Adviser's Blog

It is official; the S&P 500 closed in bear market territory today, over 20% off its bull market high of 1562.15 set on October 9, 2007. The five year long bull market is finally in the books. The S&P 500 is the last of the major indexes to enter bear market territory as the NASDAQ and Russell 2000 hit this pivotal level in March and the DJIA fell into bear territory earlier this month. Here is the run-down on the previous bull market…

Trough	Value	Peak	Value	% Gain
10/9/02	776.76	10/9/07	1562.15	101.5%

What I find amazing is that the bull market lasted exactly 5 years to the day. The bull market began on Oct. 9, 2002 and ended on the exact same day in 2007. (What I find even more amazing is that nobody has pointed this out yet!) Back in October, I was convinced that the market couldn’t possibly peak on the fifth year anniversary of its beginning, but the significant punishment taken by the financial stocks convinced me to stick with my strategy and thankfully I did as my clients have profited nicely ever since.

With the bear market official, several questions will now become common banter among financial pundits. What’s next for the market? When will the bear market end? How much further do we have to go? Read the rest of this entry »

By proceeding, I acknowledge that I have read and understood the Disclaimer, Performance Reporting Disclosure and Copyright Statements .

Dear Clients,

I am preparing my Quarterly Update along with your performance reports and fee statements. I am hoping to mail them out by Thursday, but may not get them out until the beginning of next week. In the interim, I wanted to report on your account performance so far this year:

Here is how my performance measured up to the averages on a YTD basis:

PORTFOLIO	2007 Return -	YTD Return
MAC’s Core Portfolio	12.5%	18.4%
MAC’s Focus Portfolio	11.0%	24.4%
S&P 500 (VFINX)	5.4%	(12.0%)
NASDAQ 100 (QQQQ)	19.0%	(11.8%)
Benchmark	8.5%	(2.9%)

Honestly, I am little surprised how well your accounts recovered this past month. I wasn’t expecting much until Q3 but several positions in your portfolios performed very well in June. While we are not quite back to where we were earlier in the year, we are still far ahead of practically everyone else. My Core Portfolio has outperformed the S&P 500 by 30% YTD! In a $1M account, that equates to a $300k swing. None of the market neutral funds I track have even delivered double digit appreciation much less gains in the 20% neighborhood.

While the balance of the year should prove disastrous for equity and bond investors, I expect to continue to deliver positive gains. There are virtually no bullish signals in the equity marketplace over the intermediate or long-term. We may see bear market rallies which will be short and spectacular such as the one from mid-March through May, but the long-term trend is down.

I believe that two very dangerous trends for equities are beginning to converge. First, there is a weak economy which leads to falling earnings. Actually, I would argue that we have vanishing earnings as much of the earnings in the financials where a smokescreen to begin with. The financials, which accounted for 40% of the S&P 500 Earnings last year, are gone with little or no means of replacing them.

The second trend is that inflation is bound to lead to rising interest rates which in turn will lead to equity valuation contraction. As you know, I’ve been harping on this topic for several months now. In Part IV of my January Update, I detailed why and how rates will start to rise. (You’ll have to scroll down to Part IV of the update if you click on the link.) On 6/30, the BIS said that, “Global inflation is a ‘clear and present threat’ to a world economy that needs higher interest rates…” (source: Financial Times).

According to Dow Theory, when interest rates rise it results in valuation contraction meaning prices will fall even faster than earnings. Given that valuations for equities are far higher than their historical average, the result could be a substantial correction in the market’s P/E ratio which currently stands at 22.

Historically, the combination of falling earnings coupled with valuation contraction has led to a sharp correction in equity prices. There are times to be invested in equities, but now is not one of those times. My written update will delve into this topic in much more detail.

If you have any questions or concerns about your account, please do not hesitate to call me.

All the best,

Matt

Part I: Introduction

There are lies, damn lies and then there are statistics!
- Mark Twain -

Have you noticed that what you pay at the pump or the check-out counter seems to have little correlation with government inflation figures? Does it seem that prices for daily necessities are going up at a rate far greater than 4%/year? Well, the following will attempt to explain why your experience is far different than what the government is telling us.

Over the past 20 plus years, the government has made several “adjustments” to the primary measurement of inflation known as the Consumer Price Index (CPI). In this article, I will explain what those adjustments are and why they have resulted in the significant understatement of the CPI.

If I were a lawyer (which I’m not) and if I were prosecuting the government, the first steps I would need to take is to establish that the government and more specifically the Bureau of Labor Statistics (BLS) has both the means and motive to manipulate inflation statistics. Read the rest of this entry »

By proceeding, I acknowledge that I have read and understood the Disclaimer, Performance Reporting Disclosure and Copyright Statements .

Dear Clients,
The following is my Performance Update and Outlook for May. All prices and returns are as of 05/29/08.

PART I: INTRODUCTION
Inflation’s back…
Cover of the May 24th Economist

Just as the smoke has cleared from Act I of the credit crunch, everyone is now up in arms about inflation. While the threat of inflation is real and growing, unfortunately, the credit crunch has not played itself out. In fact, the curtain maybe just going up on Act II which I’ll discuss in Part IIIb of this update.

I’ve started to find myself in pretty good company as more and more investing legends are coming around to the probability of Stagflation. On May 20th, Yahoo Finance wrote the following regarding Warren Buffet’s and George Soros’ views on the economy, inflation and the credit crunch.

Soros was particularly concerned about inflation, which is front and center today as crude prices surge toward $130 and core PPI was higher than expected…While the less dramatic than the uber-skeptical Soros, Buffett was certainly direct in his assessment that the credit crunch is not over, contrary to popular belief on Wall Street. “I don’t think the effects of the credit crunch are far from over at all,” Buffett said during a presentation in Europe, according to wire reports. “I think there will be rippling, tertiary effects.”

Bill Gross, CIO of PIMCO Funds and manager of the world’s largest bond fund, is the latest guru to throw himself into the inflation camp which I find odd since he was a proponent of lower rates last year which would have resulted in more inflation. He says in his June Investment Outlook, “…we’ve been foolin’ ourselves [believing] that inflation is under control.” (when he says “ourselves” he is making a general reference to US citizens – not to himself.)

Of course, the continuing inflation in our economy is not surprising as it is a necessary evil. Our government must continue with its inflationary policy to finance trade and budget deficits. They are seeking to repay our debt to foreigners with a discounted currency. Its not an ideal situation but it is likely better than the alternative. Until the US becomes more fiscally responsible with individuals becoming net-savers, industry becoming net producers and government maintaining balanced budgets, inflation is imperative.

PART II: ACCOUNT PERFORMANCE

Here is how my performance measured up to the averages for the first five months of 2008:

PORTFOLIO	2007	2008 YTD
The MAC’s Core Portfolio	12.5%	9.5%
The MAC’s Focus Portfolio	11.0%	11.2%
S&P 500 (VFINX)	5.4%	(3.9%)
NASDAQ 100 (QQQQ)	19.0%	(2.9%)
Benchmark	8.5%	0.1%

Read the rest of this entry »

By proceeding, I acknowledge that I have read and understood the Disclaimer, Performance Reporting Disclosure and Copyright Statements .

Dear Clients,
The following is my Performance Update and Outlook for April. All prices and returns are as of 4/30/08.

PART I: INTRODUCTION

The last two months have not been kind to my model portfolios but we are still well ahead of all the equity and bond market averages for the year. Even though the recent activity in your account might be discouraging, I am growing increasingly confident in my long-term strategy and the opportunities for your portfolio. While the current trends could last a little while longer, by Q3 I should be generating returns similar to those we realized in the first part of the year.

The fundamental case for my strategy is stronger than ever. I can’t find any evidence that the economy is improving or that inflation is cooling which are the trends I’m seeking to capitalize on. Stagflation, a unique economic condition that only occurs every several decades, will prevail as long as the Fed can keep the credit markets from crashing – a scenario far worse than what I’m expecting. We are currently experiencing a bear market rally in stocks and a bull market correction in commodities (except energy) but these trends should reverse themselves within the next couple of months. I think we are far closer to the end of the countertrend than the beginning.

The following essentially describes the action in your accounts over the past 15 months. Last year, every asset class (bonds, equities and commodities) was highly correlated which is not the historical norm. I’ve mentioned on numerous occasions over the past year that the historical correlations would be reestablished and now it is finally taking place. Furthermore, I have stated that the normal correlations between these assets classes must be reestablished for my strategy to truly provide significant returns.

Since every asset class was correlated for the first 10-11 months of last year, my long/short strategy was not very volatile as my long and short positions worked against each other. If my long positions appreciated, then my shorts fell and visa-versa. We made money on the margin but that was about it.

Starting in Q4 of last year, the commodity markets, specifically the Precious Metals (PMs), began decoupling from equities. While this decoupling took place, my long/short strategy became far more volatile as my long and short positions started moving in lockstep with one another. From December ’07 through February ’08, everything in the portfolio made money as equity prices fell. Conversely, equity prices started rising in mid-March and all of my positions started to fall in unison. The net result is still a fairly nice gain YTD but far from where we were at a couple of months ago.

I went through a similar rough patch in Q2 of last year but I stuck to the fundamentals and we outperformed the market handsomely in the second half of the year. I believe that the second half this year will be even better as we’ll make money both in falling equities and rising commodities rather than just on the margin as we did in ’07.

PART II: ACCOUNT PERFORMANCE

Here is how my performance measured up to the averages for the first four months of 2008:

PORTFOLIO	2007 YTD	2008 YTD
The MAC’s Core Portfolio	12.5%	6.9%
The MAC’s Focus Portfolio	11.0%	7.7%
S&P 500 (VFINX)	5.4%	(5.0%)
NASDAQ 100 (QQQQ)	19.0%	(7.8%)
Benchmark	8.5%	(1.0%)

As I said in the Introduction, everything went our way in January and February and practically everything went against my strategy in March and April. I did foresee the countertrend emerging so I liquidated some of our positions which served to partially mute the impact of the current countertrend. Unfortunately, I didn’t think the reversal would be so severe nor did I think the decoupling between the PMs and equities would be so significant. In addition to these errors in judgment, I added some equity exposure to uranium stocks that have historically rallied with other equities but failed to so this time around.
Read the rest of this entry »

By proceeding, I acknowledge that I have read and understood the Disclaimer, Performance Reporting Disclosure and Copyright Statements .

Dear Clients,

I am preparing my Quarterly Update along with your performance reports and fee statements. I’m aiming to mail them out by Friday, but there are some analyst reports coming out at the end of the week that I’m waiting for so I might not get them out until Monday. In the interim, I wanted to report on your account performance so far this year:

Here is how my performance measured up to the averages on a YTD basis:

PORTFOLIO	2007 Return	Q1/YTD Return
Core Portfolio	12.5%	15.0%
Focus Portfolio	11.0%	16.8%
S&P 500 (VFINX)	5.4%	(9.5%)
NASDAQ 100 (QQQQ)	19.0%	(14.6%)
Benchmark	8.5%	(2.1%)

The quarter provided a lot of excitement in the market that resulted in losses in most portfolios. The S&P 500 had its worst quarter since Q3 of ’02 – near the bottom of the worst bear market in 70 years. Given that Q1 is typically a strong quarter for equities coupled with the monumental easing by the Fed, this is not a positive omen for the market.

The market has seemed to grab some traction as the government has provided a backstop to the financial sector on March 16th compliments of the US taxpayer. Since all the fun began last August, the fed has pledged over $1,300 for every man, woman and child in America. Fortunately, while our government has been increasing the liability side of your personal balance sheet, I’ve been increasing the asset side.

My performance for the last quarter has been pretty remarkable even though I gave a nice chunk back in March. I explained it to one client that “we went in at half with a 30 point lead but only won by 20”. (He appreciated the sports analogy which McCracken’s are famous for.) So far this year, my Core and Focused Strategy have beaten the S&P 500 by over 24%. In a $1M account, that equates to a $240,000 advantage.

Equities were severely oversold and commodities were equally overbought so a move back to the mean was expected (not necessarily welcome, but expected). The good news is that the long-term fundamental outlook for my strategy improved significantly this past quarter. But the technical short-term outlook is less favorable and I expect that many of our best performing positions might continue to correct. For that reason, I’ve reallocated a fairly significant percentage of your account to lock in profits while trying to find some risk-friendly returns over the next few months. I’ll cover all of this in detail in my report.

As always, please do not hesitate to call me if you have any questions or concerns regarding your account.

All the best,

Matt

By proceeding, I acknowledge that I have read and understood the Disclaimer, Performance Reporting Disclosure and Copyright Statements .

Dear Clients,
The following is my Performance Update and Outlook for February. All prices and returns are as of 2/29/08.

PART I: INTRODUCTION

The Stagflation theme has finally caught on with the investing public. On February 21st, both the Wall Street Journal and Larry Kudlow’s show Kudlow and Company dealt with the prospect of Stagflation. I just got an e-mail from an analyst in Dallas by the name of John Mauldin and his article is titled Stagflation and the Fed. (I think these guys are bit late to the party as I’ve been preaching about Stagflation for some time. Last April I wrote a post titled Goldilocks or Stagflation which concluded that Stagflation was the more probable outcome.)

Stagflation is simply persistent price inflation coexisting with a cyclical slowdown in the economy. It’s not the end of the world, but it can do nasty things to a portfolio invested in equities and bonds.

Inflation pressures are undeniable. I wrote in my Annual Update that we are experiencing unprecedented long-term inflation. The 5 year appreciation in commodities as measured by the CRB Index is running at it fastest clip since the index’s inception. The CRB index is up almost 200% since the beginning of 2002. And this month it got worse as the CRB Index increased by 12.4%. Since the “omniscient” Fed started their rate cutting campaign in August, the CRB Index is up 36.8% - the second largest 6 month increase since the index’s inception. The biggest increase was in 1973, not exactly the best time to be invested in equities as they fell 49% in 18 months. (Are you growing tired of me quoting that stat in every single update? If so, my apologies, but I feel the need to include it for non-clients who might be visiting this site for the first time. Feel free to skip over such redundancies in the future.)

Another certainly is the reality of a slowing economy. For reassurances about the slowing economy you can check out my Stagflation Alert or just read any of the latest Fed minutes, speeches or Congressional testimonies. (Federal Reserve Website link)

But this introduction has run on long enough; let’s get to the good stuff.

PART II: ACCOUNT PERFORMANCE

Here is how my performance measured up to the averages for the first two months of 2008:

PORTFOLIO	2007	2008 YTD
The MAC’s Core Portfolio	12.5%	22.0%
The MAC’s Focus Portfolio	11.0%	25.3%
S&P 500 (VFINX)	5.4%	(9.1%)
NASDAQ 100 (QQQQ)	19.0%	(16.13%)
Benchmark	8.5%	(1.9%)

We had another stellar month in February. On a YTD basis, My Core Portfolio has beat the S&P 500 (VFINX) by over 30% and Scott Burn’s Couch Potato Portfolio by nearly 24%. In a $1M account, my strategy would have yielded nearly $240,000 more than the Couch Potato Portfolio. Not bad considering that 75% of financial advisors are supposedly incapable of beating his benchmark. Read the rest of this entry »

By proceeding, I acknowledge that I have read and understood the Disclaimer, Performance Reporting Disclosure and Copyright Statements .

Dear Clients,
The following is my Performance Update for January. All prices and returns are as of 1/31/08.

PART I: INTRODUCTION

As January goes, so goes the year!
- Popular Wall Street Adage -

If this old adage has any validity, than equity investors are in for one hell of a time in 2008; conversely, we could see spectacular appreciation in your accounts this year. Over the past several months, my strategy has gained considerable momentum and your accounts have profited substantially.

While the large-cap indexes (S&P 500 and DJI) have not technically reached bear market territory, it is essentially a foregone conclusion that they will in the near future. For the first time ever, equities fell over 10% in January. The market volatility has been “gut-wrenching”. After falling nearly 11% in the first 14 days of the year, the S&P 500 rallied 5.2% in the last seven days of the month, but only after the Fed took drastic actions in cutting the Fed Funds rate 1.25%. The average intraday movement in the S&P 500 for the month of January was just over 2.4%! Read the rest of this entry »

³ They began saying to each other, “Let’s make bricks and harden them with fire.” (In this region bricks were used instead of stone, and tar was used for mortar.) ⁴ Then they said, “Come, let’s build a great city for ourselves with a tower that reaches into the sky. This will make us famous and keep us from being scattered all over the world.
- Genesis 11: 3-4 -
New Living Translation

On September 13th, 2007, the Associated Press reported…

The world’s tallest building, still under construction in the booming Gulf emirate of Dubai, has become the world’s tallest free-standing structure, its developers said on Thursday…The developer announced in July that Burj Dubai, Arabic for “Dubai Tower”, had exceeded Taiwan’s Taipei 101 which is 508 metres tall, to become the tallest building in the world.

When I read about the Burj Dubai, an unsettling feeling came over me. I don’t remember when or where, but at some point in my life I recall being told that economic calamity soon followed the construction of a new “world’s tallest tower”.

I was anxious to determine if there was truly a relationship between the construction of “towers” and market peaks, so I pulled up the ever-so-handy Wikipedia to do a little homework. Wikipedia was enormously helpful because with every building on the list it also listed the buildings that it surpassed and was proceeded by in height. Here is the link to the Empire State Building page. (I figured you could start in the middle and work your way in either direction.)

Let’s take a look at how the stock market performed after the construction of a new “world’s tallest tower”. (I didn’t include communications towers or tourist structures such as the Eiffel Tower, the Tokyo Tower or the CN Tower. Also, I didn’t include the Petronas Twin Towers in Malaysia because only the Antenna was taller than the Sears Tower – not the roof.)

Building	Years Built	Height	Stock Bear Mrkt	Stock Mrkt Returns*
Metlife	1893 - 1909	50 Floors	N/A	N/A
Woolworth	1910 - 1913	55 Floors	1911 – 1913	- 15%
40 Wall Street	1929 – 1930	282.5m	1929 - 1932	- 82%
Chrysler Building	1928 - 1930	282m/274m	1929 - 1932	- 82%
Empire State Building	1929 - 1931	381m	1929 - 1932	- 82%
World Trade Center	1966 - 1973	417m/413m	1966 - 1974	- 44%
Sears Tower	1970 - 1974	442m/412m	1972 - 1974	- 41%
Taipai 101	1999 - 2004	449.2m/439.2m	2000 - 2003	- 48%
Burj Dubai	2004 - 2009	555m	’07 - TBD	TBD

* Annual Returns provided by Crestmont Research, specifically from the Crestmont Stock Market Matrix . Returns are calculated as “Individual Investor Real Returns” which are adjusted for inflation, reinvested dividends, transaction costs and taxes paid.

What I found remarkable was just how well the “Tower” indicator predicted secular bear markets in stocks. I was surprised to discover that not a single building taller than the Empire State Building was built during the nearly 40 years between the two secular bull market peaks in the 20th century. Furthermore, construction on a single “tower” was not initiated for the 31 years between the two most recent secular bull market peaks (1968 and 1999).

But what I found even more astounding was the number of “Towers” built at secular bull market peaks. After 37 years of no “towers” being constructed (1929 – 1966), two “towers”, the World Trade Center Towers and The Sears Tower, were started within a couple years of one another and finished at essentially the same time. After an 18 year span with no “tower” construction, three “towers” were built right at the end of the Roaring 20’s just as the US was entering the Great Depression. Ironic!

Just for kicks, I thought I’d check out if this indicator worked in foreign markets as well. I was curious to know when the tallest tower was built in Japan and what sort of time proximity it had to the Nikkei crash in ’89. Sure enough, the two events coincided. From 1988 – 1991, the Tokyo Metropolitan Government Building (also known as “Tax Tower”) was built in downtown Tokyo and was the tallest structure in Japan until 2006. From 1990 - 1993, the Nikkei lost 60% of its value as Japan fell into a decade and half deflationary accident. Today, the Nikkei is still 60% below its peak of 18 years ago! (The Midtown Tower became Tokyo’s tallest structure in 2006 and consequently, the Nikkei was the only major stock market to depreciate in 2007!)

Whether you accept the Jewish/Christian Bible as Truth or not, it’s hard to ignore the seemingly strong relationship between market peaks and “tower” construction. I haven’t studied the world’s other religions as much as I’d like or should, but I believe that the theme of “pride before a fall” is interwoven throughout all religious texts such as it is in the Christian Bible. Regardless of your religious beliefs (or lack there of), it might be wise to take an objective look at your investment strategy and search for ways to insulate yourself from the possibility that equity prices may fall substantially.

I think I’ve provided a fairly objective view of our capital markets in my Market Outlook. I explain why a lot of financial advisors fail to find ways to protect their clients in secular bear markets which you can read by clicking this link.. For additional ideas on Wealth Management in the current market environment, I might suggest taking a look at my Stagflation Alert. Both have been fairly “spot on” in explaining why the market is behaving as it is.

By proceeding, I acknowledge that I have read and understood the Disclaimer, Performance Reporting Disclosure and Copyright Statements .

Dear Clients,

Happy New Year!

I am busily preparing my Year End Update along with your performance reports and fee statements. I’ll try to get them out by Friday so you should receive them by early next week. In the interim, I wanted to report on your account performance on a YTD and Quarterly basis:

Here is how my performance measured up to the averages on a YTD and QTD basis:

PORTFOLIO	Q4 Return :	YTD Return
Core Portfolio	8.0%	12.5%
Focus Portfolio	11.3%	11.0%
S&P 500 (VFINX)	(3.4%)	5.4%
NASDAQ 100 (QQQQ)	(0.4)%	19.0%
Benchmark	0.9%	8.5%

The second half of the year has been good for your accounts. While the market has been sideways to down, you’ve enjoyed considerable appreciation in your accounts.
I think we are in the early innings of a protracted correction and if the trends in volatility and inflation continue coupled with a slowing economy, my strategy should continue to provide some nice gains.

There are numerous indicators that are suggesting that ’08 will be unkind to equities, which I’ll cover in-depth in my Update. My goal for the year is to generate some significant returns in your account while protecting you from losses in equities and other vulnerable spaces in the capital markets.

As always, please do not hesitate to call me if you have any questions or concerns regarding your account.

All the best,

Matt