Problems Brewing for Stocks and Bonds?/Brokerage Firms-You Have to Look Out For Yourself

My father sold his construction business in 1987 to a nationally known company. The business was started with another young man in 1951 that my father met in a boxing match for the southern golden gloves championship in the late 1930s. Left Brain & Right Brain Decision Making The only change in his spending habits after selling his business was that he bought my mother a 1987 Mercedes with some of the proceeds and paved the driveway to his home, originally built by him in 1967. Both of my parents still live in that same house and that 1987 Mercedes is still their only car, recently experiencing its 23rd birthday and still running like a charm. So, in a sense, I am a child of the depression even though I was born in 1951. Frugality is not such a bad habit to follow. Prudence, responsibility and frugality are quaint personality characteristics, not exactly observed by millions of Americans over the past decade.

Yesterday, I was driving him to pick up the 1987 Mercedes at the garage, in need of a few repairs and good as new almost now, and I started to discuss my most current problem with brokers. His response was simply not to place any trust in any of them. Then he said something along the lines of not giving a plug nickel for any of them. They will find a way to do bad things.

Since I started to purchase stocks when I was 16, a long time ago, there have always been issues and problems. Some of the problems that I have had over the years just defy explanation. I will give just one illustration of what I mean.

For example, I had about $50,000 at a firm, and one day I noticed that almost $6,000 had been moved to another account unknown to me. What I am about to say needs to scare individuals into looking at their statements all of the time, thoroughly.

Okay, someone was stealing my money or so I thought. So I called the online broker number, told the representative that I have not authorized that transfer and knew nothing about that other account. I confirmed the conversation with an email. I notice the amount was returned to my account the next day. Then, guess what, the money is then moved back to that other account. So now I am becoming a little peeved. I go through the motions again. I am promised that the money will be moved back to my account. And, it is and then it is moved back to that other account. Finally, I say something about contacting the local D.A. to investigate this theft, and I was going to give him a call that afternoon since this was an unlawful conversion of my money each time it happened. LB was in its kick the sh-- out of everybody mode, tear them a new a--h---. OG apologizes for the language, LB-author of these minutes, got carried away. And, as the OG has said many times, LB is not the most patient and understanding staff member of the operation here at HQ, sometimes it makes Headknocker look like some kind of Mother Teresa saint.

Within an hour someone calls me and tells me a story to explain the problem. Yes, my money would be returned to me for the third and last time. A man was trying to move money from his account to his wife's account. Maybe it was a late alimony payment. And maybe he was drunk when he called the broker, who knows. He called to make the transfer and gave the wrong number. The brokerage firm, not particularly concerned about the different names on the accounts, started to fund the wife's account with my money. When I complained, my money was sent back to my account. When she complained, it was sent from my account back to her. I had no idea who those people were but I did not receive an apology from the brokerage firm. I was just told that mistakes happen and I should understand. I may have been given 3 free trades for my trouble. After listening to this guy from the brokerage firm, I was almost grateful to him for allowing me to keep my money.

Now, I still have all of the documents relating to the foregoing. I will not name the brokerage except it is that broker which I referenced by name in an email to a reader yesterday. I keep the documents just in case they say something like that could never happen, sort of like those quants who proved conclusively in a paper published in 1995, in a series of brilliant and incontrovertible mathematics, that the 1987 crash could not have happened. (a 27 deviation event, with a probability of 10 to the 160th power, really who could argue with that, the 1987 crash could not have happened). As I have said, I knew I had to be dreaming that day in October 1987, probably some form of pre-OG nightmare, kind of a warning of early onset dementia, hey wake up dude, the mind is turning to mush. And another false memory about that day was a hallucination that I called Schwab to buy stocks late in the day, and they said no one had quotes, and the tape was running at least twenty minutes behind. I was told that I could place a market order but there was no telling what would happen, sort of like now with odd lot orders at Fidelity.

Fidelity did send me an email saying that the issue raised by me about NYSE Rule 124 (C) is being researched. Now, that is a relief. I wanted to tell them not to bother if the answer was not known. But then LB thought to itself, being too kind to voice this sentiment in a public manner, something about why are they having to research the legal requirements for odd lot fills. This is not happening either. As Rene Descartes said, I think therefore I am, so it must be happening. More likely, it is just another case of the individual investor not knowing the club rules, the ones disclosed to those who know the secret handshake and passwords.

1. Mark Hulbert Column on Bonds: It is possible that we may be entering a period, hopefully of short duration, when neither bonds or stocks will work well. For those who value the lessons of history, there was a long period in my lifetime where both bonds and stocks failed to provide returns to investors. I am referring to the period starting roughly in 1965 and ending in August 1982. Inflation during that period just murdered bond values, a truly awful long term secular bear market for bonds. And stocks had started a long term bear market cycle. I just did a calculation of the annualized return of the S & P 500 starting on 1/1/1966 and ending 1/1/1982, with dividends reinvested, and adjusted for inflation. I came up with a negative annualized return of 1.04%. CAGR of the Stock Market: Annualized Returns of the S&P 500 Inflation was causing bonds to sink. This is a chart of average inflation rates during that period:

The target funds do not really take into account this kind of history when tailoring bond and stock allocations based just on the age criteria. There can be prolonged periods where both major asset classes fail.

1965	31.5	1.6
1966	32.4	2.9
1967	33.4	3.1
1968	34.8	4.2
1969	36.7	5.5
1970	38.8	5.7
1971	40.5	4.4
1972	41.8	3.2
1973	44.4	6.2
1974	49.3	11.0
1975	53.8	9.1
1976	56.9	5.8
1977	60.6	6.5
1978	65.2	7.6
1979	72.6	11.3
1980	82.4	13.5
1981	90.9	10.3
1982	96.5	6.2

The Number in the far right hand column is the rate of inflation. What can you say, except I would not want to own any bonds during that period? (Data provided by The Federal Reserve Bank of Minneapolis)(see: Inflation or Deflation in the Years Ahead: Fed Expects 1 to 2%)

I would suggest looking at the 10 year treasury constant maturity rates during that period. www.federalreserve.gov

Mark Hulbert's column is worth a read about a possible course for bond prices in the next year or two. For me, I would not try to predict whether bonds will start to fall in price and rise in yield this year or next. It is just impossible for me to see a favorable long term outcome when your typical bond fund is yielding 3 to 4%. While low rates may continue for months, the only rational prediction long term is that the low point in yields was hit last year for treasuries and possibly this year for investment grade corporates, and the next meaningful move will be a rise in rates accompanied by a fall in existing bond prices. Personally, and it is just my opinion, I do not believe that the treasuries and investment grade corporates are correctly pricing inflation risk now, over the life of the issues. And, I would argue that longer term treasuries have already started their second year of a long term bear market. After all, if you bought ten to thirty year treasuries back in December 2008 , you are already pretty deep in the hole. CNBC Story 12/16/2008: 30 YR Hits 50 Year Low in Yield at 2.89%

2. S & P 500 to 1300 this Year?: Some are predicting a continuation of a bull move in stocks that will take the S & P 500 to 1300 by mid year or before year end. Okay, I don't buy into that opinion. If it happens, I will be a seller of stocks.

The more likely scenario is choppy action near the current level for some time. There are two possible scenarios, one patterned on the history after the 67% rise between August 1982 and June 1983, and the other patterned on what happened after the cyclical bull move off the October 1974 bottom. See Item # 4 Historical Perspective on S & P Gain Since March 2009 1974 or 1982: Start of Cyclical Bull in a Long Term Secular Bear Market or the Start of Secular Bull Market? more on 1982 or 1974 The former was followed by a digestion period lasting 1 1/2 years, followed by a restart of a longer term secular bull market. The later option, drawn from the secular bear market of the 1970s (1966 to August 1982), is another long period of choppy action lasting several years before a resumption of a long term secular bull market. Another option is that I am wrong. We either fall a lot or keep going up a lot, which are possible though not likely options in my opinion.

This is just my personal opinion, always subject to change based on facts yet to happen. The problems that nearly caused a worldwide depression have not fully healed and are still with us. The healing process may take another two or three years. So while the S & P 500 may move up some more, eventually this bull cyclical move will stall close to where we are now, and then establish a trading pattern somewhere near the 950 to 1200 area on the S & P 500. In this view, the worst is over. In two or three years, provided there are no further catastrophes, most of the problems, including housing and jobs, will be largely healed, the balance sheets of American consumers will be in a far better condition than now, and the middle class will continue growing in emerging market countries, willing and able to spend ever increasing amounts of money on consumer goods. Then, when all of those conditions gel and coalesce, a new long term bull market will start, at a level lower than the market averages now. This would be similar to what happened in 1976 to 1982 without the six year time period elapsing after the end of the short term cyclical bull move which ended in 1976 after the 1974 catastrophic phase of that long term secular bear market.

I did raise a fair amount of cash on Tuesday by selling three Fidelity stock funds. That may or may not turn out to be propitious. Market timing was not the reason for selling those funds, however. I am not taking them with me when I move the account. The only reason for not selling the 4th and last one was that a recent purchase had been made, and I did not want to trigger a trading fee by selling it. But, this selling is also consistent with my view that the market is nearing a short term top. Maybe we are off to the races from current levels, but I am not going to be placing any major bets on the upward and onward scenario.