Friday, May 30, 2014

May 30, 2014

May 30, 2014

Dear Valued Investor,

With Memorial Day behind us, school is ending in many parts of the nation and summer vacation destinations are a hot topic of conversation. But we were recently reminded of the significant impact the unusually cold and snowy winter of 2013–14 had on the U.S. economy. The Bureau of Economic Analysis of the U.S. Department of Commerce released revised figures on economic growth for the first quarter of 2014 as measured by gross domestic product (GDP). The GDP data are closely watched, as GDP is the broadest measure of the nation’s economic output. The pace of GDP growth is a critical driver of corporate earnings, which, in turn, are the key driver of stock market performance.

The GDP data revealed the economy contracted at an annualized 1% pace in the first quarter, just the second time since the end of the Great Recession in mid-2009 that the economy contracted. Could the first quarter GDP report be a harbinger of another wrenching recession? We don’t think the weather-related economic weakness is the start of another recession or even a slowdown in growth. We continue to expect that economic growth will rebound and expand 3.0% in all of 2014.* In fact, the return to a more normal weather pattern nationwide has already led to a sharp snapback in economic activity. The U.S. economic data released thus far for April and May 2014 suggest that economic growth will accelerate in the second quarter to well above the economy’s long-term average growth rate after a weather-induced slowdown in growth in the first quarter of 2014.

Importantly, many of the other indicators that can provide an early warning of recession are not signaling a downturn in the economy. The Index of Leading Economic Indicators (LEI)—compiled by the Conference Board—a private sector think tank—is comprised of 10 indicators and designed to predict the future path of the economy, with a lead time of between six and 12 months. The year-over-year increase in the LEI in April 2014 was 5.9%. Since 1960—652 months, or 54 years and four months—the year-over-year increase in the LEI has been at least 5.9% in 211 months. Not surprisingly, the U.S. economy was not in recession in any of those 211 months. Thus, it is highly unlikely that the economy is in a recession today, despite the below zero reading on real GDP in the first quarter of 2014. Looking out 12 months after the LEI was up 5.9% or more, the economy was in recession in just nine of the 211 months, or 4% of the time.

On balance then, we would agree with the LEI indicator that the risk of recession in the next 12 month is negligible at 4%, but not zero. However, a dramatic deterioration of the fiscal and financial situation in Europe, a fiscal or monetary policy mistake in the United States or abroad, or an exogenous event (a major terror attack, natural disaster, etc.), among other events, may cause us to change our view that the odds of a recession in the United States remain low. But for now, based on the LEI, it looks like we are still in the middle of the economic cycle that began in mid-2009.

As we look forward to enjoying the summer sun, we continue to believe the foundation is in place for you to make further progress toward achieving your financial goals in 2014. As always, if you have questions, I encourage you to contact me.

* As noted in the Outlook 2014: The Investor's Almanac, LPL Financial Research expects GDP to accelerate from the 2% pace of recent years to 3% in 2014. Since 2011, government spending subtracted about 0.5% each year from GDP growth. Government spending should be less of a drag on growth which would result in +1% increase for 2014.

Sincerely,

Christopher Gerber, CFA

Phone: (952)230-1340

Fax: (866) 734-4311

Private Wealth Counsel of Minnesota, LLC

8000 78^th Street West

Suite 150

Edina, MN 55439

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Christopher Gerber, LPL Financial, and Private Wealth Counsel of Minnesota, LLC, do not offer tax or legal advice. We recommend that you seek qualified tax and legal counsel before making tax and legal decisions.

Securities offered through LPL Financial, Member FINRA/SIPC

IMPORTANT DISCLOSURES

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance reference is historical and is no guarantee of future.

This research material has been prepared by LPL Financial.

The economic forecasts set forth may not develop as predicted.

Securities offered through LPL Financial. Member FINRA/SIPC.

Tracking # 1-277220 (Exp. 05/15)

Friday, May 9, 2014

The Prudent Man Rule and the Epiphany

I had a recent discussion with a marketing representative from a well-known investment management firm. We were discussing allocation of money to "risky" assets versus "risk free" assets. Risky asset refers to stocks or anything that does not have a creditworthy guarantee. A “Risk Free” asset refers to an asset which in theory carries no risk of default and guarantees the return of principal and interest. However, there is not a practical “risk free” asset and all investments contain risk and may lose value. For our conversation we were kicking around zero coupon bonds as a surrogate. He advocated putting the majority of investor money right now in risky assets. I agreed that there is merit to stocks right now, but with reservations. I explained that there is a context to each client portfolio. That context is life.

Prudent Man Rule

The Prudent Man Rule from an 1830 court case involved Harvard College. It states advisors to money were to “observe how men of prudence, discretion and intelligence manage their own affairs, not in regard to speculation, but in regard to the permanent disposition of their funds, considering the probable income, as well as the probable safety of the capital to be invested."

Further, they are to consider:

The needs of beneficiaries;

The need to preserve the estate;

The amount and regularity of income.

Those of you who know me know that I try to operate more like this than like our federal government that willfully squanders money on hot tips like Solyndra, and dubious billion-dollar projects. They spend money they did not earn. Easy come, easy go for them. You, however, earned yours. Care and prudence means being careful rather than doing something just to be busy with the money in the absence of clear direction. Managing it as I would my own has meaning. This isn't Congress. We have risk.

Last week’s data on how little the Dow Jones Industrial Average really made after inflation over the last 6 years (The Sidewinder) perfectly leads us to what is important about prudence and planning to retire and staying there once you are there. Our last six years can be likened to our version of the stock market between 1929 and 1935 in most ways. If you want to know what could have and still can happen ask your parents or grandparents what it was like growing up in the 1930s. The take-away is that an investor with a risk-on, pile it all in stocks strategy was barely rewarded. Certainly it was not enough to compensate for the risk he took. Life has no guarantees. The low risk investor likely made more than the high risk investor, but the numbers were not massively impressive. We were and are a sick, but improving economy.

The Epiphany

Investment decisions are made in the context of the real, actual, true, factual, correct, accurate, right, exact, spot-on, genuine goals.

Life sets parameters. For someone retiring in the next ten years, or who is already retired, risk presents a problem. If that investor’s personal economy spiraling out of control puts them back at the office when they should be retired, they are boxed in, exactly unlike what they envisioned. Angst, worry, antihypertensive therapy, and another stupid boss are not part of the retirement plan. Let's look at context categorized.

How well you retire is based on five ingredients:

How long you worked
How much you saved
How well you invested
How much you will spend each month
How long you are retired

I will look at the first one today and keep it coming over the next few weeks.

How long you worked: Social Security began in 1935. Life expectancy was 66 1/2 years. Typical retirees worked 45 years and retired 1 1/2 years. The work to retire ratio was 30 years to one year or 30:1. Assuming you work 45 years now, your life expectancy is about 85 years, so you will spend about 20 years in retirement. The work to retire ratio is 1.8:1. YES, that’s less than 2:1! Social Security has made changes to accommodate this. Normal retirement age has increased. Special payout programs have decreased. Even the way that CPI calculates inflation has been used to lower payments. A recent study by John Williams of ShadowStats shows that if inflation was still counted the way it was before 1980, the CPI should be about seven percentage points higher each year than it is now. The average Social Security check would be about double what it is today. So, on average, you are working a lesser portion of your life, and you graduate from work with about half the Social Security buying power. You can work longer to increase your benefit. You can also alter the other four ingredients to help.

Chris

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance references are historical and are no guarantee of future results. All indices are unmanaged and may not be invested into directly. Investing in securities is subject to risk and may involve the risk of loss of principal.

Wednesday, April 30, 2014

The Sidewinder

The Sidewinder

What a confusing time. Thousands of headlines over six, yes SIX years. From Bernie Madoff to a 2013 blockbuster stock year we have had most if not all we could ask for. Throw in a war or two, some pension disasters, a few tax increases, and a government that has indicated by its financial behavior that it is fairly confused and you get, well, us. Whew! I need a breather, but not now. Let’s bring some CLARITY to the picture.

If you have been invested since year end 2007, and you measure the stock market by the Dow Jones Industrial Average (Dow), you are barely above zero after inflation. The Dow has been roughly trading sideways with a huge helping of volatility. This is calculated using the Bureau of Labor Statistics (BLS) own Consumer Price Index (CPI) calculator. It shows a TOTAL gain of 1¾% over the entire period, or 0.232% annualized and compounded.

Volatility has been beyond high. Measuring the intra year high to low is a “peak to trough range”. Here, I use the S&P 500 for some comparison. The yearly ranges are:

2008: 49%, 2009: 51%, 2010: 29%, 2011: 19%, 2012: 23%, 2013: 36%

Average: 35%

Is it any wonder investors were a bit on edge? The volatility hit and just kept coming. Hence the inflows into bonds to offset the volatility increased dramatically. Bonds have price movement, too, to be fair. Volatility is typically much lower, and they pay interest along the way. They have been a nice diversifier in a very uncertain world.

This graph shows the S&P Composite from the Schiller Fact Set. It has been a long, hard grind for stock investors, the WOW factor of last year notwithstanding.

Source: Schiller Fact Set

Taking away 2013 returns actually puts stock investors slightly behind 2007 after adjusting for inflation five years later! Even with this, my opinion is that going forward the positive outweighs the negative.

My Opinion on the Future

In my opinion, the investment markets generally rest on these legs:

Inflation: Fed would like to see some inflation. This would help it believe we have less chance of deflation, a worse plight. Their forward guidance suggests slightly rising interest rates in 2015. Labor earnings have started to increase. Average hourly earnings growth is up 2.5% over 2013 (Bureau of Labor Statistics). Fed likes this. It generally portends inflation and some inflation shows an improving economy. I rate this positive.

Jobs: Joblessness reports are better…kind of. Neither I nor Fed is convinced. Looking harder at the numbers suggests that unemployment (U3) is down, but there are actually fewer hours worked per employee. One estimate from Edward Lazear, (Chairman of the President’s council of Economic Advisors 2006-9) suggests that we are the equivalent of down about 100,000 jobs from last September. U3 will never capture this statistic. I rate this negative.

Earnings: Record US earnings have been had for several quarters (S&P). Compared to 2007 earnings are slightly ahead after inflation. This is good news, especially their consistency. Profit margin is great. Average S&P 500 margin is 21.5% (S&P). Corporate cash remains about 30% of current assets (S&P). This cash should eventually be better used in productive endeavors as management gains more confidence. I rate this positive.

Overseas earnings are more volatile and less predictable than those in the US. Parts of the world, including Europe are emerging from their financial depths. This leads to opportunities. I rate this positive.

Growth: US GDP growth is about 2.6% year over year. This is significantly below typical recovery growth. Its composition shows lower than average consumer spending and business investment. It is, however, positive. That’s a start. 2014 should have less drag. Consumption is increasing. Corporate capacity utilization is up very slightly from last year to 79.2% (Fed). We actually have a budget for the remainder of the year. Congress is overspending its pocketbook, but at least we now know by how much. Household net worth has actually peaked over that of 2007 even after inflation is factored in (BEA, Fed). Debt service as a percent of after tax income has fallen from 13.5% to 10% (BEA, Fed). I rate this positive.

I think slow growth while climbing the wall of worry is the order of the day. There is no question that there are several parts of our economy remaining hobbled. Regulation is stifling growth and rightfully causing management caution in business investing. Our medical delivery system has been largely changed via federal government authority. Overall federal taxes have increased and we expect state taxes will, too. Public pensions have been grossly mismanaged and are a formidable expense. We are definitely not operating on all 8 cylinders. But, we are operating better than much of the remainder of the world. My experience tells me that value is relative, and we are relatively more valuable than our competition around the world, but there is value elsewhere, too.

It is time to talk. It is time to act.

Chris

Securities offered through LPL Financial, member FINRA/SIPC. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly. The opinions expressed in this material do not necessarily reflect the views of LPL Financial

Wednesday, March 5, 2014

“When You Come to the Fork in the Road, Take It!” Yogi Berra

The Scrambler at the MN State Fair

Trying Times, If You Like to Take Risks

I am told there are times that try men’s souls. I think they’re right. I also think that Ben Bernanke and Janet Yellen would heartily agree. I did a manual review of the volatility they and we have endured over the last couple of years. Through simple observation we have had these ten S&P 500 roller coaster rides in 2012-2013 and the average number of days it took them to happen:

The long, hard grinds up and the shorter, abrupt bungee jumps off the cliff make for enough volatility for a lifetime when we add the 2008-2010 circus. Can you imagine being on the Federal Reserve Board during this debacle?

Punching Bag

Fed likely has the finest information flow on the planet about most everything economic. It has scores of brilliant people to sift through all of it. Even with this advantage, its forward guidance has lacked accuracy. I won’t quite say Fed has been bewildered, but you get the idea. It truly has not been easy. We add the extra volatility knowing approximately 75% of all trades on the major market US Markets are by computer algorithms receiving information and making millions of trades in an instant, you have the ingredients for a short term nightmare. The short term, and I mean really short, dominates daily market activity while most individuals are investing for the long term. In the meantime, Fed continually takes the brunt of thousands of second guessers. Tough position. It continues its course, I think, because it knows its role is crucial to US economic survival in the same way we as investors know our roles are crucial to our financial survivals.

Understanding of the investor’s role in the market can be appreciated reading people like John Templeton, Ben Graham, Warren Buffet, and Bill Gross; all of whom have taken their share of punches, but did exceedingly well. They spent their lives trying to make sense of the markets. They each mention a large amount of luck, good or bad that influences everyone’s short term. Last year it was good. This year could be good or bad. Over the long term, however, logic is more likely to be in your favor. They may be able to determine what a stock should be worth, but they cannot tell you when it will be worth it. Future retirees are in the same boat in that they know they want to Be Done, but there is no longer a company run pension to take them there. I think this is especially appropriate to discuss now. We have had some relief from the debacle that essentially derailed finances in this country for the last six years. There may be a price to pay for the way we did it or it may turn out to be a stroke of genius. No one knows. What we know is that the country must review its current circumstances, make decisions, and move forward.

A Design for the Future

I have never heard of anyone willing to base his retirement on someone else’s whim. “If I win the lottery, if I get that inheritance, if I win Dancing with the Stars I will retire.” Leaving it to chance just does not make sense. Instead, you purpose to make thoughtful estimates of what it will take to achieve your goal no matter what the Fed, politicians, or anyone else says or does along the way. This is called design. In the nowadays world of personal pensions, this is really, really important to focus on. It is also important to understand that unlike the pensions of the olden days, if you make a big mistake, no one will be there to write a check to shore it up. A flaw in the design means it just does not work. We do not want that.

The Drill

Over the last thirty plus years of doing this and successfully retiring many, many people I have discovered several truths about successfully Being Done. Over the next few posts, we are going to drill down into what it takes to design and carry out your own pension successfully.

In the meantime, please feel free to contact us at (952)230-1340 to chat about this or any other thoughts or concerns.

Warm Regards,

Chris

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. The economic forecasts set forth in this commentary may not develop as predicted. Stock investing involves risk including loss of principal. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly. The Dow Jones Industrial Average is comprised of 30 stocks that are major factors in their industries and widely held by individuals and institutional investors. The S&P 500 is an unmanaged index which cannot be invested into directly. Unmanaged index returns do not reflect fees, expenses, or sales charges. Index performance is not indicative of the performance of any investment. Past performance is no guarantee of future results.

Securities and advisory services offered through LPL Financial, a Registered Investment Advisor, Member FINRA/SIPC

The LPL Financial registered representatives associated with
this page may only discuss and/or transact business with residents of the following states: MN, TX, IA, WI, VA, NM, CO, AZ.

Thursday, October 10, 2013

Let's Get Real!

In what does America have confidence right now? The stock market? Congress? The Judicial branch? The Executive branch? Corporate profits? The Federal Reserve System ?

Everyone of these has a massive impact on our economic system. For example, recall the stock market sell off in May. Our market was down just under 6% within 48 hours when Chairman Bernanke announced that things were looking up and they provided guidance on when they would begin to close down their asset purchase programs and let interest rates rise. He essentially undid his guidance. Never mind.

Instead, they are more cautious. Their NEW guidance arrived last week indicating they have lowered their growth forecast by about 12% for 2013 and anywhere in a range of 3%-11% in 2014. Providing guidance has consequences. The more important lesson of this is that while there is little question we are in an economic recovery is not without larger than average bumps in the road. All recoveries are characterized as “climbing a wall of worry”. This one, however, is exceptional.

The Fed has helped MAKE the present economy what it is by artificially lowering interest rates. This has helped us ease through our current credit depression. The Fed is feeling its way through it. There are varying opinions among Fed governors on how to proceed. What once seemed to be a collective , unified body now openly discusses future uncertainty. Our country has only been through a couple of these in its history, and they did not turn out well. The Fed really wants this to turn out well. It is using all of the tools at its disposal. They have had success. This one has been far easier, but at a price. The price has been credit uncertainty for our overall system. The Fed offered up its good name in exchange for money it didn't have to purchase government bonds. It likely paid prices higher than would have been paid in the open market. As a result, its balance sheet has now expanded by about $3.5 trillion. This is not a small sum for the Fed. Eventually, they will need to begin selling these assets to recoup their money and pay down their very real debt. Rational market players are apprehensive about to whom these will be sold and at what price. When prices decline, yields go up. Hence, interest rates rise. This can be counterproductive to a recovery. It can impact lives. There is much at stake here.

As a society, we need to act as if we understand this. I fear much of the country does not. Part of the population wants to spend and run up debt like it always has. Part of the country wants to live within a budget that will cause hardship. All of the country wants the problem to go away so it can get on with life.

You and I must make smart choices. We have four primary choices when we invest: stocks, bonds, cash, alternative investments. Next week will go through what makes sense for now and why.

Please feel free to contact us at 952-230-1340.

Chris

Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and bonds are subject to availability and change in price.
Government bonds and Treasury bonds and bills are guaranteed by the US government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value.

The Dow Jones Industrial Average is comprised of 30 stocks that are major factors in their industries and widely held by individuals and institutional investors.

Stock investing involves risk including loss of principal.

Alternative investments may not be suitable for all investors and should be considered as an investment for the risk capital portion of the investor’s portfolio. The strategies employed in the management of alternative investments may accelerate the velocity of potential losses.

Securities and advisory services offered through LPL Financial, a Registered Investment Advisor, Member FINRA/SIPC

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.

The LPL Financial registered representatives associated with
this page may only discuss and/or transact business with residents of the following states: MN, TX, IA, WI, VA, NM, CO, AZ.

Friday, August 30, 2013

Wristwatches and Hurricanes

Against the overall backdrop of an economic recovery, along with a series of unusual conditions

that I described in our last issue of FinancialMuscle.com, I believe these are on the short list of

issues of which to remain aware when building a sound financial strategy. Each has a large

component of government intervention and each is very large. The goal here is not

recommending a strategy. Instead, it is educating on issues that are real and should have weight

in any personal financial strategy.

Japan: Japan has suffered since the 1990s what we are suffering now. They haven’t been able to

cease propping up banks and real estate developers, even now over 20 years later. According to

the International Monetary Fund, from a 2010 estimate for 2012, Japan’s gross government debt

as a percentage of its GDP was 236%. The United States number was 107%. According to one

researcher Japan has been able to keep their economy from tragic contraction because private

citizens funded government debt at low interest rates. This is changing because Japan’s

population is aging. The quote I recall is “last year, they sold more adult than baby diapers.” The

aging population is cashing in bonds for retirement, rather than remaining a net buyer because so

many are in retirement. Now Japan has to go out to the international marketplace to issue new

debt at higher costs. Interest expense will rise. Average government bond yields of 2% or higher

means their interest expense is not covered by tax revenue. They would be forced to respond by

printing even more money while going further into debt.

US Entitlements, and Pensions: Entitlements are obviously out of control and un-affordable.

The only way to come up with the money is to raise tax at the risk of lowering private sector

growth even more. This is not a good option, but it is happening.

US Housing and Commercial Real Estate Markets: It is very obvious that these marketplaces

are being propped up by artificially low interest rates. Our risk is that interest rates increase

making housing and commercial real estate, far less affordable. A hypothetical 3 ½% 30 year

mortgage for $200,000 generates about a $900 monthly payment. Raise the rate to closer to a

long-term average of about 6% and that payment jumps to about $1,200. That’s a 33% increase.

Raising interest rates can have a bad effect on the stock and bond markets also. We saw this in

May of this year when Fed Chairman Bernanke indicated that his organization was on course to

allow interest rates to move up about a year and a half from then. Within a couple of days the

stock market was down by almost 6% (S&P 500 high on June 19, 2013: 1652.45 and low of 1560.33 on June 24, 2013).

Complex systems: What I am going to write here is a bit complex. If your eyes glaze over a bit,

just skip to the emboldened sentence below. Recent research writings by Rubino [2013]

explained that there are complicated mechanisms in finance as well as complex systems. A

complicated mechanism is like a car engine or a wristwatch. It has many moving parts that don’t

talk to each other. They simply move around doing what they’re supposed to do. A complex

system is more like a weather front. It has parts too, but they communicate with each other and

can respond by growing and shrinking. He refers to an “epic feedback loop” that turns a tropical

depression into a category five hurricane. As one component speaks to another within the system

exponential growth can occur. Double the size of one component and perhaps the entire system

grows 50 fold. The component here that can increase leverage many fold is bank balance sheets.

Long and short leveraged asset positions result in what appear to be moderate risk positions.

They actually represent far more risk than appears for a key reason. Consider that in year 2000,

volatile leverage positions approximated $30 trillion. Today they are about $596 trillion.

The way they are structured indicates the system is growing in a nonlinear fashion while the net

risk position appears to be moderate. This is exacerbated by the fact that everyone is everyone

else’s counter-party. Essentially, systematic risk is not priced into the value of these volatile

leverage positions. An International Monetary Fund working paper from 2012 essentially says it

like this: “The network topology where the very high percentage of exposures is concentrated

among a few highly interconnected banks implies that they will stand and fall together.” They go

on to further explain that one of the benefits of such a small, clustered group of banks

maintaining the lion share of [leverage] makes regulation far easier than it was in 2008”.

As always, please feel free to contact me at 952-230-1340. If you have any questions or would

like to discuss what is written here.

Warm regards,

Christopher Gerber, CFA

Stock investing involves risk including loss of principal.

Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and bonds are subject to availability and change in price.

Securities and advisory services offered through LPL Financial, a Registered Investment Advisor, Member FINRA/SIPC

The LPL Financial registered representatives associated with this page may only discuss and/or transact business with residents of the following states: Minnesota, Wisconsin, Texas, Florida, Arizona, New Mexico and Virginia.

Monday, August 12, 2013

Current Portfolio Key Issues

Your Financial Muscle

I read recently an old fighter saying that says, “The punch you don’t see is the one that gets you.”

This FinancialMuscle edition is meant to discuss some key issues that I feel should affect our judgment. It is not meant to give advice. It is only meant to inform and educate.
Over the last year it’s easy to assume that if we put everything in the stock market, we could have made great returns. That, however, is not what investors do. They look forward. They have to make smart choices about their money based on the data that they have at the time. I call this “being in it”. You make your best decisions based on the information you have. Recently, I was able to go to the 150^th anniversary of the Battle of Gettysburg and its reenactment. I remember thinking at the time that the generals running the battle were really “in it”. Soldiers had to eat and sleep, not everyone was compliant, no one knew when the next battle was or what the outcome would be, and sometimes bullets and cannonball were flying everywhere, while men were screaming and horses were wailing. Add to that the fact that you could barely see because the fog created by the gunpowder clouded the skies. It was all out of their control. In 1863, when all they had were messengers on horseback to let them know what was happening miles away, generals still had to make decisions. There were no iPhones or sophisticated communications like we have grown used to. There were no satellite pictures showing troop movements. They made their best efforts appraisal given the information at hand. It’s noteworthy how that hasn’t changed. With sophisticated communications and mountains of historical data, you still can’t predict the future. We are still in the business of making decisions with much at stake when it comes to your money.

What We Know

So, what information do we have at hand? The numbers indicate that we are in a recovery. The recovery is barely. Here’s how we know this:

· Gross domestic product is inching up net of inflation (the little under 2% annual rate),

· Light vehicle sales have been inching up, albeit in fits and starts for several months,

· Housing starts have broadly inched up, although they are nowhere near the long-term average,

· Inventories have been inching up and are roughly equivalent to their long-term average,

· Capital goods orders have been broadly inching up since 2012 and are above their long-term average,

· Household debt as a percentage of disposable income has dropped pretty consistently since 2007 while household net worth has been inching up through the second quarter of 2013.

All of these indicate that things are generally on the mend, albeit at a very, very slow rate. These are generally indicators of the business cycle, but the credit cycle is a different story.

Yes, we have a credit cycle, too. Interest rates go up and credit becomes more expensive, interest rates go down and borrowing becomes cheaper. That’s a credit cycle. Credit has been easy for several years and pretty much all of the bullets have been shot from the Federal Reserve gun. Yet, the economy can barely get off the runway. We have a mismatch between the normal credit cycle and the normal business cycle. Usually they move in unison. As business heats up interest rates go up to slow business down, and as business decreases interest rates go down to speed it up. That is not exactly what’s happening now and that creates uncertainty.

More of What We Know

Asset Prices: Having important issues is nothing new. These are different, though. They are big:

1) Increasing government regulation over private industry which has in some cases come close to paralyzing free market business operations.
2) Moving private debt to the public balance sheet through treasury, fed, and fiscal operations.

The casualty of these behaviors is lowered asset prices. Starting in 2008 prices of assets corrected. They had been propped up by government and private easy money programs. Think: low-doc and no-doc mortgages at low interest rates. We found out the hard way that cash flow does not lie. When people could no longer pay their mortgages on time investors dumped the underlying securities and lowered asset values…as they should have…to be in line with the real abilities of debtors to pay back. Housing prices, business prices, most asset valuations in society crashed. The recovery has gone slowly since.

Since 2008 free and easy cash from the Fed has eased the pain. Unfortunately, easing the pain is essentially a valuation lie. The full measure of pain eventually happens no matter what. Investors ultimately vote based on real value as opposed to fictitious value. All easing does is prolong pain while increasing debt, hence making more pain along the way. Since government creates little value, the money it uses to ease pain is of lesser and lesser value because it is backed up by decreasing ability to pay. The hope from the Fed is while easing the pain the economy can gain momentum and pick up where the Fed leaves off. It could work. It has worked in the past, but not on this scale. This is new scale. The jury is out.

Looking Forward

Operating intelligently means evaluating where our system is against where each of us are personally. For those who have plenty of financial cushion in their lives taking large scale stock market risk could pay off. For those for whom a mistake is more meaningful, remaining conservative can be a very smart option. Even if the market goes up another 20% or even 30%, the risk of loss - which is just as large - can be devastating. This plays out in a retiree’s life in a way that is generally undesirable. Perhaps he has to lower his lifestyle or go back to work. Most people do not like being forced to be in this position. This is where having a realistic, workable strategy pays off. Living well can result from designing a strategy that realistically considers goals, resources, and risk.

Please feel free to contact me if you have any questions or would like to talk at 952-230-1340.

Warm Regards,

Christopher Gerber, CFA

Stock investing involves risk including loss of principal.

Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and bonds are subject to availability and change in price.

Securities and advisory services offered through LPL Financial, a Registered Investment Advisor, Member FINRA/SIPC