Smart401k Blog

In the headlines

A look at some of the market movers over the past week:

• GE (NYSE: GE) unit NBC Universal, along with Blackstone (NYSE: BX) and Bain Capital, agreed to buy The Weather Channel
• InBev NV (Brussels:INTB.BR) raised its offer for Anheuser-Busch Cos Inc (NYSE:BUD) to $70/share from $65/share and finally lured the U.S. brewer into talks over a friendly deal
• As Merrill Lynch (NYSE: MER) continues to struggle, asset sales loom large
• UBS (NYSE: UBS), one of the most battered financial firms in the credit crisis, said it expects its second quarter results to be right around break even
• Though Alcoa’s (NYSE: AA) earnings declined year over year, investors were encouraged by rising aluminum prices
• Though oil prices dropped a bit at the beginning of the week, events around the world pushed them back up in the back half
• Bank of America’s (NYSE: BAC) CEO Ken Lewis said that the bank will not cut its dividend or look to raise more capital
• Dow Chemical (NYSE: DOW) agreed to buy Rohm and Haas (NYSE: ROH) for $15 billion with the help of Berkshire Hathaway’s (NYSE: BRK-A) Warren Buffett and the Kuwaiti Government
• Wachovia (NYSE: WB) hired US Treasury Undersecretary Robert Steel as its new CEO
• Wal-Mart (NYSE: WMT) continues to perform well in the tough retail environment
• Pending home sales continued their decline

Commentary

Somebody get this market a sobriety test. In the first full week of the second quarter, markets continued falling back into the volatile ways of earlier in the year. Stocks have been running up one day to just plunge the next.

As the newsreel above shows, there’s plenty going on right now, but it’s a very small portion of it that actually matters to investors right now. So what does matter? First and foremost there’s the looming recession. Right now many aspects of the economy have the look and feel of hard times, but growth — though slow — has yet to dip into the red. Many investors, both institutional and individual, appear to be in a holding pattern waiting for sure signs of whether the economy will continue its dip or it’ll avoid a true contraction.

Playing Clyde to the recession’s Bonnie is the unbelievably stubborn and high oil price. As discontent grows, there is a split between those that believe oil prices are being driven by supply and demand and those that think speculators are pushing up prices. Given the size of the global market for oil, good data is difficult to come by and as a result, those on both sides of the argument continue to collect evidence that seemingly validates their stance.

What is for sure, though, is that high oil prices are taking their toll on consumers and businesses alike. Earlier in the week, a collection of airlines — in a bit of a hail mary move — sent an email to their frequent fliers urging them to push Congress to tighten regulation on oil market speculation.

Looking ahead

Inflation will likely big a big flavor of the week next week as we’ll get numbers on the producer price index (PPI) and consumer price index (CPI) as well as minutes from the most recent Federal Reserve meeting. The Fed appears to be in an increasingly tough position with inflation creeping up while the economy is not showing clear signs of a recovery, so investors will likely read as much as they can into the Fed minutes.

Earnings season turns it up a notch next week and we’ll get reports from the likes of Johnson & Johnson (NYSE: JNJ), eBay (Nasdaq: EBAY), and Google (Nasdaq: GOOG). However, these giants could be drowned out to some extent as the market tries to look to US Bancorp (NYSE: USB), Wells Fargo (NYSE: WFC), and Merrill Lynch (NYSE: MER) for some signs that there is some light at the end of the financial services tunnel.

If you’re a regular reader of this blog, at this point you should be able to write this section of our weekly update yourself. We believe that the problems facing the US and global economies — though potentially serious — won’t impair long term growth or the attractiveness of being invested in equity shares over longer periods of time. In fact, it’s highly likely that those investing at today’s prices will see outsized returns over the next three to five year period. So, as always, stick to your investing plan and don’t let the day-to-day fluctuations of the market scare you out when you should be adding more.

This week I thought would take the time to talk about one of my favorite funds, the Kinetics Paradigm fund. In the interest of full disclosure, I do personally own shares of the Kinetics Paradigm fund. Kinetics Paradigm seeks to provide long-term growth by investing primarily in large and medium domestic and foreign stocks. The fund invests in companies that the manager believes are trading below their intrinsic value and that have high returns on equity. In addition, the fund also targets companies that will reduce costs, increase the reach of their distribution network, or experience significant growth in their assets or revenues. The fund has the ability to use options in the portfolio for direct investment and/or hedging purposes.

The Kinetics Paradigm fund is managed by Peter Doyle who is based in Sleepy Hollow, New York. Doyle has moved the fund heavily into financials over the past few months with financials now making up 51% of the portfolio. This could be seen as cause for alarm but when you look at the financial holdings that are in the portfolio you will see companies in segments of the market that have not been hit as hard by the recent market meltdown. Kinetics Paradigm’s biggest financial holdings are asset management companies such Bank of New York Mellon and State Street and financial exchanges such as the NASDAQ and the Chicago Mercantile Exchange.

The Kinetics Investment Team is very optimistic regarding the current investment environment. Their recent letter to shareholders proclaimed, “Investors are fleeing volatility even though the prospects for long-term returns are enormous. From our perspective, opportunities to purchase and own businesses with excellent long-term returns abound, and we are optimistic regarding the near-term opportunities available to us.” They believe that as investors start to look towards 2009, the companies that have been beaten down illogically will rebound in dramatic fashion. As investors, we should make sure that our accounts are properly allocated to take advantage of this market upswing.

How does the fund perform, you ask?  Through 6/30/2008 it is down 18.7% year-to-date, but has a three year annualized return of 10.8%; and it has returned a whopping 16.7% a year for the last five years.

This article is not a recommendation for the Kinetics Paradigm fund, but rather a quick look at one of my personal favorites. Please contact us with any questions regarding the Kinetics Paradigm fund or any other fund that you may be consider buying. Please be sure that any fund that you purchase meets your individual needs or circumstances.

Buck Wendel, Investment Advisor

• All information was pulled from http://www.kineticsfunds.com/

In the headlines

A look at some of the market movers over the past week:

• UBS (NYSE: UBS) continues to struggle, but executives are saying the most recent quarter wasn’t as bad as the past few
• Now that MicroHoo is in the past, we can continue to follow the takeover drama of InBev and Anheuser-Busch (NYSE: BUD)
• CIT (NYSE: CIT) announced the sale of its home lending business
• The Chicago Purchasing Manager’s Index (PMI) was ahead of expectations, but show contraction
• UnitedHealth (NYSE: UNH) lowered its 2008 outlook and announced that it will be cutting 4,000 jobs
• Deutsche Bank (NYSE: DB) told the street that it will show a profit in its most recent quarter
• Starbucks (Nasdaq: SBUX) announced that it will be closing 600 stores in the US
• There will be no CircuitBuster after all: Blockbuster (NYSE: BBI) officially withdrew its buyout offer for Circuit City (NYSE: CC)
• The report from the Institute of Supply Management (ISM) showed expansion in the manufacturing sector
• The job cuts continue at the airlines with American Airlines (NYSE: AMR) expected to announce layoffs of up to 7,000 workers
• NVIDIA (Nasdaq: NVDA) shares plunged when the company cut its second quarter sales outlook

Commentary

In a shortened week on Wall Street carry-over bearishness from the prior week helped to bring the markets down slightly  for the week. Three out of the four trading days ended with the S&P index up, but a big slide on Wednesday was too much to overcome and the index finished 1.2% lower for the week.

As has been the case recently, economic reports came in mixed. Half or so came in with the downtrodden results that one would expect from a struggling economy, while the other half came in above expectations, and in some cases showed economic expansion.

Meanwhile, the banking sector, housing, and energy prices continue to be a ten ton weight on the stock market. Though some of the worst hit investment banks have been telling Wall Street that they will be announcing second quarter profits, there is still a steady stream of bad news coming out of that sector. Oil prices, which have yet to show any weakness, are likewise keeping investors pessimistic about the near future.

Looking ahead

Now that the Fourth of July holiday is behind us and the second quarter has officially ended, Wall Street will now be firmly focused on the second half of the year and whether the beginnings of a recovery will begin to show themselves. Of primary importance will be the upcoming back-to-school and Christmas selling seasons, both of which will give a strong read on how weighed down the US consumer really is.

Looking into the next week, economic reporting will be somewhat lighter. Pending home sales at the beginning of the week could grab some headlines, and then a consumer sentiment reading could sound a pessimistic note to end the week. As has been the case recently, the weekly reports of initial jobless claims and oil inventories could also move the markets one way or the other.

Though earnings reports will be on the lighter side in the coming week, Alcoa (NYSE: AA) does kick off the second quarter earnings season on Tuesday. Later in the week there are also likely to be a lot of eyes on the earnings report from General Electric (NYSE: GE). What to be on the lookout for in the coming week, though, are the unexpected guidance cuts or pessimistic Wall Street research reports that have done so much to move the markets in recent weeks.

If you have five years or more before you expect to need any of your retirement savings, and you had trouble enjoying the Fourth of July fireworks because you were too concerned about the stock market, then chances are you are following the day to day movements of the market too closely. When it comes to saving for retirement, the goal is long term capital appreciation. For that reason, it is important that we do not let fluctuations of six month or one year periods alter our investing habits — instead, we should be focusing on how our money is growing over longer five or ten year spans.

Now is the absolute worst time to allow the pessimism of the market and the media to dictate changes to your retirement savings plan. Though investing against the tide may feel more difficult than investing with it, it’s the investments made against the tide that will make the greatest positive impact on your portfolio down the road.

Well, its finally here - a Bear Market.

As many of you know, two popular measures of U.S. stock market performance are the Dow Jones Industrial Average, and the NASDAQ Composite Index.  Wednesday, the Dow Jones Industrial Average closed at 11215.51, down 20.8% from its record close hit last October. A fall of 20% from the last market high is traditionally considered the definition of a Bear Market. The technology-focused Nasdaq Composite Index skidded 2.3% to end at 2251.46, also entering Bear territory.

From a historical perspective, no two Bear Markets have been alike.  But we can get some ideas of what to expect in the coming months by looking at the averages and extremes of market performance in the more recent Bear Markets.

First, a definition:  A Bear Market starts when stocks begin what turns out to be a 20% decline from its previous high point. It’s end is the bottom — seen only in retrospect after stocks have recovered by 20%.  So, the timer starts today, and we won’t know the end until we surpass the market highs hit last October. Now let’s look at some statistics for Bear Markets since 1960 (sources The Wall Street Journal/Ned Davis Research):

Number of Bear Markets since 1960:  9

Average length of time: 14 months

Shortest Bear Market Time Period: only a few months

Longest Bear Market Time Period:  A little more than 2 years

Average market decline: 31%

Smallest decline: 21% (remember it has to be at least 20%)

Largest decline: 45% (during the 1970s oil crisis)

With this wide variety of declines and timeframes, we want to point out three investing tips and reminders that our long-time readers have seen before:

1.  Don’t think about trying to time the market, or think you know when the market bottom will occur.  We don’t try to time the market and don’t know of anyone who consistently can.

And please don’t just move everything into money market funds because you are nervous about losing more.  Remember - what’s important is where your balance is when you are retired, not when you are building up your savings.   If the drops in your investments are causing you to lose sleep at night, consider changing the level of risk in your investments.  Smart401k clients can get recommendations for reduced risk portfolios by signing into their account and retaking the Risk Tolerance Questionnaire.

2.  Make sure you realign (rebalance) your investments to your target allocation percentages.  This is a very uneven market - growth funds are outperforming value funds, domestic funds have been outperforming international funds.  Emerging Markets funds have experienced wild swings (the average China stock is down 48% this year, while South American company stocks are up slightly).  Chances are some of your investments have moved up or down significantly more than others.  If you don’t rebalance to your target percentages, its likely that your overall investment risk has changed.

3.  Don’t stop putting money into your account.  Someone once said that stocks and mutual funds are the only things that people don’t like to buy “on-sale”.  If you have a reasonable time horizon, history shows that the markets and most likely your investments will rise over time (but, past performance is no guarantee of future results).

One way to look at the current situation:  the markets would decline by about 10% more to hit the average decline of a Bear Market.  If we assume that someday the markets will recover, as they always have in the past, the recovery will be at least 20% - actually 30% from the average market low.  By the averages, the upside is greater than the downside.  The always agonizing question is ‘when will all this occur?”  Based on history, the answer is, we won’t know until it’s already happened.

One last statistic:  Number of Bear Markets where a recovery never occurred:  zero.

Scott Revare

CEO, Smart401k

Today we updated our Smart401k allocation recommendations to reflect how we believe our clients should currently invest in their 401(k).  (Note to current clients:  you view your updates by signing into your account at  https://www.smart401k.com/Login.aspx)

I’m telling you this because one of the most frequently asked questions we get at Smart401k is regarding how often we update client recommendations.  The answer is that we make an allocation update whenever we think market conditions warrant a change from our current recommendations, but at least on a quarterly basis. 

An allocation update is a change to the relative percentage holdings of the investments we recommend.  Our changes are based on intermediate-term economic trends (not short-term market ups and downs) and our perception of imbalances in different market segments (i.e. asset classes).  We also review fund recommendations and make changes when necessary during our regular plan fund reviews.

If you’ve been waiting for a good time to try our Smart401k service, now might be it. 

To learn more or sign up, please go to http://www.smart401k.com/Individual.aspx.  Anyone that is a client by July 7^th will receive our client-only newsletter that includes our 2^nd quarter recap and current market commentary, including an update from Adam Bold, our Chief Investment Officer.

Note that Smart401k serves clients with investments in any employer sponsored retirement plan, including 401(k), 403(b), 457 deferred compensation plans, and the Federal Government Thrift Savings Plan.

Scott Revare

CEO, Smart401k