Author Archives: cjamesj

(Revised 1) Rising Interest Rates and Stock Market

The S&P 500 set an all time record as of yesterday, Janurary 14th, reaching a high of 1848.38 barely beating the previous high by .02 from Dec 31st. (http://online.wsj.com/news/articles/SB10001424052702304419104579322302381985992?mod=WSJ_Markets_LEFTTopStories&mg=reno64-wsj&url=http%3A%2F%2Fonline.wsj.com%2Farticle%2FSB10001424052702304419104579322302381985992.html%3Fmod%3DWSJ_Markets_LEFTTopStories) Both other key performance indicators, the Dow Jones Industrial Average and the Nasdaq Composite Index were also on the up and up. The market has finally rebounded to pre-recession levels, and the S&P grew almost 30% in 2013 alone. Of the biggest winners in the market were the tech companies, including Apple.

Although the stock market is in such great shape, some still worry that an artificial bubble has been created from the Feds quantitative easing strategy. The Fed has announced that they plan plan on backing off the quantitative easing strategy and allowing interest rates to rise. With the Fed ending its quantitative easing strategy will the stock markets artificial bubble come to an end?

A little background on the Feds strategy and how it effects the stock market. After the great recession of 2009 the government looked for ways to stimulate the economy. The Fed came out with the strategy of quantitative reasoning, where they would buy up bonds and keep the interest rates artificially low, targeting about 1 point above the federal funds rate. With low interest rates and more money circulating, consumers were able to spend more, hence stimulating the economy. The stock market grows in two ways from the low interest rates. With interest rates rising, it is speculated that people may avoid making bigger purchases which could end the “artificial” bubble the FED has created.

The first reason the stock market grows with low interest rate, is it is viewed as more favorable than federal bonds. As stocks are more favorable than bonds, the demand grows and the prices continue to increase. The other reason stock prices soar is because of market speculation. When analysts see low interest rates they speculate that the consumers will spend more on big ticket items, and take out loans to finance these purchases. This means that the predictions from the analysts will be more favorable, which in turn will boost the stock market.

An article from CNN Money on the rising rates (http://money.usnews.com/money/blogs/the-smarter-mutual-fund-investor/2013/05/24/will-rising-interest-rates-hurt-the-stock-market) argues that the rising interest rates will not have a negative effect on the market. A study conducted by JP Morgan showed that over the past 50 years 10-yr treasury bonds actually have a positive correlation with the S&P 500. They speculated the reason to be the FED works to relieve the economy in hard times by lowering interest rates. Although raising interest rates mean less big purchase spending, it also signals that the economy has recovered. Analyst see this as a good sign and the market continues to grow. Although the interest rates are at an all time low, as the rise it is unlikely that we have any major market meltdown.

In my personal opinion, I believe that the Analysts will way both the quantitive easing and the stronger economy when betting on the market. I believe that they will be a little more hesitant as interest rates will begin to rise, however I think they will bet bigger on the rebounded economy. I wouldn’t be surprised if long term the market continues to grow, but at a slower rate than we have witnessed in recent months.

(Revised 2) College Grads Financial Disaster

With a presumably large portion of this class expecting to graduate college in the near future, one common worry is our financial success after we walk down the isle and pick up our diplomas. Graduating for many marks the first time they will be out on their own, either entering the workforce or moving on with their schooling taking out substantial loans to pay for the continuance of their studies. Just like all other new beginnings, this one will be scary at first.

On top of being financially independent for the first time, there are many other complicating factors. Our economy is finally recovering from a recession and the job market looks optimistic for many. However we are all at an age where we understand what just happened. Seeing the market dive in 2009 has left many of us skeptical of investing money in stocks. A study found that most millennials are investing like their grandparents losing significant gains. Buying into an exchange-traded funded following the S&P 500 would have realized a 30% return, while many millennials money sat on money in savings accounts realizing very limited returns. After a shaky January the account would be down 4%, still having a sizable advantage over the out dated savings fund.

Aside from the market being a big scare, we also face the new age of electronic money. Something not many our age are afraid of and most of us embrace, however when not used properly it is easy to find ourselves in a financial disaster. If the class is anything like me, cash is becoming a scarcity in my wallet with most purchases being funded through debit or credit cards. As college graduates, its not likely were going to make a big ticket purchase right off the bat and bankrupt us for the future, however it is easy to lose sight of the every day purchases. The purchases add up over the month and it don’t have to be faced until it is summed at the end of the month in our bills. It’s likely that electronic currencies such as bitcoin will only further complicate this making it even more difficult to track our spending.

As scary as the first portion of this may seem, all hope isn’t lost for us. By acting responsible with our finances we can set ourselves up for long term success. The first recommendation for college grads is to get educated on personal finances and the stock market. I’d say our class has a solid leg up on our piers, however it is important that we remain informed about the status of the economy post graduation. The second piece of advice is to to work with a financial advisor and set  goals for yourself, both long term and short term. Weather its paying off grad school loans, owning your first home, paying for a big wedding, or retiring to a home on the beach in Florida, you just need something to work towards. Working towards your goals will not only help you eliminate impulse spending but also be rewarding when you finally reach them.

 

Although we will be up on the stock market, saving for things like retirement can be tricky. When we graduate it may seem to early to start saving, but if you have the extra money the investment could pay dividends in the long wrong. The problem is we most likely be as informed on the retirement type funds as some seasoned financial advisors. They will be able to explain the differences between 401(k)s, IRAs, Roth IRAs, and emergency savings funds. There is no perfect combination to use, each individual can use a unique combination to maximize their investment. Financial advisors can also help decide the benefits between things like professionally managed mutual and funds following a set index.

My last piece of advice is to have faith in the stock market. We’ve seen the troubles its caused in the recent years which scares us, but remember there were booming times too that we are too young to remember, and these times will return.

(Revised 3) Shipping Wars

A lot goes unnoticed in the production process of many consumer packaged goods, notably the transportation from the factory to the shelf. One of the dominate modes of transportation is cargo ships, which are responsible for a large majority of international trade. These gigantic ships are piled high with freight containers and travel around the world to deliver products in a multibillion dollar industry.

Three of the world’s largest cargo shipping companies are scheming up an alliance and plan to take over up to 40% of the industry. Maeserk, CMA-CGM, and Mediterranean Shipping Co proposed an alliance that would both decrease cost and increase profit. Of course, an alliance of this magnitude is going to face scrutiny by federal officials. It appears, however, that the proposed P3 alliance has past what is viewed as its toughest hurdle. The US Federal Maritime Commission approved the alliance late this week.  The companies are still waiting for other governing bodies to give the go ahead including both the China and Europe maritime regulators.

Of course with such a big alliance comes some industry worries.  The alliance will dominate almost half the industry and the issue of a monopoly becomes an issue. Some would argue that governing bodies wouldn’t allow such an alliance to form if it hurt fair trade. And there will be other established companies in the industry, but it is a real possibility that the wont be able to compete with the new P3 alliance. It is possible that the US Federal Maritime Commission over looked the decreased competititon in the shipping industry, and it isn’t a far out thought to see the alliance creating a cartel type economy.

The new alliance will work almost as a merger, looking to cut costs and boost profits. Working through the economy of scales, the companies will share everything, from containers, to ships to port space. This shared usage will decrease cost when it comes to rent and maintenance fees. The companies will also look to play to each others strengths. Shipping routes are something that is established, and companies have individual regions where they dominate the shipping routes. The alliance plans on playing to each others strengths, transfering cargo to dominate ships in the regions. One analyst went as far as predicting the merger to cut cost by over a billion dollars annually.

When the P3 alliance cuts its cost back and can pass some of the savings along to the consumer, it can start squeezing out the smaller competitors. If they reach a point where they have a strong hold on the economy they can raise prices and turn greater profits. Its not to far fetched of a theory to predict this alliance may end the fair trade in the shipping industry.

 

(Revised 4) Amazon Streaming

Its no secret that Amazon had a shaky 2013 posting negative or close to zero profits for a handful of quarters. But with the new year came some good news, Amazon had finally posted a profit of $239 Million in January of 2014. Many people kept faith in Amazon through their quarters of minimal to zero profits. Amazon was selling many products at little to no margin and stealing a large portion of market share. It was only a matter of time before they were able to over take the market and begin turning a profit. Now that they are back in the green they are looking to keep their profits rising, using that same strategy.

One of their marquee services, Amazon Prime, has attracted a lot of attention lately. The service requires an $80 annual payment (soon to be raised $20) and with the service customers receive with Free two day shipping on millions of products, exclusive deals and promotions, unlimited streaming of TV shows and movies as well as the ability to borrow books on your kindle for free. The membership to Amazon Prime doesn’t turn a direct profit for Amazon, as many of the perks outweigh the true cost, however it works as a loyalty program, where customers who are members of Amazon prime are 50 percent more likely to purchase from Amazon than the average consumer.

In recent news, Amazon announced its plans to split its streaming services from Amazon prime and offer it free to the public. I think by splitting their streaming service from their Prime service, Amazon will again turn a profit in the long run. The player would be funded through advertisements and would include licensed content.

The strategy of funding the licensed content with proceeds from advertisements is no revolutionary idea, it is something TV networks have been doing for ages. The difference is Amazon is going to be paying for the content, not creating it. The gamble Amazon is taking, is that people will be willing to sit through the advertisements over paying a monthly membership fee, much like with Netflix.

The key to success for Amazon will be finding the perfect balance of advertisements. Of Course the more ads they play, the more revenue they will bring in. But if they play too many advertisements, people will be more likely to pay a small premium for content with out advertisements.

I would guess that Amazon plans on serving up a minimal amount of ads in their streamed content. Much like their expansion into e-books, Amazon may be willing to operate at a loss to gain a customer base. Once they have established their customer base they will be looking to gain profits on compliment products over increasing their ads. This is something they did with the Kindle, that caused a disruption with the major publishers, and I would guess it will cause disruption with Netflix and Hulu.

As for the customer base, as long as Amazon stays mindful of the ads per content ratio I think they will steal a large segment of customers from the pay per view services, ultimately resulting in a profit.

(Revised 5) Low Inflation

After meetings this weekend the International Monetary Fund is worried that low inflation in more advanced economies was slowing recovery in many global markets. Where the U.S., Japan, and the U.K. all have inflation around the 2% mark, the average inflation in emerging markets is much higher, around 6%. The major issue however, rises from the Euro Zone’s current inflation rate of 0.5%, well below their target inflation rate of 2%.

WO-AS013_INFLAT_G_20140413183603

 

The low inflation rate leads to less levels of consumption as well, hinder the debt reduction in major markets. With lower levels of consumption and debt reduction in advanced economies, there can be major problems in emerging markets including market volatility, something we have already witnessed this year. A higher market volatility lead to questions about true growth and managers pulling their investments out of the emerging markets, something that will definitely hurt the economies long term.

The European Central Bank, or ECB, could take a page out of the U.S. Federal Reserve and work more aggressively to increase inflations rates. The ECB could start buying up more assets to increase the current inflation rate. This in turn would help stabilize Europe’s export market and allow for emerging markets to regain a competitive edge.

This is something we have seen the US Fed complete, after the Great Recession in the US Market of 2009. fredgraph

You can se from the graph the major dip in the US market right before January of 2009. To combat the souring markets, the Fed decide to start buying up all the short term t-bills to lower the interest savings rate and increasing consumption. Although this lowered the interest rate, it was quite enough and the Fed had to act more aggressively. In September of 2011 it switch tactics and began buying long term mortgages realizing the interest rates were all tied together. The short term t-bills remained low, and consumption began rising. This was a more aggressive tactic than what was initially tried but it ended up working.

The ECB should have realized this sooner to try and boost their inflation rate. Currently, according to the ECB websites, the bank is controlling the monetary base to try and influence the inflation rate. It is clear, however, that they are falling very short of their mark. They too can switch to a more aggressive tactic, over what they currently use. Taking on a quantitative easing strategy like the Fed, could help increase the consumer spending and will help strengthen the Euro exchange rate. And a higher exchange rate in the Euro, will help level the overall playing field in the global economy. It is hard to believe it has taken the ECB this long to recognize a more aggressive may help the global economy.

Iraq Oil Output

Its no surprise that Iraq’s oil production slowed after the American invasion in 2003. And its not shocking that it took a while for oil production to regain strength. But as of February of this year Iraq is producing 50% more than it was four years ago. Iraq is now pumping out 3.6 Million barrels a day, up from 2.4 Million in February in 2010. One would expect Iraq’s economy to be booming with such an increase in oil production however it isn’t so easy. The past decade of sanctions, neglect, and war have lead to the oil fields being neglected.

Companies like BP, Royal Dutch Shell, and ExxonMobile have been investing in the oil fields to revive them after a decade. The investments have lead to a huge increase in production, there is however, still one problem. The infrastructure in the company still hasn’t been updated. To get the increased quantity from the wells to the tanker, the infrastructure would require an overhaul. So it seems that its time to updated it but it is unclear whose going to pay. The government is the likely source of funding for the overhaul, as it would likely lead to bolstering the overall economy. The seem to be slow when it comes to providing though, so it is possible that major companies could look to kick in funds, and get the oil to the tankers at a lower cost. Personally I think this is a better option.

The government is still not the most stable since the downfall of Saddam Hussein’s regime. There are bureaucracy issues between parties that lead to the slowing of getting funding provided. There is also a major problem with corruption and bribery. Problems like these don’t help expedite the process. With a young and unstable government it isn’t likely the infrastructure will see an update anytime soon.

The companies who own major oilfields in the area could offer to kick in funds. This would help get more oil from the fields to the tankers, leading to higher profits for the company. A cost benefit analysis would show whether providing funds for infrastructure is profitable. Currently, things as simple as high winds slow production. Iraq doesn’t have the storage space for excess fuel and the wells are shutdown all together. The pipes are routinely shutdown completely for maintenance, something that a modern system wouldn’t face. Providing money to improve the pipe system and increase storage facilities would create a constant flow of oil from the wells to the tankers. Something that would benefit the major oil companies in the long run.

Relaxed Borrowing

It no question that a big cause of the 2009 recession was the sub prime mortgages banks were practically giving away. After the collapse there was a lot of talk of moral hazard, and the banks playing fast and lose with everyone’s money. With the bailouts came tighter regulation, sub prime mortgages disappeared and it borrowing standards became tighter. Now almost five years later it appears that standards are beginning to lighten up.

Mortgage production has stalled, and aside for a quarter at 2011, is lower than its ever been since 2009. In response the banks have began to lower the borrowing standards. Is this the first step back down a slippery slope or are the banks regaining confidence in the market?

After an initial pass through of the article I believed that this was the start back down a slippery slope. The banks were making less money than used to and saw a way to profit by lowering borrowing standards. It seemed all to familiar, the banks trying to make more and more money by making riskier bets. It wasn’t a sub prime mortgage but it looked like the start of them returning. After the initial read I did some research on historic mortgage rates to see just how risky the banks were being.

To start I looked at the average credit scores for those new mortgages over the past ten years. As you can see from the chart below, scores below 620 were accepted at a rate of almost 10% around the collapse. After, it took about a minimum score of 640 to be accepted for a mortgage. No banks have a standard credit score when evaluating candidates, however it is unlikely that banks are going back to the 620 standard seen before.

.BN-CB011_score_G_20140322121456

 

Another piece of information for evaluating how stringent banks are being is the percent down payment they require on each loan. Down payments vary depending on other factors but after the housing collapse banks were requiring as much as 20% down on homes. In the past year rates have been dropping below 10% and some lenders are moving below 5%, with a good credit score that is. These numbers don’t seem very different than those in 2009 when the housing market collapsed.

So it may seem that banks are loosening their standards. However this isn’t something that is anywhere as risky as the sub prime mortgages of 2009. The banks are remaining stricter on the credit scores to ensure that the loans aren’t defaulted on. So with the banks lowering standards, it is likely a better sign of a strong economy over a moral hazardous financial industry.

 

Low Inflation

After meetings this weekend the International Monetary Fund is worried that low inflation in more advanced economies was slowing recovery in many global markets. Where the U.S., Japan, and the U.K. all have inflation around the 2% mark, the average inflation in emerging markets is much higher, around 6%. The major issue however, rises from the Euro Zone’s current inflation rate of 0.5%, well below their target inflation rate of 2%.

WO-AS013_INFLAT_G_20140413183603

 

The low inflation rate leads to less levels of consumption as well, hinder the debt reduction in major markets. With lower levels of consumption and debt reduction in advanced economies, there can be major problems in emerging markets including market volatility, something we have already witnessed this year. A higher market volatility lead to questions about true growth and managers pulling their investments out of the emerging markets, something that will definitely hurt the economies long term.

The European Central Bank, or ECB, could take a page out of the U.S. Federal Reserve and work more aggressively to increase inflations rates. The ECB could start buying up more assets to increase the current inflation rate. This in turn would help stabilize Europe’s export market and allow for emerging markets to regain a competitive edge.

This is something we have seen the US Fed complete, after the Great Recession in the US Market of 2009. fredgraph

You can se from the graph the major dip in the US market right before January of 2009. To combat the souring markets, the Fed decide to start buying up all the short term t-bills to lower the interest savings rate and increasing consumption. Although this lowered the interest rate, it was quite enough and the Fed had to act more aggressively. In September of 2011 it switch tactics and began buying long term mortgages realizing the interest rates were all tied together. The short term t-bills remained low, and consumption began rising. This was a more aggressive tactic than what was initially tried but it ended up working.

The ECB should have realized this sooner to try and boost their inflation rate. Currently, according to the ECB websites, the bank is controlling the monetary base to try and influence the inflation rate. It is clear, however, that they are falling very short of their mark. They too can switch to a more aggressive tactic, over what they currently use. Taking on a quantitative easing strategy like the Fed, could help increase the consumer spending and will help strengthen the Euro exchange rate. And a higher exchange rate in the Euro, will help level the overall playing field in the global economy. It is hard to believe it has taken the ECB this long to recognize a more aggressive may help the global economy.

Minimum Wage Impact

This isn’t my first blog post about minimum wage, however with the debate continuing on in Washington I think it is important to come back to the topic and look at it from new angles.

Personally, I think minimum wage should be raised from its current level of $7.25. I don’t have an opinion on how high it should go I just believe it is to low currently. I also am very aware of the economic impact that raising the national minimum wage could have and in previous blogs have claimed that test markets could help fully understand the impact of increasing minimum wage.

In the Wall Street Journal I recently found an article on the impacts of increasing minimum wages in individual counties. Its clear that theres not one change resulting from the increase in minimum wage. Consequences vary from county to county, and differ from business to business. Some of the changes were to the product side of the business, while other changes impacted the human capital aspect. Some businesses surveyed said they had to cut back on hours they assigned employees while others said they closed marginal stores to compensate the raise. Other impacts included using less shortening in the fryer at White Castle, and cleaning the drive through lanes less often to make up for increased wages.

The US hasn’t risen the national minimum wage since July of 2009, when it was raised to its current rate of $7.25. Today law makers are arguing weather or not to raise it 40% up to $10.10. The raise will most likely reduce US employment by 500,000 jobs, however it will take an estimated 900,000 people out of poverty.

In my opinion the law makers should agree on the raise of minimum wage. Convincing anyone that a law resulting in 500,000 people losing their jobs can never be a good thing. And normally I am not one to argue a case of the ends justifying the means, however I think this is a unique situation. Since the beginning of 2014, the US has reported about 500,000 new jobs, or a number equal to that of what we expect to lose with a wage raise. A 3 month set back in the employment sector will likely set back the overall economy, however with its current state I don’t think the set back will outweigh the potential growth. My other reason for being in favor of the raise is peoples ability to adapt. Businesses already found ways to compensate for the wage raises by increasing menu prices and altering ingredients. After an overall wage increase they will adapt and move on. You may find lower quality products, or longer lines for service, however if you are willing to pay a premium you will be able to find products that are still at a higher grade.

Investment Appeal

I was researching topics to write my latest blog post on and an article about Kraft foods caught my eye. You are probably well aware that over the last few days the NASDAQ has taken quite a hit. The major tech and bio tech companies in this index haven’t been preforming so well in the previous days. In contrast, some of the top preforming companies over the past couple days have sat outside the banking sector, notably Kraft foods. The company known for its Kraft Mac and Cheese, not only held its on in the recent plummet, but actually has realized a 2% net increase in its stock price.

It is clear that at a young age, investing in the stock market is a way to realize great returns over future years as we are able to ride out the highs and lows. Is it more promising, however, to invest in more boring stocks?

Appealing stocks such as Telsa and Netflix have experienced drops in stock price since the start of 2014, while the Utilities Select Sector (SPDR) fund has risen almost 9% since the start of the year. The biotech boom that the stock market faced in late February/early March has come to an end, with many companies looking at pre January stock prices. And many investors are feeling the pain as they bet on the high profiled companies, expecting the prices to continue to soar.

One investor who isn’t facing the problem is Robert Brown, Chief Investment Officer of Northern Trust.  Browne said he’s stayed away from many tech stocks with valuations he had trouble justifying. He instead likes to get paid in dividends, because they tend to instill discipline on company management.

In my personal opinion at a young age it isn’t a terrible idea to invest in companies that have potential for tremendous growth in the future. It is unlikely that utility companies will grow at the high rates some tech and biotech forms will undergo. Utility stocks are more of a safe, mid range bet. You will most likely experience a modest return on these stocks barring financial crisis. The down side is your money wont be growing at a top speed. As a prepare to leave college I am okay with placing money in tech and bio tech stocks hoping for the high gains over the next decade, however I realize it is likely that some companies will bust and I will lose on some of the bets. As I get older with more responsibilities I will be looking to move my money to companies that are showing modest long term gains, much like Kraft.