the FT’s “listen to gold” op-ed

The other day the Financial Times carried an op-ed column titled “We should listen to what gold is really telling us.”  It was written by regular contributor Mohamed El-Erian, the  marketing voice of bond fund giant, Pimco.

I usually skip over what Mr. El-Erian writes.  His prose style is weak and the solution to every economic or financial worry he discusses is to buy more bonds.  In this case, I made an exception.  I was curious to see whether Pimco would be in the old-school camp that says gold is money or whether, like me, Pimco would maintain that it’s an industrial metal that new mine development has put into chronic oversupply (just like in the 1980s).

The article isn’t really about gold, though.  It’s about the fact that when more money than is needed is sloshing around in the world economy–and central banks around the globe continue to print new money at a rapid rate–some (all?) of the excess finds its way into speculative investing.  Sometimes, according to Pimco, even though the overall speculative tide has not yet crested, some prices become so divorced from reality that localized bubbles still burst.  Three examples:  gold, AAPL and FB.

At this point in the article, I thought what would come next would be an assertion that these three are harbingers of the behavior of all sorts of financial investments once monetary stimulus starts to be withdrawn.  If so, I thought to myself, Pimco will have a hard time ducking the issue of the popping of the biggest bubble of them all, the bond market.

That’s not the tack Mr. El-Erian takes, though.

He asks what happens if all the global monetary stimulus fails to reignite economic growth.  Put in a different way, what happens if world economies begin to roll over and enter recession?  The money taps are already wide open, so there’s nothing central banks can do to cushion the fall.  Fiscal policy is the only tool available.  But that takes time to work–and requires well-functioning legislatures to understand what’s going on and act both appropriately and quickly.  Fat chance.

This is a really scary scenario.  There’s absolutely no current evidence I can see that it’s likely.  El-Erian just poses the question and doesn’t say what he thinks.

Still, from a financial planning perspective, it’s something we all have to consider and be on the alert for the signs of.  Of course, conveniently for Pimco, this is the only situation I can think of where it makes sense to be holding government bonds.

pricing out a low-end shirt: investment implications

A while ago, I wrote about pricing out a polo shirt that retailed for $150 then ($175 now).

Today’s post goes to the other end of the fashion spectrum:  pricing out a “fast fashion” shirt that might sell at H&M or Zara for, say, $15.  The source of my information about Bangladesh is an op ed column, “The Economics of a $6.75 Shirt,” by Rubana Huq, who owns a garment business there.

Just for reference, the factory gate cost of the KP MacLane  luxury polo is:

–materials           $10.35

–manufacturing          $11.05

= $21.40.

These figures are unusually high for a shirt, mostly because of the small initial lots involved.  The unit price could easily be below $15 now, depending on how successful KP MacLane has been in its sales efforts.

in comparison, costs in Bangladesh…

…for an order of 400,000 fast fashion shirts:

materials      $5.75

–cotton cloth           $4.75

–labels, other          $1.00

manufacturing     $.875

–wages          $.38

–finishing          $.15

–utilities, factory rent          $.11

–overhead          $.11

–debt service (for manufacturing equipment)          $.125

= $6.625

The selling price at the factory door is $6.75.  Therefore, the per garment profit is $.125.  The total order earns the manufacturer, before paying himself (or, in this case, herself), $50,000.  In the example Ms. Huq gives in her op ed column, this order represents about five months business for the factory.

what I find interesting

Although the KP MacLane polo and the fast fashion t-shirt sell for wildly different prices at retail, the material costs aren’t that different.

The markup over production cost is 718% for KPM, 140% for the tee.  As I mentioned in my earlier post, a Hermès polo sells for $455, or about 2.6x the price of the KPM one.  Hermès’ production costs are probably lower than KPM’s, so the markup is likely higher than 1800%.   In both cases the buyer is clearly paying primarily for the branding, not the garment.

The operating model for classic luxury goods is far different from that of fast fashion.  The former sells far fewer items-most of which have very long shelf lives–at huge markups.  The latter sells huge numbers of items with short shelf lives at low markups.

The two styles demand different skills.  Fast fashion, in particular, has little room for error in design or sourcing/pricing from manufacturers.

the Bangladesh situation

First of all, we have to remember that the data Ms. Huq present come from a manufacturer in Bangladesh, hardly a disinterested party.  Certainly she will want to put her best foot forward.  Still, I’ve found the situation she describes to be typical of the garment industry over the decades, whether located in New York City, Japan, Thailand, China or Bangladesh.

Bangladesh employs 4 million garment workers, the vast majority of them women, who are the chief breadwinners in households totaling 20 million.  They earn US$70 – $80 a month, which is far more than an unskilled laborer could expect in any alternative employment in Bangladesh.  Although their families are barely surviving, the greatest fear of these workers is doubtless that the garment industry will shift away from Bangladesh to other low labor-cost countries, like Vietnam, leaving them unemployed.

The garment manufacturer in Bangladesh may make $100,000 a year if everything runs smoothly.  But that could be considerably less if he’s inefficient or if he encounters production delays that, say, require him to pay for shipment by air.  So one can certainly understand–not condone, just understandthe temptation an unscrupulous owner may feel to lower rent by turning a blind eye to safety violations.   It’s not clear how much leeway fast fashion has to alter its operating model by raising prices, either (look what happened to JCP).

In theory at least,  consumer pressure on international retailers for a keener eye to worker safety when sourcing garments may solve that issue–although the same problems seem to recur decade after decade and in country after country.

The more difficult issue to reconcile are the ideas that income of $70 a month is a good situation to be in, which in Bangladesh it is, and that well-intentioned efforts to improve it may make the workers’ lot considerably worse.

the Bloomberg snooping scandal

About a week ago the New York Post, of all places, broke a story that reporters for Bloomberg News could (and did) access information about customers’ use of their Bloomberg data terminals–and were using the insights they gleaned to try to generate stories.   In the instance the NYP cited, a Bloomberg reporter was asking Goldman about whether a certain executive was still on the payroll.  It sounds to me that in the course of an unproductive conversation the reporter said he knew something was amiss because the person in question hadn’t been using his Bloomberg terminal for an unusually long time.

Once the story broke, J P Morgan revealed that it had been pressured for information on the fate of the disgraced “London whale” trader by Bloomberg reporters who said the same thing–that they could see changes in his usage of Bloomberg data.

Bloomberg says reporters’ access to customer data has since been turned off.

good news/bad news

The good news, for Bloomberg users, is that the reporters in question made no effort to disguise the fact that they had been analyzing their target’s Bloomberg usage.  This has brought to light fine print in Bloomberg contracts that apparently allow such behavior.  The contracts will doubtless be changed.

Also, the ineptitude of the Bloomberg reporters suggests to me that the practice of mining customer information was not kept quiet for long.  They went directly to the companies; their main tactic seems to have been to beat them over the head with the privileged information they had–ensuring instant publicity.   So the problem has likely been nipped in the bud.


Whether and when the London whale lost his job isn’t really a market-moving story.  It would be inconceivable that a trader could rack up monumental losses, hide them while trying to recoup through further trades, and still keep his position once discovered.  And the workout of the mess he made would follow easily predictable steps.  So this was not investment news.

No, this was a general news story.

That’s the interesting part of the tale.  If we figure there are 300,000 Bloomberg terminals in use, at, say, an annual fee of $25,000 each, that would mean they generate $7.5 billion in yearly revenue for Bloomberg LP.

Why in the world would you put that revenue stream at risk by undermining customer confidence in your discretion?   …especially by going after stories that have no direct relevance in helping investment industry customers do their jobs?

My guess is that someone high up in Bloomberg LP has decided that it’s a good idea to try to develop a new source of profits by building a general news capability using the investment researchers already in the company as a base.   I’d also guess that this is a relatively recent development, one that coincides with the fading of Bloomberg Radio as a source of investment information.

Peter Lynch of Fidelity called it “diworsification” (a term I hate), when a company strayed from what it was successful at to enter an allied field.  Often, the diversification make the company worse, not better.  We may be seeing an instance of it here, particularly if worries about being spied on cause customers to start looking for alternatives to important Bloomberg services.

the US Census Bureau on immigration (and GDP growth)

gauging GDP growth potential

Over the years, I’ve found that there’s a very simple and effective rule for quickly gauging a country’s GDP growth potential.  Here it is:

Output can rise in one of two ways:

–either more people are at work, or

–workers are more productive.

My first boss in the financial markets was as close to a nineteenth-century capitalist as I’ve ever encountered.  He maintained that increasing productivity is solely a function of employees spending more time at their desks.  Although this suited his penny-pinching mentality, it’s not true.  Productivity gains come primarily from the employer investing in better equipment, and from better worker education/technical training.

If we pluck a number out of the air and say that a country can achieve a constant 1% increase in worker productivity per year (I’m not trying to be precise; I want to get a simple picture that gets the general idea.  Also, a 1% annual gain is a pretty good number), then a country’s ability to grow economically becomes a direct function of one thing   …the expansion of its population.

the Census Bureau Annual Population Projections

That’s what makes the Census Bureau’s latest population assessment so interesting.

Two days ago the Bureau, an arm of the Commerce Department, issued its 2012 Annual Population Projections.  It says that in the US, net births/deaths are currently adding about 0.75% annually to the population.  By 2030, that figure will drop to 0.50%.  By 2050, it will shrink to about 0.35%.

Two reasons the figure is so low:  as people become more prosperous, they tend to have fewer children, and people are living longer.

projecting US GDP

So, what’s the trend growth rate of GDP in the US, according to my simple rule?   …2%- per year, or about what we have now.

how to make growth higher

Can we make the economic picture brighter?

Yes, in two ways–both of which, unfortunately, are questions of policy coming out of Washington.

–We can allow foreigners to come to the US to work, either permanently or by increasing the number of work visas awarded to highly skilled foreigners who want employment in the US for a period of time.

Republicans oppose the first,  Democrats the second (for reasons that escape me).

–We can attract productivity-enhancing capital investment to the US.  This is primarily a function of tax policy, which neither party in Washington appears to want to change.

We can also make out schools better.


This isn’t really new news, but thinking about long-term GDP growth suggests, to me, two investment conclusions:

–investors anticipating a rapid expansion of GDP from the current level are likely to be disappointed (look for that in Asia, or from exposure through US-based multinationals), and

–superior earnings growth–and stock performance–will come from companies that have unique products or services that are in high demand.  In other words, the environment favors growth stock techniques rather than value.

(Note:  I realize that it’s not really the population that counts.  It’s the workforce.  But looking at the workforce introduces complications that I don’t think change the overall picture, but which can easily obscure it.  Stuff like:  the influence of the Baby Boom, the decline in female participation, long-term unemployed…)




I’ve been VERY wrong about the Japanese stock market

The Liberal Democratic Party retook control of the national government in Japan late last year on a platform of massive monetary stimulation aimed at shocking the economy out of its quarter-century of torpor.

Most economic effects have been as expected.  The ¥ has lost about a quarter of its value.  This has given export-oriented industries a big boost.  The price of imports has risen by enough, however, that the overall effect of devaluation on Japan has been slightly negative so far.  The trade balance will doubtless improve as Japanese citizens adjust to the tremendous drop in their standard of living that the devaluation has brought about.

Where I’ve been wrong has been in handicapping the behavior of the Japanese stock market.  In the only other recent episode of a big fall in the ¥, the Topix index (Tokyo large caps, the index professional investors use) rose as the currency declined, but only by enough to keep a dollar-oriented investor from losing money.  Yes, export-oriented stocks did better than Topix, but the overall index was unchanged in dollar terms.  I thought something similar would happen again.

Not this time, though.

Since the Abe administration took office and made it clear it would carry out its campaign promise, the Topix is up by 66% in local currency terms, meaning a dollar-oriented investor in the index has made a 25% gain.  Buyers of down-and-out consumer electronics firms like Sony have made twice that.  The long-Topix, short-¥ trade has made a killing.

As I see it, the rise in the Topix has been driven by foreigners.  Locals–never, in my experience, the canniest of investors–have  been mostly using the opportunity offered by devaluation to declare victory in their foreign investing forays and are bringing money home to put into things like real estate.

Press reports indicate new investors in Japanese stocks, including high-profile Western hedge funds, believe very strongly that the change in money policy also heralds a new era of openness to structural economic reform by Tokyo, and that foreigners will be allowed to play a significant role in the latter process.

My view, based on almost 30 years of watching Japan, is that Tokyo insiders regard devaluation as a substitute for reform, not a precursor.  I’d point to the experience of former Prime Minister, Junichiro Koizumi, who was given an overwhelming electoral mandate for reform but who resigned as PM after five mostly fruitless years (2001-2006) of trying to effect change.  As soon as he left, the Diet immediately began to reverse the progress he was able to make.

For Japan’s sake, I hope I’m wrong again.  But I’m not willing to bet on the possibility.  As for the new wave of foreigners, I find it hard to figure whether they have a much more sophisticated read on the political process in Tokyo than I do or whether they’re completely clueless.  Given that reversal of the deep social/political aversion to disruptive change should make me wildly bullish about Japan, in some sense I must think the latter is more probable.  My official position, though, is that I don’t choose to bet.



Wall Street strategists vs. analysts: who to believe…


…what to do with your equity portfolio now.

The S&P 500 made an another all-time high yesterday.  Now at 1650, the index has already made greater gains than any professional I’m aware of had predicted for the entire year.

Analysts say the market will be higher in 12 months.  Strategists say the opposite.

What to do?

earnings aren’t the issue 

Stocks are reasonably valued at 15x 2013 earnings and less than 14x next year’s.  They’re not as cheap as they were at the bottom in 2009, but they’re not wildly expensive either.

The traditional comparison with the other big class of liquid investments–government bonds–is to measure the 30-year Treasury bond yield against the earnings yield (that is, 1÷PE) on stocks.  On this measure, stocks are already trading as if the long bond were at 6.5%.  This suggests that most, if not all, of the eventual rise in bond yields that will occur when the Fed returns interest rates to normal, is already factored into today’s stock prices.

earnings growth isn’t the issue

Both analysts and strategists think that corporate profit growth will accelerate from here and reach about a 10% year-on-year rate of advance in 2014.  (By the way, the 10% figure is not itself a very controversial one.  It describes an average year.  It’s also the figure I’d start with as the most likely outcome, and move up or down depending on whether I felt strongly positive or negative.)

the issues?

Stock investors seem to me to be vaguely uneasy that the market has gone too far too fast.

It’s a little scary that retail investors who sold in 2008-09 are only now–after a four-year, 140% rise in the S&P 500–putting their money back into stocks.  Arguably, when blunted pencils start moving into the box, it’s time to move on.

Saying the same thing in a different way, the current rally isn’t based on the fact that corporations are reporting surprisingly good earnings.  Rather, the market’s price-earnings multiple (the price people are willing to pay for a unit of earnings) is rising.

More relevant, in my view, is the worry that as the Fed raises interest rates from today’s ultra-low levels the resulting fall in bond prices will have a negative effect on stocks.


We can interpret the PE expansion the market is undergoing as simply a return to more normal levels after years of recession-induced fear.

The eventual rise in interest rates will be preceded by strong corporate earnings growth, which will mitigate the negative effects of higher rates.  That’s perhaps the biggest lesson world central bankers have taken from the quarter-century of economic misery in Japan, where the government nipped economic recovery in the bud twice, by tightening prematurely.

In similar instances of Fed rate-raising in the past, stocks have gone sideways to up.

We’re very close to the time of year when in normal times Wall Street begins to look at, and discount in current prices, earnings prospects for the following year.

The technical tone of the market remains bullish.

what I’m doing

My inclination is not to make major portfolio changes but to do routine maintenance instead.

Specifically, I’m:

–going through my holdings, position by position, and asking if the reasons I established it are still valid, and

–checking position sizes, to make sure none are so large they pose a risk, or too small to do any good.

finding clunkers

Everyone has blind spots.  And everyone has clunkers that his eyes somehow skip over when doing a portfolio check.  One way I’ve found to help myself to see these “invisible” losers is to imagine that I’ve got to raise, say, 10% cash immediately.  What would I sell to do so?  Unfortunately, but not unexpectedly, one or two problem cases pop up.

Any money I “find” this way I’m probably going to take my time putting back into the market.  That’s as much defense as I usually do.  And it’s all I’m going to do now.

corrections are a fact of life

At some point, the S&P is going to fall by 5% – 10%.  That’s just the way stocks work.  This is a worry for day trades.  But for investors–especially one who are doing routine portfolio maintenance and culling losers–this shouldn’t be a concern.






Wall Street strategists vs. analysts: S&P index and earnings forecasts

a little history

Pre-Great Recession, the peak for annual S&P 500 index earnings came in 2006, at $89.49.

The subsequent low, in 2009, was $60.78.

The index established a new earnings high in 2011, at $96.58.

2012 produced a 6.6% advance over 2011, at $103.04.

2013-14 earnings projections (all from Factset )


Wall Street strategists, who had originally been predicting virtually no earnings growth for the S&P in 2013, have grudgingly upped their estimate to $109.15, a year-on-year gain of 6%.  They’re penciling in a more substantial yoy advance of 9.2% for 2014, to $119.20.

Despite this positive news, they expect the S&P to decline from the current level over the coming year.


As I mentioned yesterday, both analysts and strategists have underestimated the earning power of S&P companies.  Analysts, who are usually the wide-eyed (over-)optimists, have been much closer to reality, but even they have fallen short in their prediction of S&P profit growth by a percent or so.

Analysts think the S&P will earn $110.36 in 2013 and 122.86 in 2014.  Those are gains of 7.1% and 11.3%.

As Factset interprets their calculations, analysts expect earnings reports to cause the S&P to rise as the market discounts them–by about 5% from here.

earnings growth by sector

According to Factset, analysts see sectoral earnings gains for the S&P for 2014 over 2013 as follows:

Telecom          +20.1%

Materials          +18.4%

Consumer discretionary          +16.5%

Industrials          +11.5%

S&P 500          +11.2%

IT          +11.0%

Financials          +10.1%

Staples          +10.0%

Energy          +9.7%

Healthcare          +8.9%

Utilities          +4.5%.

what strategists and analysts have in common

Both think that slow global economic recovery will continue.

Strategists expect very tepid upward movement in corporate until close to yearend, after which they expect the pace of growth to pick up.  Analysts are anticipating better near-term performance, but also with acceleration as the new year begins.

where they differ

1.  Analysts think earnings growth will be considerably better than strategists do.  If you look at the breakout of expected earnings performance by sector, you’ll notice that analysts are expecting economically sensitive areas to have the most robust earnings advances (note, in particular, Materials).  Energy prices will apparently be staying low–another plus for most world economies.   Defensive sectors will lag.

One caution:  analysts are always optimistic. Also, it raises eyebrows a bit if the bulk of the growth is several quarters in the future, where strong evidence is harder to find.  On the other hand, analysts have been right so far in being optimistic.  And it’s the strategists who are back-loading their growth forecasts.

2.  The more significant difference is that analysts think the market is going up; strategists think it’s going down.

Factset doesn’t give an explanation for this;  it just reports the numbers.

I don’t think this difference has much to do with earnings growth, though.  Strategists think the market’s price-earnings multiple is going to contract over the coming 12 months, even though they think earnings growth will accelerate.

Why would this be?  My guess is that strategists are thinking the Fed will begin to raise interest rates late this year or early next, and that this will cause the price investors are willing to pay for S&P earnings to shrink.

Tomorrow:  my take on all this.