Making Money Alert
Is Your Short-Term Money Safe?
09/05/2007
The market continues dancing wildly to the staccato beat of green screens one day and red screens the next. Such is the case so far in this holiday-shortened week, as the market enjoyed solid gains on Tuesday in the hopes that the Fed would slash interest rates.
On Wednesday, the Fed's Beige Book data suggested that overall economic activity was solid and that a rate cut is not a done deal. The market also reacted Wednesday to another poor housing report, as the National Association of Realtors said pending sales of existing homes fell in July to the lowest level in nearly six years.
In light of the recent much-publicized volatility in the major market indexes, many people wisely have moved their money into short-term instruments like money market accounts and other "safe" funds.
Now I am a big fan of parking your money in the safety and security of money market accounts, as they provide a place to ride out stormy markets.
But in an effort to try and get just a bit more out of their cash positions than what a money market pays, many investors are opting for short-term bond funds and/or other "safe" funds.
This can be a big mistake right now, especially when the credit markets are undergoing such a big re-pricing of risk.
A case in point is one of my clients who recently lost a lot of money in what he thought was a safe alternative to the money market.
This client held the Schwab YieldPlus Select (SWYSX), a fund which seeks high current income with what is supposed to be minimal changes in share price. This fund invests in investment-grade bonds, including fixed, variable or floating-rate corporate, mortgage-backed and asset-backed debt securities from U.S. and foreign issuers.
Normally, this kind of fund would have minimal share price fluctuation; however, given the upheaval in the credit markets of late, this stability has not held firm.
If we look here at a chart of SWYSX, we can see the sharp drop in this fund that began about mid-July. This steep decline is very uncharacteristic of these kinds of bond funds, but given the very uncharacteristic turmoil in the credit markets, it's no surprise this has happened.
What I want you to be aware of is that many so-called "safe" bond funds, funds traditionally used to park cash for the short term until things clear up, are themselves becoming the victims of the latest bout of market volatility.
My fear is that many people are simply unaware of the fact that they may be holding some of these traditionally safe bond funds, and as a result they aren't even aware that their money is at risk.
If you even think you have exposure to short-term bond funds, or if you hold funds other than your basic money market fund as an alternative to cash, I urge you to make sure you are protected. Make sure that these traditionally safe funds haven't pulled down your total portfolio value without you even knowing it.
There is nothing worse than thinking your money is safe when it really isn't. Get out those statements, log on to your brokerage website and take action. You owe it to yourself to protect the wealth you've worked so hard to acquire.
GROSSLY MISTAKEN
This week I have a real treat for you. It's a special guest editorial from free-lance financial journalist and Human Events magazine contributor Jim Woods. Jim is one of the finest writers I know. His grasp of the financial markets and his ability to convey what often is very complex information to a wide audience of non-experts is truly remarkable.
In this op-ed, Jim echoes many of my thoughts on the housing crisis and the dangers of government intervention in the subprime mess and in the economy at large. I hope you enjoy reading his philosophical perspective on this issue as much as I did.
By Jim Woods
"The ultimate solution, it seems to me, must not emanate from the bowels of Fed headquarters on Constitution Avenue, but from the West Wing of 1600 Pennsylvania Avenue. Fiscal, not monetary policy should be the preferred remedy, one scaling Rooseveltian proportions..."
—Bill Gross, Managing Director, PIMCO
For a free market, small "l" libertarian like me, nothing is scarier than the invocation of FDR when discussing a solution to the current housing crisis. Of course, I have come to expect such drivel from politicos, as their first solution to any market predicament is to stomp in with the giant boot of big government.
What I did not expect, however, is the wanton cry for government assistance from one of the premier bond mutual fund managers in the country. Bill Gross, managing director of the PIMCO bond funds, has long been regarded as one of the smartest guys in the room when it comes to fixed income investments. He's a fixture on CNBC, and is nearly always brought in for his insights on the Fed and what is happening in the Treasury markets.
In his September Investment Outlook commentary, Gross writes about the subprime mortgage mess and the current housing crises. He likens the situation to the puzzle game, "Where's Waldo?" Waldo, according to Gross, is "the bad loans and defaulting subprime paper of the U.S. mortgage market." His argument, in essence, is that nobody really knows where these subprime loan baskets are hidden, and as such they have the potential to rear their ugly heads and cause more damage where nobody suspects they would.
On this point, I think many observers, including myself, would agree with Gross. There are a lot of subprime mortgage derivatives owned by many banks and hedge funds around the globe. And, the uncertainty as to who owns what and how much makes for a volatile cocktail ready to intoxicate financial markets worldwide.
Now if Gross would have stopped here with his analysis, confining his comments to the more esoteric subprime mortgage loan derivative dangers, I wouldn't have a bone to pick with him. Unfortunately, the PIMCO manager went on to address the issue of what to do about the housing market at large.
After the tacit acknowledgement that "...a certain dose of market discipline in the form of lower prices might be healthy... ," Gross goes on to argue that the resultant impact of a projected two million-plus mortgage loan defaults on housing prices will likely be close to a 10% decline. That, says Gross, is "... an asset deflation in the U.S. never seen since the Great Depression."
There's the invocation of the Great Depression, and of course as Gross sees it, the only solution to the likes of the Great Depression is another New Deal government solution designed to "save" America from the looming housing crisis.
"If we can bail out Chrysler, why can't we support the American homeowner?" asks Gross. He goes on to say that, "The time has come to acknowledge that there are precedents aplenty in the long and even recent history of American policy making. This rescue, which admittedly might bail out speculators who deserve much worse, would support millions of hard-working Americans whose recent hours have become ones of frantic desperation."
Now leaving aside the notion that the Great Depression was the result of bad government policies and that the New Deal actually prevented the economy from recovering faster than it otherwise would have without government intervention, I am going to concentrate on another aspect of this Bill's grossly mistaken argument.*
The real issue here, as I see it, is the fact that those "hard-working Americans whose recent hours have become ones of frantic desperation" have only themselves to blame for their current situation.
Many Americans, having witnessed the sharp rise in home values in recent years, decided to gamble. They took out risky adjustable rate mortgage loans they really couldn't afford in the hope that their home's value would continue appreciating and that they would be able to refinance at a lower interest rate when the time came.
This was a risky proposition that worked out quite well for some homeowners. For others, it has turned into a financial nightmare, as their inability to pay their mortgage has forced them into foreclosure.
Such is the gamble that is life.
Sometimes calculated risks succeed, other times they fail. Ask any entrepreneur and he or she will tell you that risk taking is the essence of success. In fact, you cannot have the prospect of success without the prospect of failure.
This fact of life seems to be lost on those, such as Bill Gross, who seem to think that it is the government's job to help homeowners live a risk-free life. This nanny-state mentality, however well-intentioned, is the exact opposite of what is required to remedy the excesses baked into the housing market.
The real solution, as Gross himself acknowledged, is to let the air seep out of the housing bubble and to let home prices come back down to rational levels again. It's only by allowing the market's pricing mechanism to work that we can ever hope to avoid and/or correct speculative market bubbles in the future.
Getting the government involved in bailing out homeowners will only reinforce the notion that no matter how risky the investment, you can always count on Uncle Sam to dig you out of your hole.
Let's hope this grossly mistaken cry for a risk-free society falls on deaf ears.
*For those of you interested in a complete discussion on the Great Depression and its real cause, i.e., bad government policies, I suggest you read America's Great Depression by Austrian economist Murray N. Rothbard. This brilliant analysis of one of the seminal events of the 20th century is a must read for anyone with even a passing interest in the subject.
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ETF NEWS: THE NUCLEAR OPTION
Are you ready for the nuclear age?
If so, then the folks over at Van Eck Global have a new ETF just for you. It is the Market Vectors Nuclear Energy (NLR), which began trading last month.
This new nuclear sector ETF tracks the performance of the DAX Global Nuclear Energy Index. The index has its heaviest sector exposure to uranium mining, which is near 50%, while plant infrastructure is about 40% and nuclear equipment comes in at approximately 10%.
The fund's positions include various units of Japanese tech company Hitachi (HIT), uranium producers Cameco (CCJ) and USEC (USU), and the industrial unit of Mitsubishi Group. The fund carries a very attractive 0.65% expense ratio, well below actively managed energy sector mutual funds with similar nuclear exposure.
As subscribers to my Successful Investing advisory service already know, I am a big fan of the energy space. I also am a fan of alternative energy investments, as growing world demand for energy coupled with very high oil prices are making nuclear and other forms of non-fossil fuel energy cost effective.
I have no doubt the trend toward alternate energy sources such as nuclear will grow in the future, and one way to take advantage of this trend is through alternative energy funds like NLR. I am not currently recommending a position in NLR but I do want you to put it on your watch list, as I have.
When the time is right, I may indeed fire up the reactors and add NLR to my holdings.
COACHES CORNER: WHAT'S YOUR LARGEST HOLDING?
Do you know what your largest holding is? I suspect that many of you do, but I also suspect that many of you do not.
If you are one of those who do not know what your largest holding is, don't be ashamed. Whenever I do one of my Fabian Wealth Strategies coaching sessions, the first thing I do is identify your largest-single holding.
Why do I do this? Well, because what happens to your largest-single holding will have a greater impact on your total portfolio than anything else. If your largest holding is an S&P 500 fund, a financial stock fund, a small-cap stock fund, or any number of beaten-up sector funds, your total portfolio has likely had a tough go of it lately.
The remedy here is to first identify your largest holding. If you are overexposed to a sickly market sector, you need to take action to get your portfolio back to good health.
If you need some help assessing your portfolio's vitality, Fabian Wealth Strategies can help. All you have to do is call us and schedule your coaching session.
For more information on how to schedule your very own coaching session, call David Fabian at 800.391.1118, or e-mail him.
YOUNG WISDOM
I've been to Hollywood
I've been to Redwood
I crossed the ocean for a heart of gold—Neil Young, "Heart of Gold"
Sometimes you have to go to far away places to find your heart -- and your gold. That's why when it comes to investing, it's best to get out of your comfort zone and explore regions you never thought you would. It's only by pushing our own personal envelopes to the breaking point that we discover who we really are, and once you discover who you are, you're much more likely to find your heart -- and your gold.
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.