Saturday, December 4, 2010

Best Investing Environment in a Decade?

From the Desk of Joe Rollins

In Wednesday's edition of the Wall Street Journal, it was reported that if you met the minimum for a 6-month "jumbo" CD investment, you could profit handsomely at the rate of 0.32%. I found this to be both amusing and confusing. Folks, this is 0.32% return, not 32%. This means that if you had a $100,000 CD on a 6-month term, then you would earn $160 at the end of the CD term. This percentage further supports my theory that we are now enjoying what is perhaps the most favorable investment environment in over a decade.

I have often written that stock values are affected by interest rates and earnings. During the 3rd quarter of 2010, American corporations enjoyed the highest profits ever recorded in the history of U.S. finance, as reported by the New York Times on November 23, 2010 in the article, Corporate Profits were Highest on Record Last Quarter. Those high corporate profits coupled with the lowest rates ever in the U.S. could not provide a better recipe for high earnings and low interest rates.

I can’t imagine why any investor would consciously roll over a CD earning a miniscule interest rate of less than one-half of 1% annualized, especially when so many stocks can be purchased with dividends yielding well in excess of 5%. I suspect that many investors will come to this realization as their CDs begin rolling over in the next few months.

The recent stock market run has been somewhat remarkable: At the end of trading yesterday, the S&P was up 11.62% for 2010, and the average of all of Rollins Financial’s accounts under management are up 12.34%. It has been an extraordinary year, so I am completely baffled as to why the financial press seems intent on focusing on the negative news.

On March 9, 2009, the value of the S&P 500 was at 681. As of Thursday, December 2, 2010, that same index is at 1,219, which represents a total gain of 80% in the last 19 months. This is an extraordinary percentage by any definition. However, many financial analysts who have been out of the market this entire time are still expressing caution regarding the U.S. economy.

Have you noticed that there has been no talk of a double-dip recession lately? In fact, the economy has now stabilized and is actually starting to grow again. While unemployment is still high and will decrease gradually, the hard evidence indicates that the U.S. economy is picking up. Manufacturing, exports and retail sales have been gaining traction recently – all signs of an improving economy.

It is now estimated that the U.S. GDP for 2011 will be approximately 3%. If you reflect on this percentage, you will see that it is more than incredible. During 2010, we enjoyed the highest corporate profits ever in the history of the United States during an economic environment of high unemployment and subdued 2% GDP growth. Can you imagine how high corporate profits will be when employment and GDP improve as they surely will in a year or two?

Even though the U.S. economy is described as sluggish and slow-growing, it is still recording record profits. Given that scenario, the potential growth that is available to us through investing in China with its 9+% GDP growth, India with its 8+% GDP growth, and the rest of the emerging markets that are growing at a rate that – in most cases – is twice the anemic growth in the U.S. In short, corporate profits – which eventually impact stock prices – are exploding around the world.

There is hardly a day that goes by that I am not asked by investors about investing in gold. It’s hard to evaluate gold since it has virtually no investment quality. The things that we worry about with stocks are hard to analyze when it comes to gold. Gold pays no dividends, it is not scarce by any stretch of the imagination, and demand is not particularly robust. At one time, gold was considered the investment to protect against inflation (but there is no inflation – why else would we have QE2?), and during times of world strife. Neither of those factors seems to be present at the current time.

I am also asked whether one should invest in gold or the numerous gold coins that are continuously advertised on the financial press. If you really want to test the investment quality of gold coins, call the many companies that advertise on TV and ask them if you buy $1,000 worth of their coins today, what they would be willing to pay you to buy them back tomorrow. I’m sure you will discover that it’s a much better deal selling gold coins than purchasing them.

Even though I cannot evaluate gold from an investment standpoint, there is no question it has gone up throughout the year. However, in the words of George Soros, gold is now “the ultimate bubble.” So if you invest in gold, you do so at your own peril. Truly, the more important question to ask yourself is why would you buy gold at an all-time high when stocks are so cheap?

It’s interesting that almost everything around us is going up in price. Even though the Fed continues to express concern regarding deflation, all around us we are seeing inflation. From the date that the Fed announced that QE2 would be expanded by a total of $600 billion, everything has gone up appreciably. Even though the goal of QE2 was to reduce interest rates, the 10-year Treasury has gone from 2.57% on the date of the announcement (November 3, 2010) to 2.95% today. (See my QE2 post by clicking here) You could say that the 15% higher interest rate we have today was not the positive move that the Fed wanted when they announced QE2.

I talk to investors every day about the misconceived and misplaced perception that the markets have been bad this year. The facts completely belie those investors’ assessments. What baffles me even more is that so many investors are sitting around with money in money market accounts earning zero and are not overcoming their fear of investing in these great markets.

As always, the foregoing are my opinions, assumptions and forecasts. It is perfectly possible that I am wrong.

Best regards,
Joe Rollins