Monday, December 28, 2009

Hyman Minsky & the Economic Profession/Savings Bonds/Correlation of Asset Classes/Sold CYB

1. Hyman Minsky: Minsky and Robert Schiller are two of the very few economists worth reading. The rest are consumed with mathematical models and absurd, even laughable constructs based on the "Rational Man" The Death of 'Rational Mans- Rational man | The Economist

For those unfamiliar with Minsky, here is a link to an introductory article in Wikipedia. A ten page paper written by Minsky titled "The Financial Instability Hypothesis" is worth a read: The stark failure of mainstream economists is due in part to ignoring Minsky, a point recently made by Floyd Norris in his NYT column. This is a link to Pimco's Paul McCulley discussing Minsky and his relevance to understanding the recent financial crisis: For the most part, I would have the same reverence for economists as I do the Masters of Disaster, and I would wholeheartedly agree with Hayek's remark that economists have "made a mess of things". Friedrich August von Hayek - Nobel Prize Lecture Unfortunately, nothing has changed since that remark by Hayek many moons ago.

2. Savings Bonds: For anyone interested in determining the value of their savings bonds, the treasury department has a calculator: Calculate the Value of Your Paper Savings Bond(s) Some might say that this is a staid investment. In 1992, the treasury sold some EE with a guarantee of 7.5% until the bond reached its face or par value, and 4% thereafter until maturity. The maximum face amount was $10,000, bought for $5000. A $10,000 face amount savings bond bought in 1992 for $5,000 would now be worth $12,392. It would currently be accruing interest at a rate higher than the 10 year Treasury bond. This is a link to the table of that shows the current rates by issue data: www.treasurydirect..pdf The current rate for newly issued bonds is just 1.2%: Individual - EE/E Savings Bonds If I had to buy a savings bond today, it would be the "I" series: Individual - I Savings Bonds & Individual - I Savings Bonds Rates & Terms (the last link shows how the treasury calculates interest for its inflation linked I Savings Bonds)

On tax issues for I bond holders, see IRS publication 550 at the bottom of page 7: The coupon rate for the I bonds is very low now at .3%. But, there is always the option after five years to redeem the bond without penalty and then invest in an new one. Since the investor can redeem after 5 years, receive their principal and accrued interest at that time, I view them as comparable to the 5 year TIP bond. Bloomberg reports that the current coupon yield on the 5 year TIP as of 12/24/09 is .41%. There are no penalties for redemption after a five year holding period: Individual - I Savings Bonds

If the coupon payable on the I Bond moved up substantially from its current low rate, it might make sense to redeem the old one with say a .3% coupon for a new one with a 3% coupon, for example, both having the same inflation adjustment component. But this kind of investment is not the path many will choose, because the upside is so limited, even when the coupon was over 3% from 9/1/98 to 5/1/2001. Individual - I Savings Bonds Rates & Terms The last link contains the historic coupon rates of the I savings bond, and illustrates a point that I have made several times about TIPs. The coupon rate will fluctuate with changes in inflation and inflation expectations.

3. Asset Correlation: I occasionally will look at historical charts that contain information on how one asset class correlates with another. Positive correlation simply means the asset classes move in the same direction, both up and down. If positive correlation is stated at 1, the correlation is perfect. I would view anything over .7 to be a high positive correlation. Negative correlation indicates that the asset classes move in different directions. A recent example of negative correlation was the movement of the S & P 500 and treasury bond prices between September 2008 and early March 2009.

For historical data, I turn to the charts contained in David Darst's book "Mastering the Art of Asset Allocation". This book contains data up to 2004. I am most interested in the rolling 10 year periods. Looking at the data starting in 1970 showing correlations with the S & P 500, I see very high positive correlations with the Wishire 5000 index. The positive correlations are mostly .99 or .98. The asset classes with negative correlations with the S & P 500, or small positive correlations, for significant periods of time were gold, silver, REITs and TIPs. The 10 year treasury note had positive correlation in every ten year rolling period starting in 1970 and ending in 2004, with a large number of low or modest positive correlation. I would call 1 to 30 a low positive correlation, 31 to 69 modest, and over 70 as high. Generally, for the purposes of evaluating diversity, I would want some assets with low positive correlations and some that would historically be negative, more often than not. (see the comments of Gary Gordon in this article: ETF Trends )

And it always needs to be emphasized that correlations between asset classes can be volatile. This article shows how the commodity index was negatively correlated with the DJIA for most of the 1970s and early 1980s, and then turned toward more positive correlation numbers in rolling five year periods after 1985 with only one negative correlation five year period: Seeking Alpha But even that picture can be a little deceiving by arbitrarily focusing on specific five year periods, rather than rolling five year periods, and comparing stocks to the broad commodity index which is weighted in energy. So oil prices were rising in the 1970s and stocks were going nowhere for the decade. I would expect a negative correlation between oil and stocks in the 1970s, but I expected positive correlation between that broad commodity index and stocks in 2008. So, the analysis has to be specific for the particular time at issue. The broad commodity index is running with stocks now. The Ishares ETF for the GSCI Commodity index was at 23.1 in early March and has risen to $31.11 as of 12/24: GSG Fund Charts - iShares S&P GSCI Commodity Indexed Trust Fund Charts You can also see looking at that one year chart the positive correlation in the first quarter of 2009 between GSG and stocks, both moving down.

For agricultural commodities, 2009 has not been exactly been stellar. Just compare DBA, a ETF for agricultural commodities to the S & P 500.S&P 500 INDEX,RTH Index Chart DBA is flat. But if I include a chart with data from last year's stock debacle, DBA would have suffered less in losses than the S & P 500.

Some of the more detailed posts on this subject include the following:

4. Lions Gate (LGF) (owned LT category): Precious is still playing in 1003 theatres. Over the past 7 weeks, the film has an estimated gross of about 40 million. Another LGF release, Brothers, is up to 22.349 million in 3 weeks. top films

5. Dividends and Interest: One of the securities that I own, PFK, goes ex interest on Tuesday for its monthly interest payment. PFK is a senior bond whose interest rate is calculated based on a 2.4% spread to CPI. The calculation is explained in earlier posts. / CPI and CPI Floaters OSM and PFK The rate for the January payment is $.0231. I expect that rate to increase over the coming months (see the calculations below).

Two of the Trust Certificates (TCs) containing a junior Aon trust preferred (TP), KTN and KVW, go ex interest for their semi-annual payment also on the 29th of December. I own both of those, with KTN bought at $14 or less per share, now trading over $25. Other securities that go ex dividend or interest that I own and have discussed in this blog include Winstream; the U.S. Bancorp equity preferred floater ( USB.PRH); two synthetic floaters-GJT & GJN; Sysco; a BDC, Prospect Capital (PSEC); PMA Capital Senior note (PMK); Wilshire Bancorp; two Odyssey Re equity preferred stocks, one a floater and the other a fixed coupon; IDG an ING hybrid; IAE, IGD, GCS, CSQ, PSY- Closed End Investment funds (CEFs); GRT & GRTPRF (a cumulative REIT preferred stock); EHL, A FIRST MORTGAGE BOND issued by Entergy Louisiana; Enerplus, a Canadian energy trust; LXPPRD (cumulative equity REIT preferred stock); SIVBO (a TP from SVB Financial); & CVB Financial. So, that is a diverse lot of securities. The income orientation is clear.

I will summarize the method used to calculate the interest payment for the Prudential CPI floater (a senior bond maturing in 2018 at a $25 par value) which goes ex tomorrow with a payment in January. The CPI calculation covers a 12 month period with a 3 month lag. The non-seasonally adjusted CPI is used:

NSA CPI September 2009: 215.969
NSA CPI September 2008: 218.783
Difference: -2.814
Divided by 218.783= -.01286
Add Spread: .024= .0111 x $25 par value= $.2775
Divide by 12 months= .0231 cents which is what is shown on the WSJ dividend page.

As shown, this rate for January 2010 is still being adversely impacted by the negative CPI numbers from 4th quarter of 2008.

This is the calculation for the payment in February 2010, as one negative CPI number from 2008 is eliminated:

NSA CPI October 2009: 216.177
NSA CPI October 2008: 216.573
Difference: -.395
Divide -.395 by 216.573= -.0018
Add Spread .024 to -0018238= .0222 x. $25 par value= $.555
Divide by 12= $.04625

And for the March 2010 payment, another 2008 negative CPI number is eliminated, and I can now calculate the penny rate:

NSA CPI November 2009 216.330
NSA CPI November 2008 212.425
Difference 3.905
Divide by 212.425= + .0184
Add Spread .024= .0424 x. $25=$1.06
Divide by 12 months= $.0883

I can not do the April 2010 payment until the December CPI number is released in mid January 2010. But let's make an assumption of an increase from 216.330 to say just 216.5 in that December CPI number. I calculated the penny rate based on that assumption at $.1121.

This is the data series that has to be used: As the negative numbers from 2008 are eliminated Bureau of Labor Statistics Data, the penny rate moves up. LB had a deer in the headlights look when PFK was at $12.5, unable to push the buy button, then hit the buy button several times in the $17.83 to $18.94 range.

6. Inflation Adjusted Stock Market Returns: While the rally in 2009 has taken the DJIA to 1999 levels, an article in the WSJ highlights the obvious, the inflation adjusted number is worse. For the DJIA to return to return to the 1999 highs adjusted for inflation, the DJIA would now have to be at 13460. This does not take into account dividends, but dividends are not what they use to be either.

The moneychimp site has a calculator that lets you adjust stock returns for any period of time: S&P 500 I did a calculation of the S & P 500 return with dividends and adjusted for inflation, starting on 1/1/99 to 12/31/2008. The annualized return was a -3.89. I tried another bad period, with inflation, between 1/1/1969 to 12/31/1981, and the annualized return was -2.07. But if I take a longer period, starting on 1/1/1982 to 12/31/2008, the return is positive at 7.43% annualized.

7. Sold 100 CYB for a Small Loss ( see disclaimer): I went to the Wisdomtree website this morning, and checked to see whether CYB paid an annual dividend in 2009. No dividend was paid. WisdomTree - WisdomTree Dreyfus Chinese Yuan Fund (CYB) I also read a story this morning, where the Chinese premier insisted that China would not be presurred to unpeg the yuan to the dollar. CNBC Those two new facts caused me to reconsider holding the currency ETF for the Chinese Yuan, and I decided to sell my position this morning. Instead of owning the Yuan in a very indirect through this ETF, I will increase my holdings in Canadian dollars which will be used to buy high yielding Canadian stocks. The position was bought at $25.36 in November: BOUGHT 100 CYB at $25.36

8. Australian Dollars: I mentioned in an earlier post that I would be buying some Australian dollars at some point, rather than buying back the currency ETF for the Australian dollar, FXA. I have changed my mind on that one. The only reason for me to convert my U.S. dollars in the Aussie currency directly is to buy stocks on the Australian exchange. I have decided to refrain from doing that due to the brokerage commission being too high at 32 Australian dollars (currently about $28 U.S.Currency Converter ). If the Australian dollar falls significantly, say to $20 U.S., I may choose to buy a stock on the Australian exchange and convert my dollars then. In the meantime, I may buy back my shares in FXA: Sold FXA My trades in FXA, and other currency ETFs, in 2008 were one of the few positive events from that year.

9. RB Receives a Reward While LB Is Given Awards: Headknocker is generous to a fault, which goes without saying. While the RB in this operation is frequently maligned by the Nerd LB, HK recognizes that the vision thing can sometimes play a role in advancing the HK's capital position. So, to show his generosity, HK will allow the RB to buy five Lottery Tickets today and tomorrow on the condition that any loss be realized before it turns into a long term loss next year.

For LB, HK will thank the NERD for preserving HK's capital during the trying times in 2008. To show HK's gratitude, HK hereby grants to LB the follow awards: Best Macro Economic Analysis in 2009 at HQ; Best Market Historian in 2009 at HQ; Best Stock Researcher in 2009 at HQ; Best Numbers Cruncher in 2009 at HQ; and Best Technician in 2009 at HQ. Of course, LB is the only candidate for those awards here at HQ.

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