Charter Trust - Global Market Update

How long can gas prices stay so low? Photo: Gas price from 1939. Source: Pinterest Gas prices have fallen dramatically. And they feel really, really low because they seem to have fallen without a major catalyst. We’re so used to feeling helpless in the face of higher prices that we don’t know what to do with the good news. And so we speculate that the lower prices will just be temporary, as they were in 2009, or that weather, war, or some other disaster will push them back up. In fact, apart from the 2009 financial crisis, we’ve only seen this kind of fall in gas prices once in the past 40 years, and that time it wasn’t so sudden. From 1982 to 1986 real gas prices slid by over 50%, collapsing in 1986. They stayed between $1.50 and $2.00 per gallon, in real terms, for the next 17 years, until 2003. This mirrored the period of high prices the economy experienced from approximately 1970 to 1981. Source: Energy Information Administration Back in 2005 many estimated that the marginal price of crude oil production was about $75 / barrel, implying $2.00 gas (at that time). But prices overshot that target—due to war and weather—and we crude settle above $100 and gas above $3.00. That period of overpricing led to overinvestment and excess capacity. It was said that the surest path to a six-figure income was an degree in petroleum engineering from the South Dakota School of Mines. As in the 1980s, the chickens of overinvestment are coming home to roost. Lower prices in the presence of a stronger economy mean capacity needs to be worked off. We had above-equilibrium prices for about 8 years. It would be no surprise to see below-equilibrium prices for about the same period.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

Exceeds expectations. Photo: Frankfurt Skyline; Source: Wiki Commons/Thomas Wolf That’s what I thought when I read about the European Central Bank’s program to expand the Eurozone’s money supply by buying government bonds, commonly known as quantitative easing (QE). A week ago, rumors were circulating that they would buy about €700 billion worth of bonds. But yesterday Mario Draghi announced that the program would be more than €1.1 trillion. Markets around the world rallied on the news. The key to the program’s success is its open-ended nature. If inflation doesn’t pick up, the bank will just keep buying more bonds. This is important: if deflationary expectations set in, consumers and businesses have a tendency to hoard their cash, instead of investing it, retarding growth. By expanding the money supply, the ECB expects to raise inflation by about half a percent. So Draghi finally initiated QE, amid a raft of fine print that assures investors that most purchases will be done by the national central banks, and will be limited to less than a third of each country’s debt issuance. QE has worked to stimulate growth in the US; it worked in England, it’s working in Japan. It’s time for the ECB to expand its balance sheet, instead of letting it shrink. Source: Wall Street Journal By announcing an open-ended trillion-euro-plus program, Draghi heeded one of the most basic rules for market success: over-deliver.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

Is investing like gambling? Photo: Casinocashjourney.com I’ve written before how investing isn’t gambling. Gambling is a zero-sum game, while investing makes everyone better off. Gambling is entertainment, while investing is a fundamental part of business. Investors own something real—a share of a company, or a loan to a city; gamblers don’t own anything. They just participate in a process. But in some ways investing is a lot like gambling. In both cases you start with some money and try to make it grow. Both can be addictive. And both are numbers games involving probability and risk. In a recent interview Bill Gross noted that one of the biggest influences on his early investment career was a book about how to win at blackjack. The text outlines basic strategies like counting cards to improve your chances. But it also explains that it’s essential to manage your stake—how much you bet on each hand. Because if you don’t—if you just let it ride—a run of bad luck can wipe you out, even when the odds are in your favor. There’s a lesson here for investors. Even when a great company is run by expert managers and is selling at an outstanding price, there are unknown unknowns that could hurt—or even destroy—any business: weather, war, a toxic waste dump under the headquarters building, an accident involving management. No matter how positive the outlook—how strong the odds are in your favor—bad things happen to good investments. Investment management is also risk management. A broadly diversified portfolio that allocates money among economic sectors, industries, companies, and even countries is the best way to do this. Because we don’t know what we don’t know.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

When does your alarm clock go off? Henry David Thoreau once wrote, “The mass of men lead lives of quiet desperation.” He might update that today to read, “The mass of men are asleep.” In the early 19th century most folks had to fight just to feed and clothe themselves and keep a roof over their heads. Today, life isn’t so grim. We don’t struggle with starvation any more. Indeed, many of our diseases are ones of overabundance, not scarcity. So many just doze through life, waking up only for major events, like the birth of a child, or the Super Bowl. But some have an alarm clock that gets them up, alerting them to the issues of the day—political, economic, or financial factors that affect their lives. Bill Gross writes that most active investors have such an alarm that stimulates their investment decisions. Only, it doesn’t go off at the same time for everyone. Say you’re supposed to get up at 6 am. Some investors don’t even hear the alarm until 10 or 11 o’clock. The day’s half over, and it’s way too late to make any changes. If you’re worried about the dot-com bubble, it’s already burst. Source: Wikipedia Other folks wake up way too early. Their alarm is set for 2 or 3 am. John Bogle of Vanguard warned about overvaluation in ’97, ’98. ’99, and 2000. While those folks were ready for the crash, being too early can take its toll. Sometimes, by telling you to take refuge in safe investments, a too-early alarm clock can be just as bad as a late one. Better to hit the snooze button a few times. The key is to know what kind of investor you are—to know yourself. No one can time the market perfectly. It isn’t that simple. But the point is to understand your own personality well enough to avoid these pitfalls. Different stages in the market cycle invoke different emotions that will have a huge impact if we let them run our lives. No one can control the market. But we can control ourselves. The better we understand ourselves, the better we can act—and not just react—when the world wakes us up.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

What’s happening in Switzerland? Yesterday the Swiss National Bank announced they would no longer keep the Franc pegged to the Euro. The currency immediately jumped about 20%, roiling the markets. Some currency trading firms have been wiped out. They also lowered the deposit rates for banks to -0.75% to discourage inflows. Why did they do this? The Swiss Franc has been pegged to the Euro since August of 2011. Lately, the Euro has been falling as markets anticipate a new round of quantitative easing by the European Central Bank. But it’s not just Europe: the Euro is falling; the Yen has been falling; the Russian Ruble has collapsed; there is speculation that the Swedes may cut rates; and collapsing oil prices have put pressure on the Norwegian Krona and Canadian Dollar. The Swiss just declared that they are a neutral party in this currency war. The currency peg had required them to amass hugeEuro balances—more than their entire economy. If the ECB expands Quantitative Easing, that will only increase. So the Swiss stepped away. Source: Wall Street Journal Their action only increases the turmoil in Europe. Switzerland may no longer be a “family estate” of the larger Euro-zone, but their economy is integrated with the rest of the world. If there really is a full-fledged currency conflict, there will be a lot of casualties.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

How important is water? Image: Lake Mead before and after the drought. Source: Slate Water is essential for life. When I go camping, one of the most critical factors that goes into selecting a campsite is how far it is from a reliable source of water. When regions experience a drought, their economies suffer. Agriculture, recreation, and power-generation are all affected. A new study seeks to quantify the economic importance of the Colorado River. The river supports over $1.4 trillion in annual economic activity—and 16 million jobs—in eight states that are part of its basin. This is significant: the Southwest has had a drought for the past decade, and has made up for reductions in river flow by drawing from underwater reserves—sometimes to the point where the wells run dry. And over the past few years, the drought seems to have gotten worse. Image: Colorado River Mean Flow Deviation. Source: Geophysical Research Letters. We don’t think about water shortages very much in the Northeast. We’re blessed with a lot of excess—especially during the winter. But arid regions are economically susceptible to shortages. So it’s important that this critical resource be priced properly. But that’s the rub. Water prices are political, and water is a political football: it gets passed around from group to group. The politics of water projects have played a critical role in many policy debates over the years, from civil rights to privacy legislation. And the economic importance of water will only increase. Only don’t expect a quick resolution. As Westerners like to say, “Whiskey’s for drinking; water’s for fighting.”   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

Why are bond yields so low? One of the most surprising market moves of 2014 was the persistent rally in US Treasury Bonds. It wasn’t supposed to be this way. Starting in April of 2013, rates were supposed to normalize. That’s when Ben Bernanke signaled that the Fed would gradually end its bond-buying program known as Quantitative Easing. Yields quickly rose over 1%, and continued to drift higher, eventually topping out by the end of 2013 with the 10-year at almost 3%. This happened in other countries as well: yields rose and bond prices fell. Investors expected that higher rates in the US would lead to higher rates around the world. But they didn’t move as much, elsewhere. Economies were decoupling. The Euro-zone, especially, wasn’t picking up steam. In fact, their economies were struggling to grow at all. So Euro interest rates started to fall. Source: Bloomberg A widening gap opened up between US Treasury bond yields and German Bund yields. And with the Fed expected to raise rates, the Dollar began to strengthen on foreign exchange markets. Faced with lower yields and a falling currency, many Euro-based investors began to buy Treasuries. So a stagnant European economy and persistent fears of deflation over there have pulled US interest rates lower, even as Federal Reserve officials talk about normalizing rates. Where will all this go? What the currency markets giveth, the currency markets can taketh away. Markets are anticipatory. The Dollar has risen 15% over the last 6 months. If growth here falters or the ECB doesn’t begin its own round of QE or some new regulation is proposed, it could surprise a lot of investors. Currency markets live in their own special world. What we’re seeing is a Dollar-based carry trade: sell Euros to invest in Dollars for the difference in rates. Some folks may get burned. If you live by the carry trade, you may just die by the carry trade.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

“The graveyards are filled with indispensable men.” – Charles De Gaulle Among the ironies of Sunday’s march in Paris were leaders from Saudi Arabia and Russia demonstrating on behalf of free speech, while US leaders avoided the procession. But irony aside, the direction France now takes matters immensely to the rest of the world. Initial reports indicate that over 5% of France’s population attended Sunday’s rally. This matters because France is Ground Zero for globalization. Without France there is no European Union and no Euro. France’s economy is stagnant, and highly regulated. Most retail stores, for example cannot open at all on Sundays. France ranks 70th in the world in economic freedom, well-behind Canada (6th), the US (12th), Germany (18th), and even Ghana (66th). At least it is ahead of former colonies Morocco (103rd) and Tunisia (109th). After last week’s terrorist attacks on Charlie Hebdo, France could move in a nationalist, nativist direction, seeking to protect its economy with more regulation and barriers. We know how that would work out. Or it could open up and deregulate its economy—currently the 5th largest in the world, and second largest in the EU—to unleash it’s inherent potential for growth. The current finance minister has proposed some modest reforms moving in this direction. The Euro is both an economic and political project. For all its flaws, it has lowered trade barriers within Europe and facilitated significant financial projects. It’s success is critical to global economic growth. And France is at the heart of the Euro. They’re the bridge between Germany’s economic engine and the troubled economies of southern Europe. That’s why Paris is important.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

Is it good to be a rookie? There are a lot of advantages to being new on the job: you see things differently; you’re more likely to network; you look for answers off the beaten track. We’ve all heard about hungry rookies whose determination helped them conquer a steep learning curve. Sometimes all it takes is a naïve question to turn things around. Of course, there are risks: rookies can be arrogant and reckless, sinking their own careers almost before they start: apprentice actors who argue with directors; graduate students picking fights over discredited theories. They don’t know what they don’t know, and this can make them dangerous. In the investing world, small-cap stocks are like rookies. They’re not restrained by the old ways, so they can take their business where no one has gone. Sometimes a new market or inefficiency just needs a little exploring to turn it into a big opportunity. But small companies also fail at a faster rate. They often don’t have the capital or experience to weather a downturn. This is why small stocks tend to outperform large-caps over the long haul, but they do so with greater volatility along the way. Source: Morningstar Learning something can beat knowing about it if you’re curious, humble, and determined. Just remember: it’s nice to be rookie of the year, but it’s better to make the playoffs.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

Is Bitcoin money?Bitcoins have been accepted by some online merchants for payment on their systems. The crypto-currency is designed to work like digital cash, changing hands anonymously, with no centralized ledger keeping track of who owns what. As such, it’s been the currency of choice for anyone who doesn’t want the government to trace their transactions—notably drug-dealers and libertarians.Source: WikipediaBut could Bitcoin become mainstream? It seems possible. After all, there’s no reason someone selling candy bars couldn’t take something else as payment. Merchants near the border with Canada take “Loonies” all the time—at a discount, to cover the cost of exchanging them for US Dollars. As people have started to consider Bitcoin’s potential, its value has fluctuated wildly.Source: Bitcoincharts.comIf it became a common medium of exchange Bitcoin would cause significant headaches for governments who want to collect taxes. They would likely move to stop it. But there’s an internal problem with Bitcoin that would cause its demise before this. It’s one of the problems that helped bring down gold as a currency: mining.Bitcoins are issued by “miners”: computer operators that solve complex math problems. The algorithm is set up so the problems become increasingly difficult. As a result, issuance gradually slows. But as Bitcoins are used in more transactions, their value rises. It becomes economic for more and more resources—electricity, computers, labor—to be committed to solving these obscure equations.Eventually, the degree of effort devoted to mining Bitcoins would impact the real economy. That’s what happened with gold in the 19th century. The drain on labor caused by the California and Alaskan gold rushes was significant. Communities were decimated by “Yukon Fever.” Fields and factories couldn’t find enough workers to be productive. But digging holes in the ground didn’t provide anything of real value to the economy.The same problem applies to Bitcoin. If Bitcoin were the global currency now, one coin would be worth approximately $17 million. And if the economy grows faster than the number of Bitcoins, that value increases. We would see another gold rush—and the global economy would suffer. A large Bitcoin economy would make computer-mining a major industry—maybe the only industry.Currencies have always been issued by governments to enable commerce. Any private currency must confront the problem of creation: where does it come from, and who benefits? Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all!Follow me on Twitter @GlobalMarketUpdwww.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

Do you like meetings? I didn’t think so. Most folks don’t. For most of us, meetings usually get in the way of stuff we need to get done. But we need meetings—to review results, set a new direction, or just to touch base. Source: Digital Juice So to make meetings both bearable and efficient, I use five simple questions to stay on track: Why are we meeting? (Every meeting should have an agenda.) Who’s the customer? (Every meeting has at least one customer) What’s his/her priority? (The customer is right, right?) What’s my goal? (What do I need to accomplish, given what I’ve learned?) What’s the action plan? (How do I get ‘er done?) I find that if I keep these questions in mind during any meeting, it keeps me engaged. More importantly, it moves my mind from the current agenda to the next agenda. So if I’m the customer, I know that between this meeting and the next, some concrete steps will be taken to address my concerns. And if I’m the manager, I know what I need to do next. These simple questions do more than get me through my meetings. They give me and my team a set of goals.   Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all! Follow me on Twitter @GlobalMarketUpd www.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

The story is almost Shakespearian.A charismatic leader arises. He demonstrates genuine ability. But he can’t maintain his position. His increasingly erratic behavior alienates his followers and they abandon him. Eventually, in a final conflict, the leader is put down.Source: Shakespeare OnlineThe plot from Richard III? Yes, but also the story of Bill Gross. Gross has been known as the Bond King. He founded his firm four decades ago, and found his money-management approach wildly successful: take a medium-term view to avoid being whipsawed by the market’s gyrations, and sell options on interest rates by holding large positions in mortgage-backed securities.Over time, Gross’s flagship Total Return Fund beat 96% of its peers. Investors flocked to it. At its peak, it held almost $300 billion—15% of PIMCO’s $2 trillion in assets. Gross became the face of the bond market. But when you become so big, you become the market. It’s increasingly difficult to outperform. Some key miscalculations led to poor returns, and investors started to leave.This—and the resignation of a key colleague—put increasing pressure on Gross. Articles circulated that outlined internal tensions at the firm. He became obsessed with finding—and firing—the source of the stories: “Mr. X.” But other managers prevented him. Key subordinates resigned—one to run a food truck business. Gross gave a speech at a conference wearing sunglasses because the “future’s so bright,” even while he was berating co-workers in public.Such a tragic tale has only one ending. A group of executives told PIMCO’s owners that they would quit if Gross stayed on. The writing was on the wall. Rather than stay and be fired, Gross left for a much smaller rival firm. Billions in account balances have followed him.Money management is a team sport. No one—however talented—can do this job alone. Long-term success means finding—and keeping—colleagues you can trust. No one is an island. Even the King. Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all!Follow me on Twitter @GlobalMarketUpdwww.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

How do managers manipulate returns? Let me count the ways…Yesterday I noted how fund managers are conflicted. They want to look good so their firm can attract funds to improve their fee income. One way to look good is by gaming the system—fudging their returns. You’d think there would be rules about this sort of thing. But often, there aren’t.Source: Bear Creek Fudge FactoryOne way to manipulate performance is through incubation and mergers. Several new funds are established with different strategies. Initial investments are limited; hot new IPOs get allocated. What looks like investment skill might just be the trading clout of a big firm working for a small fund. Successful funds get marketed; failures are quietly closed. Really successful funds may be merged into the firm’s flagship funds, where their enhanced performance makes the mother ship look good.This is a kind of “bait-and-switch.” Mangers also manipulate more technical measures. Many of these metrics are designed around a theoretical normal distribution curve. But fund managers can use options and other derivatives to skew their results, giving them apparently higher scores. These strategies can be legitimate—but often are used just to look better. As the British banker Charles Goodhart once noted, “Once a measure becomes a target, it ceases to be a good measure.”At the core of performance manipulation is a desire to look good. But the heart of money management is a desire to be right—to anticipate the market’s moves by understanding its dynamics. Investors need to know the difference. Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all!Follow me on Twitter @GlobalMarketUpdwww.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

What happened to active management this year?The idea behind active management seems sound: hire experts to help you navigate the treacherous waters of the stock market and profit from their experience and know-how. Most people do this via mutual funds—a pooled investment account where small investors can hire a big money manager.Source: LipperBut there’s an issue here. It’s called the principal-agency problem. The manager’s interests and the investor’s interests may not align. Investors want performance. Big managers need to look good. They can do this by outperforming their bogies or by massaging their numbers—or both.But beating the market is hard: there are only two ways: time it just right, or pick winning stocks. Timing was particularly difficult in this year’s steady, up-trending market. And stock-picking has also been rough—over half the year’s move is from just 10 stocks—Apple and Microsoft prominent among them. Because these mega-caps have rallied so much, if managers didn’t overweight them—a gutsy call—they had a big performance hole to fill. And what they usually use to augment returns, selected small-cap and international shares, has been a drag on performance.As a result, over 90% of mutual funds have underperformed the S&P 500 this year. That doesn’t mean active management is broken—people still need help. But it does mean that this was an especially tough time for them to beat their bogies.It’s hard to discern the signal from the noise with short-term numbers—so much changes from year to year. What’s most important is if the manager is helping you meet your goals. That, and integrity. That’s a performance factor that can’t be faked. Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all!Follow me on Twitter @GlobalMarketUpdwww.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net

Are consumers ready to spend again?Black Friday is coming, with expectations of door-buster deals and madhouse rushes. Last year 141 million consumers visited stores and websites between Thanksgiving Day and the following Monday evening, spending a total over $57 billion. That was down 3% from the year before—a fact that worried retailers at the time—but it turned out to be due to the shortened holiday season. Total holiday sales actually increased by 4%.What’s in store this year? Sales are expected to rise another 4%, driven by employment growth and rising consumer confidence. The recent fall in gas prices won’t hurt, either. And consumer credit is expanding. Including mortgage debt, consumer balance sheets began to grow the middle of 2013.Source: Calculatedriskblog.comBecause of low interest rates, debt service relative to income is lower than it’s been for decades.Source: FREDSo finish the pumpkin pie and warm up the car. Never mind forecasts of bad weather: when the going gets tough, the tough go shopping! Douglas R. Tengdin, CFA Chief Investment Officer Phone: 603-224-1350 Leave a comment if you have any questions—I read them all!Follow me on Twitter @GlobalMarketUpdwww.chartertrust.com • www.moneybasicsradio.com www.globalmarketupdate.net