Investing in this Financial Crisis

Sunday Paper - March 8th, 2009

2009 Investment Strategy
By Gary Mozda
For Investors and friends with a long-term investment focus (i.e. 5+ years)

Disclaimer:
First and foremost I am in no way providing sound financial advice that you should use to blindly invest with. These are my ideas and opinions and I very well could be (and in some ways hope to be) wrong. I am not a financial advisor, expert or in any way conceivable an authority on this subject. I am simply a friend offering my ideas through the great use of freedom of speech so that if you care to further evaluate the evidence you can enjoy the potential for positive financial returns in a difficult investment climate. I may personally own or trade in some or all of these investments. I assume no liability for anything mentioned here or for your investment actions whether based on my advice or otherwise.

Investment Thesis

Global inflationary forces are emerging (although not yet very visible) due to the heavily utilized “bailout” and “economic stimulus” plans as well as the mass infusion of liquidity introduced into world markets during the past decade.

One of two things (or both) is (are) almost certain. Longer-term interest rates will rise substantially and the US dollar will weaken. The domestic and international equity markets will continue volatile movements with little predictability.

Commodities, shorting long-term bonds (see TBT and PST), investing in markets and countries with hard asset production (i.e.- Australia; Ticker = EWA) and investing in sectors with a certain immunity to this global economic phenomena (see pharma, deep value stocks, essential goods, agriculture, Asian water treatments, alternative energy, nuclear) will likely be big winners.

How did we get here?

Once upon a time in Greenwich, CT an investment fund known as Long Term Capital Management (LTCM) towered to unthinkable financial levels, returning high rates to their investors, only to virtually collapse in a short span of time. Not many people on “Main Street” have any recollection of this economic meteorite that threatened to devastate global markets. But part of today’s devastation (including the housing crisis) can be linked to this event.

It was the mid 1990’s when this supercharged, high-octane, hedge fund was born. Its board and portfolio managers consisted of only the smartest minds including two Nobel Prize winners. (Think Titanic). Its investment strategy was so far beyond the average mutual fund (even hedge fund) of its day that even if its practices weren’t top secrete, the chances of a competing fund exploiting its trades was virtually nil. It was open only to accredited investors willing to put up a minimum of $10 million. On its first day of trading the fund had amassed $1.3 billion to play with.

Due to the significant leverage the fund employed, small changes made big differences to the initial investments. In the incipient stages of LTCM this approach yielded very good results (returns of nearly 40% for two consecutive years). But in 1998 when Russia defaulted on its debt, which LTCM had an interest in, those magnified changes had a significant negative impact on the fund and consequentially the fund’s investors. This started the downward spiral that ultimately led to the American taxpayer (via the Federal Reserve) to bailout nearly $3.6 billion of LTCM’s mistakes.

In my opinion the fund should have collapsed. In the short term global markets would have felt a huge effect from the fall of this giant but it would have been far less significant than the economic tidal waves mounting on today’s financial horizons.

Why does this matter? This is one of the beginnings of a string of bailouts, talks of bailouts, and false financial security.

This was not the only problem during this era. The late 1990’s also created one of the most historic asset bubbles of our time (probably only second to the recent real estate bubble).

In the early 2000’s after the tech-bubble burst and Americans were recovering from the horrific 9/11 attacks the market attempted to correct and rightfully moved lower across most traditional asset classes (i.e. S&P, NASDAQ, and other U.S. Equities). Instead of allowing the market to naturally cycle itself through a downturn our Federal Reserve Chairman (Alan Greenspan) lowered interest rates to historic levels and ultimately injected mass amounts of capital into the economic system. This found its way into inflation bearers such as housing, energy (i.e. – oil) and other commodities (food, building materials, etc…).

This “free” money also found its way into other investment markets such as sub-prime lending and exotic derivatives which spawned a whole new era of “easy” money.

But now as cracks are becoming more visible in our global financial system, the current administration (not far from Marxist ideals) is proposing more bailouts and incentives for those who made terrible financial decisions.

This will ultimately create the environment for high inflation and rising interest rates.

Why?

Where is the bailout money coming from? It is printed (which makes money less valuable and leads to inflation) or it is borrowed (deficit) or it is taxed (stolen by the government and usually spent very foolishly). The bottom line is that any of these weakens the system and currently all of these approaches are in use. The system is still based on market driven principals. Short term failure is a healthy part of any market. Without the possibility of failure risk becomes theoretical and not a valid investment metric. Risk is how an investor makes money. By me investing in your idea I accept a certain level of risk which ultimately is offset by the potential outcome for success of your idea. Risk/reward spreads influence the investment decision process greatly. Although risk is still a real element of our financial system its dynamics are being skewed by careless and incompetent government intervention. Instead of investors bearing the risk for their own investment decisions, the government is assuming the responsibility and diverting it almost entirely to future generations. Ultimately it will be our older-selves and our kids, and our kid’s kids that will feel the full ugly effect of this continued game of “hot potato”.

How to Make Money

First and foremost I am in no way providing sound financial advice that you should use to blindly invest with. These are my ideas and opinions and I very well could be (and in some ways hope to be) wrong. I am not a financial advisor, expert or in any way conceivable an authority on this subject. I am simply a friend offering my ideas through the great use of freedom of speech so that if you care to further evaluate the evidence can enjoy the potential for positive financial returns in a difficult investment climate. I may personally own or trade in some or all of these investments. I assume no liability for anything mentioned here or for your investment actions whether based on my advice or otherwise.

With that out of the way here is what I am investing in or what is on my “watchlist”:

RICJ (Source: http://www.rogersrawmaterials.com/)
“EDIT: RJI is the index fund that trades on the NYSE and allows an average investor to have exposure to the RICJ”
“The Rogers International Commodity Index® (the “RICI”) is a composite, U.S. dollar-based, total return index created by James Beeland Rogers, Jr. (“Rogers”) in the late 1990s. Funds were first invested to track the Index on August 1, 1998. The RICI® was designed to meet the need for consistent investing in a broad based international vehicle; it represents the value of a basket of commodities consumed in the global economy, ranging from agricultural to energy to metal products. The value of this basket is tracked via futures contracts on 36 different exchange-traded physical commodities, quoted in four currencies, listed on eleven exchanges in five countries.”

Contract Exchange Currency Initial Weighting
Crude Oil NYMEX USD 21.00%
IPE Brent ICE USD 14.00%
Wheat CBOT USD 7.00%
Aluminum LME USD 4.00%
Copper LME USD 4.00%
Corn CBOT USD 4.75%
Heating Oil NYMEX USD 1.80%
IPE Gasoil ICE USD 1.20%
RBOB Gaso NYMEX USD 3.00%
Natural Gas NYMEX USD 3.00%
Cotton NYCE USD 4.20%
Soybeans CBOT USD 3.35%
Gold COMEX USD 3.00%
Live Cattle CME USD 2.00%
Coffee CSCE USD 2.00%
Zinc LME USD 2.00%
Silver COMEX USD 2.00%
Lead LME USD 2.00%
Rice CBOT USD 0.50%
Soybean Oil CBOT USD 2.17%
Platinum COMEX USD 1.80%
Lean Hogs CME USD 1.00%
Sugar CSCE USD 2.00%
Azuki Beans TGE JPY 0.15%
Cocoa CSCE USD 1.00%
Nickel LME USD 1.00%
Tin LME USD 1.00%
Greasy Wool SFE AUS 0.10%
Rubber TOCOM JPY 1.00%
Lumber CME USD 1.00%
Barley WCE CAD 0.10%
Canola WCE CAD 0.67%
Orange Juice NYCE USD 0.66%
Oats CBOT USD 0.50%
Palladium COMEX USD 0.30%
Soybean Me CBOT USD 0.75%

EWA (Source: http://www.reuters.com/)
“iShares MSCI Australia Index Fund (the Fund) seeks to provide investment results that correspond generally to the price and yield performance of publicly traded securities in the aggregate in the Australian market, as measured by the MSCI Australia Index (the Index). The Index seeks to measure the performance of the Australian equity market. The Index is a capitalization-weighted index that aims to capture 85% of the (publicly available) total market capitalization. Component companies are adjusted for available float and must meet objective criteria for inclusion in the Index. The Index is reviewed quarterly. The Fund invests in a representative sample of securities included in the Index that collectively has an investment profile similar to the Index. The Fund’s investment advisor is Barclays Global Fund Advisors, a subsidiary of Barclays Global Investors, N.A”

- Top 25 Holdings (Source: Morningstar.com)
BHP Billiton Limited
Westpac Banking Corporation
Commonwealth Bank of Australia
National Australia Bank Limited
Woolworths Limited
Aust & Nz Bk Grp
QBE Insurance Group Limited
CSL Limited
Westfield Group
Woodside Petroleum Limited
Telstra Corporation Limited
Newcrest Mining Limited
Origin Energy Limited
Rio Tinto Limited
Foster’s Group Limited
Wesfarmers Limited
AMP Limited
Brambles Limited
Santos Limited
Insurance Australia Group Limited
Macquarie Grp Ltd
Suncorp-Metway Limited
AGL Energy Limited
Transurban Group
Stockland

TBT (Source: http://www.google.com/finance?client=ob&q=NYSE:TBT)
“ProShares UltraShort 20+ Year Treasury, formerly ProShares UltraShort Lehman 20+ Year Treasury (the Fund) seeks investment results that correspond to twice the inverse daily performance of the Barclays Capital 20+ Year U.S. Treasury Index. The Barclays Capital 20+ Year U.S. Treasury Index includes all publicly issued, United States Treasury securities that have a remaining maturity of 20 years or greater, are non-convertible, are denominated in United States dollars, are rated (at least Baa3 by Moody’s Investors Service or BBB- by S&P), are fixed rate, and have more than $250 million par outstanding. The Index is weighted by the relative market value of all securities meeting the Index criteria. Excluded from the Index are certain special issues, such as flower bonds, targeted investor notes (TINs), United States Treasury inflation-protected securities (TIPs), state and local government bonds (SLGs). The Fund’s investment advisor is ProShare Advisors LLC.”

PST (Source: http://finance.yahoo.com/q?s=PST)
“The investment seeks daily investment results, before fees and expenses, which correspond to twice the inverse of the daily performance of the Lehman Brothers 7-10 Year U.S. Treasury index. The fund normally invests at least 80% of assets to investments that, in combination, have economic characteristics that are inverse to those of the index. It also typically invests in taking positions in financial instruments, including derivatives that should have similar daily return characteristics as twice the inverse of the index. The fund is nondiversified.”

VXX (Source: Morningstar.com)
“IPath S&P 500 VIX Short-Term Futures ETN tracks the S&P 500 VIX Short-Term Futures Total Return Index by Standard and Poor’s. This index seeks to replicate the returns on a fully cash-collateralized position in the near-term VIX futures traded on the Chicago Board Option Exchange. Over the course of the month, it rolls its futures exposure from the near month into the second month out, keeping an effective duration of one month at all times. The total return index also adds on the daily return of the cash collateral if it were invested in three-month Treasury bills.
The VIX index followed by the futures contracts is a measure of expected volatility on the S&P 500 Index over the next month. The Chicago Board Options Exchange calculates the VIX index from the prices of the exchange’s liquid options on the S&P 500, but the spot index is not directly investable.”

TIP (Source: http://finance.yahoo.com/q?s=TIp)
“The investment seeks results that correspond generally to the price and yield performance of the inflation-protected sector of the United States Treasury market as defined by the Barclays Capital U.S. TIPS index. The fund invests at least 90% of the assets in the inflation-protected bonds of its underlying index and at least 95% if the assets in U.S. government bonds. It may also invest up to 10% of assets in U.S. government bonds not included in the underlying index. The fund invests up to 5% of assets in repurchase agreements collateralized by U.S. government obligations and in cash and cash equivalents.”

IXJ (Source: http://www.google.com/finance?client=ob&q=NYSE:IXJ)
“iShares S&P Global Healthcare Sector Index Fund (the Fund) seeks investment results that correspond generally to the price and yield performance of the S&P Global Healthcare Sector Index (the Index). The Index is a subset of the S&P Global 1200 Index, and measures the performance of companies that S&P deems to be a part of the healthcare sector of the economy. Component companies include healthcare providers, biotechnology companies, and manufacturers of medical supplies, advanced medical devices and pharmaceuticals. The Fund invests in a representative sample of securities included in the Index that collectively has an investment profile similar to the Index. The Fund’s investment advisor is Barclays Global Fund Advisors.”
-Top 25 Holdings (Source: Morningstar.com)

Johnson & Johnson*
Novartis
Pfizer Inc.*
Roche Holding AG
GlaxoSmithKline PLC
Abbott Laboratories*
Wyeth*
Sanofi-Aventis
Amgen, Inc.*
Merck & Co., Inc.*
AstraZeneca PLC
Gilead Sciences, Inc.*
Bayer AG
Bristol-Myers Squibb Company*
Medtronic, Inc.*
Baxter International Inc.*
Eli Lilly & Company*
Schering-Plough Corporation*
Takeda Pharmaceutical Co., Ltd.
Novo Nordisk A/S
UnitedHealth Group, Inc.*
Celgene Corporation*
Medco Health Solutions, Inc.*
WellPoint, Inc.*
Genzyme Corporation*

Conclusion

I didn’t get a chance to mention some of the other fundamentals influencing the potential future rise in commodity and hard asset prices as well as other metrics indicating higher inflation around the corner. Time is probably the most precious and rarest commodity and only so much exists for me to communicate my thoughts. I encourage all of you to do your own unbiased research and look further into these very broad ideas. There is still a lot of money to be made in the future. Just because you will probably have to think a little outside the box doesn’t mean you shouldn’t capitalize on these opportunities. Always be prudent when you invest and never assume risks you or your family can’t bare. Careful diversification sprinkled with a small amount of speculative and risky positions held up by sound investment research should create a portfolio of excellent returns.

Of course one obvious easy to do safe guard that I did not yet mention is to lock in to today’s low fixed rates on your home mortgage if you haven’t already.

Happy investing to all! Please feel free to comment and share your ideas as this is how we all learn.

March 5, 2009
-GGM

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