Thursday, May 1, 2014


One of the things that we like to look at to get a gauge of the risk appetite out there is a ratio between High-Yield (Junk) Bonds and US Treasury Bonds. If money wants to go to work into risk assets like the US Stock Market, it makes sense that we would see similar action in the bond market. If money is flowing faster into risky Junk rather than the safer Treasuries, then we know that the behavior of the bond market is confirming the new highs in the stock market. 
I look at this chart as another bearish divergence in Stocks and more of a reason to stay away or be outright short. There will always be individual equities that do well regardless of the environment. But the majority of stocks trade with the averages, so it makes it hard to find the few that do well. I’m the kind of guy that likes the wind behind his back. And unfortunately I don’t think that’s the case in stocks right now.

Bonds 'most expensive in history'

“They are prepared to accept interest payments on their investors’ money that will prove too low to compensate for the risks in any but the most benign circumstances.” 
He said the dangers were particularly acute for funds that had used “high-yield” bonds to boost returns. These assets, also called “junk” bonds, are issued by companies not considered strong enough to be certain to repay the money they borrow. 
Because of the extra risk involved in lending to such firms, interest rates on their bonds tend to be higher than those on ordinary, “investment-grade” corporate bonds. 
However, the interest rate premium on high-yield bonds – the difference between what they pay and what you get from safer corporate or government bonds – has been falling as investors search for income and fears about the economic crisis recede. 
“Some bond fund managers are accepting too little interest in return for the risks of holding these bonds,” Mr Lowcock said. “They assume that interest rates are not going to rise for at least a year, that bankruptcies among riskier companies issuing bonds will remain rare, that nothing unexpected can crop up to derail the markets.
 Lloyd Khaner: It's Beginning to Feel a Lot Like 2000

The Long Goodbye


The recent tumbling of Internet and biotech stocks may indicate that the speculation in such stocks has peaked. But, unlike in 2000, the bursting will occur in slow motion. The financial market structure has radically changed in the past 15 years. Too many money managers have a one-sided incentive to long such stocks. 
For example, Facebook trades at 100 times earnings and US$ 150 billion in market capitalization. No company grows forever. When it stagnates, its stock can trade at 10 times earnings. Hence, Facebook needs to increase its profit 10 times to justify its current stock price. How many media companies make US$ 15 billion in advertising today? Zero. 
Two changes in the past 15 years have made bubble formation a constant feature of financial markets around the world. The inefficiencies in capital allocation and income redistribution to finance are the main reason for today's sluggish global economy. 
At the macro level, globalization has made inflation slow to emerge, as multinational companies can shift production around the world in response to cost pressure. This force has given central banks more room in increasing money supply without facing the inflation consequences for years. Hence, central banks around the world have become more active in response to economic fluctuations. The consequence is a rising ratio of money supply or credit to GDP. By definition, this means a bigger and bigger financial system, which needs more and more income to survive.
DYI Comments:  The U.S. and U.K. stock and junk bond markets are in bubble territory the question is will it be a short term crash of 8 to 24 months to bottom out the market or will it be a long term secular decline as exampled by 1966 to 1982 stock market??  Who knows??  What we do know that monies placed today and held for the next ten years will have sub par returns in the order of 0% to 2% for their average annual return (nominal return before inflation, fee's or taxes).  Not the bang for your buck when placing money at risk.

Estimated 10yr return on Stocks

Using 5.4% as the historical growth rate of dividends and 4.0% as the ending yield.

Starting Yield*-------------return**
1.0%-----------------------(-5.7%)
1.5%-----------------------(-1.7%)
 
2.0%----------1.3% You are Here!

2.5%------------------------3.8%

3.0%------------------------5.9%
3.5%------------------------7.8%
4.0%------------------------9.4%
4.5%-----------------------10.9%

5.0%-----------------------12.3%
5.5%-----------------------13.6%
6.0%-----------------------14.8%
6.5%-----------------------15.9%

7.0%-----------------------17.0%
7.5%-----------------------18.0%
8.0%-----------------------19.0%

*Starting dividend yield of the S&P500-**10yr estimated average annual rate of return.

The Great Wait Continues...Waiting patiently for better values ahead and securing a higher return going forward for risk assets.

 Active Allocation Bands 10% to 60%
45% - Cash -Short Term Bond Index - VGPMX
25% -Gold- Precious Metals & Mining - VBIRX
20% -Lt. Bonds- Long Term Bond Index - VBLTX
10% -Stocks- Equity Income Fund - VEIPX
[See Disclaimer] 

DYI

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