Making Money Alert

Forgot?

Sections

Articles

Are You Fed Up Yet?

Print This

08/31/2006

Once again, the Fed has screwed up. Yesterday's release of the Fed minutes revealed that the committee was concerned about the effect that their rate increase campaign is having on the economy. Talk about too little too late. Their exact words: "The full effect of previous increases in interest rates on activity and prices probably had not yet been felt, and a pause was viewed as appropriate to limit the risks of tightening too much." Oh no, "the full effect" is just beginning to be felt, and already, it is not at all pretty. The consumer confidence numbers (ironically coming out on the same day as the Fed minutes) clearly show that the Fed's actions for the last two-plus years have been felt. And it's early in the game.

Consumer confidence tanked to its lowest level in nine months -- or six rate hikes ago -- for those of us who are counting. Consumers predictably have closed their wallets because they are worried and well they should be. They are worried about their rising mortgages; they're worried about higher energy costs; they're worried about the higher interest payments on their credit cards; and they are worried especially about their jobs. Consumers have started to figure out that they are not safe. Their homes, their jobs and their livelihoods cannot absorb the rate hikes that will slow our economy to a crawl.

The one thing everyone needs to know is: the Fed doesn't have to be right to get its way! It's true. We all put our faith and trust in that institution. I'll give the Fed this: it is really good at maintenance. When the Fed has a good economy, it can string it along and keep everyone fat and happy. But, the Fed is not so good at handling problems. It always overshoots because it just doesn't know when Americans have too much of a good thing. We have too many rate cuts. Sure, we needed some incentives to restore confidence after 9/11. But, the Fed let housing get completely out of control. Spending really was going nuts. There was too little saving. Last summer, the savings rate went negative -- that's not good. So the Fed got worried and just kept tightening rates. And now, the Fed has gone too far yet again. This crazy cycle of over-easing and over-tightening is wearing down consumers who may begin to realize that they are merely pawns in the Fed's elaborate chess game.

The chess game is the Fed's incessant need to look good to its multinational friends. You see, the Fed isn't in the game to keep us happy. The Fed takes action to make U.S. currency appealing to foreign investors. It's not about you and me. It's about keeping the dollar interesting to outsiders. When rates are low and we start to spend too much, it makes our dollar less appealing to foreign investors. When we spend less, foreign investors like our dollars more. That, my friends, is the game the Fed is playing. The game is to keep the dollar interesting to foreign investors.

Quite truthfully, it's a game the Fed really needs to play well because if it loses, every one of us loses. The Fed fully knows that there will be some casualties along the way. Consider the fallout to be the spoils of war, and all that -- including consumers who suffer financially. But to win, the Fed will allow our economy to struggle and possibly to slip into a recession. It's the only card that the Fed can play. The Fed has gone too far. It knows it. We know it. And, the economy will suffer for it.

Market Update -- 08/31/2006

An uneventful week for the major markets has the indices sitting about right where they were when I wrote to you last week. Enticed by a last chance to enjoy the summer, traders and investors have brought the market to a crawl by keeping volumes pretty low.

Yesterday's activity was interesting. The release of consumer confidence numbers revealed that consumer confidence slumped to the lowest levels this year. The market took a shallow dive. Later, the market recovered and ended slightly higher. This fluctuation can be linked to Fed remarks about interest rates that I will discuss later. As far as market trends, an S&P 500 that can hold 1310 would get my attention. Until then, I am not touching this market. We sit firmly at the top end of a trading range that stubbornly refuses to give way. For those of you holding positions, remember the importance a steadfast sell discipline.

September is a notoriously challenging month for investors. It dangles at the very end of the growth season (March to September), but investors are leery about what the markets might do in October. As a result, it is tough for the markets to stage a convincing rally at this time. We are heading into the time of year when stocks struggle. I want you to keep your eye firmly fixed on your portfolio, maintain tight sell stops, and pay close attention to me because I will get you through it.

WHAT'S AN INVESTOR TO DO?

When it comes to a recession, there are some messages that bear repeating. One of the key messages is: WARNING: There has never been a recession without a bear market, and I mean never. So, now you understand the battle the Fed is waging, as well as the likely economic fallout that such a war will bring. It's time for a quick lesson on how you can make money in the bear market that will be brought on by the economic downturn.

Let me say that, without a doubt, the most significant event that has occurred in the investing world is the proliferation of exchange-traded funds (ETFs). They focus on specific sectors and markets, while maintaining a level of transparency, low fees and liquidity that you will never find in a managed fund. The ranks of ETFs have doubled both in number and market capitalization in just the last three years. ETFs are efficient because you can get exactly what you want, and they trade like stocks, so you can get instant pricing.

Naturally, at this point, you're wondering, "Doug, what do ETFs have to do with bear market investing?" The short answer is: "EVERYTHING."

ETFs are an important bear market tool because they enable you to invest in specific markets and industry sectors. This way, you can buy the few specific areas that stand to profit during an economic decline. And, you can do so without buying anything further. With ETFs, there is no added fat to weigh down your profits. Unlike actively managed funds that rely on the speculative whim of a fund manager, ETFs will give you exactly what you want, when you want it, with no management fees, and with low, low expenses.

All of these factors are important in a declining market climate. Everything can rise in a bull market -- even expensive and inefficiently managed funds can eke out a gain. But bear markets are different. Investing for profits in a bear market means you have to hone your category, your sector, and your expenses with laser-beam precision to earn profits and to keep them. And, that is exactly why ETFs are my first line of portfolio defense and profit growth for investing in bear markets.

ETFs can give you bigger returns because they enable you to concentrate on the specific areas that show strength in the face of a decline. Certain sectors, markets and regions will rise even in a bear market. But, there's one key point to keep in mind: Even though they're indexes, many ETFs pack a high level of concentration. That's what makes them so profitable when you play them right. But it also makes them volatile if you don't have the knowledge, attention or discipline to manage them wisely. A case in point is the Energy Select SPDR (XLE), which was a great way to profit from the recent run-up in oil. Investors who got in early captured gains of as much as 30% in the six months from November 2005 to May 2006. But, that trend was long in the tooth and energy became completely overbought. That specific ETF tanked in July. Investors who stayed too long gave up all but about 10% of a huge profit.

Successful Investing subscribers completely eliminate that kind of round trip. We get in to capture the most concentrated market momentum, and then we get out when the trend starts to break down -- in any and every market climate. We have the tools, the know-how, and the 28-year discipline that you need to make more money and to keep it. Want to learn more?

Click here to learn more about Successful Investing

I hope you have a very Happy Labor Day!

"Man is the animal that intends to shoot himself out into interplanetary space, after having given up on the problem of an efficient way to get himself five miles to work and back each day."

--Bill Vaughan

Sometimes we plan out our solutions to the big problems, while ignoring the smaller things. Sure, it's necessary to set goals and make long-range plans, especially when it comes to money and investing. Just don't forget that the everyday decisions you make with your finances are important, as well.

Wisdom about money, investing and life can be found anywhere. If you have a good quote you'd like me to share with your fellow Alert readers, send it to me, along with any comments, questions and suggestions you have about my radio show, newsletters, seminars, or anything else.

Test message.