TIPs to Protect Yourself from Future Inflation

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This article is another in my series of articles about common mistakes that the average individual investor makes in their overall portfolio allocation. For these articles, I drew from the 20 years of experience I had at Charles Schwab in dealing with clients face-to-face and helping them meet their financial goals.

In previous articles, I wrote about two areas which were dramatically under-represented in most clients portfolios – commodities and international securities. There is a third area which I found to also be under-represented and that is fixed income investments. Many clients had little or no exposure to fixed income investments.

The most difficult task I believe for allocating funds to fixed income investments is to choose what type of bonds an investor should buy from the myriad of choices available. Obviously, an investor’s specific financial circumstances will dictate the final choices. In this article, I will choose an area of the fixed income world that I believe most investors should currently allocate funds toward.

TREASURY MARKET FANTASY

Right now the Treasury market is enjoying its own titillating little fantasy. It is the ultimate dream of everyone in the bond world. It is nirvana for bond market junkies. It is the D-word – deflation.

The media and financial authorities have fallen in love with the word deflation. The dim bulbs that appear on CNBC air are constantly talking about deflation. This fact alone sets off alarm bells in my head. When is the last time that the conventional wisdom as presented on CNBC ever came true? In fact, when is the first time?

I believe that all of this deflation talk is simply a way for the financial authorities to prepare the public for incredibly massive government spending over the next several years. It simply helps to justify even more massive government bailouts and spending programs. Look at the amount already spent on the “bailout” - nearly $8 trillion. I fully expect that figure to rise by tenfold or more.

I notice that CNBC conveniently seems to have forgotten about how the Treasury market crazies got it wrong in 2003. There was a huge deflation scare at that time too, although on a smaller scale than the current nuttiness. What followed that deflation scare? One of the most massive upward moves in history of the price of many commodities.

Right now, the Treasury market crazies have priced in massive deflation that will occur in the United States for the next decade or longer. They have also priced in corporate default rates of 21%! And this is in the face of massive printing of money and multi-trillion dollar annual deficits.

There is a major headwind that the Treasury market crazies will soon be facing. Over the next four years, 66% of America’s current $5.2 trillion of debt has to be rolled over. Who is going to buy all of this Monopoly paper?

Wall Street is expecting the suckers (foreigners) to buy it all. They seem to have forgotten that, thanks to Wall Street, these foreigners have major financial problems of their own. I strongly believe that most foreign investors’ funds will be spent in their home markets, buying their own bonds, and funding their own governments’ fiscal needs.


When this happens, the Federal Reserve will have to resort to cranking up the printing press to warp speed so that there is enough Monopoly money available to purchase the massive amount of Treasuries which will be issued. Can you say inflation?

MIS-PRICED ASSET - TIPS

In all of the Treasury market nuttiness, there are Treasury securities which have been completely mis-priced. These securities are Treasury Inflation Protected Securities or TIPS. The interest and principal on these securities are indexed to the U.S. Consumer Price Index or CPI.

TIPS have become mis-priced because liquidity has fled the TIPS market, just as liquidity has fled from the equity markets. After all, why would anyone want to own TIPS when everyone “knows” that deflation is here to stay and inflation is dead forever, right?

Wrong! For reasons stated earlier, I believe we will see a mass conflagration of the funds that are currently rushing into Treasury securities at zero or one per cent because of liquidity concerns. And once again, we will see that the conventional Wall Street wisdom will be proven incorrect.

I don’t believe we will ever see massive deflation in this country. I believe that the only possibility of deflation in the US would be if we truly see 1930s conditions – where the US GDP collapsed by 50% in nominal terms and unemployment rates were at 25% and corporate defaults were in the 15% range. Sorry, that scenario is not in the cards. What is much more likely is a return of inflation.

TIPS ETFs

An investor can buy an individual TIPS bond, but with the current lack of liquidity the spread between the bid and asked of such securities is unusually large. A better choice may be an ETF which invests in TIPS securities.

Currently, investors have two choices for TIPS ETFs. They are SPDR Barclays Capital TIPS ETF with the symbol IPE and the iShares Lehman TIPS Bond Fund with the symbol TIP.

Both ETFs have many similarities – both ETFs have very low expense fees, both ETFs are down between 7% and 8% for the year, and both ETFs also have a similar average duration of the TIPS bonds that they hold of approximately 7 ½ years.

The only difference seems to be that TIP trades with a higher daily average volume than does IPE and is therefore a bit more of a liquid security.

Due to the current mis-pricing I believe is occurring in the US Treasury market, both TIP and IPE are currently yielding in the 8% range. Keep in mind – this is an 8% yield that investors are receiving on a US Treasury security!

Investors are urged to jump on the bargains occurring currently with regard to the TIPS market. I believe that an immediate purchase of either IPE or TIP will be a wise choice.

by:

Tony D’Altorio
Analyst, Oxbury Research

The Art of Contrarian Investing: Going Against the Crowd for Profit

A contrarian believes that certain crowd behavior among investors can lead to exploitable mispricings in securities markets. For example, widespread pessimism about a stock can drive a price so low that it overstates the company’s risks, and understates its prospects for returning to profitability. Identifying and purchasing such distressed stocks, and selling them after the company recovers, can lead to above-average gains. Conversely, widespread optimism can result in unjustifiably high valuations that will eventually lead to drops, when those high expectations don’t pan out. Avoiding investments in over-hyped investments reduces the risk of such drops. – Wikipedia

Professionals vs. Non-professionals

“Whenever you find yourself on the side of the majority, it’s time to pause and reflect.”
– Mark Twain

What is the “Crowd”? They are the group of non-performing institutions, individual investors, traders, speculators, and other players in any market that form a collective opinion that is expressed in the terms of a degree of optimism or pessimism. We will call them the non-professionals.

The professionals are the “smart money”. These are the very few that are aware of crowd behavior and are able to adjust their strategies (long and short) to profit from extreme sentiment. Note: professional does not mean institution by definition. Most institutions are part of the crowd.

The key point to make is that when non-professionals display an excessive amount of optimism or pessimism, the professionals enter into the market and drive prices in the opposite position. Any truly non-professional, one-sided opinion or expectation of a market will be unable to anticipate a movement created by the professionals in the opposite direction that is anticipated by the group of non-professionals. This is contrarian investing, going against the masses that believe in only one direction of a market and taking advantage of their unanimous opinion by crushing them on the other side.

Here’s a diagram I created to illustrate the above point:



How does this work? Some might argue that if everyone’s buying and extremely positive, then why would the market crash? The answer: as more and more investors buy, the market will become fully invested. The last ones buying are the ones that bought into the market when the professionals were selling and will be stuck because of this overhead limit. After everyone’s bought, there won’t be anyone left to sustain the buying. Therefore, a fearful panic ensues and the masses start to sell, most of the times much later than they should have done.

A recent example of massive cash inflow (totaling hundreds of billions of dollars) is shown below. Note that the peak of the NASDAQ was on March 10, 2000 at 5,132.52 at nearly the same time when the largest monthly in flow occurred. Clearly, everyone was invested at the full limit.



The Media’s Portrayal of “Professionals”: An Observation in Barron’s April 28th Issue

This is the “Back in the Pool” issue with the funny-looking bull cartoon testing out the pool’s temperature. Barron’s surveyed “professional” investors and here were some “crowd-like” results:

1) Describe your investment outlook through December 2008:
• Very Bullish: 7%
• Bullish: 43%
• Neutral: 38%
• Bearish: 12%
• Very Bearish: 0%!!!

2) Is the U.S. stock market overvalued, undervalued, or fairly valued at current levels?
• Overvalued: 10%
• Undervalued: 55%!!!
• Fairly valued: 35%

These questions were the biggest eye-poppers:

3) Are you beating the S&P this year professionally?
• Yes: 74%!!!
• No: 22%

4) Personally?
• Yes: 72%!!!
• No: 19%

Here’s the most recent chart of the S&P 500:



The media’s definition of “professional” is not always correct so please be aware of the difference. The market is down over 40% year-to-date, so obviously the results have now changed dramatically.

Contrarian Strategies

“The fastest way to succeed is to look as if you’re playing by somebody else’s rules, while quietly playing by your own.” – Michael Konda

• Buy when media headlines read the absolute worst and there is no sentiment divide among investors. Once sentiment becomes entirely pessimistic, buy. Also look out for a bottoming of new capital in flows into stocks. Historically, the good time to buy was when capital in flows were between 10 -15%.
• Sell when everyone is overly bullish and capital in flows into common stock & mutual funds reach a high. (In 1960 the market declined 18%, in 1962 -29%, in 1966 -27%, and in 1968 -37%, while stock ownership levels were between 32- 34%, the highest ever. In 1999-2000, stock ownership levels were at 31-33%, near an all time-high)
• Don’t fight the trend. If the primary trend is down, go short. If the primary trend is up, go long. Why fight the long-term direction of the market?
• Watch financial networks and read newspapers and magazines to get an idea of where sentiment levels are. Magazine covers are my favorite.


Conclusion

“Follow the path of the unsafe, independent thinker. Expose your ideas to the dangers of controversy. Speak your mind and fear less the label of ‘crackpot’ than the stigma of conformity. And on issues that seem important to you, stand up and be counted at any cost.” – Thomas Watson

It’s safe to say that following the real professionals is the way to go. In order to do that, you have to know how they play. There are three points that I stress: 1) there is tremendous pressure and influence to join the crowd and gain easy acceptance, 2) the crowd is wrong the majority of the time, 3) under duress, psychologically, our emotions and objectivity can become distorted and cause us to rationalize (a dominant coping mechanism) or deny (a dominant defensive mechanism) even the basic realities of truth.

Investors will be able to join the crowd when appropriate, but remain flexible to leave the crowd at times when the market warns us. I encourage each investor to respect the nature of human weakness and to become a free-spirited independent thinker.

Is a Bank an Investment Vehicle?

When I was a kid, a bus ride cost 25 centavos.Today, the same bus ride costs seven pesos.

What happened? In one word, inflation.

Overtime, your money loses its purchasing power.

When it comes to money, there are really only three kinds of people in this world. 1. Spender 2. Saver and 3. Investor. And sadly, only one of these three will win the money game. Which one are you? Let me introduce them to you by way of a story. James, Jim and John were salesmen. The three of them landed a huge deal. And their company gave each of them a P100,000 commission check. They were totally blown away by their luck, but they used their money in very different ways. Because James was a Spender, Jim was a Saver, and John was an Investor.

1. Spender

Upon receiving his check, James encashed it, and went straight to a fancy restaurant and invited all his friends to celebrate his good fortune. Later that day, he bought himself a new hi-tech gadget like cell phone, MP4 player, portable playstation, etc. The next day he took a holiday trip to Boracay.In three days, James had nothing left from the P100,000 commission.

This is the story of his life. After many years of working, he has no savings to show, but he has many credit cards debts.We see spenders everywhere, and I hope you’re not one of them.

2. Saver

Jim walked straight to the bank with his P100,000 check.He approached the friendly bank teller with a smile and said, “Miss, I don’t plan to touch my money for a long time. It’s P100,000. How much interest will you give me?

She nodded and said, “Let’s put it in a time deposit account. We’ll give you five percent interest a year. That’s the highest we can give you, sir.”

“Okay!” he agreed, signed the deposit slip, and walk out happy.Thirty-six years later, he was 65 years old. He retired at age 60, got his retirement package, spent it in five years, and was now totally broke. That was when he remembered his time deposit. He visited his bank.

He saw the same friendly teller “Hi, I deposited P100,000 some 36 years ago,” he said, “and I’m finally withdrawing it. How much is it now?”

“Just a minute sir,” she looked at her computer, and after a few minutes looked op and said, “Sir, you now have P400,000.”

The retired salesman blinked hard. “After 36 years, it’s only grown to P400, 000? Perhaps you’ve made a mistake, miss.”

“I’m no longer a miss, sir. Lola na ako. And no, there’s no mistake…”Savers are good, disciplined, honest people, but savers still don’t win in the money game.

3. Investor

John was the Investor. He doesn’t go straight to the bank. He goes to where the bank puts their money. In other words, he bypasses the bank.

Out of the three salesmen, only John has raised his financial I.Q. He learned that the banks put a part of their money in investment vehicles like mutual funds, bond funds, equity funds, and stocks. So he thought, if it’s good for them, why not for me?

So John takes a few days researching for the best mutual fund investments in the country and visits one of them.

He approaches the lady behind the desk and says, “I’ve never done this before but I want to invest in mutual funds. How much interest will you give me?”

The lady shook her head, “Unlike banks, we don’t guarantee our interest rates. They depend on the ups and downs of the market.”

“Isn’t that scary?” John raised hi eyebrow.

“It is – if you plan to invest for only a short period of time. But if you plan to invest long term and ‘forget’ about it, it won’t be scary. Like for the past years, we’ve given our investors an average of nine percent to 12 percent growth.”

“Yes, I do plan to invest for the long-term,” he says, “but do I have to invest millions to join your mutual fund? I don’t have millions.”She laughed. “Sir, the minimum is P5,000 per investment.

”His eyes bulged. ‘What? That small? Then anyone can invest!”

“Mutual funds are the great equalizer. Some call it the secret of the rich which is now available to the poor. Banks don’t treat people equally, but we do. Someone who puts P5 million in the bank gets a higher interest than someone who puts P5,000. But in mutual funds, it doesn’t matter how much you put in. Five million or P5,000, you earn the same interest.”

So John invested his P100,000 and left happy.Thirty-six years later, at the age of 65, John wanted his investment back. So he walked into the same mutual fund company and asked about his investment fare the past 36 years.

The lady on the desk said, “To be honest, there were bad years and good years. There were years your money lost earnings but there were great years when your money earned 20 percent and more. In the past 36 years, you averaged 12 percent a year.”

“Is that good?” he asked.

“According to my records,” she smiled, “your original P100,000 has now grown to P6.4 million. Now you tell me if that is good.” She winked.

“That’s very good!” John grinned from ear to ear.

Mga kabayan and friends, now you know why banks have nice, tall, expensive buildings.

They get your P100,000 and invest it in an investment vehicle where they earn P6.4 million, and then return to you the P400,000.How much did they earn? 6 million.

So next net time your bank offers you a cup of coffee for depositing P100,000, realize that the cup cost you P6 million.

Here’s my big question: At least for your retirement fund, why not bypass the banks? Why don’t you invest your money where banks invest their money?

You can. Anyone can.

Check out http://www.icap.com.ph/ for a listing of mutual funds in the Philippines.


Excerpt for the book of 8 Secrets of the Truly Rich by Bro.Bo Sanchez

Are You Riding Vehicles Towards Wealth?

Here’s my question: If you’re living in Manila, can you walk up to the mountains of Baguio? Of course you can. It may take a while but you can do it.

The average normal pace for normal human beings who don’t exercise much is five kilometers an hour. That means, it will 50 hours of non-stop walking to reach Baguio. If you stop for food, rest and sleep, you could probably walk for 10 hours a day. So, in total, you can walk up to Baguio in five days. Not bad right? I cant guarantee what will happen to your lungs after walking side-by-side with smoke belching buses for five days, but at least you’ll arrive.

But you can ride a bicycle to Baguio too.

Even if you’re not a super biker, you could still pedal your way up in two days.

Now that’ great improvementBut you can improve that even further.

You can ride an air-conditioned car and arrive in five hours.

Isn’t that fantastic?

And if you’re really in a hurry, you can ride a plane and do it in 45 minutes.

My friend, in the same way that there are many ways to Baguio, there are also many ways to wealth.

The rule is simple: You’ve got to ride something.

Remember that three kinds of people in the world: Spenders, Savers, and Invetors.

Spenders don’t even try to walk to their wealth. They just stay put.

Savers walk to their wealth. Many people are not riding anything towards their wealth. They’re just walking towards it. These people are working very hard, simplifying their life saving as much money as they can – but they put their savings in the wrong place. After 50 years of working hard, they look at their total net worth and it has barely grown. Some are retire with nothing at all. Some are bit wiser and are able to retire owning their homes, but have nothing else. Do their homes give them income each month?

Investor rides bicycles, cars, and planes to their wealth. He uses savings and grow it exponentially. He uses his core gifts to create wealth. He uses his mentors, networks and family.

Excerpt from the 8 Secrets of the truly Rich by Bro. Bo Sanchez

Investing Tips for Beginners

Here are some investing tips for beginners:

1. Invest in what you know.Choose investments that you know and understand.

Forms of investments:

a.) Savings accounts - Probably the safest type of investment. There is low risk involve and the yield is also low. If you availed of it through a bank, your investment is insured by the PDIC upto P250,000.

b.) Time deposits - Similar to savings accounts with the exception of you agreeing not to touch your money for a certain period of time. With this, the bank will offer you a higher yield compared to regular savings account.

c.) Bonds - Bonds are IOUs from the government or corporations. Initial investments in bonds and risks are higher compared to bank deposits. But the yield potential is also much higher. It may be preferable to invest in Mutual funds or UITFs (pooled resources) which offer lower initial investments.

d.) Stocks or Equities - Stocks are traded in the stock market and prices fluctuate everyday. There are mutual funds and UITFs investing in stocks and equities.

e.) Money market - Money market refers to short term commercial papers maturing in 1 year or less. There are mutual funds and UITFs with portfolios made up of money market only.

f.) Real Estate

g.) Art and Jewelry

2. Don't follow the herd.Before following what the others are doing, think and assess first the situation. Don't panic. Sometimes panicking can force you to sell at a loss.

3. Focus on the business, not the stock.If you invest on the stock market, focus on the business and not on the stock prices. Know the business behind the stock, assess its future and see if it will be profitable. As the stock market prices fluctuate everyday, looking at the prices everyday may cause you to lose your mind.

4. Think long term. When investing in stocks, mutual funds, and UITFs, think long term. Be prepared to just leave your money and let it compound. Learn to sit back and relax. Investing long term allows your investments to average out over that period. Averages have the tendency to rise over the years so you need not worry when the market is down because it will tend to average itself in the long run.


source: http://business.inquirer.net/money/personalfinance/view/20080812-154111/Good-investing-for-beginners

Investment Principles Worth Knowing

Principle no. 1:

There's Never the Perfect Time.Nobody knows what the future brings, anything can happen at any given time. That is why there really is no perfect time to invest. However, according to Judith Go, Citibank Philippines' Citigold wealth management director, "one thing is sure: Over the long term, markets tend to trend up." There is no perfect, problem-free time to invest but it is possible to make a gain in spite of whatever situation the economy is in.

Principle no. 2:

It's Time in the Market, Not Timing that Matters.Following from the discussion in principle no. 1, we can say that it's not really about perfect timing but more of the amount of time spent in the market. If you can stay in the market for a long time through highs and lows, you will be rewarded with higher profits in the end.

Principle no. 3:

Fright or flight? Hold on to the Fundamentals.Don't panic over short term trends. It's true that Asian stocks are down lately, but looking at it from a long term view, the truth is, stocks held 20 years ago will most likely be much more valuable now in market price.Bear markets are not forever, don't panic right away.

Principle no. 4:

Cash isn't King all the Time.Cash deposits, like savings accounts and time deposits, are not really the best places to put all your funds in. Although these investments are safer, it allows you to earn only a minimum amount of interest.

"While you may be a conservative investor, still the principle holds: Don't put all your funds in cash deposits. Venture out a little into stocks, bonds, and pooled funds (mutual funds or UITFs) investing in equities and bonds to have the chance to earn more gains. The higher the risk, the higher the potential gains. And the adage "Don't put your eggs in one basket" holds true. Diversify and watch your money grow

Philippine Daily Inquirer's September 8, 2008 issue shared by Citibank Philippines