Charter Trust - Global Market Update

The SWAT Team - The US economy needs a turnaround. How do we get there? When consultants look at an ailing business, they do a SWOT analysis: strengths, weaknesses, opportunities, and threats. If you can seize the opportunities, playing to your strengths—avoiding weaknesses and be mindful of the threats out there, often you can spin straw into gold and create growth where previously there was only stagnation. So what would SWOT analysis say about America?Clearly, we are strong in design and innovation. The iPhone 5 and latest genetic therapies show the US is on the technological cutting edge, creating products and services in use around the world. Where we are weak is in consumer demand: we’re still repairing our balance sheets and recovering from the housing hangover. So where are the opportunities? Emerging economies—Latin America, Africa, and Asia—have been soaring. Those areas, with an emergent middle class, have plenty of growth. And threats? The usual suspects: the Middle East, leftover weapons from the Cold War, and our own stultifying politics.Notice that China is not on the “threat” list. It really represents an opportunity for us. They may be able to reverse-engineer the last iPhone, but they can’t come up with the next one. And it’s more effective to employ their engineers at Foxconn where they work for Apple and Cisco. Then Chinese workers have a vested interest in US patent rights.Economic (and investment) success comes from finding sources of growth and catering to that demand. As emerging economies begin to consumer more, developed economies can advance by designing products that meet their needs. That way we can all prosper.Douglas R. Tengdin, CFA Chief Investment OfficerFollow me on Twitter @tengdin

Risky Business - What is risk-parity investing? Risk-parity investing looks at a portfolio’s variability--and the cause of that volatility—and says: maybe we can do better. It focuses on the allocation of risk rather than the allocation of capital. It uses borrowing to do this, but it asserts that when asset allocations are either levered up or levered down to the same risk level, an optimum combination can achieve higher returns per unit of risk and be more resistant to market downturns than a traditional portfolio. The performance of a number of risk parity funds during the financial crisis and its aftermath have made it quite popular now with investment consultants and the asset allocation industry. In a nutshell, the thinking goes like this. In a traditional 60% stocks / 40% bonds portfolio, 90% of the risk comes from the equity side. That is, the bonds are pretty stable, and the stocks jump up and down. If you take some bonds—like Treasury, Corporate, and Mortgage-Backed bonds—and lever them up, you can achieve stock-like risk, but the returns will be higher. And if you take stocks and lever them down—combine stock holdings with cash—their risk will be lower. Then, using optimization software, the assets are combined to achieve the desired risk level, and returns are—hopefully—enhanced. This approach has done quite well in recent years as interest rates have fallen and stocks have languished. Since the internet bubble popped, equities have gone sideways—with a big hiccup in the middle—while bonds have boomed. But risk parity investing confuses cause with effect. Investment returns don’t come from risk; investment returns come from participating in an economy’s capital structure. Bonds will always be senior to stocks; but their returns will vary based on the challenges an economy faces and investor psychology: just look at what happened in the ‘70s! Correlation is not causation, and capital confusion is stupid. Levered bonds portfolios have excelled as rates have gone to zero, but all the optimization software in the world won’t repeal the law of gravity: what goes up must come down. When rates come back, a lot of backward-looking optimizers will look pretty foolish. Douglas R. Tengdin, CFA Chief Investment Officer Follow me on Twitter @tengdin

Evil Twins? - Some people don’t know when to quit.The Winklevoss twins were Harvard students along with Mark Zuckerberg in 2003. They hired him (with no pay and with no contract) to do some work on a website initially called “Harvard Connection,” and later, “ConnectU.” At its height, the site had fifteen thousand users at two hundred colleges. In a Federal lawsuit, the twins claimed that Zuckerberg stole their ideas when he started Facebook. Eventually, they settled their suit for $20 million in cash and $10 million in Facebook stock—which is now worth about $40 million. ConnectU was abandoned shortly after they received their settlement.The twins and their roommate, Divya Narenda, have decided that social networking is too important to pass up. So they’ve decided to start up a new social site organized around investment analysis, called SumZero--which about sums up the concept.The idea is that investment analysts can share their insights with others online. Say you’ve done an in-depth review of Johnson and Johnson’s balance sheet and you’re convinced they have undervalued assets; or you personally know Alex Gorsky, the new CEO. You could post your idea and read the thoughts of other analysts. Narenda says he has received hundreds of applications to be part of the new network, and is rejecting three quarters of them.The appeal is clear: spread the word about investments you own, and promote your holdings. In some venues we would call that pump-and-dump. Portfolio managers have lost their jobs by talking up stocks they were really selling. This just takes it to a social-network level. From a fiduciary standpoint this is a profoundly stupid idea.It’s easy to dismiss the Winklevoss twins as uber-WASPy jocks who had a good idea and were out-hustled by a nerdy computer entrepreneur. But I think they symbolize something more: the triumph of the litigant. As Zuckerberg himself said, every time you do something successful, somebody tries to get a piece of the action. But this time they’re the ones likely to get sued.Douglas R. Tengdin, CFA Chief Investment OfficerFollow me on Twitter @tengdin

Open Door Policy - The Fed just approved an open-ended balance sheet expansion.In its announcement on Thursday, the Federal Reserve set the scene for continued monetary accommodation. They publicized their intention to purchase $40 billion of Mortgage Backed Securities per month. That’s on top of $30 billion they’re already buying, which now should absorb 75-80% of new mortgage production. And they didn’t set an end date. Until unemployment falls, this new policy could be in place for a long, long time.Naturally, with the Fed supporting the market, stocks are rallying. “Don’t fight the Fed,” goes the saying. As long as the central bank keeps the tap open and dough keeps flowing, the market will remain well-bid.The same thing is happening in Europe. Mario Draghi announced that the ECB will buy an unlimited amount of government bonds of up to 3 years’ maturity. Also, the Euro Stability Mechanism (ESM) can directly fund member governments—something the German Constitutional Court affirmed on Tuesday. The Fed and the ECB have committed themselves to using the heavy artillery of monetary policy—and now they have an unlimited supply of ammunition.Global Central Banks have given notice: “We have a bazooka and we know how to use it!.” Don’t fight the Fed, but look out for the law of unintended consequences!Douglas R. Tengdin, CFA Chief Investment Officer

A Phony Economy - Will the iPhone help the economy? I’m not talking about the improved speed and screen size. That’s part of a general trend in cell phones that has been going on for years. Mobile computing is part of a technological cycle that allows us to work—and consume—more efficiently. No, I’m talking about the boost to GDP that will come from iPhone sales. Based on past iPhone introductions, Apple should sell about 8 million or so in the fourth quarter. With a $600 price and a $200 cost, that implies $3.2 billion in gross margin—or $13 billion at an annual rate. This would boost the economy in the fourth quarter by 0.33%. If you add a certain amount of accessories (due to the new shape and different power cord), that could lift GDP by up to 0.5%. We saw this last year. When the iPhone 4s came out, there was a big bump in retail sales—more than expected. And Apple’s earnings, which lagged in the third quarter (as people anticipated the upgrade), charged forward in the fourth. So is our economy becoming dependent on the Cupertino colossus? Not really, economies adapt to the environment around them. This used to happen in the ‘60s and ‘70s when hot new car models came out. More recently there was a bump in GDP when Microsoft introduced Windows 95. People anticipate these updated products and formulate spending plans around them. That’s another reason I don’t think a recession is likely. Half a percent may not seem like much, but every little bit helps. With job growth tepid and gas prices rising, the economy can use all the help it can get. Increased sales from the new iPhone may be just the ticket. Douglas R. Tengdin, CFA Chief Investment Officer Follow me on Twitter @tengdin

The Humility of the Courts - The German Constitutional Court weighed in on Tuesday. What does it mean? By upholding the law that commits Germany to the European rescue fund, the German court removed the last barrier to the fiscal pact. German taxpayers are now on the line for up to 190 billion Euros. For a country of 82 million people, that’s a lot of money. It’s much bigger, proportionally, than the $700 billion TARP fund the Bush administration put in place in 2008. The ESM will now be able to commence operations; Germany was the last nation to ratify the treaty. German Chancellor Angela Merkel has to be pleased. So far, the Court has yet to reject a single law enacted by her government try to save the Euro. Her political position should also be strengthened: as leader of the center-right coalition, it hasn’t been easy getting these rescue measures through the Bundestag. But she received support from the center-left SPD Party as well. In effect, the enactment of the ESM represents a victory of the pragmatic center over the far right and left ends of the political spectrum, both of which opposed the measure. The German Court’s ratification of the ESM is reminiscent of the US Supreme Court’s support for President Obama’s Affordable Care Act. Both measures wound their way through a fractious political process, and still face bitter opposition. Still, in both cases the courts acted pragmatically, deferring to the legislative process. After all, Chief Justice John Roberts noted during his confirmation hearing that he was well aware that he hadn’t been elected to anything. This is how democracy should work: when faced with messy, complicated problems, legislatures often come up with messy, divisive solutions. The courts shouldn’t try to clean up that mess; they should simply opine on the framework. Whether you agree or disagree with the law, policy is best left to the politicians. Douglas R. Tengdin, CFA Chief Investment Officer Follow me on Twitter @tengdin

Labor’s Leaders - What’s up with Chicago? Some people look at the Chicago strike and see the echoes of a labor movement that is regaining some traction. Others see push-back after five years of public-sector concessions due to the recession and its aftermath. But I see evidence of global competition. To me, the Chicago teachers’ strike is an example of what we haven’t seen for a while: labor unrest. Strikes have been rare recently, especially in contrast to the ‘60s and ‘70s, when workers frequently struck, demanding better pay and improved working conditions. But unions face a tough climate today. Membership has declined from 27% of the workforce in 1973 to just 11% today, so management has a lot more options when faced with a labor dispute. Moreover, it seems that most workers recognize that their jobs and compensation now depend on the success of their companies. With 401(k)s and profit-sharing plans becoming more widespread, employees often benefit directly when their employer is more profitable. And with global competition affecting just about every industry, profitability is more important than ever. Labor and management both have an interest in keeping their businesses competitive. But unions tend to grow when they are part of a monopoly—when labor and management really are on opposite sides of the table. That was the case in the late 19thcentury, as American business grew into a patchwork of petty fiefdoms until government action broke them up. And it’s true now: the most active unions are in the public-sector, where government enjoys a monopoly or near-monopoly when it provides services. It’s telling that one of the demands of the Chicago teachers is that the City put more restrictions on charter schools, a principal competitor to public schools. And note that charter school teachers aren’t on strike this week. So the Chicago strike illustrates, by contrast, how globalization affects everyone. No one knows how this strike will be resolved, but one way or another, competition will continue to grow. Douglas R. Tengdin, CFA Chief Investment Officer Follow me on Twitter @tengdin

Get Tough - Is intelligence destiny?That’s the logic behind the “rug rat race,” a comical contest that pits parent against parent vying to get their children into the best preschools, the most competitive grammar schools, and selective traveling sports teams, ballet classes, karate dojos, and music lessons. A pair of economists from the University of California, San Diego has documented the increased time parents now spend on ways to stimulate their pre-schoolers’ early academic achievement. They attribute this trend to increased competition in college admissions. After all, more math drills at age 3 might lead to a math enrichment class in elementary school, an AP-Calculus track in high school and that coveted MIT-admission. Internet executive, here we come!But Canadian-born education writer Paul Tough is challenging these assumptions. He notes that cognitive skills—reading, writing, math—are only part of what makes people successful. Basic skills are necessary, but what’s done with those skills is equally important. And it turns out that noncognitive skills—curiosity, initiative, self control; character qualities—are the key. Thomas Edison famously noted that genius is 1% inspiration and 99% perspiration. True success is built by perseverance and grit.That’s why the Greek philosopher Heraclitus said that character is destiny. A person’s ability to handle adversity—to keep going in the face of disappointment, opposition or ridicule—is just as important as intelligence or native talent. Steve Jobs failed and failed and failed before he brought out the iPod. The same was true of the Wright Brothers, Albert Einstein, and even George Washington. Overcoming adversity produces character. And character, more than intelligence, is what leads to success.Douglas R. Tengdin, CFAChief Investment OfficerFollow me on Twitter @tengdin