LJL Funding Blog

Against a wall of worry the stock market made new highs for 2009 last week, as the first earnings reports indicated that top line revenue and bottom line earnings may well both be improving. This would provide another indicator that the recession may well be at its end or over already. Confirmation this week by additional positive earnings reports should confirm the first rise in retail sales for the first time in 13 months as another positive economic indicator. Investors are truly at the cross roads – investing in government bonds remain at negative inflation adjusted returns; corporate bonds at these rates may well lose value if interest rates increase as economic activity increases; municipal bonds are influenced by 50% of the Federal stimulus funds covering municipal budget deficits and stocks have already risen by more than 50% in a straight line since March. Commercial real estate seems to be hanging over a cliff, but residential real estate, especially in the lower price ranges seems to have stabilization and have even shown some modest increases, but also remains under the cloud of additional foreclosures as governmental modification programs don’t seem to have had the desired effect.

Click here to see full newsletter

As the stock market continues to climb the wall of worry, that is being built by so many analysts, consumer confidence seems to be returning and investors are leaving the perceived safe haven of the dollar for more risk in exotic investment areas. With the exception of the last double dip recession in 1980 most of the rallies following recent recessions were in actual fact the real thing with stock prices and economic activity higher a year after the initial recovery. We have now experienced the initial recovery since the lows in March and the question remains whether the current wall of worry will be overcome by sound economic fundamentals as time progresses. Corporate earnings have improved as a result of an increase in efficiencies brought about by aggressive cost cutting, but now require an increase in business activity to sustain earnings growth. The availability of credit, the unemployment rate and consumer sentiment that has distinctly moved from consumer to saver, will all influence an increase in business activity in months to come. At the same time interest rates remain low and the residential real estate market continues to stabilize and even improve on a month over month basis, strengthening our investment philosophy and program that has yielded our investors a high inflation adjusted return with very low volatility during the most volatile and difficult times in real estate finance since the 1930’s.

Click here to see full newsletter

As we approach the end of summer, the stock market continues to defy the skeptics by moving into higher territory albeit on lower (predictable for summer) volumes. Doomsday predictions about the Chinese not buying our bonds or hyper inflation destroying what is left of our savings have taken a back seat as the housing market continues to strengthen and show clear signs of a bottom. At this stage the world as we know it does not seem to be coming to an end any time soon. Now the debate is focused on whether the rebound will be strong, weak or flat with even a possibility of a double dip. Considering the fundamentals we have to take into account that the recovery has been based upon lower interest rates, massive global stimulus packages and corporate productivity increases as costs were reduced. These are good steps in the right direction laying the foundation for a more efficient economy with a healthier banking system (with LIBOR and the TED spread at record lows). It does not set the stage for an economic theme that would lead to future growth. Unemployment, 1.8 million homes still in foreclosure and consumers more inclined to save than spend should not push us back onto a downward spiral but equally it is unlikely to spark a healthy recovery. At this stage investment projections for the future could hardly suggest anything but a generally sideways movement in the economy and resulting investment returns.

Click here to see full newsletter

As we enjoy the summer and experience the common summer doldrums in the market, the realization that we may well be past the worst of this economic crisis, but that the bounce back may not be as robust as hoped for, is now becoming a reality to most investors. The chances of a quick retake of the hill of lost value is diminishing daily as the economic realities of the stimulus plan, unemployment and a myriad of required structural changes to our economy surfaces. As we have discussed in previous weeks we may very well be in a protracted sideways economic period that ostensibly started with the collapse of the dot com bubble in 2001. Previous economic sideway moves have lasted 15 to 20 years before a new economic theme provided an impetus for an expanding economy. At this stage it is difficult to see the new economic theme emerging although the BRIC nations would like us to believe that it would be based upon the growth in their economies. At this stage probably unlikely because of the instability in their political, financial and social systems that would undermine any sustained global economic leadership. If they are correct however, investors could be challenged in finding lucrative investment opportunities in those countries. Our own economic engine will be fueled when investors face the reality that “super make up returns” are not forthcoming on a consistent basis and that we are indeed past the worst stage in the recession, and investors quit accepting negative inflation adjusted returns from the US Government and invest using fundamentally sound investment principles.

Click here to see full newsletter

Previously we commented on the fact that a long term buy and hold strategy in the stock market may not have been the wisest of decisions because of the significantly long periods of sideways price movement clearly illustrated in the chart below. The boom of the roaring 20’s that followed WWI; the three decades boom time following WWII and the 80’s and 90’s technology boom were all interrupted by periods of sideways price movements each lasting between 13 and 16 years. An argument can be made that we are in one of those sideway periods that started with the implosion of the dot com bubble in 2001, during which time we enjoyed a brief respite thanks to the Fed created cheap and Congress mandated (forcing banks to make mortgages available to people who could not afford it) easily available credit essentially based upon real estate. We are now experiencing a sluggish sideways to moderately down recovery in the housing market; a tired looking stock market; more optimistic consumers without jobs and an economic system requiring an overhaul that in itself could put a stranglehold on future growth reminiscent of the Sarbannes Oxlee chokehold over public companies. If we are indeed in one of those long term sideways cycles we may well see a recovery in 2014 to 2017 and the challenge would be to identify the theme for the next major bull market (previous themes were post WWI and WWII spending to rebuild the world and the technology revolution). In the sideways scenario lasting for another couple of years investors would be wise to focus on secured investments that would yield consistently high yields with low volatility – THE LJL SECURED HIGH YIELD INCOME FUND.

Click here to see full newsletter

With information being disseminated throughout the world instantaneously it would appear as if economic problems of virtually any magnitude can be resolved in an extremely short period of time. In October 2008, the world as we know it was coming to an end, by March 2009 popular belief was that the end was still near, but not quite as near, now a few months later , not only is the end no longer in sight, but opportunities abound for the new recovery. Governments are talking about the end of stimulus packages; liquidity could become available to the general economy in the near term as the banking crisis judged by the TED Spread at below 50 basis points seemed to have been resolved; the stock market is in positive territory for 2009; housing prices are continuing to decline but at a much reduced pace; foreclosures still high are lower than a month ago; banks are no longer dumping REO’s en masse and consumer confidence is up. Just as this economic crisis was the worst since the 1930’s it also provides us with the best opportunities since the 1930’s with all the rebuilding that is required. Investors would be wise to remain extremely cautious as the seeds for this recovery – massive governmental capital injection into the economy – have not yet had time to generate fundamentally sound economic foundations for future growth. We need new business development, new job creation, increases in productivity and earnings including wages, all of which may well be on the way, but until they arrive be prepared for major swings in prices and sentiment that will test the strongest of investors.

Click here to see full newsletter

The bulls on Wall Street took a breather, well deserved after running for six weeks, but the rest of the economy continued, albeit at a snail’s pace, to absorb bad but better than expected news. The Chrysler bankruptcy and a likely filing by GM with the resulting closures of thousands of dealerships are anticipated to cause pain, but not the end of the world. On the real estate front commercial real estate seems to be falling off a cliff with residential now only rolling down a steep hill. Foreclosures are up, as can be expected after an imposed moratorium, but are being handled in a fairly orderly fashion with the Obama administration even giving incentives for a “cash-for-keys” program designed to facilitate an orderly, quick and less expensive way to reach what in many cases are the inevitable end result. The bursting of the housing price bubble and the implosion of the subprime mortgage backed securities market was the catalyst for the frozen credit markets that nearly brought the world economy to its knees. Without the credit markets regaining full functionality there should not be any sustained recovery. During the week under review the thawing of the credit markets accelerated with the placement of $2 Billion (oversubscribed) bonds by Citigroup without any government guarantees. One of the significant measures of the health of the credit market the TED Spread ( spread between 3-month Treasuries and 3-month LIBOR) narrowed to 62 basis points, well down from nearly 500 basis point at the height of the crisis and fast approaching the normal range of between 35 and 50 basis points.

Click here to see full newsletter

The woes of investors were primarily caused by the frozen credit markets when banks and financial institutions on a global scale lost confidence in each other and resulting in a total freeze of the system. As we have often discussed – the TED spread (difference between the risk free 3-month Treasury Bill and the 3-month LIBOR) clearly reflects the state of the credit markets and the willingness of banks to lend at least to each other. In normal times the spread is lower than 50 basis points; during the height of the crisis it approached 500 basis points and in recent weeks have traded around 100 basis points. During the week under review the spread was in the 70 basis point area. Clearly the results of the banks stress tests have moved the debate from a bottomless pit to a floor with realistic required capital targets. Investors should be breathing easier as we face a more normal market were volatility will still be at the order of the day, but profit taking will not indicate the end of the world.

Click here to see full newsletter

High returns are always commensurate with higher risks. It appears as if we are emerging from the apocalyptic destruction of investment portfolios of 2008 and early 2009. The economy and the markets for the elements contributing to the economy are fragile, fraught with uncertainty, in the case of the stock market showed a 20%+ bounce back and in other areas at the very worst the rate of decline has and is slowing, all indicating a return to normality in 2010. Balancing returns and risk has now taken on a greater degree of importance, and in the case of aging baby boomers, a greater sense of urgency. The challenge is identifying an investment with an expected yield high enough to produce the required end result at a risk level that would not induce sleepless nights and panic. Decisions made in a state of panic invariably produce the wrong result, which in the case of investments mean selling at the bottom, when all hope is lost, and buying at the top, when the fear of missing more appreciation leads to action. Volatility (swings in prices) is often the cause of panic and the resulting wrong decisions. Fundamentally the investment may be sound, but the changes in price is just too hard to take. A prime example is Berkshire Hathaway, run by the Oracle of Omaha, Warren Buffett, long regarded as the investment all star of all stars (See price chart in the Stock Market Section). Statistically the standard deviation measures the consistency of returns. Given two investment opportunities the wise choice could well be the opportunity with the lowest standard deviation or the most consistent returns. A number of more definitive risk adjusted ratios are used to further quantify volatility and therefore the level of risk associated with each investment opportunity. These risk adjusted return statistics are discussed in greater detail in the Investor Section below.

Click here to see full newsletter

The stock market continues with optimistic overtures and we may well still see some upside in stock prices, especially since there are also other economic indicators in housing and manufacturing that are starting to suggest improvement or are they? The stock market traditionally improves well before any true economic revival, as it anticipates future improvements in the economy, but it would be wise to remember that in the 1930’s the stock market had four 20%+ rallies that failed and were followed by new lows. Carefully analyzing the improving economic fundamentals also suggests that rather than improving the rate of decline has slowed and in some cases even flattened out but are not necessarily improving. Equally corporate earnings may be beating expectations, but expectations are now so low that beating the expectations merely indicate that things are not worsening. At the core of the financial crisis is the frozen credit markets and as we have discussed previously, one useful indicator is the TED spread, the spread between the 3-month Treasury Bill (risk free investment) and the 3-month LIBOR ( the rate at which banks lend to each other). Clearly there is more risk in interbank lending than lending to the US Government, but traditionally that spread was less than 50 basis points. At the height of the crisis the TED spread was around 480 basis points. In recent weeks it has settled around 100 basis points. In terms of our previously used metaphor, below 50 basis points the patient is healthy; between 50 and 100 basis points the patient is ill, but at home; between 100 and 200 basis points the patient is hospitalized and above 200 basis points the patient is in intensive care. Today the patient is out of hospital but is struggling to heal. (See the chart below).

Click here to see full newsletter