Indiana Wind Farm

There is a massive wind farm just north of Lafayette, Indiana on Interstate 65.  I shot these photos on my way home from Indianapolis on Sunday.  I'll have more to say on this subject at a future time.  Unfortunately these photos don't really convey the scope of how large this project really is.

Microsoft vs. Apple.

I've had a family emergency that has occupied much of my time over the Thanksgiving holiday and will pull me out of town for the next several days. Posting could be sporadic during this time.

Before Thanksgiving though I had to go out to the Apple Store at the Oakbrook Mall to ask them a question about my Ipad. Those of you who have been around this blog for any more than a few weeks should know that I think the Ipad/Tablet/smart phone universe is a game changer in the way the first lap tops were back in the early 90's. Apparently I'm not the only one who thinks that. The Apple store was filled to capacity and it was impossible to even get close to the Ipad displays. Oh and by the way a representative met me at the door and asked me if he could help. He fixed my problem and sold me a camera adapter for my Ipad for his trouble. The guy did everything possible to make sure my experience at his store was great.

On my way out of the mall I noticed that a Microsoft store had opened probably not more than 200 yards down from where Apple is located in the mall. On impulse I went in. Apart from a father and his two kids looking over Microsoft's well received Kinect device for their X-box, the place was empty of customers. There were at least eight people working in the place. Nobody came up to see if I needed help until at least ten minutes had passed. The sales associate who briefly engaged me really wasn't interested and I think was relieved when I told him I was just looking. He quickly scooted back over to watch the dad and his two kids playing on the Kinect.

Now maybe this is a bad example of a bad day for the Microsoft folks. It was the day before Thanksgiving and the Microsoft store hasn't been open all that long. Perhaps they had much larger traffic flow over the weekend. But the Apple store is CROWDED ALL THE TIME!!! You practically need an appointment to get in the place. It's employees practically beam with excitement. Of course if you're a shareholder of Apple you have to feel the same way. Your stock is up nearly 1,700% since 2005 and up almost 60% in 2010. {Investors of Lumen Capital Management own Apple indirectly through our investments in the Nasdaq Composite-QQQQ where Apple now accounts for something close to 20% of that index.}

Microsoft shares, not up so much. Its stock trades at essentially the same price as it did in 2005 or for that matter at this time in 1998. I understand that is not necessarily a complete comparison as one has to also factor in the issue of special dividends. However, the stock has basically flat lined for a decade as have its products and its innovation. Perhaps that's why their employees are so glum or maybe the ones who worked in the store are just biding their time waiting for a job opening down the street at Apple.

*Long ETFs that hold both Microsoft and Apple Computer in client and personal accounts.  Long ETFs related to the Nasdaq composite in client and personal accounts.  Long Microsoft stock as a legacy position in one client accounts.  Two clients of Lumen Capital Management own shares in Apple Computer as an unsolicited position. 

Over the River....Happy Thanksgiving

Like much of America, I'll be taking some time off the next couple of days to head down to Indiana for a little family R&R and to have a long visit with this fellow pictured here to the right in the photo!!

I hope each and every one of you has a joyful and wonderful Thanksgiving holiday!  We'll be back posting on Tuesday of next week!

PS.  The day after Thanksgiving the market, in an abbreviated session, advances something like 90% of the time.  No guarantees of course this will happen but it will be fun to watch and see if the string goes on!!!

PSS:  I will however guarantee that Notre Dame will beat USC this year!!!!  {Ah Irish troid a chur suas!!}

*Long turkey and stuffing!!

Shortest Research Report Ever Written!

Tony Dwyer, Chief U.S. Equity Strategist at Collins Stewart was just on CNBC with what he billed as the shortest research he's ever written.  I will now reproduce it in its entirety!
 
"The guys printing the money want you to buy stocks."
 
That would be the Federal Reserve.    "Don't bet against the Fed" is one of the first things everybody in this business learns.
 
Enough said!

Chart: Earnings

From Chart of the Day: 

With third-quarter earnings largely in the books (96% of S&P 500 companies have reported for Q3 2010), today's chart provides some long-term perspective to the current earnings environment by focusing on 12-month, as reported S&P 500 earnings. Today's chart illustrates how earnings declined over 92% from its Q3 2007 peak to Q1 2009 low which brought inflation-adjusted earnings to near Great Depression lows. Since its Q1 2009 low, S&P 500 earnings have surged (up over 900%) and have just crossed above a level that occurred at the peak of the dot-com bubble. In fact, earnings have only been higher than current levels for a 29-month stretch that occurred at the tail end of the credit bubble.

My comment:  Earnings for next year in the S&P 500 are starting to look like they will be somewhere between $90-95 dollars per share.  If we take a midpoint number of say $92 then S&P valuation is likely anywhere from 1200 {13 times that number} to 1425 {roughly 16x S&P estimates for 2011}.  The latter may be too aggressive but it is possible to think of a year end 2011 target of between 1350 and 1400.  That is a possible 11-17% price appreciation potential for next year.  Not saying it will happen but it is an indication of what current estimates suggest could occur!

Link:  Chart of the Day: Earnings.

*Long ETFs related to the S&P 500 in client and personal accounts.

an tSionna {11.22.10}

*Long ETFs related to the S&P 500 in client and personal accounts.

ETF's Everywhere {Conclusion}

Today we conclude our series on last week's Barrons cover story on ETFs. {Excerpt with my highlights.}

The most controversial ETFs are those designed to move two and three times the daily change in their underlying indexes by using leverage or financial derivatives. There are 290 leveraged and inverse ETFs, with $40 billion in assets, BlackRock says.

These funds have been criticized because over long periods, they often don't track the underlying indexes. That isn't because of an inherent flaw, but because of the effects of compounding often large daily movements.

As a result, the Financial Industry Regulatory Authority (Finra) said last year that "inverse and leveraged ETFs that reset daily typically are unsuitable for retail investors who plan to hold them for longer than one trading session, particularly in volatile markets.".... 

To take a simple example, if financial stocks rise 10% one day and fall 10% the next day, the index will drop 1%, to 99, from the original 100 level. A three times leveraged bullish fund would rise to 130 on the first day and then fall to 91 on the second, a 9% drop. The bearish fund would slip to 70 on the first day before rallying to 91 on the second, also producing a 9% decline......All the inverse double-leveraged sector ETFs on the S&P 500 are off sharply this year.

In a cover story at the start of 2009, Barron's argued long-term Treasury yields, then around 2.70%, probably would go higher. That's been the case, with the 30-year T-bond, now yielding 4.25%. The ProShares UltraShort 20-Year Treasury (TBT), however, is down about 10% since then, to 35. It offers the inverse of twice the daily change in the price of long-term Treasuries.

Despite its drawbacks, the TBT is one of the few ways for individuals to bet on higher long-term Treasury rates. The rates already have risen 0.25 percentage point this month and could approach 5% if the Fed's controversial second quantitative easing program boosts inflation and a rout ensues in the bond market. It isn't easy for individuals to short Treasuries. Another alternative is to short the iShares Barclays Capital 20+ Year Treasury Bond ETF (TLT).

Dividend-oriented equity ETFs have been popular this year, including the SPDR S&P Dividend ETF (SDY), which buys S&P's dividend "aristocrats" with a history of 25 years of payout increases, and the iShares DJ Select Dividend Index Fund (DVY), which tracks the Dow Jones dividend index.....

It's easy to get low-cost bond exposure via ETFs, including the SPDR Barclays Capital High-Yield Bond (JNK), which now yields 8.5%, and the iShares S&P National AMT-Free Muni (MUB), which yields 3.5%......

COMMODITY ETFS like the UNG that use futures can be hurt by contango, a term that simply means that future prices are higher than current or spot prices. Contango forces an ETF to roll its spot contracts into higher-priced futures. The UNG has badly trailed gas prices since its creation. That said, it offers a play on the depressed gas market. Prices are down 35% this year, to $3.70 per million BTUs, and are trading at a historically low valuation, relative to oil, now at $86 a barrel. Some investors prefer ETFs that hold physical assets, although that can be tough for some commodities, owing to storage constraints.

Investors can get ETF information from many Websites, including cefconnect.com, xtf.com, etfdb.com and etftrends.com, as well as Morningstar, Yahoo! and Marketwatch.com.  Regardless of how they do it, investors should learn more about ETFs, because they're here to stay—and are growing more important every day.

Link:  ETF's Everywhere

*Long ETFs related to the S&P 500 in client accounts.  Long certain ETFs that are leveraged to the upwards movement of certain index prices in certain client and personal accounts.  Long TBT in client and personal accounts.  Long SDY and DVY in client accounts.  Long certain commodity related ETFs in client and personal accounts. 

ETF's Everywhere {Part III}

Part III of our coverage of the Barron's ETF article.  {Excerpt with my highlights.}

Discount and full-service brokers want to capitalize on the ETF boom. Financial advisors who once picked stocks for clients and later selected mutual funds have morphed into asset allocators, and ETFs are an easy and low-cost way to get diversification. The annual expenses on the average one are around 0.50%—one-half to one-third the fees of many mutual funds—and many ETFs charge 0.10% or less.

"There is no better way for individuals to build diversified investment portfolios. Every asset class is available at rock-bottom costs," says Charles Schwab, founder and chairman of Charles Schwab (SCHW).  Schwab has made a major push into ETFs; its clients now hold $100 billion worth of them. .....

...One obstacle to growth is unfamiliarity. "If you asked eight out of 10 people, they probably wouldn't know what ETF stands for," says Peter Crawford, a senior vice president at Schwab's client group. Just 17% of Schwab's retail clients now own exchange-traded funds.

AMONG THE KEY differences between mutual funds and ETFS are that mutual funds can only be traded once a day, while exchange-traded funds can be bought or sold whenever exchanges are open. Most mutual funds are actively managed, while virtually all ETFs are passive. Actively managed ETFs probably will remain scarce because government regulators appear loath to approve them. Active managers are reluctant to disclose their holdings daily, partly for competitive reasons. ETFs, in contrast, provide such disclosure.

How do exchange-traded funds add assets? When investors buy shares, the ultimate sellers are designated market makers. When these market makers see their inventories depleted, they create new shares by purchasing the underlying investments and then delivering them to the ETF manager for new shares. Likewise, heavy selling of exchange-traded funds prompts market makers to liquidate the underlying investments, extinguishing shares.

The most actively traded ETF is the original, the SPDR S&P 500 (SPY), which turns 18 years old in January. Others include the iShares Russell 2000 (IWM), which invests in the popular small-cap index; the PowerShares QQQ Trust (QQQQ), which buys stocks in the Apple-heavy Nasdaq 100 index, and the iShares MSCI Emerging Markets (EEM), which holds stocks throughout the developing world.

Link:  ETF's Everywhere.

*Long ETFs related to the S&P 500, Long SPY IWM, QQQQ and EEM in client accounts.  In addition Charles Schwab and Co. is the custodial broker for most of the individual client accounts we manage at Lument Capital Mahagement, LLC.

ETF's Everywhere {Part II}

Today we continue our coverage on the Barron's cover story regarding ETFs.  {Excerpt with my highlights.}

Active traders are heavily involved with exchange-traded funds. Many day traders now play ETFs, including volatile ones that move by double and triple the daily change in their underlying indexes.....

The ETF business is highly concentrated, with the 10 largest funds—out of a universe of about 1,000—accounting for 40% of all assets and three just issuers, BlackRock's (BLK) iShares, State Street Global Advisors and Vanguard, controlling 82% of industry assets. Trading in ETFs averages $62 billion a day and accounts for about 25% of the volume on U.S. exchanges.

ETFS ARE A GREAT democratizing force. With a click of a mouse, individuals can get access to stocks in virtually every corner of the world and to assets like commodities that can be cumbersome to buy and largely have been limited to institutions.

Try purchasing 100,000 ounces of silver and then finding a safe place to store it. But it's relatively easy to purchase 100,000 shares of the iShares Silver Trust (SLV)....The largest commodity ETF, the SPDR Gold Trust (GLD), now holds $60 billion of the metal in London vaults. Its popularity has played a role in gold's 25% rise this year, to $1,365 an ounce.

A Booming Sector

More than 1,000 exchange-traded funds exist, covering everything from emerging-market stocks to energy to U.S. blue chips and Treasury bonds. Through October, ETFs pulled in a net $89 billion in assets this year.....Critics say that an influx of ETF money may be contributing to a bubble in some commodities like silver, which has jumped 20%, to $26 an ounce, since Sept. 30.

Investors have been focusing on commodities and other hard assets to play growing demand in the developing world and amid fear that the Federal Reserve's controversial plan to print money via the purchase of $600 billion of U.S. Treasury securities over the coming months will debase the dollar and spur inflation....

....Many real users of commodities contend that investment demand has distorted markets. Gold jewelry demand, for instance, has fallen as the metal's price has shot up.....That said, the presence of an ETF on natural gas, U.S. Natural Gas (UNG), hasn't helped gas prices, which are down 35% this year to $3.70 per million BTUs.

Link:  ETF's Everywhere

*Long GLD in client accounts.  Many of the ETFs we hold in our investment strategies are issued by Vanguard, State Street and Ishares.

an tSionna {11.16.10-Midday}

*Long ETFs related to the S&P 500 in client accounts.

ETF's Everywhere {Part I}

Five years ago when we at Lumen Capital Management introduced our structured ETF investment strategies, ETFs were a relatively unknown investment vehicle. They were just gaining prominence when the Crash of 2007-09 occurred. I think they really came into their own during that period and acceptance amongst the investment community, particularly among individual investors, has grown exponentially. Barrons Magazine seems to have noticed as they featured their cover story on the industry this weekend. This week we're going to excerpt that story and highlight it's most important points. Today we feature part I.

ETF'S EVERYWHERE:

THE BOOM IN EXCHANGE-TRADED FUNDS IS reshaping the investment landscape by challenging traditional mutual funds and giving investors, large and small, the opportunity to get exposure to virtually every major market and asset class in the world—and many minor ones as well.

ETFs are passive mutual funds and trusts that trade like stocks on major exchanges; they can be bought or sold anytime during the trading day. They held a record $940 billion of assets in the U.S. on Oct. 31, up from $794 billion at year-end 2009, and are on track to hit $1 trillion around the end of 2010.....Exchange-traded funds are gaining market share at the expense of traditional mutual funds, which (excluding money-market funds) hold about $8 trillion of assets.

The benefits of exchange-traded funds include low fees, relative to mutual funds, transparency of investments and tax efficiency because of low portfolio turnover. ...."A lot of investors are realizing the benefits of diversification, and ETFs allow broad diversification at low cost," says Gus Sauter, chief investment officer at Vanguard. It's understandable that investors favor broader portfolios because a U.S-focused equity strategy hasn't done well in the past 10 years, in which the S&P 500 has essentially been flat. As global economic power shifts away from developed markets, investors want exposure to rising countries like China, India and Brazil.

Link:  ETF's Everywhere.

*Long ETFs related to the S&P 500 in client acounts.  Long ETFs related to China and Brazil in client accounts.

an tSionna {11.15.10}

Stocks staged a break out after the elections and looked like they were going to post an assault on the 1300 level on the S&P 500. Then towards the end of last week they gave up the ghost, rolling over to decline just a bit over 2% from their highs.

Two things seem to have started the slump. One was a growing concern about the continuing debt crisis in some European countries {namely Ireland-deora ar mo chroi!), fears of a slowdown in China and some less than stellar earnings reports out of companies towards the end of the week here in the US. Yet stocks have been so over bought and so in need of either a pause or some kind of pullback that almost anything could have sparked the selling at this point in time.

We'll monitor the situation for clues as to coming market direction. The chart above {which you can double-click to make larger} gives some of the things we're watching. Right now I don't see anything to spark a higher level of concern based on what we currently know. Meaning that right now this decline looks like a simple pause in market direction after such a strong move. If this is in fact the case it should be viewed as a healthy development, likely to set the stage for further price apprciation as we head into year's end. Markets often correct 2-7% within stronger moves. It allows the short term froth to be removed. It also often allows disciplined investors to purchase attractive securities at lower prices. In investor jargon it is often called "the Wall of Worry".

However just in case this would morph into something more substantial, we do have our defensive portion of the playbook handy. Right now we're content to let our indicators be our guide.

*Long ETFs related to the S&P 500 in client accounts.

Market Uncertainty

Barry Ritholtz on market uncertainty via Bloomberg. {Excerpt with my highlights. }

“The markets hate uncertainty.”

If you wandered anywhere near a television in advance of the midterm elections, the Federal Open Market Committee meeting or October’s employment report, that cliche was unavoidable... Wall Street has a sweet tooth for such investing maxims.... Repeat mindless dictums ad nauseum, and they soon become the accepted wisdom.

The problem with these supposed truisms is they are no more accurate than the flip of a coin. A closer look at this uncertainty meme reveals it to be a false-ism -- one of those emotionally appealing phrases that ping around trading desks. The lack of evidence supporting their premise seems to matter very little.

To recognize how meaningless these statements are, consider the opposite: Could markets function without uncertainty? It takes only a little thought to realize that markets actually thrive on doubt, imperfect information and a lack of consensus.

Uncertainty drives the market’s price-discovery mechanism. Investing requires there to be differences of opinion. When there is broad agreement as to an asset’s fair value, trading volume falls. Without any uncertainty, who would take the opposite side of your trade?

History teaches that whenever the opposite occurs -- when certainty overwhelms uncertainty -- the herd tends to be wrong. In rare instances, when there is a near-total lack of uncertainty in the market, the outcome is usually a spectacular disaster....

Recall the dot-com era....An epic crash followed. After the Internet implosion, the opposite extreme was operational: Profitable, debt-free tech companies were being traded for less than book value. In a few rare instances, they were being sold for less than cash on hand... There was little uncertainty heading into the March 2009 stock-market lows. Almost everyone was sure the world was falling into the abyss...... How did the consensus work out in that instance?

When we discuss uncertainty, what we are really discussing is risk. All unknown outcomes contain risk, and therein lies the possibility of loss. Risk is inherent in the concept of uncertainty. However, anyone looking for performance must embrace risk, for without it, there can be no reward.

Uncertainty is what makes alpha, or market-beating gains, possible. Smart traders know that uncertainty is where the money is. No uncertainty, no risk; no risk, no possibility of outperformance.....Want some certainty? Go buy yourself Treasuries. You can pick up a very lovely two-year bond yielding 0.41 percent.....

The future, by definition, is unknowable. Investing involves making our best guesses about the value of an asset at some point after this moment in time. There will always be an element of uncertainty involved. We can discount various outcomes, engage in probabilistic analysis, but no one knows for certain what tomorrow will bring.

Those who claim to know fail to understand the most basic workings of markets. We need only consider the track record of Wall Street’s prognosticators to know the truth in this statement.... Pundits may hate uncertainty -- it tends to makes them look foolish -- but markets harbor no such bias. In fact, markets thrive on uncertainty. It is their reason for being.

(Barry Ritholtz, author of the book “Bailout Nation: How Greed and Easy Money Corrupted Wall Street and Shook the World Economy,” is the chief executive officer of Fusion IQ, and blogs at The Big Picture. The opinions expressed are his own.)

Link:  Kiss Your Assets Goodbye If Certainty Reigns

Veteran's Day

Lest We Forget!!!

Flanders Fields.

Financial Stocks.

I added to positions in financial ETFs this week. In some cases these were initiations of new positions. I will have more to buy if these ETFs pull back in price. What I purchased varied depending upon individual client mandates, account size and our different investment strategies. We have been underweight in financials relative to the S&P 500 much of the past several years in most accounts. We are still underweight but less so now.

I thought I would take you through a quick briefing of my investment analysis. Think of this more as an outline. Time and space conspire against me giving a complete report on everything that went into this analysis. Treat this as an illustration of my investment disciplines as I use this same process on everything I either want to buy or currently own for clients. I will do so using the four prongs of our investment discipline: Market Situation, Fundamental Analysis, Valuation and Money Flow Analysis. I will finish with a brief discussion of risk and how I intend to manage this trade.

Market Situation: The overall market climate must drive all of our investment thinking. The playbook tells us that nearly 70% of a stock or ETF's price movement is dependant on what the overall market does. Even though it wouldn't surprise me if stocks flop around a bit here or give up some of their gains, for a variety of reasons I am constructive on stocks going into the end of the year and also for next year. You can see much of my reasoning for this here and here.

Fundamental Analysis: Banks have been in the dog house for almost two years, suffering a near death experience between 2007-2009. Right now the banking business is not great. There is little loan demand and what demand is out there often doesn't qualify for a loan. In addition banks are burdened with billions of dollars of non-performing loans and mortgages. The FDIC continues to seize banks with inadequate assets.

I believe that much of this is priced into these stocks. First the banking survivors have been working through their problems over the past two years and have in many cases raised sufficient capital so that now their balance sheets are less of an issue. The Federal Reserves announced next round of quantitative easing should be a plus for banks and last week's elections suggests that some of the more onerous regulations on the industry overall may at least be scaled back. In addition many banks have deleted or significantly cut their dividends over the past few years. A better economy would likely mean a pickup in dividend growth. Bank earnings have also by and large exceeded expectations in the past several quarters.

Valuation: Until recently banks have largely underperformed this year's stock market rally. Even with their recent post election advances banks in aggregate seem to be potentially 15-20% undervalued. If this turns out to be the case then an ETF such as the Spyder KBW Bank ETF {KBE-pictured above} is 4-5 points undervalued as of today's trade. Of course gains have to be measured vs risk. Looking at the chart of KBE {again pictured above-you can double click on it to make it larger} shows downside potential risk of about about 7% based on last summer's price bottom. This is a favorable risk/reward calculation by the playbook for this kind of ETF.

Money Flow Analysis: Much of our reasoning here is pictured in the chart above. I would like to highlight the one point which is that the intermediate and longer term statistics we follow regarding over bought and over sold have recently flipped to positive. These longer term signals have a very high probability of indicating positive price movement in the weeks and months ahead. They are not 100% of course. However, their longer term ratings are such that we feel comfortable entering securities on these signals, especially when the economy and overall market signals are positive.

Risks and managing the trade: Of course there is nothing in this analysis that prevents it from being wrong. Risks to this investment are among other things an overall change in market sentiment, a further deterioration in the economy, and more government involvement in the banking industry than we think is likely. Through the playbook we have formulated a game plan for this security so that we have an idea of what we would do should our analysis prove to be incorrect.

What we hope to do through our disciplines is to identify attractive investments with a higher probability of being correct in both our analysis and price movement. We are as usual purchasing ETFs for financial exposure, hoping to mitigate security-specific stock risk. We also hope that our systems and disciplines enable us to exit a investment thesis with as little portfolio damage as possible should we prove to be wrong.

Since this is a newer purchase (in terms of time when we have added to positions), we'll follow this periodically on the blog to see how we've done.

*Long ETFs related to financial securities in client accounts. In specific, long XLF in client and personal accounts. Long KBE in client accounts. In addition various clients of Lumen Capital Management hold securities of individual stocks in their accounts.

Disclaimer: Any information presented above is given as an example of portfolio discipline and approach by Mr. English for his clients at Lumen Capital Management, LLC. As such this should not be seen as a blanket recommendation to purchase this or any other security mentioned in this article. Nor should it be seen as an endorsement of any investment style or any sort of guarantee of future performance of any security mentioned in this article. Casual readers of this blog need to do their own investment homework or need to discuss the examples expressed in this article with their own financial advisers first. Or better yet, hire us and we'll show you how it's done!!!

Halloween Indicator

From Chart of the Day: 

"The stock market is now entering what has historically been the strongest half of the year. Today's chart illustrates that investing in the S&P 500 from the last trading day in October (therefore referred to as the Halloween indicator) through the end of April accounted for the vast majority of S&P 500 gains since 1950. While there are some noteworthy periods during which the Halloween indicator didn't produce (e.g. during the oil embargo of 1973-74, the dot-com bust of 2000-01, and the financial meltdown of 2007-2009), the overall out performance is compelling."

*Long ETFs related to the S&P 500 in client accounts.

Link:  Halloween Indicator

 

an tSionna {11.09.10}

*Long ETFs related to the S&P 500 in client accounts.

Innovations in Alternative Energy

We talked in our most recent investment letter about how periods of conflict or war spur R&D development and how we think the so called Green Revolution is here to stay.  This story published at the end of October in Britian's Guardian discusses how the US Military is using and experimenting with alternative sources of energy.  Excerpt with my highlights:

It's a secret just how much oil the US military uses, but estimates range from around 400,000 barrels a day in peacetime – almost as much as Greece – to 800,000 barrels a day at the height of the Iraq war.This puts a single nation's armed forces near Australia as an oil consumer and among the top 25 countries in the world today.

Either way it is by far the world's largest single buyer of oil and the last thing any admiral, general or under secretary of defence has had to be been concerned about is whether there's gas in the tanks or that the navy's carbon emissions are a bit extravagant.

But there are signs of change. Every $10 rise in the price of oil costs the gas-guzzling US air force around an extra $600m each year. Just keeping one US soldier in Afghanistan with the world price of oil at $80 a barrel now costs hundreds of dollars a day in fuel alone. And because the US as a country imports more than $300bn worth of oil a year, fiscal reality is dawning. The US military spent around $8bn in 2004 on fuel, and probably twice that last year.....

The military knows this. Earlier this year a Joint Operating Environment report from the US joint forces command predicted that global surplus oil production capacity could disappear within two years and there could be a shortfall of nearly 10m barrels a day by 2015.

"Peak oil", said the generals, would impact massively on the US and other economies, and the US military would be compromised. Meanwhile Wesley Clark, former supreme allied commander in Europe, has argued strongly that America's addiction to foreign oil is unsustainable and, by extension, the military's $20bn a year spend on oil and other energy must be reconsidered.

The military answer has been to obey former President Bush and look to home. The navy's decision to convert one ship to algae-based biofuel echoes a US Air Force plan to create a massive synthetic-fuel industry to provide the military with guaranteed, secure homegrown supplies. One idea is to turn America's abundant supplies of coal and biofuel crops into liquid fuel, just as the Nazis did in Germany when its oil supplies were cut off during the second world war. Tests are now being conducted and the first of 6,000 navy jets are expected to fly with it next year.

Coal-based synthetic fuels, and biofuels – from both algae and crops such as corn – are now strong contenders to replace the fuels that the military uses to power its tanks and jet engines, says the Department of Defence . But the search for more affordable, cleaner-burning alternative fuels is not driven by environmental concerns and there are massive drawbacks. Coal is not just one of the world's prime drivers of man-made climate change, but also air pollution and acid rain.

Link:  Surging oil prices forces US military to look towards alternative energy.

Long Term Growth Rate of Stocks

I first read this last week over at The Big Picture and thought it was worth sharing. This visualization is based on the stock market data used in Irrational Exuberance. Written by Rober Shiller, this book explores the reasons why bubbles form in stock markets and housing markets.

Link to original site.

This chart does a pretty good job of showing the lost decade of equity investing.

50

Somebody in this picture is 50 today!  At least it beats the alternative!

Fall Letter To Clients: Conclusion

This post marks the end of our most recent letter to clients.

What the Playbook says:

The playbook is our situational analysis based on historical market results. We study money flows along with the disciplines of fundamental and valuation analysis to see how markets have responded to similar historical events. The playbook gives us different scenarios regarding current market activity. We use it to then formulate our game plan. The game plan is a tactical and strategic allocation of assets based on what the playbook tells us has historically occurred. It is further refined to the specific risk/reward parameters of our various client groups and strategies. You can find more information about this here: http://lumencapital.blogspot.com/2010/02/definitions-part-ii-playbook-game-plan.html

Subject to client’s individual risk/reward parameters and our investment strategies, the playbook has kept us close to fully invested in the equity portion of our accounts for most of the summer. Recently given the rally that we’ve seen this fall and also owing to the overbought nature of most stocks or indices, we have taken small sales and raised our cash positions. You can see some of our reasoning for doing that here: http://lumencapital.blogspot.com/2010/10/tsionna-102010.html . We have also identified levels where our indicators would suggest to be more aggressive sellers should the market experience a more significant correction that we currently think is likely. As usual our preferred way to invest in equities is with ETFs. Areas of concentration include Technology, Financials, and dividend related securities. We have also added to or initiated foreign exposure in our appropriate investment strategies.

Stocks have for the most part recently stalled their advance. We think there are a few reasons for this. The market is very overbought by almost any criteria we use to measure it. The 2nd reason we believe is that the market is approaching a significant level of resistance around 1220 on the S&P 500. This marks two events. The first marks the highs that stocks reached in the spring and it also marks the area from which stocks crashed in 2008. {See the chart below} It would not surprise us if stocks use this level as an excuse to at least pause and work off this overbought condition. Markets work off being overbought by either a correction of time {churning around and going nowhere}, by price {a decline} or a bit of both. Probability suggests such a pause could occur here, potentially setting the stage for higher prices into year’s end. We will be guided in this regard by our indicators.

Thank you as always for your continued trust and support.

Christopher R. English is the President and founder of Lumen Capital Management, LLC.-a Registered Investment Advisor regulated by the State of Illinois. A copy of our ADV Part II is available upon request. We manage portfolios for private investors and also manage a private investment partnership. The information derived in these reports is taken from sources deemed reliable but cannot be guaranteed. Mr. English may, from time to time, write about stocks in which he has an investment. In such cases appropriate discloser is made. Lumen Capital Management, LLC provides investment advice or recommendations only for its clientele. As such the information contained herein is designed solely for the clients or contacts of Lumen Capital Management, LLC and is not meant to be considered general investment advice. Mr. English may be reached at Lumencapital@hotmail.com.

*Long ETFs related to the S&P 500 at the time of this writing.

Fall Letter To Clients Part III

From our most recent letter to clients:  Continuing the discussion on why stocks appear attractive shorter term.

Interest Rate policies likely to remain accommodative.

The Federal Reserve has signaled that it will keep interest rates low for an extended period of time. It has also discussed another round of quantitative easing {using its balance sheet to buy certain types of bonds} which indicates that monitory policy will also remain accommodative. While such policies will likely prove inflationary in the longer term, low cost of capital should up front help Americans improve their balance sheets and makes investment spending compelling. Lower interest rates also make stocks more compelling on a risk reward basis especially when higher relative dividend yields are factored in.

Valuation of stocks is compelling.

The yield on the Dow Jones Industrial Average exceeded that of the 10 year treasury much of this summer. This has not happened since 1962. Many S&P 500 companies possess dividends s that are expanding and have higher yields than that same 10 year note. Current earnings estimates on the S&P 500 for 2011 indicate that stocks trade between 13 and 14 times earnings on a going forward basis. This is a historically compelling level of valuation. This is especially so relative to current interest rates.

Longer Term: Technology/productivity advances to ultimately propel US and world economies.

The 20th Century experienced three Bull markets: {1919-1929-“Roaring 20’s”, 1947-1965-post-war boom and 1982-2000-the technology or “Long Boom” period}. Each of these periods ended up being the beneficiary of an earlier expansion of research and development {R&D}. This expansion largely resulted from earlier investments made as a result of war or in the case of the Long Boom an intense period of international political hostility {the Cold War}. That R&D ultimately found its way into civilian applications. Home refrigeration for example became available to the larger American public in the 1920s largely as a result of technologies developed to feed troops during World War I. Technological advances developed throughout the Cold War and systems developed from the space race {an offshoot of the Cold War} were the seed monies that built much of our economic expansion between 1980 and 2000.

We have been in some form of conflict now for nine years. There is massive R&D, particularly regarding miniaturization, of all sorts of military systems-think of drone aircraft for example. Much of this R&D will likely enter the civilian economy in the future. Briefly here are three areas that could benefit. We will expand on these and also discuss our other investment themes in the future over on our blog Solas! Here is its link: http://lumencapital.blogspot.com/

~Smart phone and cloud computing: I wrote much of this letter on an Ipad. These technologies are productivity game changers and this industry is where the PC was in about 1990.

• Miniaturization: My electric meter was changed this summer to a "smart reader". It now transmits my usage to its home office. Besides tablet computers, and military drones, everything from cameras to medical devices is getting smaller. This has enormous implications for both productivity and job creation as well as innovation in the years ahead

• Green technology: The world’s expanding economies needs better management of energy usage {see smart meters above}. That's why it is increasingly likely that "Green" technologies or energy conservation will continue to be a growth business. This is less because Americans care about the polar bears and mostly because it will save them money.

Tomorrow:  What the playbook says.
 
*Long ETFs related to the S&P 500 in client accounts.

Election Predictions: How Did I Do?

House:  I thought Republicans would pick up 45-55 seats.  They have so far received 58 with two races undecided.

Senate:  I thought Republicans would pick up 48 seats.  They in fact won 46.  Feingold in Wisconsin and Lincoln in Arkansas were defeated but Reid won in Nevada. 

Here in Illinois:  The race for Governor is too close to call.  Kirk won the senate seat.  Rahm Emanuel is still the prohibative favorite for Mayor of Chicago.

I should have been a pollster!

Fall Letter To Clients Part I

Sell In May......

Stock spent much of the summer doing nothing. I alluded to that possibility in my spring letter:

“..{O}nce the markets find some level of equilibrium stocks could go to sleep for perhaps 4-5 months as they digest the last year's gains. The old phrase "sell in May and go away!" could be on target this summer and stocks could be range bound until the leaves turn color in the fall. A rest while stocks churn about in a trading range could set the stage for better opportunities later in the year.”

From a late April high to its June low, the S&P 500 declined almost 17%. Stocks spent the rest of summer building a base and began rallying around Labor Day. The market has advanced about 14% since. Year to date, the market according to Morningstar has gained about 7%.

Stocks have spent much of the year caught between positives such as attractive valuations, excellent corporate balance sheets and relatively high dividend yields. In addition the earnings yield (the inverse of the PE average) has traded much of this year between a 7% & 8% yield. A ten year US treasury by comparison currently yields 2.71%. {Source: Bloomberg}

A brief aside on bonds: Basically current yields say investors are so unconfident about future growth that they will accept after tax rates of return significantly below what will prove to be the likely inflation rate. Right now Treasury TIPS-inflation protected bonds-carry a NEGATIVE yield! Bond professionals though are becoming nervous. Particularly, they worry about the Federal Reserve’s reputed plans to inject possibly up to a trillion dollars into the economy in order to fight the effects of deflation. PIMCO’s Bill Gross stated yesterday that the 30 year old bull market in bonds will be over if this happens. http://www.bloomberg.com/news/2010-10-27/fed-easing-likely-to-mark-end-of-30-year-bull-market-for-bonds-gross-says.html.

The negative side is that investors are concerned about slowing growth. Economic forecasts have been steadily lowered this year. Unemployment remains high, populist policies enacted by the President and the Democratic Congress have confused business leaders and made them reluctant to spend and hire.

Inflection Point!

May’s “Flash Crash" seems to have been an inflection point. Investors, perhaps finally tired of a lost decade of equity investing, seem to have collectively said "To heck with this!" Individuals have been net sellers of stocks for the past two years but that pace quickened after May. This autumn’s rally seems to have rekindled some interest in the markets. However, cash inflows into bonds and fixed income mutual funds has far outstripped that going into stocks which have shown withdrawals in every month this year.

I think this so called inflection point will be a mistake for many investors. Based on what we know today, I think stocks will produce at least trend line gains the rest of this decade. While I don’t expect markets to go up in a straight line, I do believe the overall direction will be positive. I will explain why, covering the shorter term period first and then briefly state why I think technological advancements should help the market head higher longer term.

Now I know I can be accused of "talking my book" because obviously I do better if stocks go up. My response is that I am paid to invest assets based not only on their clients individual risk reward criteria as I understand it, but also how I perceive the investment field to be tilted. With interest rates on bonds and CDs at historic lows, I think that balance today favors stocks.

Below:  Why the elections should be positive for markets.

*Long ETFs related to the S&P 500 in client accounts.

Fall Letter To Clients Part II

Shorter Term: Elections will produce gains.

Incumbents everywhere have large bull’s eyes on their backs. This year is producing a "this has got to stop" moment similar to elections that put Reagan and FDR in the White House and gave Republicans a house majority in 1992. Signs point to at least a change in control of the House and smaller Democratic majorities in the Senate. Analysts and pundits are all over with predictions of catastrophic Democratic losses. One estimate I’ve seen says Democrats could lose as many as 100 House seats!

Don’t buy this hype! Analysis of past elections similar to 2010 indicate that on average the party in power loses somewhere between 40 and 50 seats. This is enough to swing control to the Republicans. Yet Republican control or smaller Democratic majorities is irrelevant as the outcome will be the same.

Whoever controls the Senate will not have 60 seats and will lose the ability to end a filibuster by shutting off debate. Whether they lose the House or not, the Democrats will lose the ability to pass legislation at the will of the House Democratic leadership. Republican victories in one or both houses will likely not give them the votes to override presidential vetoes. Thus any agenda they bring forth will have to be the result of negotiations between the President and the Republican Congressional leadership.

What we do know is that Congress beginning in 2011 will initially be about the economy. The results will likely be more fiscally responsible and pro-jobs policies. A more evenly divided government will also check the more populist policies of the President. It is likely that much of this is already priced into stocks. Because of that I think it is possible stocks could either tread water or decline between now and shortly after the election. Don’t be surprised if the initial results are met with disappointment by investors until the realization that pro-economic growth candidates will be in charge of Washington in January. I think it is likely stocks will resume their rally into the year’s end once these results are factored in.

Tomorrow: Other reasons why stocks are compelling shorter term.

Elections- My Predictions.

I was asked after my post on Friday by a couple of you what my predictions for the elections were so here goes. This opinion is of course worth exactly what you are paying for it.

House: Republicans pick up a net 45-55 seats. This will give them control but no veto proof majority. I think for that to happen the Republicans need to pick up 67 seats to have an effect override.

Senate: Republicans end up with 48 seats. Again whether they end up with 45, 48 or 52 will be irrelevant as neither party will have the requisite 60 seats need to end a filibuster. The most high profile losses will be Russ Feingold in Wisconsin, Reid in Nevada and Lincoln in Arkansas.

Here in Illinois. Brady will be Govenor, Kirk will win the Senate seat and the real political season will begin as Chicago gears up for Mayoral primaries next winter. Former White House Chief of Staff Rahm Emanuel looks to be the prohibitive favorite at this point.

Here BTW is a link to political polls for Tuesday. 538 Blog