Forecasts & Trends

Since December, the European Central Bank has loaned over 1 trillion euros to banks in southern Europe. These were three-year loans with an interest rate of only 1%. The banks used most of this money to buy up sovereign bonds of their home countries. This served to drive down bond yields around the region, and most observers assumed that the European debt crisis had been solved - at least for a while.

Yet over the last few weeks, the unexpected has happened: bond rates in countries like Spain and Italy have started to rise again to dangerously high levels. Ten-year Spanish bond yields climbed to the highest level since the ECB started allocating three-year loans in December. Yields rose above 6% last Friday and yesterday, which sparked new concerns that Spain may need yet another ECB bailout. Making matters worse, Spain's economy slipped back into recession in the 1Q.

Interest rates are also rising in Italy, and its economy appears to have dipped into a recession as well. All of this news has accelerated concerns that the financial crisis in Europe is back. Yet I argue today that the debt crisis never went away! Don't be surprised if this problem returns to center stage over the weeks just ahead, and if it does, this will not be good news for equity markets around the world.

While US stocks are enjoying a very strong day today, there's a critical government bond auction in Spain on Thursday; Italy has a big bond auction on April 27; and Spain has another large bond auction on May 3. If interest rates continue to rise and/or if Spain and Italy have trouble finding enough buyers, this will be bad news. That's our topic for today.

Our national debt has now reached a record $15.6 trillion, thus eclipsing our gross domestic product of $15.1 trillion. Of this $15.6 trillion in debt, $10.8 trillion is held by the public (including investors, the Fed, state and local governments and foreigners), and the remaining $4.8 trillion is held by various government agencies and trust funds (including Social Security).

Our national debt consists of Treasury securities ranging from 30-day T-bills to 30-year T-bonds. Surprisingly, the average interest rate on our national debt is now down to only 2.2%. The average maturity on our national debt is only 62.8 months. What this means is that 71% of our privately-held Treasury debt must be rolled over in the next five years. The US now surpasses Greece, Portugal and Spain when it comes to relying on short-term borrowing to finance our national debt.

The question is, will there be ample buyers to roll over all this debt in the next five years? This may shock you but the Federal Reserve bought up 61% of all net Treasury issues in 2011. This makes the Fed the largest buyer of US Treasury securities! What happens when the Fed has to stop this practice? Higher interest rates come to mind, especially when you consider that foreign buyers of our debt have started to scale back their purchases. China, which is the largest foreign holder of our debt, actually decreased its holdings of Treasuries by $156 billion in the second half of 2011. This is scary!

What, you haven't heard all this in the media? Of course you haven't. But I will give you the facts and the dangerous implications in today's E-Letter. Please read it carefully. We need to get this information to as many people as possible. Let's jump right in.

Where should you be investing now? Bonds? With interest rates beginning to spike, bonds prices are getting hammered. Stocks?The stock market, on the other hand, has seemed to go too far, too fast this year, leaving many to fear a major correction just ahead That's bad news for buy-and-hold investors. Cash? Let's not forget that many risk-free assets literally cost you money to hold them on an inflation-adjusted basis. What's an investor to do? This week's E-Letter has one answer.

It's no secret that I am sold on Wellesley Investment Advisors' convertible bond managed account program. Yet, many of my readers have held off on this investment, possibly because of some analysts are saying that it's time to ditch bonds. It's clear that investors do not realize that convertible bonds are a completely different animal than interest-sensitive Treasury and corporate issues.

This knowledge gap has caused many to reject convertibles when they should be embracing them. Greg Miller, CPA, is one of the foremost experts on convertible bonds in the country. In our webinars, he notes that anyone who listens to his presentation will know more about convertible bonds than 99% of the US population and even many investment professionals. Today, I'm going to offer you the opportunity to learn more about the hybrid nature of convertible bonds and why, when properly managed, they have the potential to make money in whatever market environment we may face in the future.

Being in the business I am, people frequently ask me why gasoline prices are so high. Of late, people have also been asking me if President Obama has any idea whatsoever about how the energy markets work. As it turns out, the Heritage Foundation just released an excellent report that addresses both questions. It also lists five specific actions that Congress and the Obama administration should undertake to increase energy production in this country.

But before we get to that, I will summarize the latest economic reports which continue to give mixed signals. While the latest report on 4Q GDP came in a bit better than expected, most economists agree that growth in 2012 will not be as good as the 4Q of last year. Following that, we look at some remarks from Fed Chairman Ben Bernanke in his recent Senate testimony. While he defended quantitative easing, it doesn’t sound like the Fed is going to do QE3 anytime soon.

From time to time, I like to share with readers what I do in my "real job" at Halbert Wealth Management. We are an Investment Advisory firm in Austin, Texas and we specialize in identifying successful independent money managers. However, these are not just any money managers, they all employ active management strategies in an effort to lessen the risks of being in the market.

At the end of 2011, we ran our performance numbers on our AdvisorLink® programs and saw that ALL of our recommended managers beat the S&P 500 Index since the inception dates of each program. Not only were returns higher, but losing periods (drawdowns) were also significantly less. Higher returns with lower risk - that's the Holy Grail of investing.

In this week's E-Letter, I'm going to review the performance of our active money managers as well as discuss how you can become one of our clients, if you are not already. Even more importantly, I'll tell you why NOW may be the best time to diversify your portfolio to include active strategies.

Today we begin by focusing on the Congressional Budget Office's (CBO) latest long-term economic forecasts. Actually, we will focus most of our attention on the CBO's 2012 and 2013 forecasts, since going beyond the next year or two is really just speculation in these uncertain times. There is a lot to consider in the CBO's latest forecasts.

From there we move on to some scintillating news that many federal workers, including at least 36 members of Obama's own White House staff, are far behind in their income taxes owed to the IRS. How far behind? Can you say $3.4 billion? Yes, $3.4 billion and counting. President Obama says we all need to pay our "fair share" (ie - higher taxes on the rich), but I would suggest that he focus on those in his Administration and Congress that are behind on their tax payments.

Finally, I will examine last Friday's unemployment report which surprised just about everyone. There is a reason the unemployment rate is going down, but you may be surprised to learn why. I'll give you the straight story, plus I will review the latest economic reports at the end. Let's get started.

We touch several bases today. We begin by looking at some recent economic reports which are encouraging. We also preview this Friday's very important first report on 4Q GDP. The pre-report consensus is for a number in the 3-4% range (annual rate), following only 1.8% in the 3Q. Following that discussion, I will bring you the latest estimates from the Blue Chip Economic Indicators, a monthly survey of 50 leading economists and forecasters.

From economics, we shift gears and take a look at income tax policies. I will attempt to explain how some wealthy Americans (think Warren Buffet, Mitt Romney, etc.) can legally pay a lower tax rate than rank-and-file Americans who earn "ordinary" (W-2) income. I will also explain the difference between the "marginal" tax rate and the "effective" tax rate. The two rates are significantly different, yet the media often refer both in the same breath without making the distinction.

Next we look at a recent poll of over 500 millionaires. Believe it or not, 71% said they believe the "rich" should pay higher taxes. But in the same survey, 49% said that the higher tax rate should NOT apply to them but only to super-rich types like Warren Buffett. There are several other interesting insights from this poll of millionaires which I will point out.

Do you think that you could keep your job if your employer ranked your job performance at only 11%? Probably not, but it seems that Congress is doing just that. A recent Gallup poll found that only 11% of Americans approve of the job Congress is doing, and a whopping 86% disapprove.

Since our legislators supposedly work for us, it looks like they are not making the cut. Adding insult to injury was a report saying that members of Congress actually got richer from 2004 to 2010, while the rest of the nation's wealth stayed flat or actually fell. So, while Congressional job performance got worse, their personal wealth grew.

One reason that members of Congress experienced asset growth while everyone else languished may be the fact that they can trade on inside information that they get as a member of Congress - and it's perfectly legal. Knowing the status of pending legislation, regulatory actions, committee hearings, etc. means that they have a leg up on the rest of us who are prohibited from trading on inside information. If more Americans knew about this, I suspect the 11% approval rate would drop quickly.