Market Musings Blog

“As Goes January….”

Posted on 01.31.12 by Michelle Rand in Investment

“… So goes the year” is one of those old “Wall Street wisdom” sound bites. The theory is that when January culminates in good stock market performance, so will the entire year. In fact, about 86% of the time since 1945, a good January has led to a good year: the average return for the S&P in such years is 14%.

This January, the S&P closed with a return of about 4.48%. That’s better than all of last year. Does this mean stocks will do well this year? We take the old saying with a grain of salt – actually a whole shaker. We’re dubious for several reasons:

  • First of all, it doesn’t always work. About 14% of the time, stocks do poorly despite a positive January. And there’s no way to tell which year you’re in: one of the 86 out of 100, or one of the 14.
  • Second, other seasonal and cyclical phenomenon affect stock returns. For instance, the market usually performs well in an election year. So if this year is decent, will that be because of the election cycle, or the January effect?
  • Third, there have been only 66 January’s since 1945 (not including 2012 which isn’t in the statistics yet). This is a pretty small sample size. Statisticians would say this isn’t enough observations to result in a statistically significant result.
We think valuation is the best forward predictor of returns. The lower the price you pay for assets, earnings, and dividends, the more likely it is that you will make money, and vice versa. For instance, if you buy a rental house for $75,000 and it generates $1,000 per month in rent, you’ll have a great return right off the bat. But if you have to pay $150,000 for that same rental house, you’ll have to wait to raise rents before you match the return of the house at a cheaper price.
Stocks are cheap right now, with PE ratios relatively low and dividend yields rising steadily. Of course, stocks have been cheap for a while, and we still haven’t broken out of a decade long trading range, so if the January effect comes true, it won’t hurt our feelings at all.

Starting Out the New Year Right

Posted on 01.03.12 by Michelle Rand in Investment

As is typical of our calendar-driven society, the new year lends an aura of hope for what is to come. The stock market rarely escapes the effects of this optimism, and this year was no different as the Dow surged 180 points today to close at 12,397. Stocks haven’t been this high since July of last year. It’s easy enough to worry that this one good day means the year might be spectacular and you’d better be on board lest you miss out. In fact, stocks are cheap, having discounted all sorts of desolate news over the last several years.

We expect investors to wrestle with two big questions in 2012: how steep will Europe’s recession be, and how will it affect the rest of the world? The consensus in the US seems to be that our economy will be dragged through the mud along with Europe, but as we’ve written before, that is not necessarily a foregone conclusion. Housing, for instance, is a distinctly native industry that depends little on what happens in Europe. We don’t export homes to Europe. If – and I admit it’s a big IF – housing were to at least stop getting worse next year and maybe improve a little, that would provide a much needed ballast for our economy.

If enough things go right or even just stay neutral in 2012, the consensus that currently links our economy to Europe’s may shift. If more investors begin to believe that the US will escape a Euro-induced recession, we could have a very good stock market in 2012, extending today’s Dow move.

Should I Pay Off My House?

Posted on 12.19.11 by Michelle Rand in Interest Rates, Investment

Ok, I am officially tired of writing about Europe, so I thought I’d tackle the most-oft question in my thirty years of managing money: should I pay off my house?

We tell clients there are two aspects to paying off one’s home: the first is financial, and that’s where we can be of help. The second is emotional, and clients must navigate that part of the equation themselves.

From the financial side, several considerations come to the fore:

  • What is the cost of your mortgage? If you are paying 5% on your loan, then you must adjust that cost for any tax benefit you receive by deducting mortgage interest. Ask your accountant about the after tax cost of your loan, or if you are facile with math and early into your mortgage, you can adjust your rate by using your tax bracket; be sure to count both federal and state rates.
  • Say the loan costs you 3% after considering taxes. Compare this to what you are earning on the funds you would use to pay off the loan – are your earnings higher than your mortgage cost? Long term municipal bonds pay pretty close to 4% right now; corporate bonds pay 5% to 6%; even dividend yields are close to 3% presently. There’s no doubt about it; mortgage money is cheap. It’s quite likely that your money can return more than 3% over the life of your mortgage, unless the time frame on your mortgage is very short. And intuitively, it doesn’t make sense to pay off a home when we are experiencing the lowest mortgage rates we’ve ever seen in this country.
  • Remember that paying off your mortgage puts more of your own money into the asset called “home”, and if home prices keep falling, then you have wasted capital.
  • Which brings us to a fourth consideration: a home is not generally an income producing asset. Once you pay off your house, you have dented your capacity to produce income from your investments and you have made your investment profile less liquid since homes cannot be sold as easily as stocks and bonds. Hopefully without a mortgage, your expenses will be lower as well, but remember that maintenance, services such as water and electricity, insurance, and property taxes generally rise every year – in fact, your mortgage, if you have a fixed rate, is the only expense that won’t rise. To recapture the funds spent to pay off your loan, you would have to take out a new mortgage, and that can be expensive in terms of closing costs; if you are retired, you may not even qualify for a loan. Interest rates may rise, too, making the new loan more costly than the old. Alternatively you can sell the home, but you have to live somewhere.

On the other hand, paying off your mortgage is a certain “investment” – you extinguish your debt and free up cash flow that would have otherwise gone towards the house, cash that can be invested or used to support your lifestyle.

One compromise to explore is prepaying your mortgage every month. Putting an extra $100 to $500 per month towards the typical mortgage will control the amount of interest you pay over the life of the loan, and it will shorten the life of the loan so you’ll pay off the home sooner. Using prepayments instead of paying off the entire mortgage can accomplish much of what people are generally looking for when they ask about paying off the house: you can feel good about the debt declining every month; you retain your investments’ ability to generate income in the future; and your mortgage will cost you less. Here’s an example: for a $250,000 thirty year mortgage at 5%, paying just $200 per month will shorten your loan from 30 years to 22.58 years, and it will cut the interest you pay on the mortgage from $231,136 to $167,402.

If you want to test a prepayment plan on your own mortgage, go here:

http://mortgagemavin.com/fixed-rate/extra-payment-mortgage-calculator.aspx

Happy calculating!

 

Wah wah wah!

Posted on 12.08.11 by Michelle Rand in Foreign Investing, Investment

The Dow sank almost 200 points today on news that the European Central Bank was not going to play along and buy bankrupt countries’ bonds. This, despite good news in the US on the employment front, where initial jobless claims fell.

Stepping back for a minute to focus on the forest instead of the trees, we notice a few things about the stock market’s action lately:

  • On days when news is scarce or neutral from Europe, US stocks tend to rise. We think this reflects investors’ opinion that US stocks are the best of several not-so-hot alternatives for parking cash because it does look like our economy is plugging along.
  • Any hint of monetary ease – ie, pumping more cash into the world economy – brings a standing ovation from stocks. Witness last week when five major central banks agreed to coordinate action to make it cheaper for European banks to get dollars: the market skyrocketed.
  • On days when no one seems willing to push more money into the system to inflate asset prices, stocks sink. That’s what happened today: ECB president Draghi professed to be “surprised” that markets interpreted last week’s summit results to mean that the ECB would boost its bond buying operations – ie, throw good money after bad into the maw of Spanish, Italian, and Greek bond markets.
We are on the see-saw of asset inflation/deflation. Every time some stimulus program wanes, the markets cry for more – and when they get it, prices go up. Then the effects moderate, and prices sink. Rinse and repeat.

Deja Vue, Redux

Posted on 12.02.11 by Michelle Rand in Investment

This week a few influential countries came up with a chip to “chip in” to the crisis in Europe. The agreement by the Bank of England, our own Fed, the Bank of Canada, the Swiss Bank, the Bank of Japan, and the European Central Bank allows for cheaper loans in dollar terms to stressed Euro banks. While this won’t solve Europe’s underlying problems, it will buy time – and guess what, stocks liked it. The Dow opened the week at 11,231 and closed at 12,019. That’s a move of 7%, somewhat alleviating the last couple weeks’ shellacking.

The Dramamine market isn’t going to stop, so don’t get too happy. Despite solid news from the U.S. in the way of good sales on Black Friday, upward revisions to jobs created, rising sales of completed homes, and a pulse in the manufacturing index, Europe is likely to dominate for months to come. Several European countries must roll over debt beginning in February of 2012 and extending into the Spring. Mopping up uncertainties before then, if finance ministers can manage it, will be helpful.