SMI Visitor's Weblog

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Will gold keep rising against major currencies?

The answer, of course, is "no one knows." But the prospects for gold seem good — or, put another way, the prospects for currencies appear to be not-so good.

Reporter Tom Sullivan offers details in Barron's.

The dollar is not as good as gold. Neither are 22 other currencies.

A recent study by GoldMoney.com, which enables online cross-border transactions using gold as a currency, found that from 2000 through 2009, gold rose an average 10.1% a year versus the Swiss franc...14.9% against the U.S. dollar... [and] 20.0% for the Sri Lankan rupee.

"Gold isn't going up, currencies are going down," says James Turk, GoldMoney.com's founder. "The purchasing power of gold remains basically unchanged against commodities. In contrast, the purchasing power of national currencies is being constantly eroded."...

That's because governments are debasing currencies, he says, destroying their citizens' purchasing power by spending beyond their means and using debt to stay afloat. The U.S., as one example, is trying to goose its economic recovery through massive deficit spending, but it may worsen the situation should the dollar tank, Turk asserts.

As always, there are those who see things a different way. The Barron's article quotes Ashraf Laidi, chief strategist at CMC Markets, who predicts gold will fall against the dollar.

Laidi could be right. But for any weaker gold/stronger dollar scenario to extend to the longer term would require the reversal of a pronounced nearly decade-long trend (see table).

A more extensive version of the table is here (PDF).

Double your market-anniversary pleasure

Expect to see a deluge of stock market "anniversary" stories in the coming days. We've got not just one, but two major anniversaries: today marks the one-year anniversary of the current bull market (i.e., the market bottomed last year on March 9), and the 10-year anniversary of the 2000 market top is coming up within a week or so as well (though that one depends a little on which index you use to pick out the exact top).

Here are a couple of interesting factoids I saw yesterday perusing a few of the early versions of these stories:

Marketwatch's "Riding the Rally" tries to answer the question of what to expect in year two of a bull market. Lots of historical patterns to be found here.

During the second year, historically, stocks keep rising — though not as powerfully, said Sam Stovall, chief investment strategist at S&P Equity Research.

Small-cap and midcap stocks continue to outperform both large-caps and the S&P 500, which still do all right themselves, and higher-quality issues with stable and growing earnings trump low-quality names. Since 1949, Stovall said, small-caps have returned 22% on average in the second year of a rally, while large-caps rose 15%.

Ironically, as great as the past year has been for stocks (with the S&P up roughly 66% from the year-ago lows), that really isn't all that spectacular for first-year bull markets, at least relative to the size of the bear market that preceded it.

Stovall is upbeat about the broad U.S. market's chances for a sustained advance.

"First-year bulls tend to recover an average of 84% of what they lost in the entire bear market," he said, noting that this bull run has retraced about half of the loss. "So you could say that on a recovery basis, we have more room to go."

Moreover, since 1949 none of the 10 prior U.S. bull markets has ended in its second year — the shortest was 26 months beginning in 1966. Since 1932, the median length of a bull market has been 50 months, according to S&P. That said, between 1932 and 1947, four of the five bulls fizzled in two years or less.

CNBC is echoing the "Bull Market Survival Rate Increases After One Year" theme:

History shows that by simply passing that 12-month threshold, it will make it that much more rare for the advance to suddenly end.

The 13 bull markets since 1930 that have lasted more than a year have averaged, a total gain of 153% and a total length of 4.4 years, according to data from Bespoke Investment Group.

"Bull markets that pass the one year mark have almost always lasted two years or more," wrote Bespoke's analysts, in a note to clients on Friday. "The one bull that lasted more than a year and ended after 393 days was in 1948, and that bull only saw a gain of 24 percent, so it's nothing like the current one."

Who's responsible for this historical pattern? You are! (Or, perhaps your neighbors.)

But why is one year the magical milestone? Perhaps it is because it takes more than a year for a bull market to prove its mettle with the often stubborn and less nimble retail investor, which has sat out most of these gains in bonds. Once they are convinced, their money comes flowing in and provides at least another 12-month lift to stocks.

Of course, it could all be different this time. But the longer this advance goes on, and the more the economy steps away from the brink of what has been a brutal recession, the better the chances that this bull market holds its gains.

No, it's not all sunshine and rainbows out there. But things sure look a lot brighter than they did a year ago!

Making progress by dollar-cost averaging

Lots of number crunching has been going on since early January, as fund companies and related organizations compile data for the decade just ended. (SMI is no different: you can find our recently released 2000-2009 performance data here.)

Fidelity, the top provider of employer-based retirement plans, has completed an analysis of the 10-year experience of 11 million investors who have Fidelity 401(k) accounts. Here are the overall results (from a Fidelity news release):

Even during a decade that included unprecedented volatility coupled with two of the worst market downturns in history, analysis of employed participants with a Fidelity 401(k) plan for the past 10 years ([2000] to 2009) showed their account balance increased nearly 150 percent to $163,900 at the end of 2009 from $65,800 at the end of 1999.

The increase in balance was due to continued participant and employer contributions, dollar cost averaging and market returns. The analysis also showed that these continuous participants had a median age of 51 years with a deferral rate of 10.4 percent.

The New York Times' Bucks Blog digs a bit deeper:

While [results differ] for every employee, about three-quarters of [the increase reported by Fidelity] was from worker and employer contributions. And roughly one-quarter could be attributed to market returns and what's known as dollar-cost averaging (when investors make regular investments over time, thereby evening out their chances of buying at market highs and lows).

In other words, over the decade most workers just kept plugging away at making contributions to their retirement accounts. Sometimes stock prices were high (e.g. September 2007), sometimes they were low (February 2009 anyone?). Regardless, most 401(k) investors stuck with their plan.

Looking back now, it is clear that these workers — despite one of the worst market decades ever — made substantial progress toward their retirement goals simply by being diligent to the task of setting aside about 10% of their income, paycheck after paycheck.

Sure, a worker who 1) pulled out of the market before each downturn and 2) got back in at the bottoms would have come out much better, but who can know when such drops begin and end? They're easy to see in hindsight but almost impossible to spot, at least consistently, in the present.

The moral of the story: slow and steady wins the race — or at least it's a solid strategy for moving you toward where you want to go. For more, here's a 2007 SMI article on dollar-cost averaging.

Advantages of using a credit card

Be it the unintended consequences of the CARD Act signed into law last year making things worse for consumers not better, the controversial safety and hidden fee issues, or the oft-recited studies showing you spend typically 10-30% more when paying with plastic rather than cash, credit cards are getting a lot of bad press these days.

And all this may be fine and true, but there are some "free" upsides to credit cards. One of my favorites is Purchase Protection:

What it does: If something you bought with your credit card is damaged or stolen within 90 days, you can receive a refund of the purchase price.

The catch: This protection has many exclusions, including items that are lost without any evidence of a wrongful act or are stolen because of a lack of due diligence. Used, antique and collectible items generally are not covered.

Value: Refunds limited to $300 (American Express), $500 (Visa) or $1,000 (MasterCard) per item. American Express has an additional program with refunds of up to $1,000 on certain types of items, including clothing and electronic equipment. Caps on the total refunds received by cardholders also apply (e.g., a total of $25,000 per cardholder with MasterCard or $50,000 annually with American Express).

Now this reason alone might not be enough to get the cash-only crowd interested, but when combined with other perks like free roadside assistance, lost-luggage reimbursement, and extended warranties, there is a case to be made for using credit cards in moderation for specific purchases. But don't even consider this if you struggle to exercise financial self-discipline. The best perks in the world aren't worth it if the trade off is a load of debt.

Study: Average investors often trail average fund performance

Newly published data (PDF) from Morningstar reveal the fund categories in which the average investor is trailing average fund performance. For example, large-cap growth funds: Morningstar found that over the three years ending 12/31/2009, the average fund in that class lost 2.9%, yet the average investor in large-cap growth funds lost 3.6%.

Likewise, over the past three years average investors underperformed overall returns for mid-cap growth, large value, and mid-cap value funds, and also fell behind the average fund performance in sectors such as natural resources, utilities, and heath-care funds. (On the other side, average investors did better than average fund performance in small-cap growth and small-cap value funds.)

Morningstar's Russel Kinnel explains what's behind the numbers:

The gap between investor returns and total returns shows...how well investors timed their purchases and sales. (For all the details on the calculation, you can check out the two-page fact sheet here or the 10-page methodology document here.)...

A couple of years ago, doing this revealed that the average investor often did better than the average fund because, while their timing was off, they often picked bigger lower-cost funds. However, the whipsaw of the past two years has meant that, in most categories and in the aggregate, investors have done worse than the average fund....

The grand total for the average investor in all funds in the [period from 2000-2009] was a 1.68% annualized return, compared with 3.18% for the average fund.... In U.S. equities, the average investor earned a scant 0.22% annualized, compared with 1.59% for the average fund.

All that is interesting, but just how are investors supposed to do a better job of "tim[ing] their purchases and sales"? Only in hindsight can an investor see that it would have been wise to sell a particular fund earlier or hold it longer.

Trying to improve buy/sell timing decisions on a case-by-case basis, rather than simply following clearly defined decision-making parameters, is a good way to tie yourself in emotional knots!

This is why SMI's successful Upgrading strategy relies on non-emotional, mechanical signals for buying and selling. Upgrading works (as evidenced by the table at left) — and it's relatively easy on both the brain and the stomach!

Sure, once in awhile the mechanical signals mislead us. No system is perfect. But more often than not, the signals prove to be correct. That's why Upgrading has outperformed the market in 10 out of the past 11 years.

New month, new SMI issue

After another race to the deadline, the March 2010 issue of Sound Mind Investing is finished and is online (and the print version is on its way to mailboxes around the nation).

Our March cover story looks at a long-term trend that's sure to have a large impact on your investing future: an increasing share of the best growth opportunities are coming from foreign markets. We explain what's happening — and how to take advantage of it in Funds Across the Water: A Primer on International Investing.

The latest issue of SMI also includes:

• What you need to know to earn higher yields from foreign bonds;
• A simple strategy for getting better returns in your 401(k), even if you only have a small number of funds to which to choose;
• A conversation with Ronald Blue & Co.'s top income-tax guru about recent tax changes that may yield a few pleasant surprises when April 15 rolls around;
• Our reviews of popular personal-finance apps for smartphones.

Also in the current issue: SMI members following our Fund Upgrading strategy will learn about an important fund change, as we say "goodbye" to a fund that has served us well since the fall of 2008 and "hello" to a current strong performer.

Not an SMI web member yet? Today's a great day to join and instantly gain access to all of the content from the new March issue!

Can't have it both ways

This report on the "state of the postal service" is a great microcosm of the choices we are going to have to increasingly make over the coming years.

There's a big financial problem:

The U.S. Postal Service estimates $238 billion in losses in the next 10 years if lawmakers, postal regulators and unions don't give the mail agency more flexibility in setting delivery schedules, price increases and labor costs.

There are some reasonable steps that could at least help fix the problem:

In an effort to offset some of the losses, the agency is pushing anew for a dramatic reshaping of how Americans get and send their letters and packages. [Postmaster General John E.] Potter is seeking more flexibility in the coming year to set delivery schedules, prices and labor costs. The changes could mean an end to Saturday mail deliveries, longer delivery times for letters and packages, increases in postage-stamp prices that exceed the rate of inflation, and — possibly — future layoffs.

But nobody seems willing to allow their services to be cut:

The agency's call last year to consolidate about 3,000 post offices drew a firestorm of protest from the public and lawmakers.

We're going to have to grow up if we're ever going to seriously address our government's financial issues. Those lawmakers referenced above aren't going to do it unless we start forcing them to.

It's been a long time since American voters have heard the government say, "Sorry, we just can't afford it." Let's hope we start hearing it sooner rather than later.

Encouraging news for long-term investors

In January of 2009, with the market still mired deep in the clutches of the bear market, I blogged about an article that claimed stocks were farther below their long-term price trend than they had been at any time in the past 200 years. The authors concluded that stocks had gotten so far below trend that it was very likely they would "revert back towards the mean" before much longer.

It took another six agonizing weeks for that bear market to find bottom, but their claim turned out to be true. The stock market shot up roughly 70% after that.

Anybody curious what that indicator is showing today?

Me too. And thankfully, the authors recently published a new article detailing that information.

As the chart shows, despite the huge rebound in the market over the past year, stocks are still 27.9% below their 200-year trend. That's obviously not as far below as the 43.1% they reached at the market bottom last March, but still significantly below the long-term trend shown by the red line.

What does this mean exactly? Unlike a year ago, the predictive value of this over the short-term is probably relatively limited. Past experience indicates that the market can stay below (or above) trend for an extended period of time. So unfortunately, we can't really look at this and conclude that a strong rally back towards the trend line is imminent.

However, for long-term investors, the chart has an encouraging message. Simply put, the 200-year track record of the chart says that stocks are likely to produce better returns than their historical long-term average until they "catch up" to the trend line. Maybe not this year, or next, or for the next 5-10 years even. But time after time those two lines have separated and then converged, and it's likely to happen again before too long. It could take a decade, but long-term investors have time on their side.

I recognize that this is difficult to accept for many people who look at the long-term challenges facing our economy and our country. But keep in mind that all of the problems we see are already known and factored into the stock market's current valuation. The stock market is a forward-looking discounting mechanism that has all that known bad news already "baked in."

That forward-looking discounting, coupled with the tendency shown in the chart for the market to revert to the mean, causes the market to continually deliver the exact opposite of what most investors expect.

That's why (in hindsight) a time like 1999 and early 2000 can be a poor time to invest, despite the fact that the external conditions seem to look great. And it's also why hindsight may well show the current period to be a good time for long-term investors to invest, despite external conditions seeming to look poor.

Do you need it — or just want it?

As we become a more and more data-centric society, all that information consumption not only eats up our time but also our money. And if you're anything like me (and for your sake I hope you're not), it's easy to fool yourself into categorizing a "want" as a "need."

Take, for instance the cell phone. Until January 2009, I was an anti-cellphone-ite, a breed on the doom of extinction. My wife, my son, my nephews — even my mom — had a cell phone. I didn't want the extra expense, the extra interruptions, and the extra cargo to lug around (I had trouble enough not forgetting my wallet and keys).

But I eventually caved, in part because my wife wanted me to have a cell phone, and in part because of the convenience factor. And if I was going to schlep one of these around everywhere, I wanted a good one... so I got an iPhone.

With all the things it can do, it's closer to 1-part convenience, 3-parts entertainment. There's nothing wrong with that, as long as I'm honest about it when factoring it into our budget: this is 75% an entertainment-budget item.

This leads me to a New York Times' piece on the cost of home entertainment. There are some interesting figures to consider:

It used to be that a basic $25-a-month phone bill was your main telecommunications expense. But by 2004, the average American spent $770.95 annually on services like cable television, Internet connectivity and video games, according to data from the Census Bureau.

By 2008, that number rose to $903, outstripping inflation. By the end of this year, it is expected to have grown to $997.07. Add another $1,000 or more for cellphone service and the average family is spending as much on entertainment over devices as they are on dining out or buying gasoline.

And those government figures do not take into account movies, music and television shows bought through iTunes, or the data plans that are increasingly mandatory for more sophisticated smartphones.

Incredible really. All this got me wondering 1) how bad the damage was at the Pryor household and 2) where could we cut costs on digital services yet still keep most of the functionality?

I started with our cell-phone plan. I went to the website, downloaded our usage, and checked our monthly average of minutes and text messages used. We use about 450 minutes a month, but had a 750-minute plan. Unfortunately, that's the lowest family plan listed on the site. But I called anyway hoping there were other unlisted options. Sure enough, there's a 550-minute plan that's $10 less. Then I asked about texting (which I use way more than I talk). Unfortunately, there's only one family plan and the individual plans wouldn't cover our average monthly texting. However, I'm experimenting with apps like textPlus which allows free texting to other textPlus users. This could reduce our phone bill by $20/month if we're diligent about using it.

My next call was to our cable company, which provides our home phone, internet, and TV. I started off by kindly letting them know I wasn't happy with my 15% bill increase over the past year and wondered what they could do to help me. In seconds, the rep offered to knock off $13 from the internet portion of my bill, but said that was all he could do. I took him up on his offer, thanked him, and hung up.

I then immediately called back to talk to someone about the TV packages we have. Turns out, we were paying for a package that has only two channels that we ever watch (and not with much frequency). Dumping that tier of service shaved off $10/month. Secondly, there was a package I NEVER signed up for (and never use) but was being charged $8/month for. I promptly canceled that one too and asked for a refund.

The rep was friendly but said she couldn't do that. Now in their defense, I understand: any yahoo could call up months after the fact and say they didn't ask for it and demand a refund. And had I diligently been studying my cable bill every month and comparing it to the ever changing TV package line-up options, I suppose I could have caught the error. But on principle, I couldn't let it go. I had been overcharged. And had they not made the error to begin with, I wouldn't be in this mess. So I called back the next day, spoke with a rep, and then that rep's supervisor. I'm still waiting for a call from the supervisor's supervisor.

Let's re-cap: to that point, I'd knocked off $10 + $13 + $10 + $8 = $41/month (not to mention all those convoluted taxes and fees). And this doesn't include a potential $20/month if textPlus meets our needs. But I wasn't done yet.

With our home phone getting used less and less, I've been wanting to get rid of it (and its $26/month fee) for quite a while. I nagged my wife to death and she finally relented. So I ordered an Ooma. In a nutshell, Ooma is a device that connects to your high-speed Internet and your home phone and allows you to make calls at no charge. It does other things as well, but we're getting it primarily so we can cut the $26/month phone bill. It will take about 10 months to pay for itself, but should be worth it (I'll do an article or post once we've been using it for a while).

So put all these things together and by the end of the year, I will have shaved $67-87/month off our monthly expenses, while not sacrificing a great deal in these luxury/entertainment categories. Notice I said "shaved" and not "saved" because as our good friend Mary Hunt says, "You don't save money buying things on sale unless you stop at the bank to deposit the money you saved."

Bottom line: Be honest about your budget categories and your "needs" vs. your "wants." Technology is nice, but all those 0's and 1's really add up.

Persevering through the rough places

Market reversals will come. If you didn't know that before, the period from October 2007-March 2009 made it abundantly clear!

Unfortunately, many investors run for the exits as bear markets unfold, and then are skittish about getting back in for fear that another drop might occur (statistics suggest many investors who bailed during '08 and early '09 still haven't returned). Such an approach to investing is rarely productive. Often, it all but guarantees poor long-term returns.

A better approach is to persevere through the tough spots. But you're not likely to persevere unless you have a plan — a plan you can stick with even when the going gets tough.

SMI's assistant editor Joseph Slife talked about this a few days ago with host Bob Crittenden on Faith Meeting House, a program produced by Alabama's Faith Radio.

Click the arrow below to listen (22 min.) — or use this link to download (right click/save as).

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