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Market Commentary
Economic Updates
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Weekly
Commentary
August
9, 2010
The Markets
Despite a disappointing jobs report,
stocks still managed to post a solid gain last week. In fact, all three major
U.S. indexes --the Dow Jones Industrial Average, the S&P 500, and the
NASDAQ Composite --ended last week in positive territory for the year,
according to CNBC.
Strong corporate earnings are helping
to keep a floor under the market. Roughly 75% of the companies that have
reported second quarter earnings beat Wall Street estimates, according to CNBC.
Of course, one factor that helped corporate America post strong earnings was
keeping a tight rein on employment costs. Unfortunately, what's good for
corporate America may not always be good for "employment" America.
Bond yields continued to decline last
week as the 2-year Treasury hit a record low of 0.50%. The 10-year Treasury
yielded 2.82%, which is a 15-month low. Foreign country bonds are sporting low
yields, too. The 10-year German Bund hit a record low yield of 2.51% last week,
while the benchmark Japanese 10-year government bond yielded just 1.05% last
week, according to Barron's.
Low yields suggest either slower
economic growth ahead or little to no inflation, or both, according to Barron's. Low rates are generally good
for businesses because it makes their cost of capital lower and makes it easier
for them to reinvest for future growth. So far, the low rates appear to have
helped stabilize the economy, but robust growth and reinvestment has yet to
materialize, according to The New York
Times.
Overall, the mixed economic data is
helping keep the market stuck in a broad range.
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Data as of 8/6/10
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1-Week
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Y-T-D
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1-Year
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3-Year
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5-Year
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10-Year
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Standard & Poor's 500 (Domestic Stocks)
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1.8%
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0.6%
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11.0%
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-8.6%
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-1.7%
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-2.7%
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DJ Global ex US (Foreign Stocks)
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2.8
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-0.9
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9.6
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-8.7
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2.5
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1.5
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10-year Treasury Note (Yield Only)
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2.8
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N/A
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3.8
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4.7
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4.4
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6.0
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Gold (per ounce)
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3.3
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9.4
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25.3
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21.6
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22.6
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16.0
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DJ-UBS Commodity Index
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0.8
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-2.8
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3.8
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-6.9
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-3.6
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3.0
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DJ Equity All REIT TR Index
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1.3
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16.9
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39.8
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-3.6
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2.8
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10.6
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Notes: S&P 500, DJ Global ex US, Gold, DJ-UBS Commodity Index
returns exclude reinvested dividends (gold does not pay a dividend) and the
three-, five-, and 10-year returns are annualized; the DJ Equity All REIT TR
Index does include reinvested dividends and the three-, five-, and 10-year
returns are annualized; and the 10-year Treasury Note is simply the yield at
the close of the day on each of the historical time periods.
Sources: Yahoo! Finance, Barron's, djindexes.com, London
Bullion Market Association.
Past
performance is no guarantee of future results. Indices are unmanaged and cannot be invested into directly. N/A means not applicable or not available.
"WE
ARE IN A NEW NORMAL WORLD in which the distribution of outcomes
is flatter and the tails are fatter," according to a July 2010 Global
Perspective report from Richard Clarida of PIMCO. What in the world does that
mean?
Clarida's words might sound like mumbo
jumbo, but he actually makes a solid case that planning for "extreme" outcomes
rather than "average" outcomes might be the appropriate investment strategy in
the current climate.
History tells us that the average
annualized total return on the S&P 500 between 1926 and 2009 was 9.9% and
the standard deviation was 19.2, according to TD Ameritrade. Standard deviation
is a measure of volatility and at 19. 2 (one standard deviation), it means that
about 68% of the time, we would expect the S&P 500 annual return to be
somewhere between a loss of 9.3% and a gain of 29.1%. At two standard
deviations, it means that about 95% of the time, we would expect the S&P
500 to return somewhere between a loss of 28.5% and a gain of 48.3%. At three
standard deviations, it means that about 99.7% of the time, we would expect the
S&P 500 to return somewhere between a loss of 47.7% and gain of 67.5%.
Clarida is suggesting that, in the
future, more of the returns in the financial markets will fall in the 2nd
or 3rd standard deviation range (the "fat tail") instead of the 1
standard deviation range (the "hump"). If true, this means we could expect more
volatility -- both positive and negative -- in the future.
The future could be more volatile due
to such things as the unpredictable nature of government regulation and
bailouts, sovereign debt levels, high-frequency trading, geopolitical
flare-ups, social unrest, high unemployment, and medical or scientific
breakthroughs.
Recent events such as the May 6 "Flash
Crash," the 2008 financial crisis, the 2007-2009 bear market, and the 2008
spike and then collapse in oil prices, support Clarida's idea that we live in
volatile times.
So, if we are temporarily living in a
"fat tail" world, then it makes sense to plan accordingly. And, that's what
we're trying to do on your behalf.
Weekly Focus - Think About It
"Take calculated risks. That is quite
different from being rash."
-- General George S. Patton
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