I Can See Clearly Now

Recorded and released by Johnny Nash in 1972 on the album of the same name, the song "I can see clearly now" reached #1 on the Billboard Hot 100 and Cash Box charts. Johnny was heavily influenced by Bob Marley and his reggae style. The song only took two weeks to vault from #20 to #1 and stayed there for four weeks. After a long career in the music industry, Johnny died in October of 2020. I am also beginning to see more clearly the path forward for my investing future. The dark clouds of the pandemic and rapid increases in interest rates are largely behind us. There are definitely some obstacles to worry about like: the ongoing war in Ukraine, the alliances of Russia with China and North Korea, a trade war with China, and more bank failures. With that being said, there are some positives things going on also, like: the coming end to current interest rate hikes, broadening breadth in stocks, slowing inflation, record low unemployment, wage gains for working people, and nice risk-free returns on cash. I believe the positives outweigh the negatives and puts investors on a more secure footing. Back when Johnny recorded this song, most investors adhered to the maxim of the 60/40 portfolio. This means that 60% of your money was in stocks and 40 was in bonds. This is called a balanced approach to investing. When stocks are going down or sideways, the bond component of your portfolio would still yield steady returns. After the financial crisis of 2008, interest rates started on a path very close to zero in the U.S., making bond investments unwise from a yield perspective. But now it starts to make sense again with 5% plus risk-free returns on treasuries and some CD's. Plus if bonds make-up a part of the portfolio, there may be some capital gains in bonds due to declining interest rates. Over the past few months, stocks have been sluggish except for a handful of technology stocks which had an offering in the AI (Artificial Intelligence} space. These few stocks were tagged as the "Magnificent Seven". More recently, money has flowed out of these seven and into the broader market like industrials, energy, old tech, and leisure and travel. The valuations of the AI related issues just got too crazy for most investors so they cashed-out near the top and went bargain hunting for more reasonable P/E's like you find in small caps. Since I missed the AI mania in stocks like Nvidia and Taiwan Semi, I will be watching these highflyers drop and try to get some at lower prices. I believe the real long term benefit from Artificial Intelligence will come from increased effeciency and higher productivity in many businesses. The AI story is still in the first or second inning so there is no need to rush into it. Another reason to be optimistic is the current mission to on-shore more manufacturing due to supply chain issues with China. Many billions of dollars are being spent to bring high tech jobs to the U.S. in the name of national security. Just the build-out of these chip foundries will add to our GNP. The conversion to Electric Vehicles will also bring jobs and cleaner air to our cities. Clean energy like solar and wind are also in the build-out stage and will goose our economy. Infrastructure spending is also in full swing, I can't help but notice all the road construction everywhere I go. Material suppliers like Vulcan Materials and equipment makers and leasors will benefit from these trends. In conclusion, things are looking up. Even the IPO market is starting to come alive with several new issues just this week. In his lyrics, Johnny Nash sings "It's gonna be a bright, bright sunshiny day". I will second that notion.

Don't Stop Believin'

In 1981 the American rock band Journey released this song on it's seventh album "Escape". The title of the song emanated from the band's keyboardist, Jonathon Cain's struggle to make it in the music industry. His father would often remind him to never stop believing in himself. The song lyrics refer to a young couple from different backgrounds who break away from their roots to start a new life together in a different setting. The song is noted for it's piano intro, strong vocals from Steve Perry and powerful rock chorus. Many sports teams have adopted the song as an anthem for their struggle to win fans and championships. "Don't Stop Believin'" reached number 8 on Billboard's Mainstream Rock Chart and number 9 on Billboard Hot 100 Chart. It also was the number one paid digital download song released in the twentieth century. Even though I have focused on fixed income for the first half of 2023, I have never given-up on stocks. A review of my monthly brokerage statements reveals that stocks also haven't given-up on me. Many individual stocks yield in the neighborhood of 5% just like the fixed income part of my portfolio, but the similairity ends there. With stocks, there is the potential for capital gains, the dividends are tax advantaged, and any gains can be held indefinitely without tax consequences until sold. With the fixed income, taxes are due in the year interest is paid without any chance of deferral. Its important to keep track of the annual income and make tax payments quarterly to avoid a nasty suprise next year at tax time. I believe a balanced approach to investing in the current interest rate cycle is the best strategy because of the attractive rates available in Treasuries and CDs. Since the highest interest rates have been on the shortest end of the rate curve (inverted yield curve) there will soon be a lot of capital looking for a new home as maturities come due. Some of the treasuries, certificates and bonds will be reinvested in fixed but I believe some will also find its way into the market. Many analysts are calling for two additional one quarter point rate hikes by the fed this year, so the party isn't over for fixed income just yet. When the fed feels like inflation is under control and the economy needs a little stimulus, rates will be cut to avoid a deep recession. Once rates decline, more money will flood into stocks, giving the market the fuel it needs to resume its bull run. The important thing to remember is that stocks tend to react about 6 months before any actual event so buying early will allow you to enjoy the first leg of any new bull market. The S&P 500 index has performed reasonably well so far in 2023 and the NASDAQ has done even better with 14.5% and 30% respective returns. The back story to both indices is that the best returns were in a relative few stocks in the technology space with AI (artificial intelligence) offerings, like Nvidia, Microsoft, Facebook (Meta) and Taiwan Semi. When the money starts to flow again I believe the breadth of the market will improve, allowing the laggards in other sectors to benefit. Some of the areas I like are banks, industrials, home builders, energy exploration and production, and drillers. I recently bought an offshore driller after sitting out the stock for 20 yrs. My thought is that the largest and cheapest sources of oil lay under the seabed and it will be exploited. I am also looking for companies that can use AI to increase productivity and profits. I think banks and industrials could benefit from this technology. Interest rates will go up and down over time and it is wise to take advantage of the higher rates at this time. I see this spike in rates as a gift to those who are hungry for yield with little risk. I do not see buying short term CD's as a long term strategy for wealth creation, just a chance to earn a little on my idle cash. Stocks are the place to be in the long run for yield and appreciation. This year is half over already so it's time to develop a list and find your entry point. Don"t stop believing in stocks.

NEV

Net Economic Value refers to the current market value of a bond portfolio. Virtually all banks and credit unions closely monitor this calculation as part of their risk management program. NEV is important because it reveals how much cash their retained earnings (capital) can generate in case of the need to raise money for necessary expenses. I am familiar with this because of my volunteer gig on the Board of Directors at a local credit union over the last 8 years. Banks and credit unions are deep in the red on their investment portfolio because of the recent unprecedented increase in interest rates over the last year. The implication is that if deposits decrease dramatically (and they have) then investments must be sold at a loss to raise money. Most fixed income investments held by banks are intended to be held to maturity, therefore, they were not overly worried about the NEV until deposits dried-up. To compound the problem, the banks' loan portfolio also holds lower yielding loans on the books which would also have to be sold at a loss. Bankers just hate to lose money but economic conditions have made life hard for CFO's recently. So where has all the money gone? As I've been saying for over a year now, investors are hungry for yield on their money. Local banks and other financial institutions have not satisfied the need for a return that compensates for inflation. Money has flowed into treasury bills like the inflation hedged I bond and the 2 year T bill. Some banks with low overhead have offered high yields on CD's to raise their deposits. Money has also flowed into money market funds that offer a better yield than the average bank savings account. The money left over from the stimulus payments has been withdrawn to fund living expenses which have increased due to inflation. All these factors have created a liquidity crunch for banks at a time when suprisingly, loan demand remains strong. Some banks have borrowed money to satisify new loan demand because deposits just won't keep up. Along with borrowings come future interest payments which increases costs for banks. There is currently a lot of blame being focused on banks, the fed, crypto currencies, the Biden administration, venture capital, and lenders in Silicon Valley. I think they are all to blame. The failure of Silicon Valley Bank has just revealed the dirty little secret that banks have known all along, their balance sheets are extremely stressed. The Fed has declared that it will raise interest rates until something breaks. Well, I think that has happened. The Biden administration's answer to this banking crisis is to increase regulation on banks even though insiders know that is part of the cause of the problem. Banks should not be invested in crypto currencies, at least with any of my money. Diversification is important for bank portfolio's just like for indivual's portfolios. Any bank that holds only risky loans of start-up companies is inherently risky. My feeling about banks and many credit unions is that their expenses are too high. The greed at the top does not trickle down to lower level employees. Directors are resigned to pay exorbitant salaries just to fill corner offices. Depositors also suffer due to below market interest rates for savings accounts. It's no wonder money is flowing out the door and into higher yields. If there is a silver lining to this banking crisis it is that, interest rates will probablly stabilize or decline, the stock market will respond favorbly to lower rates, banks will derisk their balance sheets, lower market rates will shore-up bank investment portfolios, and banks will realize that deposits are not all that "sticky".

WE ARE THE CHAMPIONS

The song "We are the Champions" was recorded by Queen in 1977 on their sixth album "News of the World". Written by lead singer Freddy Mercury, the song reached #2 on the UK singles chart and #4 on the Billboard Hot 100 chart. The song remains as an anthem for sports teams and is still one of the most recognizable rock songs of all time. The song is famous for being performed at the Live Aid Concert at Wembely Stadium in 1985. The song reminds me of the current global economic situation because of the cooling relations between the U.S. and China. Its no secret that the American economy and China's economy are deeply entwined. We have become very dependent on inexpensive Chinese imports of tens of thousands of categories of products. This helps to explain the low rate of inflation we enjoyed for many years prior to 2020. When then President Trump increased tariffs on some Chinese imports, retalitory tariffs were placed on American exports to China. Combine this with sanctions placed on Russian energy exports and a new global trading paradigm is forming. There will be winners and losers as a result of these changes in the flow of money and goods worldwide. The biggest loser will most likely be the American consumer who is used to the cheap and readily available imports from China. We will also continue to experience inflation despite the Feds effort to slow it by raising rates in a vain attempt to slow our economy. While the economy has slowed slightly, the Fed has targeted our labor market in an attempt to put people out of work, thereby decreasing demand of goods and services. I would argue that job creation here will remain strong to replace Chinese manufacturing for necessary goods. Chinese trade policy has been one sided for many years and I agree that action was necessary but we must recognize that a trade war will bring pain to the U.S. So who are the winners in this escalating trade war? I think Mexico will be the first to benefit from our sour relations with China. America is already utilizing cheap Mexican labor to make autos, electronics, and many other goods we need. Just this week, Tesla announced a 10 billion investment in Mexico. U.S. companies are looking for a source of cheap labor and loose regulation for their competitive advantage. Other third world countries with stable politics will surely lobby American companies for a piece of the economic action. Hopefully, American workers will also get a piece of the onshoring of good paying manufacturing jobs. It only makes sense to employ the best educated workforce in the world right here in our own markets. I recently took a look at my portfolio for any exposure to Chinese stocks and was suprised that my emerging market funds were almost exclusivily invested in China. I plan to divest these funds in the near future because of the political tension between us. I'm sure I'm not alone in feeling this way. With all the risk involved in investing, political risk is one I choose to avoid if possible. For the time being, I am satisified to keep my money invested right here at home in safe and sound CD's, Treasuries, and income generating stocks with limited foreign exposure. While it may be too early to tell who the new champions will be, someone will benefit from the decades of bad behavior by China.

New Year, New Strategy

It's that time again. A new year calls for an evaluation of your current investment strategy and the resolve to make the necessary changes. Before the end of 2022, I sold some stocks that have been dead money for some time and also sold some holdings that have performed well but didn't meet my expectations. The result was to raise cash while cleaning-up my portfolio. My winners roughly equaled my losers so as to not cause a large increase in capital gain tax for the year. I now have some dry powder to take advandage of opportunities in 2023. So what am I looking at? First, some large cap tech companies have suddenly become reasonably priced relative to their growth. It may be a little early but I would rather be early to the party than miss out entirely. I couldn't help but to nibble on Amazon recently. Since I bought it the price has continued to go down. I like the stock so I will add to my holding when it bottoms. Some of the money I raised will find its way into more fixed income like US Treasury I bonds which are indexed to inflation. They are currently paying 6.89% until April when they will reset based on the inflation rate. An investor is only allowed to buy $10k per year and you must hold it for at least 1yr. If you buy the I bond in January, you will earn the current rate for 6 months before it resets to the new rate of inflation. I expect inflation to remain stubborn, so this is my first buy for 2023. After that, I will add to my portfolio of CD's as interest rates rise. I don't expect rates to rise nearly as much as they did in 2022 so there is not a lot of incentive to wait for long before buying more. A search on my broker's website shows CD yields and maturities. As before, I like the 2yr maturity because it pays best for the risk. Many economists agree that we will enter a recession this year or next, I personally don't know so I have to prepare for the possibility of one. This is why I raised cash by selling stocks and have increased my fixed income holdings. If a recession does happen, stocks will probably correct because of lower corporate earnings. That would be a great time to add to your stocks at deep discounted prices. It looks to me that some industries are already trading at deep discounts. Home builders are trading at valuations in the low single digits as are some industrials like metals miners. I recently bought some Cleveland Cliffs (an iron ore miner) because it is just too cheap. I also like gold miners because many central banks are adding to their gold reserves and traditionally gold is a hedge against inflation. I have lived through many recessions, while it's no fun watching your stocks go down in value, it's also an opportunity to buy some great companies at a discount. It's also reassuring to know that you have safe and sound investments producing income during a downturn in the market. Every recession has a beginning and an end. You won't know your in one for several months after it starts and you won't know it's over until months later. The best way to prepare for one is to have cash available for living expenses and investment opportunities while having a stream of income from safe investments.

Money for Nothing

"Money for Nothing" was released in 1985 by the British group Dire Straits with a guest appearance on the single by Sting. The song was the second track of their fifth album named "Brothers in Arms". The single was a huge hit, peaking at #1 for 3 weeks on the US Billboard Hot 100 and the Top Rock Tracks charts. The song went on to win various other awards and was performed at Live Aid and the 28th Grammy Awards in 1986. The lyrics are a reflection of two working class men watching music videos on tv. During the covid 19 pandemic, the U.S. goverment distributed billions of dollars in the form of stimulus payments and PPP payments to businesses. The intention was to keep businesses from failing and to help households during shutdowns and layoffs. The payments were basically money for nothing, you just needed a social security number to qualify. Retail bank accounts swelled with this new-found wealth because due to supply chain disruptions and self imposed quarantees, spending became difficult. Once the economy opened-up, too many dollars began chasing too few goods and rampant inflation ensued. The stimulus also created a problem for banks and credit unions because their deposit base swelled to unprecedented levels and there was not enough loan demand to draw down all the liquidity. Too much cash on the balance sheet can be a problem because the ratios banks use to manage their finances were out of whack. Compounding the problem was the very low level of market interest rates, preventing CFO's from getting a return on all that cash. Currently, the Federal Reserve is raising interest rates to combat the inflation caused by the massive liquidity injected into the economy. The idea is to lower asset prices by suppressing demand and also lower wages by limiting job openings. An example of lowering asset prices is the housing market: higher rates on morgages make housing less affordable because the monthly payment becomes excessive. Auto demand is another example: that car you had your eye on is now unaffordable because higher rates on the loan means you can't make the payments. It will take some time for the excess liquidity in consumers' bank accounts to get spent down but it will happen. My fear is that it will happen suddenly and throw the economy into a deep recession. One thing that could delay a recession is corporate and consumer credit. Even though excess liquidity is drained from bank accounts and corporate balance sheets, buying on credit could keep inflation high for longer. It's almost like Jerome Powell and the Fed is trying to cure inflation with the wrong set of tools, like brain surgery with a hammer and chisel. It's important to remember that stocks are also an asset. If the stock market goes up there is a "wealth effect" where investors feel confident and continue to spend money on goods and services. The Fed's effort to slow the economy also includes an effort to lower stock prices. This is why I can't get too excited about adding new money into this market right now. I still think the stock market is the best place to create long term wealth but for now I sleep better knowing that I have a sizable portion of my assets in safe investments like CD's and treasury bonds. I have waited a long time to get any kind of yield in safe investments and I intend to take advantage of it. I don't worry that the "real" yield is negative because that is beyond my control and eventually inflation will abate. I also have resisted the temptation to invest in any crypto or meme stocks because I view these investments as a symptom of the excess liquidity created during the pandemic. I find it odd that the recent collapse of FTX, which was a brokerage for crypto, scammed some high profile names like Kevin O'Leary out of millions of dollars. How embarassing. These are the people who never hesitate to broadcast investment advise to anyone who might listen. Going back to the job market, my take is that there is simply not enough workers to fill the jobs in the U.S. Raising interest rates simply won't get the job done. Increasing legal immigration would help, so would increasing the worker participation rate. Good luck with that one because with a pension, social security increasing over 7% next year, and 4.5% interest on my savings, I'm getting money for nothing.

Highway To Hell

In 1979 AC/DC recorded the album "Highway to Hell" which featured the song of the same name. The album was the sixth recorded by the Austrailian group and its second highest seller behind "Back in Black". The lead singer for the group was Bon Scott who died the next year on Feb. 19, 1980. By 2006 "Highway to Hell" was a 7X platinum seller and reached the Top 100 chart in the US. The album is considered one of the greatest Rock albums ever made. The stock market seems to also be on a highway to hell so far this year. Many people are worried about their retirement accounts as they watch them continue to fall to levels not seen for many years. Anyone who was heavily invested in technology stocks has suffered especially heavy losses. It seems like financial markets have encountered the perfect storm of conditions: The war in Ukraine, high inflation, a rapid ramp in interest rates, threat of recession, lower corporate earnings, food insecurity, energy insecurity, trade tensions, and supply chain disruptions just to name a few. So how does an investor navigate these ugly events? My first reaction to the difficult investing environment is to develop a defensive strategy. I feel like the Federal Reserve is offering me a rare chance to derisk my portfolio by raising interest rates on Treasury Securities and certificates of deposit which are federally insured. Just today I bought a two year cd which is paying an effective rate of 4.9%. Even most local banks and credit unions are offering attractive rates on short maturity cd specials. While I don't think rates have topped out yet, I know that with every increase in the Fed Funds Rate is a step closer to the end of this tightening cycle. This may be the last opportunity I have during my life to generate interest income with almost no loss of principle. The recent bear market rally is based on the concept of a Fed pivot, which is a point where the rate hikes slow or are paused. I think I have a better chance of catching Santa stuffing my stockings than seeing a pivot this year. My Christmas list includes a 5%+ rate on CD's in the coming months and a 3/8 cordless Dewalt impact driver, (just in case Santa reads this blog). With all the layoffs announced by big tech companies and the cloudy forward guidance given by CEO's, I doubt this rally has legs but I will take what I can get out of this market. Anyone who needs to free-up some cash to buy fixed income at this time has my blessing. While scanning over my stock portfolio, I can't help but notice how cheap some stocks have become. Homebuilders have been hit especially hard due to the increase in mortgage rates. Most companies in this space are trading at multiples of 5X or less. Some financial companies are also very cheap. Brighthouse financial is trading at about 4X as well as some wireless providers. Mining companies are also way too cheap, Cleveland Cliffs' PE is in the low single digits as are some gold miners. These stocks won't stay this cheap forever so it may be a good time to start nibbling on some of the bargains. Between picking up some yield on Treasuries and CD's and buying select stocks dirt cheap, I plan to exit the Highway to Hell and start climbing the Stairway to Heaven.