What an Ugly June that was!

It's July 1st and the headlines are pretty much dominated by news of how badly the second quarter closed. From the horrible IPO market performance, to the worst June recorded for the Dow Jones Industrial Average since 1930; that's right, we're talking about numbers we haven't seen since the great depression. From stocks to bonds, everyone is losing money. Well... not everyone.

Energy is the sole sector that's making money. Mining too, but the fact that that's spurred-on by coal mining predominantly, let's just call it energy. I suppose that that's not too surprising since everyone seems to agree that the rising energy costs, along with the weaker dollar, are responsible for the slowing economy. The question is, where do we go from here.

Banks want us to believe that we're approaching (or have hit) a bottom and that things will turn around soon. Brokers and traders are beginning to encourage people to get into the market to take advantage of the declines and prepare to reap the profits that will come from the market's climb. Personally, I believe that this is still quite premature. The credit crisis is widely seen as having caused the initial turmoil and from Buffett to Greenspan, the consensus is that we've yet to see the worst as far as the reported write-downs are concerned. Furthermore, the housing market has not yet recovered. Sure, the media is shining a bright spotlight on the nice markets in Florida and California that are seeing moderate recoveries, but this is likely more the result of foreigners entering the real estate market to take advantage of some deep discounts than it is a sign of a recover in the domestic market. The reality is that the U.S. is still slowing and that will have a domino affect on the rest of the world that is only beginning to show.

Unfortunately, the ugly June and Q2 is just the tip of the iceberg; this is a sign of what the near future holds and not a marker for the bottom that many would like us believe we've just hit. If you're looking for a silver lining, then consider this: wealth is not created or destroyed on the whole. If someone is loosing money, then someone else is making money. With so many loosing money, that should only mean that there are a whole lot more opportunities to cash-in. Happy hunting!

More Information Is Always Better

There's a lot of talk about the SEC and its persisting investigation of the ratings agencies. The good news is that, at least it appears at this point, investors will be winners now matter what the outcome.

I wrote earlier about the SEC's consideration of a plan to require the ratings agencies to make their research material available to others. This, of course, would allow others (hopefully individual investors as well) will be able to assess risk-and-reward profile for a given investment - just as the credit ratings agencies do. The advantage is that investors could become less reliant on the AAA-ratings and could review the actual data that goes into such a rating. With the agencies being blamed for having rated mortgage-backed securities as tripple-A (the highest investment-grade rating) that subsequently defaulted and resulted in hundreds of billions of dollars in losses and write-downs.

Now, there's news that the SEC will offer the ratings agencies a choice between two possible outcomes. The first, will be a disclosure of the underlying information as I described above; the second will introduce a new rating scale that would help identify mortgage-backed securities and distinguish them from corporate bonds. While certainly not providing as much information, this too would work to make investors more aware of where they were placing their money and that's never a bad thing. So, no matter what happens, at least its comforting to know that we, lowly investors, will ultimately win.

Money Market Funds ...Almost Risk-Free

If you've ever studied finance, then you know that the notion of the risk-free rate is critical to the valuation of many other financial instruments. U.S. Treasury Bills (T-Bills) are most often used as the de-facto risk-free rate, but what about money market funds. Since they were introduced almost four decades ago, not a single retail investor has ever lost a cent. Does that mean that they're risk-free?

No. Fortunately, that shouldn't dissuade anyone from including them as part of their well diversified portfolio. Money market funds tend to offer rates of return slightly better than T-Bills and certainly better than what your bank will offer on your savings or checking accounts. What should be considered as part of the decision, however, is that they are not guaranteed by the government in the same way as your savings and checking accounts are. There is a risk of default and there is a risk that you could lose all or part of your investment.

Money market funds, like other funds, group various types of investment assets together to offer retail investors (that you and me) the opportunity to buy an already-diversified (and presumably less-risky) asset in one go. In the case of money market funds, these include T-Bills, short-term corporate bonds and other, generally high-quality, short-term debt. The fact that they're short-term is important. The fact that they're high-quality is also important. These two facts together mean that it is highly unlikely that a debt instrument that is deemed to be high-quality is to default within one-year or less (the generally accepted short-term duration). As investors, however, we should be aware that there is a risk and like any risk, should not be ignored.

So what does this mean for your investment decisions? Probably, not much. If you're a savvy investor, then you already know that diversification is your best safety net. As long as you don't invest too much (proportionally) in any one type of asset, then you're unlikely to suffer a significant loss in even the worst of circumstances. Money market funds are a great safe bet. Just remember that safe doesn't equate with risk-free.

Buffett: "I invest in what I know and in what I understand"

Warren Buffett, the world's richest man, is someone to whom all investors should listen and from whom they should at least attempt to learn. In an interview on CNBC this morning, Mr. Buffett spoke about his latest deal to partner with Mars in a purchase of Wrigley at $80 per share (I wrote a blog about that here). When asked about why he was interested in the company, his comment was quite refreshing. Well, he said, when compared to the balance sheets of Wall Street's banks, this is a company whose value I understand.

Coming from one of the world's most respected, and successful, investors, this should cause many investors to truly question what is going-on in today's marketplace. When a savvy investor like Mr. Buffett can't make heads-or-tails of what financial institutions are reporting in their reports, how can a retail investor hope to do so? Instead, invest in what you understand.

Mr. Buffett's joke about doing a 70-year taste test of Wrigley's products speaks volumes about how investors should make their own investment decisions. Just like you shouldn't buy foods whose ingredients you can't pronounce, don't buy stocks who's underlying business you can't describe in a single sentence (or paragraph). Simple.

A market disconnect indeed!

I just got through reading an interesting article in the Toronto Start (read it here). To put things in context, here's a little excerpt:

The headlines continue to paint a dire economic picture. The credit crunch has forced global financial institutions to take major losses and slash jobs. Meanwhile, the U.S. housing downturn and crushing oil and gasoline prices have clobbered U.S. consumers, which promises to dampen Canada's already struggling manufacturing sector.

That pretty much says it all. I personally believe that rumours that the current recession is nearing an end (yes, we're in a recession) are largely overstated. In Canada, especially, the worst is yet to come. The impacts of the economic slow-down in the U.S. have yet to really hit us north of the border and when they do (they will) things will tumble hard.

I recently read some stuff on technical analysts' approach to investing and found it quite enlightening. The reason: they seem to see opportunity in almost every market situation, and for good reason. Many people (myself excluded) have made a bundle while others stayed on the side-lines (myself included) waiting for this bubble to burst. I'm sure that I'll take some satisfaction in being proven right, eventually, but it's still a little frustrating to see potential profits fall into the pockets of others.