December 13, 2012
By Steve Blumenthal
As I dive through a broad range of independent research each week, following are several bullet points I found important:
- Ray Dalio on CNBC
- Gary Shilling on the Fed’s recent move – “Playing with Fire”
- Ten Year Forward Expected 60/40 Return – link to charts
- Trade Signals – link to Wednesday’s Investor Sentiment Charts
Ray Dalio on CNBC – Biggest Opportunity Will Be Shorting the Bond Market
From the interview, “Rising interest rates in 2013 will likely push down prices in almost every financial asset in the world according to Ray Dalio, the founder and chief investment officer of the world’s largest hedge fund, Bridgewater Associates.
Low interest rates made necessary by global deleveraging have squeezed risk premiums out of nearly every asset class, Dalio said. As a result, most financial assets are “fully priced” and many are overvalued, according to Dalio.
I think those risk premiums are likely to expand and as a result, I think that is generally a negative for asset classes as a whole. The biggest opportunity, and I don’t think it’s an imminent opportunity, will be shorting the bond market.”
Here is the link to the balance of the article: http://www.cnbc.com/id/100307150
Just how much risk/opportunity? The next chart shows what happens when rates risk 1%, 2% 3% and more.
Here is a link to The Blumenthal Viewpoint from November 30, 2012 where I shared my views on 2013 (expected returns, investment ideas and portfolio construction).
I was in NYC on Tuesday and spoke to 260 advisors at the Inside ETFs Trading Conference sponsored by Index Universe. I highlighted the above interest rate chart noting the single biggest risk I see ahead is the bond allocation within a client’s portfolio. The problem is that most investors do not believe they can lose money in their bond investments. Mutual Fund flows show the majority of money flowing into bond funds. Data showed the majority of money flowing into tech stocks in the late 1990s and housing in 2005/06.
Shilling says Fed is “Playing with Fire”
On the other side of this argument is Gary Shilling, who believes we are in the age of deleveraging and deflation. Gary talks with Tom Keen from Bloomberg about the extraordinary moves by the Fed to buy $85 billion per month of both mortgage backed bonds and Treasury bonds until unemployment reaches 6.5%. Gary likens the Fed’s experimentation to the New Deal in the 1930s. The Fed has “no clue as to where it is going to end up”. When asked should we be in the stock market, Gary answers “no”.
Here is the direct link to the audio recording: http://media.bloomberg.com/bb/avfile/News/Surveillance/vJ0eKLAKVUc4.mp3
Search Bloomberg radio podcasts for Gary Shilling if you are having trouble finding the link.
To me, whether it is inflation or deflation neither is good for traditional asset classes. I believe we are moving to a future period of rising inflation – just not quite yet. With a current 10-year Treasury yield of just 1.60%, is the potential reward worth the significant risk?
Ten Year Forward Expected 60/40 Return – 4.26% (lowest in 14 decades)
Low dividend yields and low bond yields equal low 60/40 forward ten year expected returns. You are probably familiar with the next chart by now; however, I offer it today for new readers as I feel it is one of the more important pieces of research that might prove helpful in helping to shape client expectations and the need for more diverse construction. They are likely 60/40 in their Vanguard account.
Click here for the link to my recent presentation at the Inside ETFs Trading Conference sponsored by Index Universe – see the Expected Return Charts on pages 2 and 3.
Trade Signals – here is the link to Wednesday’s investor sentiment charts and short commentary on the current “Risk On” trade.
With warm regards,
Steve
Stephen B. Blumenthal
Founder & CEO
CMG Capital Management Group, Inc.
steve@cmgwealth.com
610-989-9090 Phone
PS: When I look at the world, I try my best to view it from a probability perspective. I read endlessly and have access to some outstanding hedge fund and independent investment research. Fortunately, if you dig deep enough, you have access to a great deal of information on the internet. This certainly wasn’t the way it was in 1984 when I started in the business.
I believe we are in a challenging low return environment and that most individual investors hold higher return expectations; those expectations will not be met and investors will seek a better solution. I see an unprecedented opportunity for you to grow your advisory business.
With this piece I try to share some information that I have found to be important. To me the evidence is clear, but I most certainly could be wrong.
Whether I am correct or incorrect in my thinking, my overriding belief is that you can create and manage successful portfolios for the period ahead. This environment requires more work (mixing a diverse set of risk drivers and more active beta hedging) than exists in a secular bull market cycle, but also offers you the ability to separate yourself from the 98+% of your competition that is heavily weighted in the old 60/40 stock/bond construction model.
The good news is that the investment opportunity has been greatly expanded and solutions exist. While risk is an inescapable companion in the investment process, I believe it can be quantified and minimized by expanding the asset classes you include in your portfolios.
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