Sentient Money

Just wanted to wish everyone a happy Fourth of July.  I will be in Milwaukee at the great music festival they have, enjoying a few Leinenkugaels. 

My favorite market analyst Barry Ritholtz, at The Big Picture, has called for:

“Bottom line:  A bounce, similar to January, only not as strong or long-lasting. And, its not a lasting bottom.”

I couldn’t agree more.  Things are getting worse not better.  GM and Ford can’t sell any SUVs or trucks, and only people buying cars are those that have to.  No one wants to spend any money right now. 

If this bounce does materialize, and it appears likely, I plan on selling what I bought at recent lows for whatever small profit I can get. 

I know I sound like an active trader, but that’s the only way to make any money right now.  I don’t like doing it this way, but you do what you have to do to make money.

An interesting event to watch in the coming weeks will be Apple’s 3G iPhone release on the July 11^th.  Will the fans be as rabid over this one as the last one?  If it’s just average/good demand this will not be a good sign for the economy.

This question is starting to circulate through the country.  People have seen their investments take a big hit since last fall.  Some of the indexes are closing in on a 20% loss, and with oil rising, there appears to be no bottom.  But, 20% has to be close to a bottom…right?  20% is a lot.  If you have $2 million saved for retirement you might have taken a $400k loss in less than a year.  Now that’s some serious pain.

The problem is that 20% is by no means the worst pain the market can dish out.  There have been 10 bear markets since 1927 that have dropped more than 20%.  Five of those have dropped between 39% and 85%.  How far will this one drop?

Unfortunately, this is not an easy thing to predict, but knowing a drastic drop can happen can allow us to prepare ourselves to make logical decisions if/when the drop occurs. 

What are some things to do after the market drops and continues to drop:

1. Retirement - Continue to put money away for retirement.  If you truly think the market has further to fall, stash your new contributions in a money market or some other type of fixed income/low-volatility investment.  If you are a big dollar-cost- averager then please continue to do so.  No matter how you allocate your money do not stop contributing.
2. Save - Stash a little more in that emergency fund.  If you decided for a “staycation”, boy I hate that word, instead of your regular trip to the Caribbean toss the money you saved into your emergency fund.  A strong emergency fund is a life saver when the economy starts to short-circuit.
3. Pay attention - If you are not an active investor follow the financial news a little closer than normal.  If you are an active investor step up the time spent researching and watching over your investments.  Watching the local or national news does not count, as they will always be behind the curve.  Even the general chatter on CNBC will be confusing.  You need to find a few intelligent sources, with differing opinions, and use the information they provide to formulate your own opinion.  Two of the good sources I use are The Big Picture and Fast Money (for information only, not trades) on CNBC.  If you pick the right sources they should provide a filter for the extreme psychological swings the market will surely experience over the next few months to a year.
4. Make a list - Identify all the stocks/companies you would love to own, but never bought because they were too expensive.  Now track these stocks and look for good entry points during the downturn.  Apple is one I am watching, but I have yet to buy any.  Obviously, this requires that you do your homework, so do not do this if you have not attained the necessary knowledge.
5. Above all don’t panic - We will pull out of this eventually.

Relaxing late Saturday night with a decent micro-brew and a soothing thunderstorm outside is the only way to go.

All right, here is a listing of posts from the past week worth paying for:

·         How low must housing prices go before families can afford to buy?  -  Millionaire Mommy Next Door almost always delivers something good.   Need to buy a house, but want at least a chance of making money when you sell it in the future?  Read this first.

·         Ask the Readers:  How to Cope with Socially Obligated Spending?  -  This is something I truly abhor.  See what Get Rich Slowly and his readers have to say.

·          Is Now the Time to Take Advantage of the Housing Crisis?  -  Lazy Man writes another good housing article.  As with all real estate…it’s local.

·         The Courage to Be Rich – Ms. Yang attacks a major sticking point that most people don’t even know they have.

·         My Book Writing Journey:  From a Dream to a Deal and a Finished Manuscript  - The Simple Dollar is living the dream.   Hear the story of how he got published.

·         How bad will the economy get and what can I do?  -  This question is on everyone’s mind, and though there is no one perfect answer, take a glance and see if you agree.

Enjoy with your Sunday coffee or orange juice.

Bill Gates has officially left Microsoft. He leaves to run an absolutely gigantic charity with the power to institute real world change. His future and the acts of his charity will be a fascinating story, but not the one I’m focusing on for this post. I’m more interested in how Microsoft fares without Gates.

Will the departure of the driving force behind Microsoft result in the company’s decline? I say no.

The biggest reason is the sheer size and breadth of Microsoft. A company this size does not react on day-to-day decisions from up top. A monster like Microsoft has the appropriate culture already in place, and divisional managers are the ones making the real decisions. The guys at the very top are really just providing input and giving the go ahead for projects created by others further down the chain. Plus, Gates will still be the Chairman of Microsoft’s board, so he will have a big say in any major projects.

Another way to examine the exodus is to look at a similar historical event. A great example is one of Microsoft’s rivals…Apple. When Steve Jobs was forced out of Apple the company foundered. Initially this could be chalked up to Apple’s difficult market, but Jobs’ value became apparent when he was put back in charge. Since that time Apple has consistently pushed itself to the forefront of our culture and in the process sold a ton of gadgets.

However, Gates is not Steve Jobs and Microsoft is not Apple. Apple sells products because they are cool. Microsoft sells products by brute force. Cool is hard to figure out, while brute force is not. I’m sure there are plenty of people at Microsoft who know how to pummel the market into submission.

With Gates still in the Chairman’s position and with Microsoft being the 800lb. guerilla, I see no reason Gates’ immigration to the non-profit world will cause any major issues at Microsoft.

Note: This is only an analysis of what affect Mr. Gates’ retirement will have on Microsoft. It is not an analysis of the company as a whole.

All great men and women can provide advice that is applicable across a broad field.  No, Hemingway isn’t a great investor, but he is a great writer.  Thus, he has something to impart, so relax and enjoy his  9 pieces of wisdom:

Listen

“I like to listen. I have learned a great deal from listening carefully. Most people never listen.” – E. Hemingway

This is very true.  Most people are just waiting for others to stop talking, so they can talk.  Pay attention to what people are actually saying about the stock market.  Let them direct the conversation in order to get their opinions on where it is headed and what they are doing.

This is a good way to determine the general state of euphoria or panic in the population.  When people who never talk about stocks are profuse in their positive or negative feelings about the market, you will know it is time to consider being a contrarian.

Though, listening is good for macro-trends, it is not good for finding specific stocks to pick.  These are just random rumours that have no basis in the stock’s fundamentals.  It is highly unlikely that Bob in sales has a great stock idea.  Bob probably just likes to talk and a “great” stock is an excuse.

However, if everyone you know is raving about a new product, and not mentioning the stock, you should check out the company.  This is a good way of finding up and coming stocks.  Just ask Peter Lynch.  He openly admits to getting ideas from the shopping habits of his wife and daughter.

Remember, listening for general themes is good, but specific recommendations are always trouble.

Take the first step

“The best way to find out if you can trust somebody is to trust them.” – E. Hemingway

Of course, you are not actually placing your trust in a person here.  If you do your research and can identify quality fundamentals, along with a good story, take the plunge.  Trust the stock to do well, but do not be surprised if it does not.  Everyone gets their heart broken now and then.

Keep your eyes on where you are going

“Never mistake motion for action.” – E. Hemingway

This is applicable to almost every endeavor.  Examine what you truly want and set your goals to attain these wants.  Shoot for the stars and maybe you will get the moon.  Shoot for the moon and you might never leave the ground.

Just do

“The shortest answer is doing the thing.” – E. Hemingway

You can plan and analyze all your moves, and never do a thing.  This can be as bad as picking a poor stock, as inflation will destroy the money you have stuffed in your mattress.  Determine a plan of action, do the work, and make the call. 

Do.  Fail.  Learn.  Do.

“The first draft of anything is shit” – E. Hemingway

Never buy a stock or pick an investment without reviewing the fundamentals and the story behind the business.  Then take this knowledge and take the leap.  You will fail, but failure is not the end.  It is only the beginning.  Dissect your failure and understand where you went wrong.  Did you miss something in the fundamentals?  Maybe the trend in our society changed, and the product is not considered to be “cool” anymore.  Whatever the reason try again, and keep this in mind:

“In this business if you’re good, you’re right six times out of ten. You’re never going to be right nine times out of ten.” – Peter Lynch

Find strength through your tough times

“The world breaks everyone, and afterward, some are strong at the broken places.” – E. Hemingway

Bad stocks happen, as do bad markets, so remember you are never the only one feeling the pain.  You are not a victim, so do not act like one.   Pick yourself up after a good beating and work to prevent the next one.

Identify your strengths and play to them.  Identify your weaknesses and steer clear of them.  For instance, I have a strong weakness for beaten down stocks.  I love buying at what appears to be a bottom, but if there aren’t good fundamentals behind the stock, it is probably cheap for a good reason.

Remember there is always someone feeling worse than you.  Just ask anyone who owns Citigroup.

Don’t get hung up on the small things in life

“The man who has begun to live more seriously within begins to live more simply without.” – E. Hemingway

The big picture is more important than one good or bad investment.  Make sure you keep track of your overall performance and compare it to the goals you outlined.

Don’t let your imagination hold you back

“Cowardice … is almost always simply a lack of ability to suspend the functioning of the imagination.” – E. Hemingway

It is easy to imagine the worst.  You see it and hear about it all the time, and receive looks of horror from people when you tell them you are going to buy a stock on your own.  Not only do they not understand, but many will secretly want you to fail.  Don’t let your mind create fear when it’s not warranted.  Homework is your defence, so use it. 

Don’t Judge

“The writer’s job is not to judge, but to seek to understand.”

This last piece of advice reinforces some of the previous pieces.  Basically, you need to understand your investments and why you choose them, as opposed to judging yourself a failure or success.  A lone investment never determines either.

“…most companies are reluctant to retain or hire older workers. At the top of the corporate ladder, executive recruiters are routinely told not to seek anyone over 50, notes Peter Cappelli, director of the Center for Human Resources at the University of Pennsylvania’s Wharton School.” - NYT

If this is the case planning for early retirement is not an option. You do not want to end up being a greeter at Wal-Mart do you?

Tips on how to retire early:

• Save, save, save - The amount you save is the biggest factor in the size of your retirement. Most people struggle to retire if they have only saved 10-15% (rule of thumb) of their salary in their retirement accounts. Shot for a much higher number to ensure you will have enough, and give yourself a chance to retire early. Currently, I am saving roughly 41% of my after tax dollars for retirement. I am including money earmarked for my small business, as the business will hopefully help me retire.
• Asset Allocation - I’m not saying everyone should run out and buy oil futures or that option trades should be routine dinner conversation, but be conscious of your asset allocation and try to stay away from bonds. You have long time to retire, so volatility is not a concern….high returns are.
• Do more research - Take a more active roll in selecting specific funds for your retirement. There is a ton of research out there on actively managed funds and ETFs. Use this information to pick funds/ETFs that have a good chance of outperforming the market.
• Pick a few individual stocks - This does add some risk to your portfolio and it will increase the amount of work required to manage your portfolio, but it can also drastically improve your returns. Do your homework by educating yourself. Four must read books on investing are Jim Cramer’s Real Money, The Warren Buffett Way and Peter Lynch’s One Up on Wall Street and Beating the Street.
• Create new streams of income - Blogs, rental properties, small businesses, etc.
• Only have mortgage debt
• Never have a car loan

“Investors should remember that excitement and expenses are their enemies. And if they insist on trying to time their participation in equities, they should try to be fearful when others are greedy and greedy when others are fearful.” - Warren Buffett

This is the perfect time to reaffirm Mr. Buffett’s advice as consumer confidence has hit a 16-year low, which is the fifth lowest on record. Thus, everyone is fearful and it’s a good time to start planning on how to get back in the market.

This strategy is very hard to implement, not because it is intellectually rigorous, but because it requires us to ignore internal wiring that has been developed over thousands of years. We tend to get afraid when everyone else is afraid. It helped us when we lived in small tribes by focusing the group on a predator that may only have been seen by one person in the tribe. Now, it only helps us to think irrationally in the stock market, as we start to get bombarded by warnings from friends, family, media, etc. By the time the bottom arrives everyone is in a panic and no one wants to be in the market. We fear the total loss of our future.

This fear has one problem…it is based on a highly unlikely event. The total loss scenario has really only happened once, with the Great Depression, and even then it did eventually recover. There is a far greater risk of not having enough to retire on, than losing all your money in cataclysmic stock market event. Plus, if the stock market really does implode nothing will be safe. The dollar would be worthless. Even U.S. government treasuries would take a huge hit.

So, develop a plan and do not be afraid to start placing small investments in the market, as it goes down. This is a must, as it is impossible to predict the exact bottom, but not impossible to predict a bottom is near.

As an aside remember that consumer confidence numbers are usually ahead of the actual economy, so this measurement does not signal a bottom. However, it does signal a bottom in the near future. This is why you need to start planning your entry strategy. You do not want to be deciding what to buy when the buying opportunity comes or you might miss the chance.

“One doesn’t discover new lands without consenting to lose sight of the shore for a very long time.” - Andre Gide

I know I have been focusing on oil, but it seems to be the main market factor at this time.

Here are a few links to some quality articles on the current oil crisis:

• Bye, Bubble? The Price of Oil May Be Peaking - Barron’s
• Oil Conspiracy Theorists: Rev Your Engines - Salon
• Gas Prices Edge Lower - CNN Money

The price of oil is starting to stir the big players:

• China plans raise gas, diesel and aviation fuel prices for their citizens by 8%. The Chinese government controls price, so they are reducing their subsidy to increase the price of basic fuel. http://money.cnn.com/2008/06/19/markets/oil/index.htm?cnn=yes
• Saudi Arabia will increase oil production by 500,000 barrels a day in the next few weeks. http://www.independent.co.uk/news/world/middle-east/saudi-king-we-will-pump-more-oil-847830.html
• India, Indonesia and Malaysia cut government fuel subsidies. http://www.examiner.com/x-325-Global-Warming-Examiner~y2008m6d4-Further-Government-Cuts-in-Oil-Subsidies-Will-Help-Lower-Oil-Prices
• U.S. drivers have reduced their driving by roughly 4%. http://money.aol.com/news/articles/_a/driving-drops-as-gas-prices-hit-4/20080527124509990001
• U.S. oil companies are in final stages of negotiations for a deal to bring them back to Iraq. http://www.nytimes.com/2008/06/19/world/middleeast/19iraq.html?_r=1&scp=1&sq=iraq+us+oil+companies&st=nyt&oref=slogin
• U.S. to set new limits on oil trading on overseas markets. http://www.nytimes.com/2008/06/18/business/worldbusiness/18oil.html?scp=1&sq=oil+speculation+congress&st=nyt

The good news all of these contributed to the almost $5 drop in oil on Thursday. The news out of China will be credited for most of the drop, but this is only part of the good news, and the least important part. The big news is that the biggest player on the supply side (Saudi Arabia) and biggest players (U.S. consumers, China and India) on the demand side have implemented measures that have a chance at reigning in the price of oil.

Also, another piece of good news, there was an attack on Thursday against a Royal Dutch Shell oil field in Nigeria. Usually this would have caused a slight increase, but the positive news easily overwhelmed this negative news. http://www.msnbc.msn.com/id/12400801/

Analysis: A slow medium-term (6 months or so) drop in oil prices is likely. This drop will probably start sometime over the next 2 months if major events continue to work to move oil lower. However, it probably won’t cause a major drop in gas prices.

Note: The proposal to open up new areas for drilling in the U.S. is not affecting the price, as the traders know it will be many years before this oil would hit the market.