Weekly Investment News -
Aurum Wealth Management Group

Weekly investment news from Aurum Wealth Management Group.

U.S. Economic Round-Up

Aurum Weekly Access - 3/28/2014

By Michael McKeown, CFA, CPA - Director of Research

The stat collectors released many data points over the past week. This note walks through a few charts we found interesting.

The graphic below breaks up the five components of the U.S. Gross Domestic Product (blue line) to show the contribution made by each sector. Fourth quarter GDP came in at 2.6%, slightly below expectations and down from 4.1% in the third quarter. Personal consumption was solid while the inventory build in the third quarter predictably had companies pulling back in the fourth. Economic growth remains on track, though lackluster.

contribution to GDP

Since the sectoral financial balances simply account for whether each sector ran a surplus or deficit, by definition, it must sum to zero. The government deficit declined dramatically (see the increase in the blue line) over the past three years. The rest of the world runs a much lower surplus today, especially compared to the early to mid-2000s. Because not every country can be a net exporter, the lack of surplus is a byproduct of slowing growth in many emerging markets. The household sector continues to run a high surplus, especially compared to the previous decade.

sectoral balances

Residential housing detracted from growth for the first time since 2010 during the fourth quarter. Higher mortgage rates relative to a year ago held back mortgage applications and investment in the sector. This occurred with the average 30-year conventional mortgage rate at 4.5%. It is hard to believe 14 years ago, mortgage rates were double at nearly 9% yet so was the mortgage application index level. Today the index is at its lowest levels since 1996 with the peak in 2006 during the housing bubble.

mtgappsmtgrates

Finally, initial jobless claims improved again this week, hopefully foreshadowing a solid monthly jobs report for March (which comes out . One of our managers noted the increasing importance of the weekly claims data now that the Federal Reserve removed the Unemployment rate as a key metric at last week's Fed meeting. The inverse of the series is plotted below, which neatly tends to follow the S&P 500 price index over long periods.

joblessclaims

 

Important Disclosures
This material is based on public information as of the specified date, and may be stale thereafter. We make no representation or warranty with respect to the accuracy or completeness of this material. Aurum Wealth Management Group and/or Aurum Advisory Services has no obligation to provide updated information on the securities or information mentioned herein. Actual events may differ from those assumed and changes to any assumptions may have a material impact on any projections or estimates. Other events not taken into account may occur and may significantly affect the projections or estimates. Certain assumptions may have been made for modeling purposes only to simplify the presentation and/or calculation of any projections or estimates, and Aurum Wealth Management Group and/or Aurum Advisory Services does not represent that any such assumptions will reflect actual future events. Accordingly, there can be no assurance that estimated returns or projections will be realized or that actual returns or performance results will not materially differ from those estimated herein. This material should not be viewed as advice or recommendations with respect to asset allocation, any particular investment, or any tax advice.

 

Emerging Markets Flow Show

Aurum Weekly Access - 3/21/2014

By Michael McKeown, CFA, CPA - Director of Research

Much is going in the world of geopolitics with effects on financial markets. From China allowing its currency to float in a wider band and of course daily news out of Russia, opportunity and risk are ever present. This note touches on an interesting development around investor behavior related to the broader emerging markets region.

According to EPFR Global, investors sold $100 billion of emerging market equity funds over the last 12 months. This amounts to approximately 10% of assets under management, compared to 2008 when 15% of assets were pulled (during the 60% peak-to-trough drawdown in only six months). The recent streak marks 21 straight weeks of outflows, a record in the last 15 years, after the 22% price drawdown over the past three years.

Emerging markets moved essentially sideways (top of the below graphic in gold) since late 2009.

SPXEM 2008 2014

Up until the beginning of 2012, U.S. stocks and emerging markets largely traded together over the previous five years. To start 2013, the S&P 500 traded with a Price/Earnings multiple of 13, compared to 10 for emerging markets. Today, the S&P 500 trades at 15.4 while emerging markets became cheaper with a P/E of 9.5.

The underperformance over the last two years seems to be the mean reversion for the emerging markets outperformance over the last 15 years. In hindsight, the outperformance seems obvious, but in 1999, U.S. stocks were flying high with large cap growth and technology going up 30%+ per year, while emerging markets were just one year removed from the Asian currency crisis in 1998.

SPXEM 1999 2014

Back in mid-2001, when the emerging markets index and S&P 500 began to diverge, the Forward Price/Earnings ratio was at 22X for the S&P 500 while the emerging markets stood at 10X.

The point being, the divergence has gotten much greater in the past, as investors reallocate to what has performed the best, namely US stocks. And as we know, decades of behavioral research shows that it's in our human DNA to chase returns. With the S&P 500 making new all-time highs, the current Forward Price/Earnings premium could increase versus emerging markets. As investors surrender assets at discount prices due to the thought of losing more money, our portfolios will be methodically rebalancing to those undervalued assets.

Important Disclosures
This material is based on public information as of the specified date, and may be stale thereafter. We make no representation or warranty with respect to the accuracy or completeness of this material. Aurum Wealth Management Group and/or Aurum Advisory Services has no obligation to provide updated information on the securities or information mentioned herein. Actual events may differ from those assumed and changes to any assumptions may have a material impact on any projections or estimates. Other events not taken into account may occur and may significantly affect the projections or estimates. Certain assumptions may have been made for modeling purposes only to simplify the presentation and/or calculation of any projections or estimates, and Aurum Wealth Management Group and/or Aurum Advisory Services does not represent that any such assumptions will reflect actual future events. Accordingly, there can be no assurance that estimated returns or projections will be realized or that actual returns or performance results will not materially differ from those estimated herein. This material should not be viewed as advice or recommendations with respect to asset allocation, any particular investment, or any tax advice.

[1] Garner, Jonathan. "Asia/GEMS Equity Strategy."Morgan Stanley Research. March 21, 2014

Tax-Free Income Comeback

Aurum Weekly Access - 3/5/2014

By Michael McKeown, CFA, CPA - Director of Research

"The market's not a very accommodating machine; it won't provide high returns just because you need them." - Peter Bernstein

The low yield environment has investors scrambling for return opportunities, from social media stocks to junk bonds. One area where the baby was thrown out with the bath water is municipal bonds. As interest rates rose, bond prices fell. Investors bailed from any form of yield instrument, including municipal bonds.

Arguably though, with above average valuations for equities and high spreads to corporate bonds, municipal bonds seem like a compelling destination for capital. This is especially true considering today's highest effective marginal tax rate of 44.3%, which is the sum of the 39.6% Federal income tax, 3.8% net investment tax, and 0.9% Medicare surtax.

Taxableequivyields

Source: Barclays

The Barclays High Yield Municipal index yields approximately 7%, which results in a taxable equivalent yield above 12%. Relative to corporate high yields this seems quite attractive. In addition, Moody's found the cumulative default rate from 1970 – 2012 for below investment grade municipals (which makes up the high yield index) was 2.56% versus corporate high yield at 13.87%. So that means there is a higher return expectation and lower default risk with municipal high yield versus corporate high yield.

Outflows in 2013 were a record with investors withdrawing $58 billion from tax-free bond funds. This even beat out the $44 billion withdrawn in late 2010 and early 2011, after Meredith Whitney made her foolish municipal market call on 60 Minutes regarding defaults.

CumulativeMuniFlows

Source: Investment Company Institute, Aurum

Investors found plenty of reasons to sell but it seems a reprieve from redemptions is finally here. A few headlines are here to stay and some may be transitory. Typically cited risks for municipal allocations include:
• End of Quantitative Easing and thus an interest rate rise
• Possibility of tax law changing status of tax-exempt municipal income
• Increasing credit risk due to pension liabilities and high profile distressed issuers such as Detroit and Puerto Rico

The Fed ending Large Scale Asset Purchases (also referred to as Quantitative Easing, QE) and resulting in a rise of interest rates is a risk across fixed income. Since the 'taper' was officially announced in December though, interest rates fell across the curve. Municipal yield spikes in the past have been bought relatively quickly. The white line below explains 80% of the municipal yield changes over the last 25 years. While interest rates could continue the ascent as inflation pressure builds, some of this seems to be in the price.

bondbuyerGOindex

Source: St. Louis Fed, Aurum

The political risk of taxing municipal income is heating up, especially with the swelling income inequality discussion and members of Congress looking at tax code changes. However, the political strategists we follow do not believe Congress would actually go through with changing such as an important aspect of the code after the last overhaul.

Finally, while credit risk is always a threat, municipals historically have much lower default rates across the credit spectrum versus corporate bonds.

A closer look at tax-free income is worth the time today given the paltry yield environment in fixed income.

 

Important Disclosures
This material is based on public information as of the specified date, and may be stale thereafter. We make no representation or warranty with respect to the accuracy or completeness of this material. Aurum Wealth Management Group and/or Aurum Advisory Services has no obligation to provide updated information on the securities or information mentioned herein. Actual events may differ from those assumed and changes to any assumptions may have a material impact on any projections or estimates. Other events not taken into account may occur and may significantly affect the projections or estimates. Certain assumptions may have been made for modeling purposes only to simplify the presentation and/or calculation of any projections or estimates, and Aurum Wealth Management Group and/or Aurum Advisory Services does not represent that any such assumptions will reflect actual future events. Accordingly, there can be no assurance that estimated returns or projections will be realized or that actual returns or performance results will not materially differ from those estimated herein. This material should not be viewed as advice or recommendations with respect to asset allocation, any particular investment, or any tax advice.

 

Icy Weather, Lazy Narrative

Aurum Weekly Access - 2/21/14

By Michael McKeown, CFA, CPA - Director of Research

Its been the coldest winter in decades thanks to the 'polar vortex,' a term the average American resident can now define better than most junior weather forecasters.

NASA polarvortex

Source: Wired.com, NASA image showing the polar vortex in January

The good news, for what it's worth, is the Climate Prediction Center is pointing to El Niño returning in winter 2015, which would bring warmer temperatures and dryer conditions for the Northeast and Midwest.

All of the bad weather is affecting the data capital markets eye closely. Pundits blame the cold and snow for people not spending money at the store and the falloff in home sales. Sounds simple enough. Still, this does not seem much different than the last couple of years and how the seasonal cooling and warmer temperatures led the actual change in the Citi Economic Surprise Index.  We can see the correlation between economic data surprising on the upside and the temperature changing, and vice versa.

CESITEMPS 

Either the economists need to go outside more to actually change their data forecasts with the weather or seasonal adjustments to the data need reworked.

Yet even before the cold streak began in January, data came in soft. The jobs report for December added only 75,000 people to the payrolls, well below consensus estimates. According to Retuers, Wal-Mart and Amazon (which is unaffected by shopping foot traffic) both reported disappointing results for the fourth quarter.

Below is the yearly change in retail sales that goes into the consumption portion of GDP (roughly 70%). It excludes buidling materials, auto sales, and gas stations. January came in at the lowest level of the recovery at 2.3% and slowing simliar to the last cycle. Did the weather really matter just last month or is this a continuation of the trend?

RETAILSALES

The rise of interest rates clearly had a negative impact on mortgage applications, as the spike last summer made the change in applications flip from positive to negative.Mortgageratesandapps

It seems the rush to paint all of the disappointing data with a broad weather stroke may be hasty. Is this the start of continued sluggish growth or will the warmer temperatures into spring outperform the lowered economic expectations like previous years? We are open to both possibilities and rarely find broad and 'easy to tell' narratives to be entirely accurate.

[1] http://www.wired.com/wiredscience/2014/02/noaa-polar-vortex/

[2] http://www.reuters.com/article/2014/01/31/us-walmart-outlook-idUSBREA0U0YK20140131

Important Disclosures

This material is based on public information as of the specified date, and may be stale thereafter. We make no representation or warranty with respect to the accuracy or completeness of this material. Aurum Wealth Management Group and/or Aurum Advisory Services has no obligation to provide updated information on the securities or information mentioned herein. Actual events may differ from those assumed and changes to any assumptions may have a material impact on any projections or estimates. Other events not taken into account may occur and may significantly affect the projections or estimates. Certain assumptions may have been made for modeling purposes only to simplify the presentation and/or calculation of any projections or estimates, and Aurum Wealth Management Group and/or Aurum Advisory Services does not represent that any such assumptions will reflect actual future events. Accordingly, there can be no assurance that estimated returns or projections will be realized or that actual returns or performance results will not materially differ from those estimated herein. This material should not be viewed as advice or recommendations with respect to asset allocation, any particular investment, or any tax advice.

 

 

 

The Presidential Stock Market Cycle

Aurum Weekly Access - 1/31/14
By Michael McKeown, CFA, CPA - Director of Research
 

One of the more fascinating patterns in markets is the tendency for outsized returns in the third and fourth year of the presidential cycle relative to the first and second.   

Read more: The Presidential Stock Market Cycle

Heat Maps & Mean Reversion

Aurum Weekly Access - 1/24/14
By Michael McKeown, CFA, CPA - Director of Research
 

There are few, if any, variables that provide solid evidence of predicting short-term asset prices.  One powerful force over the long-term that investors should consider when rebalancing portfolios is mean reversion.

Read more: Heat Maps & Mean Reversion

The Psychology of Rebalancing

Aurum Weekly Access - 1/17/14

By Michael McKeown, CFA, CPA - Director of Research
 

The father of Modern Portfolio Theory in 1951 did not actually stick to his breakthrough theory with his own money, which is kind of odd considering all of his accolades.  Instead, Harry Markowitz preferred to minimize his future regret bias and split his personal portfolio 50% stocks and 50% bonds.

Read more: The Psychology of Rebalancing

Taper Talk to Interest Rate Hike Hearsay

Aurum Weekly Access - 12/19/13
By Michael McKeown, CFA, CPA - Director of Research
 

If your ear drums have not blown out from the overuse of the word 'taper' in financial media, then you will be happy to know the Fed announced it will be slowing its asset purchases by $10 billion next month.  We mentioned this back in May in our piece "Closer to the Q-End?", highlighting the Fed's putting markets on notice and before interest rates spiked.   Lately many folks guessed whether taper will come this month, in three months, or six months, we began to think about when and how an interest rate hiking cycle could come about.

Read more: Taper Talk to Interest Rate Hike Hearsay

Looking in the Bond Direction

Aurum Weekly Access - 12/12/13
By Michael McKeown, CFA, CPA - Director of Research

For the dear readers of our (semi) weekly missive will know that our penchant for bonds fleeted over the last few years.  We do not have anything against fixed income securities per se, it is just that the value for today's price is less than historical averages.  In our view, there is no such thing as a bad asset, just a bad price to acquire that asset.

 

Read more: Looking in the Bond Direction

Watching Home Prices with Zillow

Aurum Weekly Access - 11/22/13
By Michael McKeown, CFA, CPA - Director of Research
 

Every week plenty of data on national real estate is released.  Watched by analysts closely are the mortgage applications and monthly changes of the Case-Shiller Home Price index.  'On fire' is the only way to describe the housing data over the past 18 months, registering double digit price gains across regions.

Read more: Watching Home Prices with Zillow

Chart Check-up

Aurum Weekly Access - 11/8/13
By Michael McKeown, CFA, CPA - Director of Research
 

A picture is worth... you know how it goes.  But we will just add a few bits of our observances on the graphical displays of data.

Read more: Chart Check-up

Less Taper Talk, Not Much Action

Aurum Weekly Access - 9/20/13
By Michael McKeown, CFA, CPA - Director of Research
 

After every research shop on Wall Street put out estimates of whether a little bit of taper or a lot of taper would be announced at this week's Fed meeting, it was all for naught.  Ben Bernanke & co. surprised everyone by announcing that the LSAP (Large Scale Asset Purchases) would continue as scheduled at $85 billion per month.

Read more: Less Taper Talk, Not Much Action

Mom & Pop, "Welcome to the Club"

Aurum Weekly Access - 9/5/13
By Michael McKeown, CFA, CPA - Director of Research
 

Large private equity firms are bringing new products to the masses.

In early August Barron's published "The Next Private-Equity Investors: Mom and Pop" and the Wall Street Journal covered the topic in May with Megafirms Talk about Challenges Catering to Retail Investors.

Read more: Mom & Pop, "Welcome to the Club"

The Role of Cash - Part 2

Aurum Weekly Access - 8/14/13
By Michael McKeown, CFA, CPA - Director of Research
 

Cash deserves an allocation within portfolios.  Last week we covered why for liquidity management reasons, but its importance  extends to  opportunity  risk management.
 

Read more: The Role of Cash - Part 2

The Role of Cash - Part 1

Aurum Weekly Access - 8/7/13
By Michael McKeown, CFA, CPA - Director of Research
 

We believe that cash is an important asset class within portfolios. The proper cash allocation is driven by two main factors: (1) liquidity management and (2) opportunity risk management.
 

Read more: The Role of Cash - Part 1

Getting Real

Aurum Weekly Access - 6/28/13
By Michael McKeown, CFA, CPA - Director of Research
 
 

June was a volatile month and a key reason was real interest rates finally going positive as shown by the 10-year TIP below.  It spent the last 18 months below 0% until June 7th.
 

Read more: Getting Real

How to Maximize After-Tax Returns

Aurum Weekly Access - 6/07/13
By Michael McKeown, CFA, CPA - Director of Research
 
 

The goal of any personal investment program should be to maximize real (inflation-adjusted) returns on an after-tax basis, comparable to the necessary and requisite risk to achieve the objectives.  Even though tax season is over (as our friends at Skoda Minotti are quite happy about), tax planning for investments is never over.  One easy way to improve tax efficiency is with low turnover managers that generate long-term capital gains as opposed to short-term gains taxable at ordinary income rates.  Another is using municipal bonds, assuming the asset class is fairly priced on an absolute basis and relative to other fixed income alternatives of similar risk.  A third way to increase portfolio tax efficiency is asset location. 


 

Read more: How to Maximize After-Tax Returns

Closer to the Q-End?

Aurum Weekly Access - 5/17/13
By Michael McKeown, CFA, CPA - Director of Research
 
 

The end of Quantitative Easing (QE) is coming one day; the Fed put everyone on notice with four Fed officials discussing the 'taper' of open market security purchases.(i)   Many people believe the money printing from the Fed went directly into the stock market and that these dollars are what is propelling the equity markets to new all-time highs.  While they are somewhat right in form, they are wrong in substance.  The Fed is not buying equities, but it is shrinking the supply of Treasuries and replacing them with cash.  Repressing the interest rate curve is what the Fed is intentionally doing, and in so forcing the marginal investor higher than he or she would normally have to venture along the risk curve to earn satisfactory returns.


 

Read more: Closer to the Q-End?

Talkin' a Little R&R

Aurum Weekly Access - 5/7/13
By Michael McKeown, CFA, CPA - Director of Research
 
 

If you have not followed the exciting world of global macroeconomics over the last month, you missed a major controversy.  The widely publicized authors Carmen Reinhart and Ken Rogoff (R&R), professors at Harvard University, came under scrutiny for work related to a paper and the conclusions on their book, This Time is Different.  The key takeaway from the book and subsequent papers was that once a country reaches a public debt to GDP threshold of 90%, growth slows dramatically.  This had enormous influence on policy makers all over the world given that the majority of developed countries, from the U.S., to Japan, to most countries of the Eurozone had debt to GDP ratios well above 90%.  The policy is familiar to most in that the government sector must cut deficits for the private sector and the overall economy to prosper.  None of this was the controversial... until now.


 

Read more: Talkin' a Little R&R

Baseball's Long Season

Aurum Weekly Access - 4/5/13
By Michael McKeown, CFA, CPA - Director of Research
 
 

America’s pastime is finally back with buzz from anticipation of the season beginning turning to excitement.  There was already nearly a ‘perfect game’ and our Cleveland Indians started with a hot two game winning streak (it doesn’t take much for we Cleveland fans).  With 162 games on the calendar over the next six months though, the old baseball saying applies, “don’t let the highs get you too high, or the lows get you too low.” 


Read more: Baseball's Long Season

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