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Who Will Be The Next US President? Read The Stock Market Tea Leaves.

Any investor, broker or trader is anxiously keeping an eye on the biggest news story of 2016: The presidential campaign. The peaceful transition of power is a hallmark of our great democracy, yet that doesn’t necessarily translate to calm waters in the stock market. Analytical studies of past elections can provide us with a reliable way to predict the outcome of the coming election. Here’s what to look for:

  • Keep a close eye on the S&P 500 index three months prior to the election.
  • Historically, positive stock returns in the three months leading to the election leads to the incumbent party retaining control of the White house.
  • The challenging party, in a historical contrast, takes control of the power when stock fall during the three-month period leading to the election.

An article in Bloomberg which has become a source of discussion points a comprehensive study by Strategas Research Partners which shows that since 1928 U.S. equities have correctly predicted the winning ticket 19 of 22 times.

As recent history illustrates, this pattern was evident in both election cycles for President Obama, who celebrated victories thanks to market fluctuations in those vital three-month periods before the November vote that are consistent with this election prediction theory. We all remember well how the market dropped an amazing 20% percent in 2008 during those last months of George W. Bush’s second term, evidently hurting candidate John McCain and electing the challenging party. In 2012, the S&P 500 gained 2.5% during that vital three-month ramp to election day helping the incumbent, President Barack Obama.

In 1992 the S&P 500 slid 1.22% during the final months of campaigning which meant that incumbent George H.W. Bush lost to Democratic challenger Bill Clinton. After Clinton’s 8 years in power, Democrat Al Gore was hoping to depend on a positive Stock Market yet the 3.2% fall during the tail end of the election of 2000, gave us the outcome of George W. Bush winning in a squeaker.

Despite this unpredictable atmosphere of global terrorism, and isolated, reprehensible acts of violence at home; the market may proceed with a steady enough trajectory that the theory can be applied to this election cycle. A lower stock market, which Donald Trump has “forseen,” cold mean that he will take the presidency in November. If the market performance stays strong throughout the summer and into the Fall, perhaps the incumbent party will celebrate for a third consecutive election cycle.

Posted in the Yulish & Associates blog network.

Fed Likely to Leave Interest Rates Alone for 2016

Will we see an interest rake hike in 2016? This question is on investors’ minds this summer. The Federal Reserve last raised interest rates in November of 2015. Currently the federal funds rate stands at 0.50 percent. Banks base the prime rate they charge their best customers on the federal funds rate. The prime rate is currently 3.50 percent, up from the previous level of 3.25 percent. In mid-June, Federal Reserve Chairperson Janet Yellen noted that the near-term economic picture was uncertain, making a rate hike less likely.

Comments made at the June Federal Open Market Committee meeting reinforce Yellen’s assessment. Of particular concern is the slow rate of job growth. The hiring slowdown suggests reduced pressure on wages. In addition, the global economic picture is not encouraging. For instance, the Japanese yen was high, increasing fears of a recession for this major US trading partner.

The June meting of the Open Market Committee took place before the June 23 “Brexit” referendum in which British voters opted to leave the European Union. The immediate reaction on world markets was highly negative. Globally, stocks lost some $2 trillion. The British pound plunged to the worst level since 1985. Although stock prices quickly stabilized and began to recover, the extreme reaction highlights the added uncertainty Brexit adds to the global economic outlook. Given that an interest rate increase was already doubtful, it seems unlikely rates will go up this year.

The chances of a rate hike in 2017 seem fairly good. By then, the central bank will be better able to assess the impact of Brexit on the US economy. If inflation does not start edging upward and the job market strengthens, investors may see one or more interest rate hikes during 2017.

Posted in the Yulish & Associates blog network.

Raising Interest Rates the Only Viable Path to Preventing Next Great Recession

Since the Federal Reserve signaled that they intended to raise interest rates this year (perhaps twice), economists have been weighing in on the long-term effects. It is undeniable that such events create some market instability. However, more and more economists are saying a raise in interest rates is necessary to prevent a worse recession than the Great Recession of ’07-’08.

Recent articles in The Wall Street Journal and Forbes Magazine outline the economically dangerous position we are in. The current low interest rates were seen as the only possible way to stimulate economic growth following the Great Recession. In fairness, these measure did see some initial success. Over seven years later, though, the unsustainability is becoming increasingly clear. Forbes Magazine reported that Japan’s economy is pushing into its second decade of stagnancy, the American economy grows at “subpar rates”, and the economic growth projections of the EU continue to contract. Forbes quoted a February 2015 McKinsey report that said:

“Seven years after the bursting of a global credit bubble resulted in the worst financial crisis since the Great Depression, debt continues to grow. In fact, rather than reducing indebtedness, or de-leveraging, all major economies today have higher levels of borrowing relative to GDP than they did in 2007. Global debt in these years has grown by $57 trillion, raising the ratio of debt to GDP by 17 percentage points. That poses new risks to financial stability and may undermine global economic growth.”

Things have only gotten worse in the year since. In addition to the general increase in indebtedness, The Wall Street Journal stressed the increasing infeasibility of the average individual saving for retirement, using the example of an individual with a Master’s degree and average salary and salary growth. When those with Master’s degrees can’t afford to retire, it shows how much more difficult it is for those without that level of opportunity and income.

Only time will tell if these increases in interest rate will be able to stimulate the needed economic growth, but it is clear that, without some significant change, the Great Recession will become World Recession I.

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Fixed Income Market: FINRA Charged with Collecting Data on U.S. Treasury Cash Market

The U.S. Treasury Department and the Securities and Exchange Commission issued a joint statement this week that the agencies are working together “to explore efficient and effective means of collecting U.S. Treasury cash market transaction information.” The agencies asked that the Financial Industry Regulatory Agency (FINRA) consider requiring its members to report Treasury cash market transactions to a centralized authority. Their goal is to have collection of cash market information in place by the end of 2016.

The Treasury, through a request for information (RFI), sought opinions from the industry beginning last year about how to overhaul the government bond market in the wake of volatility in 2014. Bonds are an important piece in the fixed income market, but information has been difficult for regulators and investors to obtain. The RFI drew broad support for more comprehensive reporting to regulators – almost unanimously in support of greater reporting of Treasury cash market transactions.

SEC Chair Mary Jo White said in the statement, “The Treasury cash market is vital for investors and other market participants. Regulatory reporting by FINRA members could provide important new information about day-to-day activity in both inter-dealer and dealer-to-client markets.”

Any proposal submitted by FINRA will be subject to review by Treasury and the SEC. These agencies also will continue to work with other agencies and authorities to institute means to monitor Treasury cash markets transactions by institutions that are not members of FINRA.

Yulish & Associates will continue to monitor this issue along with other financial market issues that affect our partner fund managers.

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Are Hedge Funds Due For a ‘Washout?’

The hedge fund industry hasn’t been particularly rosy for the start of 2016. According to Hedge Fund Research’s global index, hedge funds had their worst performance since 2008, losing 1.9 percent in the first quarter.

This week, New York firm Third Point released a statement about their own struggles with hedge funds for investors — they’ve lost 2.3 percent in the first three months of the year. Well-known fund manager and Third Point founder Dan Loeb said in a letter to his investors this week that the industry’s performance was in a “catastrophic” period and compared it to the first inning of a “washout” baseball game. In other words, hedge funds are in tough times, and managers will find it challenging to generate returns above their benchmarks.

Complexity in markets over the past few months is largely to blame, especially due to:

  • Value of the Chinese Yuan. Many investors bet on it to decrease, but it has stayed steady.
  • Poor performance of big companies, including Facebook, Amazon, Netflix, Google, Valeant Pharmaceuticals International and Pfizer.

But opportunities exist for smart managers to identify good investments amid the growing complexity. Loeb recommended a few possibilities:

  • Dow/DuPont. Strong, proven leadership of the pending merger combined with the ability for the new firm to make operational improvements and the potential of new spin-offs point to increased earnings.
  • Anheuser Busch InBev/SAB Miller. This merger gives the new beverage company more power in the global marketplace and opens up new markets for some of Budweiser’s most popular U.S. brands. At the same time, Molson Coors, which will be the recipient of some SAB assets that have to be sold for anti-trust reasons, has the potential to become a stronger regional player.
  • Time Warner Cable/Charter Communications. Operating efficiencies, the increased bargaining power with content providers and a bigger scale will open up opportunities to get more market share from competitors who provide high-speed data.

Loeb also identified Chubb and Danaher Industries as other companies that might be good investments.

So although hedge funds haven’t been performing well thus far in 2016, the upside is that the right fund managers can still produce positive results. Patience is key while seeking the right opportunities.

Posted in the Yulish & Associates blog network.

The Federal Reserve to Maintain Funds Rate

On March 16, the Federal Open Market Committee, a committee within the Federal Reserve, stated they will maintain the federal funds rate target of 1/4 to 1/2 percent.

The Committee stated that baseline expectations for the labor market and inflation have not changed much since December. It is expecting continued labor market improvement, moderate economic growth and, with the a suitable monetary policy, a return to a 2 percent inflation objective within three years.

There is, however, a continued risk presented by global financial and economic developments. The Committee believes the current stated policy is a sensible and wise course given these risks.

Based on information received since the Market Committee met in January, economic activity is growing at a moderate pace in spite of the global developments.

  • Household spending has been growing at a modest rate.
  • The housing sector has shown greater improvement.
  • Business fixed investment and net exports are soft.
  • Strong job gains point to a greater strengthening of the labor market.
  • Inflation has risen recently but remains below the Committee’s 2 percent long-term objective.
  • Declines in energy and non-energy imports prices are affecting inflation.
  • Survey-based measures of longer-term inflation expectations had insignificant change.

The Committee’s decision reflects its commitment to foster maximum employment and price stability. It expects that gradual adjustments to monetary policy will enable economic activity to grow at a moderate pace and encourage the labor market to strengthen. Nonetheless, risks from the global economy will continue to exist.

The Committee is also preserving the existing policy of reinvesting principal payments from the Fed’s holdings of agency debt and mortgage-backed securities. Additionally, it will continue rolling over maturing Treasury securities at auction.

Posted in the Yulish & Associates blog network.

eVestment Sees 2016 Hedge Fund Industry Growth

The stock market has been dropping, oil is selling at prices not seen in more than a decade, and the window for initial public stock offerings appears to have slammed shut. Economic conditions suggest that now is not the right time for investment firms to raise money. The total assets managed by hedge funds in January fell below $3 trillion for the first time since 2014, according to data that Bloomberg News reported from institutional investor data and analytics firm eVestment. Losses led to a $43.2 billion drop in assets under management.

But counterintuitively, some hedge funds view present economic conditions as precisely the right time to bring in new cash from their investors. Money managers who have been patient see the declining market indicators as a signal to bring in new investor cash and find ways to deploy that cash in new investments. Putri Pascualy, a managing director and credit strategist at Pacific Alternative Asset Management, tells The New York Times that the market turbulence creates these buying opportunities. She says these opportunities will continue as long as the economy avoids a severe slowdown, an outcome that she believes is unlikely.

Despite the decline in assets under management for hedge funds in January, eVestment believes that investments will grow as 2016 unfolds. The firm says new assets moving into hedge funds during the year will bring an additional $50 billion to $60 billion in assets to the $3.1 trillion hedge fund industry.

In the near term, eVestment points to signals it sees as positive. Investors poured $1.2 billion into commodities, the fifth straight month that such investment have increased. That $1.2 billion is also the most money invested in a month since mid-2014, according to the eVestment data.

“This is a major reversal of a trend which dates back to mid-2012,” quoted Bloomberg from the eVestment report. “Hedge fund investors appear to firmly believe there are significant opportunities in the commodity space.”

Posted in the Yulish & Associates blog network.

Federal Reserve Still Focused on Slowly Raising Rates

In December, the Federal Reserve decided that labor growth and inflation were in the correct ranges, and chose to raise the federal funds rate 1/4 percentage point. This ended 7 years of a near zero federal funds rate. However, the Federal Reserve did not adjust the rate in January.

In testimony, on February 10, 2016, Federal Reserve System Chair Janet Yellen did acknowledge foreign economic developments were causing uncertainty, and there is a risk to economic growth in the United States. This has also caused volatility in global markets, and created concerns about global growth. Additionally, low commodity prices, along with a decrease in foreign activity and demand for U.S. exports, would weaken the U.S. financial market further.

Some doubt the Federal Reserve’s ability to improve economic conditions. Bob Corker, Senator from Tennessee, believes the slow pace of the economy is from a slow growth of productivity and output, He asked Yellen if monetary policy in any way improved these factors. The answer was, of course, no.

The Federal Reserve prioritizes control of inflation over employment. The Federal Reserve is not hiking interest rates because they are necessary. They are slowly raising rates forward because they expect the necessity in the future.  The fear is, if the Federal Reserve waits to raise rates, they “might have to tighten policy relatively abruptly in the future to keep the economy from overheating,” and, “Such an abrupt tightening could increase the risk of pushing the economy into recession.”

Does this mean the Federal Reserve policy is intentionally holding back employment and wage growth? The testimony indicates a guiding principle that extremely slow economic growth is more controllable and sustainable. Does the Federal Reserve believe it can eliminate the risk of recessions by keeping economic growth slow and eliminating potential boom economies? It would seem so.

Posted in the Yulish & Associates blog network.

Lower Oil Prices Lead to Higher U.S. Gross Domestic Product

Oil prices that continue to hover at or below $30 per barrel will have an upward influence on U.S. gross domestic product. Low oil prices are pushing gasoline prices in the U.S. to less than $2 per gallon. This leaves more discretionary income in consumers’ pockets. As long as consumers opt not save that money, demand for products and services will increase, leading to increased economic output to meet that demand.

Countries that are net oil importers (e.g. most of Western Europe, China, Japan, and India, as well as the United States) will benefit the most from continued lower oil prices. U.S. businesses will see large benefits from lower oil prices, not just from increased demand for products and services, but also from lower transportation and shipping costs.

Still, the news is not one hundred per cent positive. Increased oil supplies are only one cause of lower oil prices. The second and possibly more problematic cause is weak global economic growth and demand. Businesses and consumers that remain fearful of economic conditions may be more likely to save any funds that they are not spending on oil and gas, or they may use those funds to pay down existing debt. In this scenario, raw gross domestic product data is less critical than the ratio of debt to GDP.

Lower oil prices also have the potential to generate social unrest in countries like Russia and Venezuela that are net oil exporters. Those countries will see reduced tax revenues from lower oil prices, which will limit their ability to fund social programs. Many countries in the Middle East have substantial foreign currency reserves and are able to weather lower oil prices without cutting production.

The best advice that any investor can take from lower oil prices and higher U.S. GDP is to benefit from the situation while they can, but to watch for signs of global strains that can cause oil prices to roar back to higher levels. The U.S. economy remains interlocked with the global economy as a whole. Imbalances and dislocations in any part of the global economy tend to right themselves over time. The circumstances for U.S. investors are currently positive, but they are unlikely to remain positive forever.

Posted in the Yulish & Associates blog network.

SEC Staff Issues Report and Recommendations in Connection with Changes to the Accredited Investor Standard

This guest post was provided by:

Riveles Law Group

On December 18, the SEC staff issued a report summarizing its review of the accredited investor definition. The report offers historical and current analyses of the definition, evaluates relevant comments on and suggested modifications to the definition, and considers alternative approaches under federal and state securities laws for identifying financially sophisticated investors. The report concludes with SEC staff recommendations for updates and modifications to the existing definition, and a brief impact analysis of the suggested approaches.

This report was mandated by the Dodd-Frank Act, which directs the SEC to review the accredited investor definition as it relates to natural persons every four years. The definition should identify those persons who, by nature of their financial sophistication and/or ability to withstand loss, do not require the protections provided by the Securities Act. The report notes that an overly narrow definition could limit the number of accredited investors, thereby restricting businesses’ access to capital. An overly broad definition, on the other hand, would not adequately protect investors. The history of the definition also makes clear that clarity is key, and the definition should create bright-line tests that allow issuers to readily determine an investor’s status.

As evidenced by prior public comments, some commenters feel that the definition is over-inclusive, primarily because the financial thresholds have never been adjusted for inflation. On the other hand, some commenters feel that the definition is under-inclusive, as certain financially sophisticated investors may not be sufficiently wealthy.

The current thresholds tests, adopted in 1982, bestow accredited investor status on (1) any natural person whose individual income exceeded $200,000 in each of the two most recent years (or $300,000 in joint income with that person’s spouse), and who reasonably expects to reach the same level in the current year; (2) any natural person whose net worth (individually or jointly with a spouse) exceeds $1 million, excluding the value of their primary residence; and (3) certain enumerated entities with over $5 million in assets.[1] Since 1982, the test has only been changed to exclude an investor’s primary residence from the net worth threshold and by adding a joint income option.

As previously noted, the thresholds have not been adjusted for inflation since their adoption in 1982 although the value of an investor’s primary residence was excluded 2011. In 1983, 1.51 million U.S. households qualified as accredited investors, representing approximately 1.8% of all U.S. households. Today, 12.38 million U.S. households qualify, representing approximately 10.1% of U.S. households. For reference, if adjusted to account for inflation today, the thresholds under the individual income, joint income, and net worth tests would balloon to $490,819, $600,558, and $2,454,093, respectively, and only 3.6% of U.S. households would qualify.

The Recommendations:

The staff offers a number of recommendations for the SEC to consider, all or any combination of which could be implemented concurrently. These recommendations are broadly separated into two categories: (1) revisions to the financial thresholds for natural persons and the list-based approach for entities to qualify as accredited investors; and (2) revisions to the definition to allow individuals to qualify based on other measures of investing and financial sophistication and knowledge.

  1. Recommendations Relating to Financial Thresholds for Individuals and Entities:
  • Maintain the current income and net worth thresholds, subject to investment limitations.
    • Investors that qualify under the current standard, but not the higher inflation-adjusted thresholds outlined below, would only be able to invest a percentage of their income or net worth (for instance, 10% of prior year income or 10% of net worth, per issuer, in any 12 month period).
  • Create new inflation-adjusted income and net worth threshold that is not subject to investment limitations.
    • The staff suggests inflation-adjusted thresholds of $500,000 (individual income), $750,000 (joint income), and $2.5 million (net worth). Investors meeting these standards would not be subject to the above investment limitations.
  • Index all financial thresholds in the definition for inflation on a going-forward basis.
    • The staff suggests adjusting the thresholds to account for inflation every four years.
  • Permit spousal equivalents to pool their finances for the purpose of qualifying as accredited investors.
    • The staff suggests adding the term “spousal equivalent” to the definition, thus providing consistent treatment among marriages, civil unions, and domestic partnerships.
  • Permit entities with investments in excess of $5 million to qualify as accredited investors.
    • Currently only certain enumerated entities may qualify as accredited investors. LLCs, Indian tribes, labor unions, and many other entities are offered no mechanism to qualify. Additionally, only entities with “assets” above $5 million may qualify.
    • The staff suggests modifying the definition to permit any entity with “investments” in excess of $5 million, and not formed for the specific purpose of investing in the securities offered, to qualify as an accredited investor. The term “investments” would be defined based on the definition used in Investment Company Act Rule 2a51-1(b).
  • Grandfather an issuer’s existing investors that meet and continue to meet the current definition with respect to future offerings of the issuer’s securities.
    • This narrow addition would provide protection from dilution for those investors who would no longer be accredited under the new definition.
  1. Recommendations Relating to Investor Sophistication and Knowledge:
  • Permit individuals with a minimum amount of investments, who are not now fall within the standard, to qualify due to their experience in investing.
    • No specific threshold is proposed, although they seem to favor $750,000. The SEC proposed adding a $750,000 “investments-owned” standard in 2007, and the staff assumes this value in its impact analysis.
    • “Minimum investments” as defined in Investment Company Act Rule 2a51-1(b)).
  • Permit individuals with certain professional credentials to qualify as accredited investors, such as, for example, those who have passed the Series 7, Series 65, or Series 82 exam.
  • Permit individuals with experience investing in exempt offerings qualify.
    • Individuals who have invested in at least ten private securities offerings, each conducted by a different issuer. The staff suggested the ten offering threshold after noting that, on average, current angel investors have invested in at least ten private offerings.
  • Permit knowledgeable employees of private funds to qualify as accredited investors for investments in their employer’s funds.
    • Allow “knowledgeable employees” of “covered companies” to qualify as accredited investors. The staff would apply the relevant definitions found in Rule 3c-5 of the Investment Company Act.
    • This would expand the category of accredited investors which includes now only includes directors, executive officers, or general partners of an issuer to encompass any “knowledgeable employee” such as a trustee, advisory board member (or person serving in a similar capacity), and employees of the manager/fund who participate in investment activities.
  • Permit individuals who pass an accredited investor exam to qualify.
    • The exam would test an individual’s financial and investing knowledge and understanding of private offerings and the relevant risks. Certain portions of the Series 7 and Series 82 exams cover these areas, and could serve as a model for the exam.