America, but does not own shares of any of the other companies mentioned.
http://www.fool.com/investing/value/2009/03/12/to-mark-to-market-or-not-to-mark-to-market.aspx
Friday 13 March 2009
Has Value Investing Worked to Protect the Downside?
Has Value Investing Worked to Protect the Downside?
If you use Ben Graham's definition of value investing, the answer is yes.
By John Coumarianos 03-09-09
Who is your favorite value investor?
Ben Graham
Warren Buffett
Charlie Dreifus
Jean-Marie Eveillard
A few months ago I published an article highlighting mutual funds that avoid disaster. I suggested that adhering to Benjamin Graham's advice to buy earnings cheaply and avoid companies with large amounts of debt helped Yacktman, Sequoia, and Greenspring hold up in bad times. (Graham was Warren Buffett's teacher at Columbia Business School and is widely considered to be the founder of value investing.)
As the markets have continued to plummet, the debate about whether value investors have protected on the downside has been rekindled among Morningstar's fund analysts. Some point to members of the value school who outperformed the S&P 500 Index in 2008 (that is, lost less than 37%) and claim victory for Graham and his students. Others aren't satisfied with the relative outperformance of this rather narrow list of managers or point to other value hounds, who were crushed by owning struggling financials in 2008 and judge failure. Still others say it's silly to point to one-year performance numbers and thus trot out good relative cumulative 10-year records of funds that were pummeled in 2008.
I'm in the camp that thinks long-term performance numbers matter most, but I also think some value investors have protected the downside well in the recent downdraft. In this follow-up article, I'll discuss why Graham-inspired investors held up better in 2008 than has been acknowledged, and I'll highlight two Graham-inspired funds.
The Case Against Value
The main value indexes didn't outperform the broader market in this downturn. The Russell 1000 Value Index and the Russell 3000 Value Index both dropped around 55% from mid-2007 through February 2009, more than the 49% drop of the broader the DJ Wilshire 5000 Index. Also, large- and mid-value funds in aggregate dropped by around 52% in that timeframe, so active managers in the aggregate didn't outperform the broader market either. Lay the blame on financials. They've been a mainstay in value portfolios for years, and they got pounded during the second half of 2007 and in all of 2008.
Some high-profile value funds also got hit especially hard by the financial mess. Dodge and Cox Stock, Oakmark Select, Legg Mason Value Trust, Weitz Value, John Hancock Classic Value,
and DWS Dreman High Return Equity all suffered mightily. The first three are managed by former winners of the Morningstar Manager of the Year award. These managers not only bought financials, but added with gusto to several institutions that ultimately went bust or remain in their death throes, including Citigroup, Fannie Mae , Freddie Mac , AIG , Merrill Lynch (MER ), Wachovia (WB), Washington Mutual, and Countrywide.
The Value Rebuttal
The most straightforward reply to this damning evidence is that the value indexes don't truly represent value investing. A fund manager who understands his investment universe to be the Russell 1000 Value Index or Russell 3000 Value Index isn't really a value investor. Index-hugging funds can be fine, but they don't employ a true value approach based on Graham's tenets.
The main difference between an index approach and a Graham-inspired approach is debt. Graham made numerous warnings against debt and opaque balance sheets in his writings. So although financials find themselves in the value indexes because of their perennially low price/earnings and price/book ratios, value investors from the Graham school are often leery of them. In fact, value hedge-fund manager Seth Klarman has remarked that many value investors habitually avoid commercial banks and property/casualty insurance companies because of their opaque balance sheets. Additionally, Walter Schloss, an associate of Graham, whom Buffett himself cites as one of the finest investors of his time, has also said that avoiding debt is among his most important investment principles. Finally, Buffett himself says bank financial statements are basically unanalyzable and that an investment in a financial stock is effectively a bet on the integrity of management.
Many value investors like to hold cash at times, which also puts them at odds with all equity indexes. The main reason for this is that value investors don't think they can predict when opportunities will arise, and they never want to be caught without the ability to pounce. All the funds I mentioned in my previous piece--Yacktman, Sequoia, and Greenspring--often carry large amounts of cash. All held up relatively well in 2008.
So the argument that value indexes haven't held up during this bear market isn't an indictment of traditional value investing, because funds with Graham-inspired strategies don't pay attention to indexes or the Morningstar Style Box.
Those who got crushed in this downturn simply failed to heed Graham's warnings about debt. They concentrated too much on the income statement and not enough on the balance sheet. Many, such as Bill Miller, Bill Nygren, the team at Dodge & Cox, Wally Weitz, Rich Pzena, and David Dreman, were seduced by falling stock prices without fully understanding underlying value and the potential havoc that weak balance sheets can wreak.
Below are two funds that didn't make that mistake in 2008.
Royce Special Equity
displayPTip('RYSEX', 'RYSEX','YTD', '', '', '', '', '', '','msg','P');
(RYSEX
Sponsored by:
RYSEX)
This small-cap fund is managed by our current Domestic-Equity Manager of the Year, Charlie Dreifus. Dreifus is explicitly influenced by Graham and his accounting teacher Abraham Briloff, who has detailed ways in which accountants can distort the economic truth of a business' situation. Dreifus picks underfollowed, out-of-the-way, prosaic businesses that have simple accounting. They tend to expense things on the income statement rather than capitalize them, and they tend to have unshakable balance sheets. There is no exposure to financial stocks in his fund, and he typically holds healthy amounts of cash. Arden Group (ARDNA) is symbolic of Dreifus' style. An owner of 18 upscale supermarkets in Southern California, the firm has a balance sheet with $177 million in assets, including $90 million in cash and short-term investments, against only $54 million in total liabilities. It has produced returns on equity above 15% for the past decade and is more than 60% owned by insiders.
Dreifus lost 19.6% in 2008, when the S&P 500 Index dropped 37%. He has also doubled investors' money over the trailing 10 years through February 2009, with a 102% cumulative return versus a 29% cumulative loss for the index.
First Eagle Global
displayPTip('SGENX', 'SGENX','YTD', '', '', '', '', '', '','msg','P');
(SGENX
Sponsored by:
SGENX)This is Jean-Marie Eveillard's all-cap global fund. (He also runs and First Eagle Overseas
displayPTip('SGOVX', 'SGOVX','YTD', '', '', '', '', '', '','msg','P');
(SGOVX
Sponsored by:
SGOVX) and First Eagle U.S. Value
displayPTip('FEVAX', 'FEVAX','YTD', '', '', '', '', '', '','msg','P');
(FEVAX
Sponsored by:
FEVAX)).
Eveillard buys well-capitalized companies of all sizes. He will also consider bonds, if he thinks they fundamentally make more sense, and often holds cash. Finally, gold is a perennial favorite of his for its insurance in the event of a market collapse. Currently 78% of the fund's portfolio is in stocks. Eveillard does have some financial exposure, but a chunk of it is Berkshire Hathaway
displayPTip('BRK.A', 'BRK.A','YTD', '', '', '', '', '', '','msg','P'); (BRK.A Sponsored by:BRK.A), which has a AAA credit rating. He doesn't buy the completely underfollowed small caps that Dreifus likes, but he's similar in his emphasis on balance sheet strength. Eveillard and his protege Charles de Vaulx, who ran the fund from the beginning of 2005 through early 2007, avoided the large investment and commercial banks over the past few years because of their complicated and sometimes questionable balance sheets. Despite Japan's decades-long troubles and dependence on increasingly-strapped American consumers, he is also strongly attracted to Japanese stocks now because of their impressive balance sheets, which carry very low levels of debt.
Even though the fund is officially classified in the global allocation category because of its investments in (mostly corporate) bonds, its 21% loss in 2008 versus a 40% decline in the MSCI World Index is impressive. Over the trailing decade through February 2009, the fund's 185% cumulative return has smashed the 29% loss of the S&P 500 Index.
Eveillard is retiring at the end of this month, and although his successors may well carry on his torch, his retirement represents a loss to true value investing.
To read more about the securities mentioned in this article, become a Morningstar.com Premium Member. Gain access to comprehensive investment research including Morningstar’s stock fair value estimates, company economic moat ratings, Fund Analyst Picks, and Fund Stewardship Grades.
http://news.morningstar.com/articlenet/article.aspx?id=283094
If you use Ben Graham's definition of value investing, the answer is yes.
By John Coumarianos 03-09-09
Who is your favorite value investor?
Ben Graham
Warren Buffett
Charlie Dreifus
Jean-Marie Eveillard
A few months ago I published an article highlighting mutual funds that avoid disaster. I suggested that adhering to Benjamin Graham's advice to buy earnings cheaply and avoid companies with large amounts of debt helped Yacktman, Sequoia, and Greenspring hold up in bad times. (Graham was Warren Buffett's teacher at Columbia Business School and is widely considered to be the founder of value investing.)
As the markets have continued to plummet, the debate about whether value investors have protected on the downside has been rekindled among Morningstar's fund analysts. Some point to members of the value school who outperformed the S&P 500 Index in 2008 (that is, lost less than 37%) and claim victory for Graham and his students. Others aren't satisfied with the relative outperformance of this rather narrow list of managers or point to other value hounds, who were crushed by owning struggling financials in 2008 and judge failure. Still others say it's silly to point to one-year performance numbers and thus trot out good relative cumulative 10-year records of funds that were pummeled in 2008.
I'm in the camp that thinks long-term performance numbers matter most, but I also think some value investors have protected the downside well in the recent downdraft. In this follow-up article, I'll discuss why Graham-inspired investors held up better in 2008 than has been acknowledged, and I'll highlight two Graham-inspired funds.
The Case Against Value
The main value indexes didn't outperform the broader market in this downturn. The Russell 1000 Value Index and the Russell 3000 Value Index both dropped around 55% from mid-2007 through February 2009, more than the 49% drop of the broader the DJ Wilshire 5000 Index. Also, large- and mid-value funds in aggregate dropped by around 52% in that timeframe, so active managers in the aggregate didn't outperform the broader market either. Lay the blame on financials. They've been a mainstay in value portfolios for years, and they got pounded during the second half of 2007 and in all of 2008.
Some high-profile value funds also got hit especially hard by the financial mess. Dodge and Cox Stock, Oakmark Select, Legg Mason Value Trust, Weitz Value, John Hancock Classic Value,
and DWS Dreman High Return Equity all suffered mightily. The first three are managed by former winners of the Morningstar Manager of the Year award. These managers not only bought financials, but added with gusto to several institutions that ultimately went bust or remain in their death throes, including Citigroup, Fannie Mae , Freddie Mac , AIG , Merrill Lynch (MER ), Wachovia (WB), Washington Mutual, and Countrywide.
The Value Rebuttal
The most straightforward reply to this damning evidence is that the value indexes don't truly represent value investing. A fund manager who understands his investment universe to be the Russell 1000 Value Index or Russell 3000 Value Index isn't really a value investor. Index-hugging funds can be fine, but they don't employ a true value approach based on Graham's tenets.
The main difference between an index approach and a Graham-inspired approach is debt. Graham made numerous warnings against debt and opaque balance sheets in his writings. So although financials find themselves in the value indexes because of their perennially low price/earnings and price/book ratios, value investors from the Graham school are often leery of them. In fact, value hedge-fund manager Seth Klarman has remarked that many value investors habitually avoid commercial banks and property/casualty insurance companies because of their opaque balance sheets. Additionally, Walter Schloss, an associate of Graham, whom Buffett himself cites as one of the finest investors of his time, has also said that avoiding debt is among his most important investment principles. Finally, Buffett himself says bank financial statements are basically unanalyzable and that an investment in a financial stock is effectively a bet on the integrity of management.
Many value investors like to hold cash at times, which also puts them at odds with all equity indexes. The main reason for this is that value investors don't think they can predict when opportunities will arise, and they never want to be caught without the ability to pounce. All the funds I mentioned in my previous piece--Yacktman, Sequoia, and Greenspring--often carry large amounts of cash. All held up relatively well in 2008.
So the argument that value indexes haven't held up during this bear market isn't an indictment of traditional value investing, because funds with Graham-inspired strategies don't pay attention to indexes or the Morningstar Style Box.
Those who got crushed in this downturn simply failed to heed Graham's warnings about debt. They concentrated too much on the income statement and not enough on the balance sheet. Many, such as Bill Miller, Bill Nygren, the team at Dodge & Cox, Wally Weitz, Rich Pzena, and David Dreman, were seduced by falling stock prices without fully understanding underlying value and the potential havoc that weak balance sheets can wreak.
Below are two funds that didn't make that mistake in 2008.
Royce Special Equity
displayPTip('RYSEX', 'RYSEX','YTD', '', '', '', '', '', '','msg','P');
(RYSEX
Sponsored by:
RYSEX)
This small-cap fund is managed by our current Domestic-Equity Manager of the Year, Charlie Dreifus. Dreifus is explicitly influenced by Graham and his accounting teacher Abraham Briloff, who has detailed ways in which accountants can distort the economic truth of a business' situation. Dreifus picks underfollowed, out-of-the-way, prosaic businesses that have simple accounting. They tend to expense things on the income statement rather than capitalize them, and they tend to have unshakable balance sheets. There is no exposure to financial stocks in his fund, and he typically holds healthy amounts of cash. Arden Group (ARDNA) is symbolic of Dreifus' style. An owner of 18 upscale supermarkets in Southern California, the firm has a balance sheet with $177 million in assets, including $90 million in cash and short-term investments, against only $54 million in total liabilities. It has produced returns on equity above 15% for the past decade and is more than 60% owned by insiders.
Dreifus lost 19.6% in 2008, when the S&P 500 Index dropped 37%. He has also doubled investors' money over the trailing 10 years through February 2009, with a 102% cumulative return versus a 29% cumulative loss for the index.
First Eagle Global
displayPTip('SGENX', 'SGENX','YTD', '', '', '', '', '', '','msg','P');
(SGENX
Sponsored by:
SGENX)This is Jean-Marie Eveillard's all-cap global fund. (He also runs and First Eagle Overseas
displayPTip('SGOVX', 'SGOVX','YTD', '', '', '', '', '', '','msg','P');
(SGOVX
Sponsored by:
SGOVX) and First Eagle U.S. Value
displayPTip('FEVAX', 'FEVAX','YTD', '', '', '', '', '', '','msg','P');
(FEVAX
Sponsored by:
FEVAX)).
Eveillard buys well-capitalized companies of all sizes. He will also consider bonds, if he thinks they fundamentally make more sense, and often holds cash. Finally, gold is a perennial favorite of his for its insurance in the event of a market collapse. Currently 78% of the fund's portfolio is in stocks. Eveillard does have some financial exposure, but a chunk of it is Berkshire Hathaway
displayPTip('BRK.A', 'BRK.A','YTD', '', '', '', '', '', '','msg','P'); (BRK.A Sponsored by:BRK.A), which has a AAA credit rating. He doesn't buy the completely underfollowed small caps that Dreifus likes, but he's similar in his emphasis on balance sheet strength. Eveillard and his protege Charles de Vaulx, who ran the fund from the beginning of 2005 through early 2007, avoided the large investment and commercial banks over the past few years because of their complicated and sometimes questionable balance sheets. Despite Japan's decades-long troubles and dependence on increasingly-strapped American consumers, he is also strongly attracted to Japanese stocks now because of their impressive balance sheets, which carry very low levels of debt.
Even though the fund is officially classified in the global allocation category because of its investments in (mostly corporate) bonds, its 21% loss in 2008 versus a 40% decline in the MSCI World Index is impressive. Over the trailing decade through February 2009, the fund's 185% cumulative return has smashed the 29% loss of the S&P 500 Index.
Eveillard is retiring at the end of this month, and although his successors may well carry on his torch, his retirement represents a loss to true value investing.
To read more about the securities mentioned in this article, become a Morningstar.com Premium Member. Gain access to comprehensive investment research including Morningstar’s stock fair value estimates, company economic moat ratings, Fund Analyst Picks, and Fund Stewardship Grades.
http://news.morningstar.com/articlenet/article.aspx?id=283094
Thursday 12 March 2009
Millions have been taken for a ride by the financial services industry
From The Sunday Times
March 8, 2009
If only we'd kept our cash under the mattress
Millions have been taken for a ride by the financial services industry
Kathryn Cooper and Ali Hussain
MPs are demanding an investigation into the mis-selling of “safe” investments as thousands of people have been let down yet again by the financial-services industry.
Last week, John McFall, chairman of the Treasury committee, asked the Financial Services Authority (FSA) to look into claims that investors were mis-sold “secure” structured investments.
These promised to protect capital even if the market fell, but it turned out that many of these so-called guarantees were backed by Lehman Brothers, the collapsed American investment bank.
Legal & General wrote to 2,300 clients, with more than £33m invested in two of its structured products, warning that up to 20% of their investments were exposed to the failed bank. L&G had promised 130% of the growth in the FTSE 100 on one plan, plus capital back at the end of the six-year term — something it is unlikely to deliver.
The schemes continue to be sold: last week Barclays and Alliance & Leicester both launched new plans.
The crisis is the latest in a long line of mis-selling scandals spanning nearly two decades. Millions lost out in the 1980s pensions mis-selling scandal, when they were advised to switch from low-risk final-salary schemes to riskier personal pensions.
In the late 1980s and early 1990s, consumers were promised endowment plans would pay off their mortgages at maturity, but millions were left with hefty shortfalls and hold poor-performing plans — from which insurers are still deducting charges.
Then, in the 1990s, thousands of people relying on supposedly safe “zeros” to pay school fees or fund retirement suffered heavy losses in the bear market.
“Splits” were a class of share issued by split-capital investment trusts, companies listed on the stock market. Zeros paid a specific sum on a set date and were therefore considered a lower-risk investment. However, splits borrowed heavily to invest in each other’s shares in the bull market of the 1990s, only for these cross-holdings to exacerbate their losses when stock markets dived between 2000 and 2002. Investors lost an estimated £600m.
Although compensation has been paid, there are fears that this downturn will reveal further mis-selling scandals.
Danny Cox of adviser Hargreaves Lansdown said: “The root causes of past scandals were a lack of clarity and the fact that many mis-sold investments were pushed by commission-based advisers. Things have tightened up, but many problems persist. People don’t question when things go well, but when things go bad all the problems come out of the woodwork.”
Complaints about investments to the Financial Ombudsman Service are expected to rise by 40% this year. Upheld complaints increased to 50% in 2008 from 38% in 2007. The FOS said a “large proportion” of complaints related to investors being unaware of potential risks.
There is light at the end of the tunnel, though. The Retail Distribution Review will see an overhaul of the way investments are sold by 2012. Hidden commissions are expected to be replaced by upfront fees, as well as an increase in the qualifications required by advisers.
AIG
Even sophisticated investors have not been immune from the financial crisis.
Sir Keith Mills, the multi-millionaire founder of the Airmiles and Nectar loyalty schemes, says he is going to sue his private bank, Coutts, over his investment in AIG Life, a UK branch of the beleaguered American insurer.
Mills, deputy chairman of London Olympics organising committee, was one of thousands of British investors who put a total of £6 billion in AIG Life’s Enhanced fund, a money-market fund that was promoted as “a low-risk alternative to an instant-access deposit account”.
However, AIG was forced to close in September after fears of the insurer’s collapse caused a run on the fund.
Investors could get back half their investment, but the other half had be locked up for more than three years — with no interest — if they wanted to reclaim it without further loss. If they had cashed in, they would have lost up to 25%.
Mills proposes to issue a writ against Coutts, owned by government-backed Royal Bank of Scotland, within days for “losses as a result of mis-selling, breach of duty of care and breach of fiduciary duty”.
He believes the commissions Coutts earned from AIG on the sale of the fund contributed to the problem. “They were driven by the commission,” he said. “That was not in the best interest of their clients.
“There needs to be a fundamental shift in the way financial services are run and managed if people are to regain any kind of confidence in the system.”
Mills invested in the Enhanced fund through AIG’s Premier Bond last year on the basis that it would preserve his capital. He banked £160m from the sale of LMG, the Nectar business, in 2007 and is believed to have as much as £30m tied up in AIG.
“When I placed my money in this bond, Northern Rock and Bear Stearns had gone bust and the market was already in turmoil. My instruction to Coutts was all about capital preservation and that is one of the reasons I am so angry,” he said.
He also claims Coutts did not act on his doubts about the fund before the run in September. “In 2008, when it became clear AIG was having problems, I wrote to Coutts and said I thought I should move my money into gilts for more security,” he said. “I was told AIG was absolutely fine and that I should keep my money in there. Coutts was still selling the AIG fund weeks before the insurer went under.”
He has asked Coutts to underwrite AIG’s guarantee that he will get his money back in full in three years, although he concedes this would be unusual and it has refused the request.
“I accept that we were reasonably sophisticated investors. I am absolutely aware that prices can go up and they can go down. I have made money and I have lost money, but here I think we have a clear case of mis-selling. Had Coutts not been paid by commission you wonder whether they would have moved clients out of AIG, but it would have meant giving up a large amount of their income.
Coutts said: “We are not aware of any proceedings being issued by Sir Keith. We have not had any contact from him on this matter since January. We do not agree with the assertions made by Sir Keith and have made our position on this matter clear to him. If proceedings are issued they will be vigorously defended.”
Herbert Smith, Coutts’s solicitor, has threatened defamation proceedings over an open letter published by Mills.
It looks like this will be a battle royal.
ENDOWMENTS
Debbie Cox a financial controller from Bristol, only realised that she had been mis-sold a mortgage endowment policy after paying in for 10 years.
She took out the policy in 1989 with the Guardian Royal Exchange after receiving advice from her mortgage provider, Halifax.
She agreed to pay in £20 a month for the first year with a £15 increase in the payment each year for the first five years until it reached £80 a month.
She was promised that this would cover her mortgage in 18 years’ time, and that she would have the option of continuing to pay for another seven years if she wanted a large lump sum at the end of 25 years.
“It seemed like the perfect solution to me,” said Cox, 43.
“I was a single mother at the time, so I insisted I didn’t want to take any risks either.”
Ten years later, she received a call from Guardian warning that her fund would not be sufficient to cover her mortgage. It advised her to increase her contributions to £30 a month for the next 15 years to have any chance of paying off her Halifax debt.
“I sought some advice, and was told not to throw good money after bad, and that I had been mis-sold.
“The advice I received was from a tied adviser and so it wasn’t impartial. The adviser did not explain this to me at the time I took out the policy.”
She complained to the Financial Ombudsman Service, which agreed with her and ordered Guardian to pay her invested money back as well as interest.
Her total payout was around £10,000 — £4,000 of which was interest on her invested capital.
'CAUTIOUS' FUNDS
Valerie Goodall from Lincoln invested her retirement savings of £62,000 in the Legal & General (Barclays) Cautious fund in December 2007 after receiving advice from a Barclays financial planning adviser.
“My husband Bill and I took care to stress that safety and an income of £2,000 a year were our main priorities. We were given the option of this fund and one managed by F&C, but were steered towards the Barclays one.”
In June 2008, Goodall received a statement saying the fund’s value had dropped to £56,229. She rang Barclays to express her concern, about the fund value and the possibility of recession. “I was assured categorically there would be no recession.”
Despite being called a “cautious” fund, it has about two-thirds in investment-grade bonds and a third in riskier shares. Her initial capital is now worth £45,000.
“I’m disappointed that a fund called a cautious fund could lose me so much money so quickly,” said Goodall, 66. She has sent a formal letter of complaint to Barclays and is now planning to lodge a complaint with the Financial Ombudsman Service.
Barclays denies mis-selling or that its adviser rejected the possibility of recession.
PENSIONS
John Armstrong from Bangor, Co Down, 70, has been hit not once, but twice by poor advice. For a number of years he was paying into a Friends Provident pension plan with a guaranteed annuity rate of 10% at age 70 — higher than the 6% or 7% he could have got on the open market.
In 1999, he was advised by a Friends Provident salesman to move into income-drawdown. This would allow him to draw an income from his pension fund, while leaving a certain amount invested in the stock market. The adviser received a commission each time he sold such a product.
He was told the fund would grow by 7% a year, but instead it lost 20%, 15% and 6% in the next three years. He also lost his valuable guarantees. “I felt completely cheated,” he said. “Friends Provident was just awful. It kept on saying I was made aware of all the risks and there was nothing I could do. I was assured that things would be put right but they weren’t.”
In 2002 he went to the Financial Ombudsman Service, which rejected the complaint as he had failed to lodge it within six months of being told by Friends Provident that it would not give him a full payout. The insurer initially offered him £4,000 compensation. He rejected this and later complained, via a solicitor, on the advice of Hargreaves Lansdown. Two years later, just as the case was due in court, he received a six-figure payout.
He wasn’t so lucky the second time. In 2000, he was looking to place two investment Isas, one for himself and one on behalf of his wife, Valerie, into an investment offering some scope for capital growth. An adviser from Anglo Irish Bank recommended a five-year structured product for his £14,000, with claims of “spectacular growth”. When the policy matured in 2005, though, he received only his initial capital back. “I may as well have placed it all in a deposit account,” he said.
He again complained to the FOS, but it ruled against him, saying that the risks had been pointed out in the documentation he received.
NOT SO SAFE
Cautious-managed funds: These are meant to be cautiously managed by investing in a mix of cash, bonds and equities, but have fallen an average of 19% in the past year. Only three out of 124 funds are in positive territory over the past 12 months.
Protected products: These offer investors guarantees on their capital if they tie up their money for a certain time. However, they are linked with an index and the guarantee only applies if this index does not fall below a certain threshold. The guarantee is often underwritten by a separate firm, which is not always made clear.
Money-market funds: Many investors have fled to the safety of funds billed as “near cash” and so not exposed to stock market. However, it is emerging that many have riskier mortgage-backed securities underlying them.
How to complain
The Financial Ombudsman Service (FOS) will deal with an “event” if is brought to its attention six years from the time you believe you were mis-sold the product.
You have another three years if it can be “reasonably argued” that you were only made aware of the problem over this additional period — through unreasonably poor performance of the fund, for example.
You must first make a complaint to the firm, which will have eight weeks on receipt of the complaint to respond.
If it fails to do this you can lodge a complaint with the FOS. If your complaint is rejected, however, you have six months to lodge a complaint to the FOS.
If the FOS fails to help, you can still go to the courts for redress, though it is not free like the FOS — court and solicitors’ fees vary depending on the case.
Courts are also likely to reject claims that are 15 years after the “event”.
http://www.timesonline.co.uk/tol/money/investment/article5863538.ece?token=null&offset=0&page=1
March 8, 2009
If only we'd kept our cash under the mattress
Millions have been taken for a ride by the financial services industry
Kathryn Cooper and Ali Hussain
MPs are demanding an investigation into the mis-selling of “safe” investments as thousands of people have been let down yet again by the financial-services industry.
Last week, John McFall, chairman of the Treasury committee, asked the Financial Services Authority (FSA) to look into claims that investors were mis-sold “secure” structured investments.
These promised to protect capital even if the market fell, but it turned out that many of these so-called guarantees were backed by Lehman Brothers, the collapsed American investment bank.
Legal & General wrote to 2,300 clients, with more than £33m invested in two of its structured products, warning that up to 20% of their investments were exposed to the failed bank. L&G had promised 130% of the growth in the FTSE 100 on one plan, plus capital back at the end of the six-year term — something it is unlikely to deliver.
The schemes continue to be sold: last week Barclays and Alliance & Leicester both launched new plans.
The crisis is the latest in a long line of mis-selling scandals spanning nearly two decades. Millions lost out in the 1980s pensions mis-selling scandal, when they were advised to switch from low-risk final-salary schemes to riskier personal pensions.
In the late 1980s and early 1990s, consumers were promised endowment plans would pay off their mortgages at maturity, but millions were left with hefty shortfalls and hold poor-performing plans — from which insurers are still deducting charges.
Then, in the 1990s, thousands of people relying on supposedly safe “zeros” to pay school fees or fund retirement suffered heavy losses in the bear market.
“Splits” were a class of share issued by split-capital investment trusts, companies listed on the stock market. Zeros paid a specific sum on a set date and were therefore considered a lower-risk investment. However, splits borrowed heavily to invest in each other’s shares in the bull market of the 1990s, only for these cross-holdings to exacerbate their losses when stock markets dived between 2000 and 2002. Investors lost an estimated £600m.
Although compensation has been paid, there are fears that this downturn will reveal further mis-selling scandals.
Danny Cox of adviser Hargreaves Lansdown said: “The root causes of past scandals were a lack of clarity and the fact that many mis-sold investments were pushed by commission-based advisers. Things have tightened up, but many problems persist. People don’t question when things go well, but when things go bad all the problems come out of the woodwork.”
Complaints about investments to the Financial Ombudsman Service are expected to rise by 40% this year. Upheld complaints increased to 50% in 2008 from 38% in 2007. The FOS said a “large proportion” of complaints related to investors being unaware of potential risks.
There is light at the end of the tunnel, though. The Retail Distribution Review will see an overhaul of the way investments are sold by 2012. Hidden commissions are expected to be replaced by upfront fees, as well as an increase in the qualifications required by advisers.
AIG
Even sophisticated investors have not been immune from the financial crisis.
Sir Keith Mills, the multi-millionaire founder of the Airmiles and Nectar loyalty schemes, says he is going to sue his private bank, Coutts, over his investment in AIG Life, a UK branch of the beleaguered American insurer.
Mills, deputy chairman of London Olympics organising committee, was one of thousands of British investors who put a total of £6 billion in AIG Life’s Enhanced fund, a money-market fund that was promoted as “a low-risk alternative to an instant-access deposit account”.
However, AIG was forced to close in September after fears of the insurer’s collapse caused a run on the fund.
Investors could get back half their investment, but the other half had be locked up for more than three years — with no interest — if they wanted to reclaim it without further loss. If they had cashed in, they would have lost up to 25%.
Mills proposes to issue a writ against Coutts, owned by government-backed Royal Bank of Scotland, within days for “losses as a result of mis-selling, breach of duty of care and breach of fiduciary duty”.
He believes the commissions Coutts earned from AIG on the sale of the fund contributed to the problem. “They were driven by the commission,” he said. “That was not in the best interest of their clients.
“There needs to be a fundamental shift in the way financial services are run and managed if people are to regain any kind of confidence in the system.”
Mills invested in the Enhanced fund through AIG’s Premier Bond last year on the basis that it would preserve his capital. He banked £160m from the sale of LMG, the Nectar business, in 2007 and is believed to have as much as £30m tied up in AIG.
“When I placed my money in this bond, Northern Rock and Bear Stearns had gone bust and the market was already in turmoil. My instruction to Coutts was all about capital preservation and that is one of the reasons I am so angry,” he said.
He also claims Coutts did not act on his doubts about the fund before the run in September. “In 2008, when it became clear AIG was having problems, I wrote to Coutts and said I thought I should move my money into gilts for more security,” he said. “I was told AIG was absolutely fine and that I should keep my money in there. Coutts was still selling the AIG fund weeks before the insurer went under.”
He has asked Coutts to underwrite AIG’s guarantee that he will get his money back in full in three years, although he concedes this would be unusual and it has refused the request.
“I accept that we were reasonably sophisticated investors. I am absolutely aware that prices can go up and they can go down. I have made money and I have lost money, but here I think we have a clear case of mis-selling. Had Coutts not been paid by commission you wonder whether they would have moved clients out of AIG, but it would have meant giving up a large amount of their income.
Coutts said: “We are not aware of any proceedings being issued by Sir Keith. We have not had any contact from him on this matter since January. We do not agree with the assertions made by Sir Keith and have made our position on this matter clear to him. If proceedings are issued they will be vigorously defended.”
Herbert Smith, Coutts’s solicitor, has threatened defamation proceedings over an open letter published by Mills.
It looks like this will be a battle royal.
ENDOWMENTS
Debbie Cox a financial controller from Bristol, only realised that she had been mis-sold a mortgage endowment policy after paying in for 10 years.
She took out the policy in 1989 with the Guardian Royal Exchange after receiving advice from her mortgage provider, Halifax.
She agreed to pay in £20 a month for the first year with a £15 increase in the payment each year for the first five years until it reached £80 a month.
She was promised that this would cover her mortgage in 18 years’ time, and that she would have the option of continuing to pay for another seven years if she wanted a large lump sum at the end of 25 years.
“It seemed like the perfect solution to me,” said Cox, 43.
“I was a single mother at the time, so I insisted I didn’t want to take any risks either.”
Ten years later, she received a call from Guardian warning that her fund would not be sufficient to cover her mortgage. It advised her to increase her contributions to £30 a month for the next 15 years to have any chance of paying off her Halifax debt.
“I sought some advice, and was told not to throw good money after bad, and that I had been mis-sold.
“The advice I received was from a tied adviser and so it wasn’t impartial. The adviser did not explain this to me at the time I took out the policy.”
She complained to the Financial Ombudsman Service, which agreed with her and ordered Guardian to pay her invested money back as well as interest.
Her total payout was around £10,000 — £4,000 of which was interest on her invested capital.
'CAUTIOUS' FUNDS
Valerie Goodall from Lincoln invested her retirement savings of £62,000 in the Legal & General (Barclays) Cautious fund in December 2007 after receiving advice from a Barclays financial planning adviser.
“My husband Bill and I took care to stress that safety and an income of £2,000 a year were our main priorities. We were given the option of this fund and one managed by F&C, but were steered towards the Barclays one.”
In June 2008, Goodall received a statement saying the fund’s value had dropped to £56,229. She rang Barclays to express her concern, about the fund value and the possibility of recession. “I was assured categorically there would be no recession.”
Despite being called a “cautious” fund, it has about two-thirds in investment-grade bonds and a third in riskier shares. Her initial capital is now worth £45,000.
“I’m disappointed that a fund called a cautious fund could lose me so much money so quickly,” said Goodall, 66. She has sent a formal letter of complaint to Barclays and is now planning to lodge a complaint with the Financial Ombudsman Service.
Barclays denies mis-selling or that its adviser rejected the possibility of recession.
PENSIONS
John Armstrong from Bangor, Co Down, 70, has been hit not once, but twice by poor advice. For a number of years he was paying into a Friends Provident pension plan with a guaranteed annuity rate of 10% at age 70 — higher than the 6% or 7% he could have got on the open market.
In 1999, he was advised by a Friends Provident salesman to move into income-drawdown. This would allow him to draw an income from his pension fund, while leaving a certain amount invested in the stock market. The adviser received a commission each time he sold such a product.
He was told the fund would grow by 7% a year, but instead it lost 20%, 15% and 6% in the next three years. He also lost his valuable guarantees. “I felt completely cheated,” he said. “Friends Provident was just awful. It kept on saying I was made aware of all the risks and there was nothing I could do. I was assured that things would be put right but they weren’t.”
In 2002 he went to the Financial Ombudsman Service, which rejected the complaint as he had failed to lodge it within six months of being told by Friends Provident that it would not give him a full payout. The insurer initially offered him £4,000 compensation. He rejected this and later complained, via a solicitor, on the advice of Hargreaves Lansdown. Two years later, just as the case was due in court, he received a six-figure payout.
He wasn’t so lucky the second time. In 2000, he was looking to place two investment Isas, one for himself and one on behalf of his wife, Valerie, into an investment offering some scope for capital growth. An adviser from Anglo Irish Bank recommended a five-year structured product for his £14,000, with claims of “spectacular growth”. When the policy matured in 2005, though, he received only his initial capital back. “I may as well have placed it all in a deposit account,” he said.
He again complained to the FOS, but it ruled against him, saying that the risks had been pointed out in the documentation he received.
NOT SO SAFE
Cautious-managed funds: These are meant to be cautiously managed by investing in a mix of cash, bonds and equities, but have fallen an average of 19% in the past year. Only three out of 124 funds are in positive territory over the past 12 months.
Protected products: These offer investors guarantees on their capital if they tie up their money for a certain time. However, they are linked with an index and the guarantee only applies if this index does not fall below a certain threshold. The guarantee is often underwritten by a separate firm, which is not always made clear.
Money-market funds: Many investors have fled to the safety of funds billed as “near cash” and so not exposed to stock market. However, it is emerging that many have riskier mortgage-backed securities underlying them.
How to complain
The Financial Ombudsman Service (FOS) will deal with an “event” if is brought to its attention six years from the time you believe you were mis-sold the product.
You have another three years if it can be “reasonably argued” that you were only made aware of the problem over this additional period — through unreasonably poor performance of the fund, for example.
You must first make a complaint to the firm, which will have eight weeks on receipt of the complaint to respond.
If it fails to do this you can lodge a complaint with the FOS. If your complaint is rejected, however, you have six months to lodge a complaint to the FOS.
If the FOS fails to help, you can still go to the courts for redress, though it is not free like the FOS — court and solicitors’ fees vary depending on the case.
Courts are also likely to reject claims that are 15 years after the “event”.
http://www.timesonline.co.uk/tol/money/investment/article5863538.ece?token=null&offset=0&page=1
The dangers of printing money: four lessons from history
March 05, 2009
The dangers of printing money: four lessons from history
The Bank of England voted today to begin quantitative easing — printing money to you and me — in a last ditch attempt to save the UK from the twin threats of depression and deflation.
It is a decision that is fraught with risks.
The hope is that the money pumped into the economy will encourage banks to become more relaxed about lending to individuals and businesses.
Flush with extra cash we will all rush out to spend it, kickstarting the economy and dragging it out of recession. Governor of the Bank of England, Mervyn King, will get a well deserved knighthood, and the rest of us will all breathe a sigh of relief and carry on as before, a little poorer, a little wiser, but generally OK.
But, none of the above is certain.
Banks might prefer to sit on the cash resulting in continued gridlock in the borrowing market. Impact: a big fat zero.
If too much money is pumped into the economy inflation or even hyper-inflation becomes a real threat. Impact: an unwelcome return to the 1970s.
Have you got high hopes that it will work, or are you worried that it could dig us deeper into depression? Post your comments below.
In the meantime take heed of three examples from history - and one from current times- where printing money to get the economy out of a pickle has failed, sometimes spectacularly.
1. Weimar Republic (1923)
Following the the First World War, Germany, was forced to pay massive amounts of compensation to the Allies. By 1923, the Weimar Republic as it had become known, was buckling because of the huge cost and in 1923 it stopped payments.
France promptly invaded the Rhineland, Germany's most productive region, to force the reparation payments from Germany. Strikes were called and production ground to a near halt in the region.
The German Government resorted to printing money to pay its bills sparking a hyper inflation that destroyed the value of the currency and the savings of ordinary Germans as money lost all value. The rest, as they say, is history and an ugly one at that.
2. Zimbabwe (now)
There are many reasons for the sorry state that the Zimbabwean economy is in today. High on the list is the Zanu PF Government's tendency to print money like it is water to finance state spending.
As in Weimar Germany this has unleashed the horror of hyper-inflation - Zimbabwe has the highest inflation rate in the world, a terrifying 230 million per cent.
3. Revolutionary France (1789)
The revolutionary French government that seized control in 1789 printed money quicker than it chopped off the heads of the hated aristocracy. It seemed the obvious means of paying off the massive debts racked up under the final years of the ancien regime.
All might have been well, if the government hadn't yielded to cries for more to be printed - and more, and even more - as soon as the freshly printed money was used.
The massive printing sparked inflation immediately - not something that is expected in the UK since the economy is so stagnant. Seven years later the French economy was in ruins, opening the door for Napolean to seize control and wage war across Europe. Vive la Revolution, I don't think.
4. Japan (2001)
Japan's attempt to flush itself out of recession by printing yen didn't lead to disaster - in fact, it didn't really lead to anything, which was its main problem. It did little to encourage Japanese banks to increase lending. Instead the banks, simply sat on the cash or lent it to overseas borrowers.
The dangers of printing money: four lessons from history
The Bank of England voted today to begin quantitative easing — printing money to you and me — in a last ditch attempt to save the UK from the twin threats of depression and deflation.
It is a decision that is fraught with risks.
The hope is that the money pumped into the economy will encourage banks to become more relaxed about lending to individuals and businesses.
Flush with extra cash we will all rush out to spend it, kickstarting the economy and dragging it out of recession. Governor of the Bank of England, Mervyn King, will get a well deserved knighthood, and the rest of us will all breathe a sigh of relief and carry on as before, a little poorer, a little wiser, but generally OK.
But, none of the above is certain.
Banks might prefer to sit on the cash resulting in continued gridlock in the borrowing market. Impact: a big fat zero.
If too much money is pumped into the economy inflation or even hyper-inflation becomes a real threat. Impact: an unwelcome return to the 1970s.
Have you got high hopes that it will work, or are you worried that it could dig us deeper into depression? Post your comments below.
In the meantime take heed of three examples from history - and one from current times- where printing money to get the economy out of a pickle has failed, sometimes spectacularly.
1. Weimar Republic (1923)
Following the the First World War, Germany, was forced to pay massive amounts of compensation to the Allies. By 1923, the Weimar Republic as it had become known, was buckling because of the huge cost and in 1923 it stopped payments.
France promptly invaded the Rhineland, Germany's most productive region, to force the reparation payments from Germany. Strikes were called and production ground to a near halt in the region.
The German Government resorted to printing money to pay its bills sparking a hyper inflation that destroyed the value of the currency and the savings of ordinary Germans as money lost all value. The rest, as they say, is history and an ugly one at that.
2. Zimbabwe (now)
There are many reasons for the sorry state that the Zimbabwean economy is in today. High on the list is the Zanu PF Government's tendency to print money like it is water to finance state spending.
As in Weimar Germany this has unleashed the horror of hyper-inflation - Zimbabwe has the highest inflation rate in the world, a terrifying 230 million per cent.
3. Revolutionary France (1789)
The revolutionary French government that seized control in 1789 printed money quicker than it chopped off the heads of the hated aristocracy. It seemed the obvious means of paying off the massive debts racked up under the final years of the ancien regime.
All might have been well, if the government hadn't yielded to cries for more to be printed - and more, and even more - as soon as the freshly printed money was used.
The massive printing sparked inflation immediately - not something that is expected in the UK since the economy is so stagnant. Seven years later the French economy was in ruins, opening the door for Napolean to seize control and wage war across Europe. Vive la Revolution, I don't think.
4. Japan (2001)
Japan's attempt to flush itself out of recession by printing yen didn't lead to disaster - in fact, it didn't really lead to anything, which was its main problem. It did little to encourage Japanese banks to increase lending. Instead the banks, simply sat on the cash or lent it to overseas borrowers.
Q&A: How will quantitative easing affect me?
From Times Online
March 5, 2009
Q&A: How will quantitative easing affect me?
David Budworth
The Bank of England voted today to begin quantitative easing — effectively printing money — to drag the UK out of recession. Here we explain how this radical decision could impact on your finances in the months and years to come.
Q: Who is going to benefit directly from the extra money printed?
A: Banks, other big institutional investors and possibly large companies, but not the average person.
When a central bank like the Bank of England embarks on quantitative easing it has to find a way of pumping the extra money created into the economy. The Bank is expected to offer to buy government bonds, called gilts, from institutional investors and the corporate treasury departments of large companies using the billions created. It might also offer to buy corporate bonds from the same investors but private individuals will not be part of the buy-back programme.
Q: How will this cash makes its way into the wider economy?
A: The investors who get their hands on the money are expected to deposit this cash in the banking system, helping to boost bank reserves.
Q: If banks have more money in their coffers, will it become easier to borrow money?
A: Anxious banks are still reluctant to lend money to individuals and businesses despite historically low rates. However, if quantitative easing works, it will become easier to take out a mortgage or loan and here is how it could work.
Quantitative easing will flood the UK banks with hard cash, but because the base rate is only 0.5 per cent they will earn hardly anything by sitting on that money.
Hopefully this will persuade the banks that it will be more profitable to lend the money out, ending the lending freeze that has crippled the economy and exacerbated the house price slump.
Q: What will that mean for economic growth?
A: If households and businesses are able to borrow more, they will have extra money in their pockets. This should increase spending helping to stimulate economic growth, boost employment prospects and even drag us out of recession.
Q: Will it work?
A: No one can be sure.
Ian Kernohan, the chief economist at Royal London Asset Management, said: "It is still not clear why banks have been so anxious about lending. If it is because they haven't had access to enough funds then it could work. But if they are worried about lending at a time when we are in recession and house prices are falling they may not want to boost lending."
There is a danger that the banks will simply sit on the money rather than increase lending.This is what happened in Japan at the early part of this decade. Because the money wasn't dispersed into the wider economy Japan suffered from a long-term recession.
Q: How long will it be before we know if it has worked?
A: Months not weeks.
Q: Are there any downsides to central banks creating money through quantitative easing?
A: There is a risk that the extra money will encourage too much growth and ignite inflation. The Bank could then have to raise interest rates aggresively.
However, it could be several years before this becomes apparent as deflation — falling prices — is the most serious risk in today's environment. And if the Bank makes the right decisions in the coming months it should be able to control inflation before it gets out of hand.
Q: Isn't the Bank of England being reckless by encouraging more borrowing?
A: Reckless lending sparked the financial crisis, but most economists think that we have gone too far in the other direction and are not borrowing enough to keep the economy running smoothly.
Kernohan said: "We have gone from feast to famine and need to get back to a more normal situation where businesses and individuals can have access to credit. At the moment we are in a vicious circle and the bank is aiming to change that into a virtuous circle."
Q: Will I be affected if I am invested in gilts?
A: Martin Gahbauer, a senior economist at Nationwide Building Society, said: "In the short term, this could push gilt yields down. Yields have already fallen quite significantly in expectation that the Bank was going to do this."
Bond yields are one of the main influences on annuity rates so this could be bad news for those approaching retirement.
http://www.timesonline.co.uk/tol/money/property_and_mortgages/article5851508.ece
Related Links
Mortgage rates rise to beat the Bank of England
Inflation explained
March 5, 2009
Q&A: How will quantitative easing affect me?
David Budworth
The Bank of England voted today to begin quantitative easing — effectively printing money — to drag the UK out of recession. Here we explain how this radical decision could impact on your finances in the months and years to come.
Q: Who is going to benefit directly from the extra money printed?
A: Banks, other big institutional investors and possibly large companies, but not the average person.
When a central bank like the Bank of England embarks on quantitative easing it has to find a way of pumping the extra money created into the economy. The Bank is expected to offer to buy government bonds, called gilts, from institutional investors and the corporate treasury departments of large companies using the billions created. It might also offer to buy corporate bonds from the same investors but private individuals will not be part of the buy-back programme.
Q: How will this cash makes its way into the wider economy?
A: The investors who get their hands on the money are expected to deposit this cash in the banking system, helping to boost bank reserves.
Q: If banks have more money in their coffers, will it become easier to borrow money?
A: Anxious banks are still reluctant to lend money to individuals and businesses despite historically low rates. However, if quantitative easing works, it will become easier to take out a mortgage or loan and here is how it could work.
Quantitative easing will flood the UK banks with hard cash, but because the base rate is only 0.5 per cent they will earn hardly anything by sitting on that money.
Hopefully this will persuade the banks that it will be more profitable to lend the money out, ending the lending freeze that has crippled the economy and exacerbated the house price slump.
Q: What will that mean for economic growth?
A: If households and businesses are able to borrow more, they will have extra money in their pockets. This should increase spending helping to stimulate economic growth, boost employment prospects and even drag us out of recession.
Q: Will it work?
A: No one can be sure.
Ian Kernohan, the chief economist at Royal London Asset Management, said: "It is still not clear why banks have been so anxious about lending. If it is because they haven't had access to enough funds then it could work. But if they are worried about lending at a time when we are in recession and house prices are falling they may not want to boost lending."
There is a danger that the banks will simply sit on the money rather than increase lending.This is what happened in Japan at the early part of this decade. Because the money wasn't dispersed into the wider economy Japan suffered from a long-term recession.
Q: How long will it be before we know if it has worked?
A: Months not weeks.
Q: Are there any downsides to central banks creating money through quantitative easing?
A: There is a risk that the extra money will encourage too much growth and ignite inflation. The Bank could then have to raise interest rates aggresively.
However, it could be several years before this becomes apparent as deflation — falling prices — is the most serious risk in today's environment. And if the Bank makes the right decisions in the coming months it should be able to control inflation before it gets out of hand.
Q: Isn't the Bank of England being reckless by encouraging more borrowing?
A: Reckless lending sparked the financial crisis, but most economists think that we have gone too far in the other direction and are not borrowing enough to keep the economy running smoothly.
Kernohan said: "We have gone from feast to famine and need to get back to a more normal situation where businesses and individuals can have access to credit. At the moment we are in a vicious circle and the bank is aiming to change that into a virtuous circle."
Q: Will I be affected if I am invested in gilts?
A: Martin Gahbauer, a senior economist at Nationwide Building Society, said: "In the short term, this could push gilt yields down. Yields have already fallen quite significantly in expectation that the Bank was going to do this."
Bond yields are one of the main influences on annuity rates so this could be bad news for those approaching retirement.
http://www.timesonline.co.uk/tol/money/property_and_mortgages/article5851508.ece
Related Links
Mortgage rates rise to beat the Bank of England
Inflation explained
World's Billionaires 2009
World's Billionaires 2009
by Luisa Kroll, Matthew Miller, and Tatiana Serafin
Wednesday, March 11, 2009
It's been a tough year for the richest people in the world. Last year there were 1,125 billionaires. This year there are just 793 people rich enough to make our list.
The world has become a wealth wasteland.
More from Forbes.com: • Billionaire Bachelors and Bachelorettes • Women Billionaires • Celebrity Billionaires
Click here for the full list of the World's Billionaires
Like the rest of us, the richest people in the world have endured a financial disaster over the past year. Today there are 793 people on our list of the World's Billionaires, a 30% decline from a year ago.
Of the 1,125 billionaires who made last year's ranking, 373 fell off the list--355 from declining fortunes and 18 who died. There are 38 newcomers, plus three moguls who returned to the list after regaining their 10-figure fortunes. It is the first time since 2003 that the world has had a net loss in the number of billionaires.
The world's richest are also a lot poorer. Their collective net worth is $2.4 trillion, down $2 trillion from a year ago. Their average net worth fell 23% to $3 billion. The last time the average was that low was in 2003.
Bill Gates lost $18 billion but regained his title as the world's richest man. Warren Buffett, last year's No. 1, saw his fortune decline $25 billion as shares of Berkshire Hathaway (BRK) fell nearly 50% in 12 months, but he still managed to slip just one spot to No. 2. Mexican telecom titan Carlos Slim Helú also lost $25 billion and dropped one spot to No. 3.
It was hard to avoid the carnage, whether you were in stocks, commodities, real estate or technology. Even people running profitable businesses were hammered by frozen credit markets, weak consumer spending or declining currencies.
The biggest loser in the world this year, by dollars, was last year's biggest gainer. India's Anil Ambani lost $32 billion--76% of his fortune--as shares of his Reliance Communications, Reliance Power and Reliance Capital all collapsed.
Ambani is one of 24 Indian billionaires, all but one of whom are poorer than a year ago. Another 29 Indians lost their billionaire status entirely as India's stock market tumbled 44% in the past year and the Indian rupee depreciated 18% against the dollar. It is no longer the top spot in Asia for billionaires, ceding that title to China, which has 28.
Russia became the epicenter of the world's commodities bust, dropping 55 billionaires--two-thirds of its 2008 crop. Among them: Dmitry Pumpyansky, an industrialist from the resource-rich Ural mountain region, who lost $5 billion as shares of his pipe producer, TMK, sank 84%. Also gone is Vasily Anisimov, father of Moscow's Paris Hilton, Anna Anisimova, who lost $3.2 billion as the value of his Metalloinvest Holding, one of Russia's largest ore mining and processing firms, fell along with his real estate holdings.
Twelve months ago Moscow overtook New York as the billionaire capital of the world, with 74 tycoons to New York's 71. Today there are 27 in Moscow and 55 in New York.
After slipping in recent years, the U.S. is regaining its dominance as a repository of wealth. Americans account for 44% of the money and 45% of the list's slots, up seven and three percentage points from last year, respectively. Still, it has 110 fewer billionaires than a year ago.
Those with ties to Wall Street were particularly hard hit. Former head of AIG (AIG) Maurice (Hank) Greenberg saw his $1.9 billion fortune nearly wiped out after the insurance behemoth had to be bailed out by the U.S. government. Today Greenberg is worth less than $100 million. Former Citigroup (C) Chairman Sandy Weill also falls from the ranks.
Last year there were 39 American billionaire hedge fund managers; this year there are 28. Twelve American private equity tycoons dropped out of the billionaire ranks.Blackstone Group's (BX) Stephen Schwarzman, who lost $4 billion, and Kohlberg Kravis & Roberts' Henry Kravis, who lost $2.5 billion, retain their billionaire status despite their weaker fortunes.
Worldwide, 80 of the 355 drop-offs from last year's list had fortunes derived from finance or investments.
While 656 billionaires lost money in the past year, 44 added to their fortunes. Those who made money did so by:
by Luisa Kroll, Matthew Miller, and Tatiana Serafin
Wednesday, March 11, 2009
It's been a tough year for the richest people in the world. Last year there were 1,125 billionaires. This year there are just 793 people rich enough to make our list.
The world has become a wealth wasteland.
More from Forbes.com: • Billionaire Bachelors and Bachelorettes • Women Billionaires • Celebrity Billionaires
Click here for the full list of the World's Billionaires
Like the rest of us, the richest people in the world have endured a financial disaster over the past year. Today there are 793 people on our list of the World's Billionaires, a 30% decline from a year ago.
Of the 1,125 billionaires who made last year's ranking, 373 fell off the list--355 from declining fortunes and 18 who died. There are 38 newcomers, plus three moguls who returned to the list after regaining their 10-figure fortunes. It is the first time since 2003 that the world has had a net loss in the number of billionaires.
The world's richest are also a lot poorer. Their collective net worth is $2.4 trillion, down $2 trillion from a year ago. Their average net worth fell 23% to $3 billion. The last time the average was that low was in 2003.
Bill Gates lost $18 billion but regained his title as the world's richest man. Warren Buffett, last year's No. 1, saw his fortune decline $25 billion as shares of Berkshire Hathaway (BRK) fell nearly 50% in 12 months, but he still managed to slip just one spot to No. 2. Mexican telecom titan Carlos Slim Helú also lost $25 billion and dropped one spot to No. 3.
It was hard to avoid the carnage, whether you were in stocks, commodities, real estate or technology. Even people running profitable businesses were hammered by frozen credit markets, weak consumer spending or declining currencies.
The biggest loser in the world this year, by dollars, was last year's biggest gainer. India's Anil Ambani lost $32 billion--76% of his fortune--as shares of his Reliance Communications, Reliance Power and Reliance Capital all collapsed.
Ambani is one of 24 Indian billionaires, all but one of whom are poorer than a year ago. Another 29 Indians lost their billionaire status entirely as India's stock market tumbled 44% in the past year and the Indian rupee depreciated 18% against the dollar. It is no longer the top spot in Asia for billionaires, ceding that title to China, which has 28.
Russia became the epicenter of the world's commodities bust, dropping 55 billionaires--two-thirds of its 2008 crop. Among them: Dmitry Pumpyansky, an industrialist from the resource-rich Ural mountain region, who lost $5 billion as shares of his pipe producer, TMK, sank 84%. Also gone is Vasily Anisimov, father of Moscow's Paris Hilton, Anna Anisimova, who lost $3.2 billion as the value of his Metalloinvest Holding, one of Russia's largest ore mining and processing firms, fell along with his real estate holdings.
Twelve months ago Moscow overtook New York as the billionaire capital of the world, with 74 tycoons to New York's 71. Today there are 27 in Moscow and 55 in New York.
After slipping in recent years, the U.S. is regaining its dominance as a repository of wealth. Americans account for 44% of the money and 45% of the list's slots, up seven and three percentage points from last year, respectively. Still, it has 110 fewer billionaires than a year ago.
Those with ties to Wall Street were particularly hard hit. Former head of AIG (AIG) Maurice (Hank) Greenberg saw his $1.9 billion fortune nearly wiped out after the insurance behemoth had to be bailed out by the U.S. government. Today Greenberg is worth less than $100 million. Former Citigroup (C) Chairman Sandy Weill also falls from the ranks.
Last year there were 39 American billionaire hedge fund managers; this year there are 28. Twelve American private equity tycoons dropped out of the billionaire ranks.Blackstone Group's (BX) Stephen Schwarzman, who lost $4 billion, and Kohlberg Kravis & Roberts' Henry Kravis, who lost $2.5 billion, retain their billionaire status despite their weaker fortunes.
Worldwide, 80 of the 355 drop-offs from last year's list had fortunes derived from finance or investments.
While 656 billionaires lost money in the past year, 44 added to their fortunes. Those who made money did so by:
- catering to budget-conscious consumers (discount retailer Uniqlo's Tadashi Yanai),
- predicting the crash (investor John Paulson) or
- cashing out in the nick of time (Cirque du Soleil's Guy Laliberte).
So is there anywhere one can still make a fortune these days? The 38 newcomers offer a few clues. Among the more notable new billionaires are Mexican JoaquÃn Guzmán Loera, one of the biggest suppliers of cocaine to the U.S.; Wang Chuanfu of China, whose BYD Co. began selling electric cars in December, and American John Paul Dejoria, who got the world clean with his Paul Mitchell shampoos and sloppy with his Patrón Tequila.
http://finance.yahoo.com/banking-budgeting/article/106712/World's-Billionaires-2009
What Will It Take to Earn Your Money Back?
What Will It Take to Earn Your Money Back?
Tuesday March 10, 7:00 am ET
By David Kathman, CFA
The terrible market declines of the past year have investors everywhere licking their wounds and toting up their losses, even as they prepare for the possibility of more losses to come. Nearly every portfolio that holds stocks is down significantly since late 2007, with 40% declines not uncommon. Just about the only solace is the thought that the market is bound to turn around at some point, and then people can start making up some of the ground they've lost.
But what, exactly, will it take to make up those losses? Many people underestimate the gains needed to recover from big investment losses, and the extent to which additional losses put you deeper in the hole. Amid all the current market gloom, it's worth taking some time to understand what it might take to recover from the current market swoon.
Climbing Out of the Hole
Suppose you hold a stock that falls 50% in value. How much does that stock have to gain before you're back where you started? Many people instinctively say 50%, but that's wrong. If the stock's price starts at $10 and loses 50%, it's at $5; from there, gaining 50% would put it only back up to $7.50. To get back to $10, the stock would have to gain 100%, twice as much as it lost in percentage terms.
Recouping losses always requires a larger percentage gain than the loss itself, and the difference between the two gets more dramatic as the losses get larger. For example, as of March 5, Tivo (NasdaqGM:TIVO - News) stock had lost 10.1% over the past year, meaning it will have to gain 11.2% to recoup that loss. As of the same date, homebuilder Toll Brothers (NYSE:TOL - News) had lost 30% over the past year, but it will have to gain 43% to get back to where it was a year ago. Starbucks (NasdaqGS:SBUX - News) had lost 51%, and it will need to gain 103% to make up those losses.
Once the losses exceed 50%, as they have for many financial stocks, the numbers get even uglier. For example, regional bank KeyCorp (NYSE:KEY - News) has lost 68% of its value over the past year as of March 5, meaning it would need to more than triple in price (gaining 214%) in order to make up for that loss. (If KeyCorp gained 68% from this point, shareholders would still be down 46% overall.) The numerous stocks that have lost 80% or more over the past year--nearly 900 of which are traded on the New York Stock Exchange or on Nasdaq--are in much worse shape and are unlikely to get back to where they were in the foreseeable future.
Easing the Pain
All this may seem a bit depressing, and it is, but it highlights the importance of diversification. If you had your entire life's savings invested in one of the stocks that have completely imploded, your portfolio would be critically damaged and would be facing a long recovery. But, of course, very few investors have all their money tied up in a single stock, and with good reason; as we've pointed out many times before, diversifying your holdings helps stabilize a portfolio and lessens the chance of one investment torpedoing returns. Even in a market where everything is down, like last year, moderating your losses can make it much easier to bounce back.
The best way of diversifying a stock portfolio is through asset-class diversification. While major stock indexes all lost more than 30% in 2008, the Barclays Capital (formerly Lehman Brothers) Aggregate Bond Index gained 5%. Of course, many individual bonds and bond funds declined in value last year, but the magnitude of those losses was generally much less than for stocks. A portfolio consisting entirely of Vanguard 500 Index (NASDAQ:VFINX - News) would have lost 37% in 2008, and would need to gain almost 59% to regain that lost ground. Putting 20% of the portfolio in Vanguard Total Bond Market Index (NASDAQ:VBMFX - News) would have reduced that loss to 29%, and the percentage needed to make it up would be reduced to 41%. Putting 40% in the bond fund would reduce the portfolio's loss to 20%, which requires only a 25% gain to make up. Losing 20% or 30% in a year is certainly not fun, but it's a lot better than losing 40%, 50%, or 60%, as these figures illustrate so well.
One very basic rule of thumb for determining a good stock-bond allocation is to subtract your age from 100, which gives a rough estimate of the percentage you should have in stocks. Thus, if you're 50 years old, it's a good idea to have 50% of your portfolio in stocks; if you're 60, it makes sense to have 40% in stocks; and so on. Alternatively, tools like Morningstar's Asset Allocator (available to Premium members) can help you arrive at a customized stock/bond split.
In addition to making sure your portfolio is diversified by asset class, it's also important to ensure that its spread across different industries and individual securities. A simple way to get broad stock exposure is through an index fund such as Vanguard Total Stock Market Index (NASDAQ:VTSMX - News), which tracks the Dow Jones Wilshire 5000 Index, or Vanguard 500 Index, which tracks the S&P 500 benchmark. Vanguard 500 Index lost 37% in 2008, which was certainly painful, but not nearly as bad as many individual stocks performed. And such losses are very rare for broad market indexes like this one; only once since 1926 has the total return of the S&P 500 (or its predecessor the S&P 90) been lower than it was in 2008. (That was in 1931, when the index lost 43%.) On the other hand, the S&P 500 has gained at least 37% in eight different years since 1926, twice gaining more than 50% (in 1933 and 1954).
While there's certainly no guarantee that the market will go on a tear like that any time soon, the potential for sharp upward gains--or perhaps better yet, slow and steady gains over a period of several years--makes it possible that long-term stock investors will not only be able to make up their recent losses but will outpace conservative investments like cash and bonds over time.
David Kathman, CFA does not own shares in any of the securities mentioned above.
http://biz.yahoo.com/ms/090310/283348.html?.&.pf=retirement
Tuesday March 10, 7:00 am ET
By David Kathman, CFA
The terrible market declines of the past year have investors everywhere licking their wounds and toting up their losses, even as they prepare for the possibility of more losses to come. Nearly every portfolio that holds stocks is down significantly since late 2007, with 40% declines not uncommon. Just about the only solace is the thought that the market is bound to turn around at some point, and then people can start making up some of the ground they've lost.
But what, exactly, will it take to make up those losses? Many people underestimate the gains needed to recover from big investment losses, and the extent to which additional losses put you deeper in the hole. Amid all the current market gloom, it's worth taking some time to understand what it might take to recover from the current market swoon.
Climbing Out of the Hole
Suppose you hold a stock that falls 50% in value. How much does that stock have to gain before you're back where you started? Many people instinctively say 50%, but that's wrong. If the stock's price starts at $10 and loses 50%, it's at $5; from there, gaining 50% would put it only back up to $7.50. To get back to $10, the stock would have to gain 100%, twice as much as it lost in percentage terms.
Recouping losses always requires a larger percentage gain than the loss itself, and the difference between the two gets more dramatic as the losses get larger. For example, as of March 5, Tivo (NasdaqGM:TIVO - News) stock had lost 10.1% over the past year, meaning it will have to gain 11.2% to recoup that loss. As of the same date, homebuilder Toll Brothers (NYSE:TOL - News) had lost 30% over the past year, but it will have to gain 43% to get back to where it was a year ago. Starbucks (NasdaqGS:SBUX - News) had lost 51%, and it will need to gain 103% to make up those losses.
Once the losses exceed 50%, as they have for many financial stocks, the numbers get even uglier. For example, regional bank KeyCorp (NYSE:KEY - News) has lost 68% of its value over the past year as of March 5, meaning it would need to more than triple in price (gaining 214%) in order to make up for that loss. (If KeyCorp gained 68% from this point, shareholders would still be down 46% overall.) The numerous stocks that have lost 80% or more over the past year--nearly 900 of which are traded on the New York Stock Exchange or on Nasdaq--are in much worse shape and are unlikely to get back to where they were in the foreseeable future.
Easing the Pain
All this may seem a bit depressing, and it is, but it highlights the importance of diversification. If you had your entire life's savings invested in one of the stocks that have completely imploded, your portfolio would be critically damaged and would be facing a long recovery. But, of course, very few investors have all their money tied up in a single stock, and with good reason; as we've pointed out many times before, diversifying your holdings helps stabilize a portfolio and lessens the chance of one investment torpedoing returns. Even in a market where everything is down, like last year, moderating your losses can make it much easier to bounce back.
The best way of diversifying a stock portfolio is through asset-class diversification. While major stock indexes all lost more than 30% in 2008, the Barclays Capital (formerly Lehman Brothers) Aggregate Bond Index gained 5%. Of course, many individual bonds and bond funds declined in value last year, but the magnitude of those losses was generally much less than for stocks. A portfolio consisting entirely of Vanguard 500 Index (NASDAQ:VFINX - News) would have lost 37% in 2008, and would need to gain almost 59% to regain that lost ground. Putting 20% of the portfolio in Vanguard Total Bond Market Index (NASDAQ:VBMFX - News) would have reduced that loss to 29%, and the percentage needed to make it up would be reduced to 41%. Putting 40% in the bond fund would reduce the portfolio's loss to 20%, which requires only a 25% gain to make up. Losing 20% or 30% in a year is certainly not fun, but it's a lot better than losing 40%, 50%, or 60%, as these figures illustrate so well.
One very basic rule of thumb for determining a good stock-bond allocation is to subtract your age from 100, which gives a rough estimate of the percentage you should have in stocks. Thus, if you're 50 years old, it's a good idea to have 50% of your portfolio in stocks; if you're 60, it makes sense to have 40% in stocks; and so on. Alternatively, tools like Morningstar's Asset Allocator (available to Premium members) can help you arrive at a customized stock/bond split.
In addition to making sure your portfolio is diversified by asset class, it's also important to ensure that its spread across different industries and individual securities. A simple way to get broad stock exposure is through an index fund such as Vanguard Total Stock Market Index (NASDAQ:VTSMX - News), which tracks the Dow Jones Wilshire 5000 Index, or Vanguard 500 Index, which tracks the S&P 500 benchmark. Vanguard 500 Index lost 37% in 2008, which was certainly painful, but not nearly as bad as many individual stocks performed. And such losses are very rare for broad market indexes like this one; only once since 1926 has the total return of the S&P 500 (or its predecessor the S&P 90) been lower than it was in 2008. (That was in 1931, when the index lost 43%.) On the other hand, the S&P 500 has gained at least 37% in eight different years since 1926, twice gaining more than 50% (in 1933 and 1954).
While there's certainly no guarantee that the market will go on a tear like that any time soon, the potential for sharp upward gains--or perhaps better yet, slow and steady gains over a period of several years--makes it possible that long-term stock investors will not only be able to make up their recent losses but will outpace conservative investments like cash and bonds over time.
David Kathman, CFA does not own shares in any of the securities mentioned above.
http://biz.yahoo.com/ms/090310/283348.html?.&.pf=retirement
Banking Profits In Bull And Bear Markets
Banking Profits In Bull And Bear Markets
Chris Seabury
Monday March 9, 2009, 4:44 pm EDT
Both bear markets and bull markets represent tremendous opportunities to make money, and the key to success is to use strategies and ideas that can generate profits under a variety of conditions. This requires consistency, discipline, focus and the ability to take advantage of fear and greed. This article will help familiarize you with investments that can prosper in up or down markets.
Ways to Profit in Bear Markets
A bear market is defined as a drop of 20% or more in a market average over a one year period, measured from the closing low to the closing high. Generally, these types of markets occur during economic recessions or depressions, when pessimism prevails. But amidst the rubble lie opportunities to make money for those who know how to use the right tools. The following are some ways to profit in bear markets.
Short Positions
Taking a short position, also called short selling, occurs when you sell shares that you don't own in anticipation that the stock will fall in the future. If it works as planned and the share price drops, you must buy those shares at the lower price to cover the open sell or short position. For example, it you short ABC stock at $35 per share and the stock falls to $20, you can buy the shares back at $20 to close out the short position. Your overall profit would be $15 per share.
Put Options: A put option is the right to sell a stock at particular strike price until a certain date in the future, called the expiration date. The money you pay for the option is called a premium. As the price of the stock falls, you can either exercise the right to sell the stock at the higher strike price, or you can sell the put option, which increases in value as the stock falls, for a profit (provided the stock moves below the strike price).
Short ETFs: A short exchange traded fund (ETF), also called an inverse ETF, produces returns that are the inverse of a particular index. For example, an ETF that performs inversely to the Nasdaq 100 will drop about 25% if that index rises by 25%. But if the index falls 25%, the ETF will rise proportionally. This inverse relationship makes short/inverse ETFs appropriate for investors who want to profit from a downturn in the markets, or who wish to hedge long positions against such a downturn.
Ways to Profit in Bull Markets
A bull market occurs when security prices rise at a faster rate than the overall average rate. These types of markets are accompanied by periods of economic growth and optimism among investors. The following are some of the tools that are appropriate for rising stock markets.
Long Positions: A long position is simply buying a stock or any other security in anticipation that its price will rise. The overall objective is to buy the stock at a low price and sell it for more than you paid. The difference represents your profit.
Calls: A call option is the right to buy a stock at a particular price until a specified date. The buyer of a call option, who pays a premium, anticipates that the stock's price will rise, while the seller of the call option anticipates it will fall. If the price of the stock rises, the option buyer can exercise the right to buy the stock at the lower strike price and then sell it for a higher price on the open market. The option buyer can also sell the call option in the open market for a profit, assuming the stock is above the strike price.
Exchange-Traded Funds (ETFs): Most ETFs follow a particular market average, such as the Dow Jones Industrial Average (DJIA) or the Standard & Poor's 500 Index (S&P 500) and trade like stocks. Generally, the transaction costs and operating expenses are low and they require no investment minimum. ETFs seek to replicate the movement of the indexes they follow, less expenses. For example, if the S&P 500 rises 10%, an ETF based on the index will rise by approximately the same amount.
How to Spot Bear and Bull Markets
Markets trade in cycles, which means that most investors will experience both in a lifetime. The key to profiting in both types of markets is to spot when the markets are starting to top out or when they are bottoming. The following are two key indicators to look for.
Advance/Decline Line: The advance/decline line represents the number of advancing issues divided by the number of declining issues over a given period. A number greater than 1 is considered bullish, while a number less than 1 is considered bearish. A rising line confirms that the markets are moving higher. However, a declining line during a period when markets continue to rise could signal a correction. When the line has been declining for several months while the averages continue to move higher, this could be considered a negative correlation, and a major correction or a bear market is likely. An advance/decline line that continues to move down signals that the averages will remain weak. However, if the line rises for several months and the averages have moved down, this positive divergence could mean the start of a bull market.
Price Dividend Ratio: The price dividend ratio is the ratio that compares the share price of the stock with the dividend paid out over the past year. It is calculated by dividing the current price of the stock by the dividend. A decline in the ratio in the area of 14-17 could indicate an attractive bargain, while a reading above 26 may signal overvaluation. This ratio and its interpretation will vary by industry, as some industries traditionally pay high dividends, while growth sectors often pay little or no dividends.
Conclusion
There are many ways to profit in both bear and bull markets. The key to success is using the tools for each market to their full advantage. In addition, it is important to use the indicators in conjunction with one another to spot when both bull and bear markets are beginning or ending.
Short selling, put options, and short or inverse ETFs are just a few bear market tools that allow investors to take advantage of the market weakness, while long positions in stocks and ETFs and a call option are suitable for bull markets. The advanced decline line and price dividend ratio will allow you to spot market tops and bottoms.
http://finance.yahoo.com/news/Banking-Profits-In-Bull-And-investopedia-14586735.html;_ylt=AhOkCA7MIJySEnHuserF1MO7YWsA
Chris Seabury
Monday March 9, 2009, 4:44 pm EDT
Both bear markets and bull markets represent tremendous opportunities to make money, and the key to success is to use strategies and ideas that can generate profits under a variety of conditions. This requires consistency, discipline, focus and the ability to take advantage of fear and greed. This article will help familiarize you with investments that can prosper in up or down markets.
Ways to Profit in Bear Markets
A bear market is defined as a drop of 20% or more in a market average over a one year period, measured from the closing low to the closing high. Generally, these types of markets occur during economic recessions or depressions, when pessimism prevails. But amidst the rubble lie opportunities to make money for those who know how to use the right tools. The following are some ways to profit in bear markets.
Short Positions
Taking a short position, also called short selling, occurs when you sell shares that you don't own in anticipation that the stock will fall in the future. If it works as planned and the share price drops, you must buy those shares at the lower price to cover the open sell or short position. For example, it you short ABC stock at $35 per share and the stock falls to $20, you can buy the shares back at $20 to close out the short position. Your overall profit would be $15 per share.
Put Options: A put option is the right to sell a stock at particular strike price until a certain date in the future, called the expiration date. The money you pay for the option is called a premium. As the price of the stock falls, you can either exercise the right to sell the stock at the higher strike price, or you can sell the put option, which increases in value as the stock falls, for a profit (provided the stock moves below the strike price).
Short ETFs: A short exchange traded fund (ETF), also called an inverse ETF, produces returns that are the inverse of a particular index. For example, an ETF that performs inversely to the Nasdaq 100 will drop about 25% if that index rises by 25%. But if the index falls 25%, the ETF will rise proportionally. This inverse relationship makes short/inverse ETFs appropriate for investors who want to profit from a downturn in the markets, or who wish to hedge long positions against such a downturn.
Ways to Profit in Bull Markets
A bull market occurs when security prices rise at a faster rate than the overall average rate. These types of markets are accompanied by periods of economic growth and optimism among investors. The following are some of the tools that are appropriate for rising stock markets.
Long Positions: A long position is simply buying a stock or any other security in anticipation that its price will rise. The overall objective is to buy the stock at a low price and sell it for more than you paid. The difference represents your profit.
Calls: A call option is the right to buy a stock at a particular price until a specified date. The buyer of a call option, who pays a premium, anticipates that the stock's price will rise, while the seller of the call option anticipates it will fall. If the price of the stock rises, the option buyer can exercise the right to buy the stock at the lower strike price and then sell it for a higher price on the open market. The option buyer can also sell the call option in the open market for a profit, assuming the stock is above the strike price.
Exchange-Traded Funds (ETFs): Most ETFs follow a particular market average, such as the Dow Jones Industrial Average (DJIA) or the Standard & Poor's 500 Index (S&P 500) and trade like stocks. Generally, the transaction costs and operating expenses are low and they require no investment minimum. ETFs seek to replicate the movement of the indexes they follow, less expenses. For example, if the S&P 500 rises 10%, an ETF based on the index will rise by approximately the same amount.
How to Spot Bear and Bull Markets
Markets trade in cycles, which means that most investors will experience both in a lifetime. The key to profiting in both types of markets is to spot when the markets are starting to top out or when they are bottoming. The following are two key indicators to look for.
Advance/Decline Line: The advance/decline line represents the number of advancing issues divided by the number of declining issues over a given period. A number greater than 1 is considered bullish, while a number less than 1 is considered bearish. A rising line confirms that the markets are moving higher. However, a declining line during a period when markets continue to rise could signal a correction. When the line has been declining for several months while the averages continue to move higher, this could be considered a negative correlation, and a major correction or a bear market is likely. An advance/decline line that continues to move down signals that the averages will remain weak. However, if the line rises for several months and the averages have moved down, this positive divergence could mean the start of a bull market.
Price Dividend Ratio: The price dividend ratio is the ratio that compares the share price of the stock with the dividend paid out over the past year. It is calculated by dividing the current price of the stock by the dividend. A decline in the ratio in the area of 14-17 could indicate an attractive bargain, while a reading above 26 may signal overvaluation. This ratio and its interpretation will vary by industry, as some industries traditionally pay high dividends, while growth sectors often pay little or no dividends.
Conclusion
There are many ways to profit in both bear and bull markets. The key to success is using the tools for each market to their full advantage. In addition, it is important to use the indicators in conjunction with one another to spot when both bull and bear markets are beginning or ending.
Short selling, put options, and short or inverse ETFs are just a few bear market tools that allow investors to take advantage of the market weakness, while long positions in stocks and ETFs and a call option are suitable for bull markets. The advanced decline line and price dividend ratio will allow you to spot market tops and bottoms.
http://finance.yahoo.com/news/Banking-Profits-In-Bull-And-investopedia-14586735.html;_ylt=AhOkCA7MIJySEnHuserF1MO7YWsA
House prices 'could fall by further 55 per cent'
House prices 'could fall by further 55 per cent'
House prices may fall by a further 55 percent and there is a "very real probability" that Britain will be bankrupted, a leading investment bank has warned in a private note to clients.
By Robert Winnett, Deputy Political Editor
Last Updated: 10:41PM GMT 11 Mar 2009
People who bought buy-to-let flats are expected to “begin panic selling” and the average home value could drop below £100,000.
The predictions in a 298-page report from Numis Securities, a City investment bank, are the bleakest yet on the deteriorating state of the British property market.
However, in the note written last month, Numis said: “Despite UK house prices already having fallen 21% from the peak, we do not believe that the correction is anywhere near over.
“Our core headline forecast is that UK property prices remain between 17% and 39% overvalued based on fair valuation. Moreover, history has shown us that when property…which has experienced a price bubble corrects, the price tends to fall below fair value for a period of time, as confidence in that market remains low. Prices could fall a further 40-55% if the over-correction was as bad as the early 1990s in our view.”
The report warns that “city centre flats” and “new executive homes” are likely to record the biggest reductions and describes investing in buy-to-let property as a “poor man’s hedge fund”.
“It is the action of these amateur investors over the next few months which we are most concerned about,” the report says. “We expect some to begin panic selling their portfolios, with the peak volume as is almost always the case with private investors, being at the market trough.”
Yesterday, Alistair Darling, the Chancellor, warned that the world is facing the most difficult economic conditions for “generations”.
However, the Numis report is scathing of Government attempts to help the economy.
“The Prime Minister and Chancellor have publicly stated that they want banks this year to lend at 2007 levels,” it said. “We think this is a crazy policy, given that too much debt was one of the prime reasons why the economy has its current problems.”
It also criticises the huge debts being run up by the Government to pump money into the economy. Yesterday, John Lewis, the retailer, said that the £12.5 billion cut in Vat has not made “any long term difference at all”.
The Numis report says: “The bankruptcy of the UK is a very real probability as the UK Government is trying to stimulate a greater debt burden in a grossly indebted economy. We believe the scale of the macro imbalances in the UK means there is no prospect of a recovery in 2009 and we expect the UK to be mired in a deep recession through all of 2010.”
Last night, the Conservatives said that the Numis analysis increased the pressure on the Prime Minister to apologise. Grant Shapps, the shadow Housing minister, said: “This is a devastating critique of the Government’s record and how Gordon Brown’s credit bubble will lead to a mountain of debt, a wave of repossessions and negative equity misery. Labour Ministers must take direct responsibility for fuelling buy-to-let speculation.
“Gordon Brown’s fingerprints are all over this economic wreckage and he should now have the decency to at least apologies for his mistakes.”
Yesterday, it emerged that the number of borrowers falling behind with their mortgage repayments has already doubled in the past year. According to Moody’s Investors Services, borrowers more than 90 days in arrears have increased to 1.5 percent of all home loans compared to 0.6 percent a year ago.
http://www.telegraph.co.uk/finance/economics/houseprices/4974499/House-prices-could-fall-by-further-55-per-cent.html
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House prices may fall by a further 55 percent and there is a "very real probability" that Britain will be bankrupted, a leading investment bank has warned in a private note to clients.
By Robert Winnett, Deputy Political Editor
Last Updated: 10:41PM GMT 11 Mar 2009
People who bought buy-to-let flats are expected to “begin panic selling” and the average home value could drop below £100,000.
The predictions in a 298-page report from Numis Securities, a City investment bank, are the bleakest yet on the deteriorating state of the British property market.
However, in the note written last month, Numis said: “Despite UK house prices already having fallen 21% from the peak, we do not believe that the correction is anywhere near over.
“Our core headline forecast is that UK property prices remain between 17% and 39% overvalued based on fair valuation. Moreover, history has shown us that when property…which has experienced a price bubble corrects, the price tends to fall below fair value for a period of time, as confidence in that market remains low. Prices could fall a further 40-55% if the over-correction was as bad as the early 1990s in our view.”
The report warns that “city centre flats” and “new executive homes” are likely to record the biggest reductions and describes investing in buy-to-let property as a “poor man’s hedge fund”.
“It is the action of these amateur investors over the next few months which we are most concerned about,” the report says. “We expect some to begin panic selling their portfolios, with the peak volume as is almost always the case with private investors, being at the market trough.”
Yesterday, Alistair Darling, the Chancellor, warned that the world is facing the most difficult economic conditions for “generations”.
However, the Numis report is scathing of Government attempts to help the economy.
“The Prime Minister and Chancellor have publicly stated that they want banks this year to lend at 2007 levels,” it said. “We think this is a crazy policy, given that too much debt was one of the prime reasons why the economy has its current problems.”
It also criticises the huge debts being run up by the Government to pump money into the economy. Yesterday, John Lewis, the retailer, said that the £12.5 billion cut in Vat has not made “any long term difference at all”.
The Numis report says: “The bankruptcy of the UK is a very real probability as the UK Government is trying to stimulate a greater debt burden in a grossly indebted economy. We believe the scale of the macro imbalances in the UK means there is no prospect of a recovery in 2009 and we expect the UK to be mired in a deep recession through all of 2010.”
Last night, the Conservatives said that the Numis analysis increased the pressure on the Prime Minister to apologise. Grant Shapps, the shadow Housing minister, said: “This is a devastating critique of the Government’s record and how Gordon Brown’s credit bubble will lead to a mountain of debt, a wave of repossessions and negative equity misery. Labour Ministers must take direct responsibility for fuelling buy-to-let speculation.
“Gordon Brown’s fingerprints are all over this economic wreckage and he should now have the decency to at least apologies for his mistakes.”
Yesterday, it emerged that the number of borrowers falling behind with their mortgage repayments has already doubled in the past year. According to Moody’s Investors Services, borrowers more than 90 days in arrears have increased to 1.5 percent of all home loans compared to 0.6 percent a year ago.
http://www.telegraph.co.uk/finance/economics/houseprices/4974499/House-prices-could-fall-by-further-55-per-cent.html
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'Sell every asset except gilts'
'Sell every asset except gilts'
Conventional assets – even gold – are no good as hedges against the inevitable deflation, says one asset manager.
By David Kauders
Last Updated: 12:17PM GMT 11 Mar 2009
At the end of last week, gilt prices soared and yields fell again. The market reacted positively to the Bank of England's announcement of quantitative easing. Yet in the preceding days and weeks the market had been spooked by concerns that the bail-outs would create inflation. Why the sudden change in sentiment?
It has long been our view that inflation scares have been seriously overstated and the real risk is deflation. Deflation occurs when a shrinking economy leaves businesses and consumers who have already borrowed heavily earning less and therefore unable to afford their existing debts.
There is the danger of a downward spiral caused by less income to pay interest. This is what the authorities are trying to avoid.
In a deflationary environment, only fixed-coupon gilts prosper: even index-linked stocks are ineffective. This is because the real rate of interest (nominal interest less inflation) has historically been around 2pc to 3pc for centuries.
If prices are falling rather than rising, fixed-coupon gilts gain in value, whereas the indexation formula for index-linked gilts indexes downwards with no floor. Other asset classes such as shares, property and many commodities depend on the continued take-up of more credit – which is why they did so well for many years.
As the credit crunch proceeded, governments introduced more and more bail-outs to keep banks lending. Real money, which has to be raised by increased taxation or by selling new gilts, was spent. This gave rise to fears that excess supply would depress gilt prices. Yet events show that the fears were mistaken. There are a number of reasons for gilt prices rising as supply expands:
- The biggest beneficiary of lower interest rates is government, as lower rates cut the cost of servicing the national debt;
- Pension funds are willing buyers and therefore absorb any supply offered to them;
- Risk elsewhere leads to a flight to quality and safety, irrespective of price.
- In addition, the Treasury have been selling new gilts to the market through the Debt Management Office's auction programme in order to fund the Government's spending. This takes cash out of the economy, yet the Bank of England wants to buy gilts back to put public money into the economy.
If the policy works it may ameliorate the recession, but the result is that the Bank of England counteracts the effect of the Treasury's extra supply of gilts.
Being realistic, there are many reasons why this quantitative easing may be of only cosmetic effect: why should banks lend to over-indebted businesses and consumers? What if they just run down their derivatives positions further?
Banks and building societies have to hold capital in reserve to ensure they can meet any losses. Historically, they had significant holdings in gilts and deposits at the Bank of England, but over the past 30 years standards were relaxed and other types of debt security were brought into those reserves.
Now they are rediscovering the advantages of having highly saleable assets such as gilts in their core capital and are therefore willing buyers of government bonds. Such bank purchases are significant, just as pension funds will be material buyers when they opt for certainty instead of risk to stem their losses in stock markets.
These large investors are the only ones who can sell to the Bank of England, yet they have good reasons for being net buyers.
However you look at it, institutional demand is increasing no matter what the supply of gilts. Nearly 20 years ago, in the recession of the early 1990s, the Government sold more gilts and prices rose (yields fell), in that case from around 13pc in 1990 to around 9pc in 1993. Inflation then was around 10pc and about to fall sharply. Notice the parallels as inflation now threatens to turn into deflation, the Government issues more gilts and prices rise again.
Investors have been pursuing property and gold for protection against financial risk. But property is an inflation hedge, not a deflation hedge, since its price level depends on the continued supply of credit.
There are also demographic factors that have favoured property in the postwar years but now turn against it: the lower birth rate, extensive owner occupation and the shift from net immigration to net emigration. Add this to the current financial pressure, and you can see why property is no longer a viable investment.
As for gold, it is the ultimate inflation hedge, since easy money provides the fuel for more people to buy it. But it is not a deflation hedge, for one simple reason. No currency is exchangeable into gold and no government is going to wreck its country's economy by adopting a gold standard.
This explains why the gold price perks up occasionally then always slips back again. The safest asset in the financial system is the promise of government to honour its own debt.
Private investors need to go with the flow. Investing in stock markets, like property, is proving singularly unrewarding at present. We believe the bear markets have much further to run before shares and property are cheap enough to buy again.
Since income offered by gilts is still above that earned from many bank accounts and there is a continuing flight to quality, gilt prices must go on rising until this deflation is over.
Investors should change to a gilt-only strategy to preserve capital and income. This way, they will have the cash to buy the bargains when stock markets offer them.
David Kauders is a partner at Kauders Portfolio Management.
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http://www.telegraph.co.uk/finance/personalfinance/investing/4969399/Sell-every-asset-except-gilts.html
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