Newsletter | March 2013

March 7, 2013 – DJIA = 14,296 – S&P 500 = 1,541 – Nasdaq = 3,222

The events surrounding the Dow Jones Industrial Average’s record close seem odd. Of course, we find many parts of society as equally peculiar – reality TV, Washington D.C., social media, the Federal Reserve, sequestration, and the Big East Conference.  As for the Dow’s ascension, our bewilderment centers on what appears to be investor’s incredulity and skepticism.  The general feeling, from multiple conversations, is “I see it but I don’t get it”. 

This disbelief derives from the common sense view that printing money out of thin air and running record fiscal deficits does not result in healthy economic growth and, as a consequence, higher stock prices.   To be sure, the Fed plays no small role in the Dow’s milestone.  When stocks were last at this level the Federal Reserve’s balance sheet (the size of their holding of securities) was around $800 billion.  Now that number is $3 trillion.  In other words, they have printed fresh dollar bills and then bought over $2 trillion of bonds. 

The U.S. treasury market exceeds $11 trillion of value.  This includes t-bills, notes, bonds and TIPS.  Amazingly, the Fed controls 16% of this total ($1.634 trillion).  Even more remarkable is that they are quickly becoming “the market” in some maturities.  The House of Bernanke owns 40.3% of the Treasury paper with 5 – 10 years of maturity.  For maturities between 10 to 20 years, its stake increases to 42.4%.  Their size in the 20-30 year sector is 37.1%.   Also, it’s important to remember that as part of QEfinity, they are adding another $85 billion per month to their stash.  Unarguably, these are not normally functioning markets. 

Despite the Fed’s piggy bank, a strange thing is happening on the way to the forum.  Yields are rising.  February was the fifth consecutive decline for the Barclay’s Global Aggregate Bond Index.  The last time this happened was in the middle of 2000.  On our shores, the U.S. 30-year t-bond’s yield has been climbing since last summer. 

Returning to the stock market, the Fed is not the only reason behind record prices.  The economy has chipped in.  This week the ADP reported that private nonfarm payrolls increased 198,000 in February.  The 6-month average climbed to 192,000 which is the highest since May 2012.  Nondefense capital goods orders (ex-aircraft) increased 7.2%, the best increase since September 2004.  Additionally, the spike in mergers and acquisitions has helped the equity markets. 

Perception is reality in the financial markets and while we may disagree with policy decisions, our goal is to remain on the right side of the trend.  Further as the recently deceased Marty Zweig preached “don’t fight the Fed.”  Back before financial news networks, one of the few TV shows dealing with the markets was “Wall Street Week” on the public network on Friday nights.  Unlike today’s constant programming, this was a half hour show.  Dr. Zweig, a regular panelist, was one of the first to recognize our central bank’s influence on the markets.  It’s unlikely that anyone listening in the early 1980’s could have envisioned the depth of their meddling as measured by their current balance sheet. 

The stocks market’s recent momentum has been impressive.  We would expect it to continue, but will keep an eye out for trend exhaustion.  Perhaps that will coincide with the capitulation of the skeptics as they abandon their common sense.  On a longer time line, the Fed’s manipulation of interest rates and the fixed income markets adds more risk to the system.  Of course there is the possibility that they can smoothly unwind their purchases and return the markets to a more normal operation.  This expectation might not be the same as believing in the Easter bunny, but it’s in the same area code.  For now, Ben Bernanke has to be smiling., March 6, 2013, March 6, 2013

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual

This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. The Dow Jones Industrial Average is a price-weighted index of 30 actively traded blue-chip stocks. The NASDAQ Composite Index is an unmanaged, market-weighted index of all over-the-counter common stocks traded on the National Association of Securities Dealers Automated Quotation System. The Standard & Poor's 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general. The Russell 2000 Index is an unmanaged market-capitalization weighted index measuring the performance of the 2,000 smallest U.S. companies, on a market capitalization basis, in the Russell 3000 index. It is not possible to invest directly in an index. Investing involves risks, including the risk of principal loss. Additional risks are associated with international investing, such as currency fluctuations, political and economic instability and differences in accounting standards. All information is believed to be from reliable sources; however we make no representation as to its completeness or accuracy. All economic and performance data is historical and not indicative of future results. Market indices discussed are unmanaged. Investors cannot invest in unmanaged indices. If assistance is needed, the reader is advised to engage the services of a competent professional.

Past performance does not guarantee future results