This blog is written weekly by Dock David Treece, a registered investment advisor with Treece Investment Advisory Corp. It is meant to share insight of investment professionals, including Dock David and his father, Dock, and brother, Ben, with the public at large. The hope is that the knowledge shared will help individuals to better navigate the investment world.

Wednesday, July 28, 2010

Gold Loses Luster as Earnings Ignite

Lately gold has taken a tumble as the broader market and the economy begin to show faint signs of life. Hopefully some investors were able to sidestep this move; they were certainly warned. Readers look no further than last week, when we wrote that gold’s price was inflated and would likely correct.

We wrote then that a growing number investors were unaware of the dynamics of investing in gold, and that they needed to be sure they committed enough time to understanding the way commodities work. Another warning we issued over a year ago (Buying is Golden) was recently picked up in Businessweek’s cover story “Amber Waves of Pain” (Robison, Loder and Bjerga), namely the pitfalls of ETFs, particularly those utilizing leverage or focused on commodities.

The problem with ETFs is that very few investors or their advisors know exactly what they are, much less how they work. The Businessweek article hit the nail on the head when they said the reason for creating such ETFs was to open commodities, which have generally been restricted to futures traders, to a much larger sales force, as funds were made available through any broker who trades in stocks.

Businessweek also revealed that through ETFs, “Wall Street banks are transferring wealth from their clients to their trading desks.” Moreover, traders with expertise in the futures market have gone on record as saying that these products have allowed them to “make a living off the dumb money,” namely investors (Emil van Essen, Amber Waves of Pain).

The lesson here is that ETFs and other complex investment products, including derivatives of all types, should raise red flags for investors. If these products are being suggested as investment opportunities, investors need to make sure that their advisors know what it is they are pushing, and how these products react to changing market conditions.

In addition to the recent Businessweek article, the market has been inundated lately with articles hinting at improvement in the US economy, though largely without additional employment. While the economy has been slowing regaining its footing for months, we have lately seen numerous instances of increases in corporate spending that lead us to believe that the economy will continue to improve.

However, we still feel that this recovery will be mostly jobless, at least for awhile, due in part to the extension of unemployment benefits by the powers that be in Washington. While the economy should continue to recover – barring any unforeseen shocks to the market – employment won’t like begin to recover substantially until into 2011.

With election season approaching, it seems highly likely at this point that, come November, the Democrats will at least lose the House of Representatives, if not both houses of Congress. Political gridlock will likely result, as all spending bills must originate in the House. This administration’s ability to spend will be ground to a halt, and we won’t likely see any significant legislation from Capitol Hill for the remainder of Obama’s term.

However, we see this as a positive for the economy and financial markets. If the last several years have taught us anything, it’s that business hates uncertainty. In the event of gridlock in Washington, businesses will be able to rest easy that no major surprises will negatively impact their bottom lines.

Our hope is that the removal of regulatory roadblocks from the private sector will create sufficient incentive for companies to continue spending and expanding, which should bring this economy roaring back to life.

Wednesday, July 21, 2010

Glenn Beck-onomics and Rusty Gold

Recently I read Ayn Rand’s famous novel Atlas Shrugged, which got me thinking about the source of value in currency, among other things. The other day I came across an interesting article from Steve Saville (Economists don’t understand money), which got me thinking further about this issue. Theirs were the words that led my thinking for this week’s article.

Money, in modern society, is globally accepted as a medium of exchange. This fact that it is so commonly accepted in commerce breeds within its users a desire to possess ever-increasing quantities. However, few people remember that this medium of exchange, in and of itself, has absolutely no intrinsic value. Its value in exchange is based around the fact that people want it and is determined by its users.

Currency the world over has absolutely no practical value in society. It doesn’t satisfy a single basic human need, meaning that one can’t eat it, drink it, sleep on it, or use it for shelter. Even in our complex economy, it has no real functional use in manufacturing or production.

The single, solitary use for money is as a store of wealth, which can be used whenever the owner wishes to exchange it for something he considers more valuable, namely a good or service.

How funny it is then that this precise argument, so commonly employed by fear mongers, inflation hawks, and political pundits like Glenn Beck, can also be applied to the object of their affection: Gold.

For decades conspiracy theorists and dooms-day subscribers have been peddling gold as an economic panacea. They continually point to poor monetary policy and economic depravity as reasons to store accumulated wealth in “more tangible assets.”

Odd indeed that their choice of assets for storing wealth is among the world’s oldest currencies, and also one of the first to ever suffer from their most disparaged ailment: debasement.

For evidence of fraud in precious metals, look no further than the recent story of rust appearing on .999 gold coins issued by the Central Russian Bank, according to reports from the International Reserve Payment System (presented on ZeroHedge.com). [For those readers who aren’t metallurgists, gold does not rust. Hence, rust appearing on gold coins issued by a central bank indicates obvious fraud, as the coins clearly are not minted of gold.]

For those still unconvinced of the perils of owning or trading in gold bullion – the oldest useless currency in the world – consider the recent ABC News article Gold Coin Sellers Angered by New Tax Law (Rich Blake). According to the article, the trading of gold coins will soon be coming under increased government scrutiny thanks to a little-known provision in Obama’s new healthcare bill.

Thanks to Obamacare, at the start of 2012 Americans will be required to submit to the IRS 1099’s for all purchases in excess of $600, including both goods and services. This means that there will be (or should be) a Form 1099 produced and submitted to the federal government every time a single ounce of gold trades hands after January 1, 2012 (assuming gold stays over $600/oz).

Gold is undoubtedly a good investment solution for some investors and special situations. However, given the metal’s limited functionality or practicality in modern society, its current price seems to be likely inflated. A good deal of investors would be wise to ignore the hype surrounding gold, and spend some time researching the dynamics of such its specialized market to better understand the risks involved.

Wednesday, July 14, 2010

Following the Romans

If the last couple weeks are any judge, it doesn’t look like the stock market is going to crash – at least not yet. Unfortunately, this has hardly stopped the dooms-dayers from predicting a return to the Stone Age. Some of the theories coming out sound an awful lot like Jimmy Carter, just much worse.

In their analyses, many economists (and conspiracy theorists) observe similarities between current economic circumstances facing developed nations like our own with many ancient civilizations. Skeptics specifically point to the fall of great powers, and then relate historical facts that contributed to their demise with the modern world.

The most often example cited is the Roman Empire. Many pundits observe the Roman systems of economics, government, and monetary policy. Historians will note that one factor (of many) that pushed the Roman Empire toward its end was their use of fiat currency. (Fiat currency is money that is not backed by metal value).

The Roman’s, for much of their history, used currency (coinage) that was based on the value of its composition metals. Unfortunately, one problem that became totally pervasive in the Roman economy was the debasing of its currency.

In fact, this is the origin of the word debasement, which occurred when individuals (with or without government sanction) altered the composition of coins so they were not worth their intended value. Many coins were shaved, formed by coating less valuable minerals with more precious metals. This is, in part, why the United States’ founding fathers made debasement a crime punishable by death.

Many of these historians use the history of Rome as a siren’s song for investors to be wary of our current system of economics, and any investments that rely on that system. They instead opt for alternative (read: Armageddon) investments like gold, silver, brass, lead, and gunpowder.

One fact often overlooked by such theorists is the substantial difference in timelines.

There’s an old quote that I like which is commonly misunderstood, usually because half of it is missing: “Rome wasn’t built in a day…” It’s one we all know, a plea for patience and hard work.

The whole phrase, which far fewer people know is this: “Rome wasn’t built in a day, nor was its money destroyed overnight.” The real lesson from this phrase is that while this once-great empire took tremendous periods of time to grow and develop, it did not decline in the blink of an eye. Its fall, though painful and at times arduous and even violent, was a long-time coming.

Many people conveniently forget that the United States, despite our rapid ascent as a major world power, and our incredible sphere of influence in global policy and economics, is still a young nation. Rome, our prehistoric cousin, according to many modern sages, lasted for millennia, albeit in several forms (first a monarchy, then a republic, an empire, and finally an empire divided).

It has been just over two centuries since the birth of these United States and in the time has grown and prospered, taking its place among the world’s greatest nations. However, the history of many great powers, Rome among them, is often broken down into eras, most of which last many centuries, longer than the entire history of our country.

While this certainly does not make the United States infallible by any means, hopefully it serves to put current circumstances in perspective.

The bottom line here is that ever since the beginning of time there has been someone standing on the corner with a sign saying the end is near. In fact, since 1980 it’s pretty consistently been Robert Prechter, but thankfully he at least takes the time to shave.

So, for this week, it looks like the markets are going to survive. Certainly these are the times that try men’s souls; but then again, all times try men’s souls. There are always problems facing the world, they simply change nature and shape.

This week BP has [supposedly] made big strides in re-capping the oil leak in the Gulf. Companies are beginning to spend money without burdening themselves with unnecessary debt. The velocity of money is picking up in the US. Maybe – hopefully – things are starting to pick up again. If this is so, the markets will certainly follow suit in due time.

Wednesday, July 7, 2010

Buying With Both Hands

The last several weeks have seen the markets put an unholy fear back in investors. Regardless of geography or asset class, there has been a growing sense of fear and foreboding that have caused many sleepless nights and left those less-resolute individuals feeling not unlike deer caught in headlights.

Getting directly to the point, investors need to realize – quickly – that the market is cheap. Despite the uneasiness surrounding matters of business, economics, finance, and politics, there is simply no denying the fundamentals.

The situation is this: as a result of the credit crisis and ensuing recession, the market tumbled to ten-year lows. However, a good portion of this fall was unwarranted; the market’s fall was simply exaggerated by fear – not facts.

After bottoming, stocks (as evidenced by the Dow Jones Industrial Average) rallied approximately 70%. Once again, this move was due in large part to emotion, this time at the other end of the spectrum. Rather than unnecessary fear, there was an irrational amount of excitement in the markets.

Investors, between March 2009 and April 2010, became complacent and over-confident that the worst had passed. Most of them never stopped to study market fundamentals like corporate earnings, which would have indicated to them that the market’s rally was overdone.

Since putting in a top in April, stocks have now fallen about 15% off their highs. As they have done so, the degree of panic in the market has continued to increase. Many market participants have begun booking their profits and taking money off the table. Pundits have begun preaching for the end of days, and many [formerly optimists] have begun second-guessing their previous predilections.

The single theme running rampant throughout this entire saga is emotion – the one thing that should be perpetually left out of the equation.

One of the golden lessons on Wall Street is not to get attached to a position. In the 1987 movie with same name, Gordon Gekko (Michael Douglas) famously remarked “…don’t get emotional about stocks, it clouds your judgment.”

The one problem with this insightful lesson is the lack of circumstances in which it is applied. While most apply the phrase only the investors who seem overly bullish, few consider the opposing attitude. Just as it is unwise for investors to marry a stock, it is also poor practice to adhere to baseless pessimism.

When dealing with the markets, it is necessary to be completely objective – that is to say: heartless.

Investors’ relationship with the market is simple. It has nothing to do with feelings, and everything to do with profit. Over the years many in our industry (and big business in general) have tried – quite successfully – to paint a touchy-feely veneer over a very ugly, cold-hearted business.

Business, from manufacturing to finance and the world’s markets of exchange – and advisors – exist with one sole purpose in mind: to make money. Without that aim, the singular purpose that drives capitalism day-in and day-out, the financial markets would be completely unnecessary (and I would be out of a job).

This nasty facet of business is often ignored and seldom addressed, though commonly understood by every free-market capitalist. It’s a good lesson to remember in times like these, where emotions are much more abundant than facts. Doing so encourages investors – and businesspeople in general – to re-center themselves, re-evaluate their goals, and renew their objective approach that has driven profits for centuries.