Week In Review

The week that was:

The main focus last week was again the Middle East, particularly the events in Libya.  As a result, U.S. oil prices have been pushed up to around $100 per barrel and have caused many to question the potential drag of higher oil prices on the U.S. economy.  Most energy analysts on the street say $120 is the point where oil will start to significantly hurt the economy.  Obviously, if the political unrest spreads to Bahrain and Saudi Arabia, oil should be expected to continue to head north.

The European debt crisis has not been front page news of late, but the troubles there remain.  It will only be a matter of time before these problems resurface. 

Stocks:

The S&P 500 fell 23.13 points this week, or 1.72%, to 1319.88.  The Nasdaq Composite fell 52.90 points, or 1.87%, to 2781.05.  The Dow Industrials fell 260.80 points, or 2.10%, to 12130.45.  This marks the biggest weekly percentage drop for the S&P and Dow since November 12, 2010.

Bonds:

End of week bond yields:

3 Month yield = 0.11%, up 4 bps from last week.

3 Year yield = 1.20%, down 10 bps from last week.

5 Year yield = 2.16%, down 11 bps from last week.

10 Year yield = 3.41%, down 17 bps from last week.

30 Year yield = 4.50%, down 19 bps from last week.

What to look for next week:

7:30 AM          Monday           Personal Income and Outlays

9:00 AM          Monday           Pending Home Sales Index

9:00 AM          Tuesday           ISM Manufacturing Index

7:30 AM          Thursday         Jobless Claims

7:30 AM          Friday              Employment Situation

• Economists expect the unemployment rate to show that nonfarm payrolls increased by 192,000 new jobs in February, after a gain of 36,000 in January.

Also:

• Apple will unveil the second version of the iPad tablet on Wednesday.
• There will be plenty of talk about a potential government shutdown, which may happen as soon as March 5^th if lawmakers don’t approve a funding plan by next Friday.

Week In Review

The week that was:

The first few weeks of every calendar year are a time for market prognosticators to reveal their predictions for the coming year.  January of 2011 was no different.  I read a handful of columns from some of the most well-respected minds in finance.  However, none of these folks came close to predicting what was to unfold in Egypt in January and February.  Egypt has dominated headlines and the stock and commodities markets have remained fixated on the drama.  The events culminated on Friday with the resignation of President Hosni Mubarak as he handed over power to the Egyptian military.  What happens in Egypt in the following days, weeks, and months will certainly shape the future of the Middle East and maybe even the world.

The Egypt stock market will remain closed until Wednesday at the earliest.  For those of you interested in investing in or speculating on Egypt, the Market Vectors Egypt Index ETF (EGPT) is the way to go.  There has been tremendous volatility in this fund over the last few weeks and I would expect this to continue.  The fund has doubled in size in the last few weeks to $25 million as others seek to profit from the turbulence.  EGPT holds about 27 stocks, with financials making up 47% of the portfolio. 

In news outside of Egypt, China’s central bank raised its key interest rates in an effort to slow inflation.  The one-year lending rate was increased from 5.81% to 6.06% and the one-year deposit rate was increased from 2.75% to 3%.  Economists are predicting that inflation in China could exceed 5% for the first two months of 2011.

Stocks:

The S&P 500 rose 18.28 points this week, or 1.39%, to 1329.15.  The Nasdaq Composite rose 40.14 points, or 1.45%, to 2809.44.  The Dow Industrials rose 181.11 points, or 1.50%, to 12273.26.  The S&P is up 4.14% over the past two weeks.

• Shares of Nokia (NOK) fell almost 14%  on Friday after the company announced a number of changes, including plans to use Microsoft’s mobile operating system in its smartphones.
• A number of analysts downgraded Cisco (CSCO) this week on concerns about higher competition and lower margins.  Shares were down 14.15% on Thursday.

Bonds:

End of week bond yields:

3 Month yield = 0.09%, down 4 bps from last week.

2 Year yield = 0.83%, up 9 bps from last week.

3 Year yield = 1.40%, up 18 bps from last week.

5 Year yield = 2.35%, up 10 bps from last week.

30 Year yield = 4.70%, down 3 bps from last week.

An investment idea for a steep yield curve:

Since 1976, the average yield difference between 10-year and 2-year bonds is 0.83%.  That spread is currently 2.8%, which is near an all-time high.  This elevated state cannot last in the long-term.  An investor looking to take advantage of this situation might purchase the iPath US Treasury Flattener ETN (FLAT).  This fund employs a strategy that profits when the 2-year versus 10-year yield spread declines.  It does this by shorting 2-year Treasuries and going long 10-year Treasuries. 

Going beyond this mean-reversion trade, what does the steep yield curve really mean?  The bullish view is that the two previous similar yield curves (in the early 1990s and 2000s) served as precursors to an improving economy and large gains for stocks.  However, the bearish view is that the long-end of the curve is signaling inflation fears, persistent government debt issuance, or possibly even a future downgrade of US sovereign debt.  I can see merit in both viewpoints but am more inclined to agree with the bearish camp if I had to pick sides as I think inflation is around the corner.

What to look for next week:

7:30 AM          Tuesday           Retail Sales

7:30 AM          Wednesday     Housing Starts

7:30 AM          Wednesday     Producer Price Index

8:15 AM          Wednesday     Industrial Production

7:30 AM          Thursday         Consumer Price Index

7:30 AM          Thursday         Jobless Claims

9:00 AM          Thursday         Philadelphia Fed Survey

Booth Links

I'm snowed in with nothing better to do than share my favorite articles involving current/former professors.  Who am I kidding?  I would be doing this anyway:

• THE NEW YORK TIMES.  Research by my Marketing professor, Ann McGill, and Sara Kim, a Booth Ph.D.   student, was featured in an article headlined “Feeling Powerful and Taking Risks,” published January 2.  In the study, one group of subjects was asked to recall a time when they felt powerful, and the other a time when they felt powerless.  Then the subjects looked at a picture of a slot machine, which had been rigged to look either human or nonhuman, and rated the riskiness of the game and their willingness to play.  The people who had been led to feel powerful were attracted by the humanoid machine and thought it lower in risk than the nonhumanoid machine, while the powerless people found the humanoid machine unattractive and risky.
• THE NEW YORK TIMES.  My Advanced Investments professor, John Cochrane, was quoted in an article headlined “Fed’s Crisis Investments Are Showing Big Returns,” published January 10.  Interest income from the Fed’s investment portfolio has produced record profits for the Fed for two consecutive years, the article said.  But over time, when economic conditions improve, the portfolio could become a risk, because the investments could lose value when interest rates eventually rise.  “From the taxpayers’ view, I think it is a mistake to make much of this number either way,” Professor Cochrane said.  “The Fed is acting like a huge hedge fund on our behalf.  It is borrowing at very low short-term rates and investing in long-term government bonds, mortgages and other risky loans.  It made a profit on those investments last year, but it is bearing a lot of risk.”
• U.S. NEWS & WORLD REPORT.   Research by my Managing in Organizations professor, Nicholas Epley, was featured in an article headlined “Close Relationships Sometimes Mask Poor Communication: People may think loved ones understand them better than they actually do,” published January 24.  “Our problem in communicating with friends and spouses is that we have an illusion of insight,” he said.  “Getting close to someone appears to create the illusion of understanding more than actual understanding.”
• THE TELEGRAPH (London).  More research by Nicholas Epley was featured in an article headlined “Couples Sometimes Communicate No Better Than Strangers,” published January 21.  “Our problem in communications with friends and spouses is that we have in illusion of insight,” he said.  “Getting close to someone appears to create the illusion of understanding more than actual understanding.”
• THE NEW YORK TIMES.  My Accounting professor, Christian Leuz, was quoted in an article about how Goldman Sachs’ purchase of Facebook shares looks like a way to circumvent a 1964 law that limits the number of shareholders in a private company.  “We’ve lowered the bar for certain types of investors that we felt need less protection,” Professor Leuz said in the January 5 article, referring to hedge fund and private equity investments.  “But maybe what we’ve learned in recent years after the financial crisis is that sophisticated doesn’t always mean high-net-worth.”
• FOX SMALL BUSINESS.COM.   My Taxes professor, Ira Weiss, was quoted in an article offering advice to entrepreneurs seeking capital.  “Create an advisory board and use it for contacts,” he said.  “Try to get people interested in what you are doing and ask them for guidance.  Pitch your idea to industry experts.  Favor business models that generate cash sooner.  Get external validation for your idea.   The best way is through creating a product or service and securing customers that can be references.  Finally, bootstrap, bootstrap, bootstrap.”   The article was published January 4.    Professor Weiss is faculty director of the Hyde Park Angels, an angel investing group.