Insuring the Future

When folks have to figure out their finances, many turn to an insurance agent.

This can make some sense. If a spouse passes away, there is often an insurance payout. Insurance companies help people managing risk; and the risk out not having enough money is a major concern. While one death isn’t predicable, the number of deaths in a population of a million is. So the law of large numbers makes insurance a natural place for people to look for financial advice.

Only the laws of finance—“let the buyer beware; those with the gold make the rules, where you stand depends on where you sit”—indicate that the advice you get will usually be in the agent’s interest. Back in the ‘30s and ‘40s the Pecora Commission uncovered egregious examples of financial fraud. They codified the rules that investment and trust companies work under—fiduciary rules. Stated simply, they require that a client’s interests come before the advisor’s.

But insurance agents are exempt from a fiduciary standard. Whether it’s because they weren’t part of the last scam or because they have good lobbyists, Congress has never seen fit to subject insurance products to SEC oversight. And if there is a legal dispute, only state law applies.

Which is a shame. Because when it comes to financial integrity, standards can’t be too high. Trust is a delicate plant: it grows slowly, and the least disturbance can kill it. The insurance industry should learn from Madoff and other scandals: trust is everything.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

The Age of Oil

For 31 years oil prices were pretty stable. Where are they headed now?

From 1982 to 2003 oil prices remained largely within a narrow band between $20 and $30 / barrel. Then prices spiked, advancing five-fold between 2003 and 2008. This is roughly similar to the two supply-shocks experienced in the ‘70s. In the early ‘70s prices quadrupled from $3 to $12. Then, after the recession weakened them to $8, quadrupled again to $32 during the Iranian crisis.

Is it different this time? Prices rose from 2004 to 2008 because of a surge in demand, not a reduction in supply. Conventional wisdom says that this is less problematic than a supply shock; the increase in demand leads to higher production. But consumers saw the same effects on their wallets. Higher prices from increased demand in Guanzhou look the same as those resulting from conflict in Bengazi or a pipeline problem in Kazakhstan.

The response in 2008 was typical: reduced driving in the short-run, and changes in capital purchases in the long run. Hybrids, ultra-efficient diesels, and all-electric cars have become trendy. More significantly, overall consumer purchases, especially those of automobiles, dropped significantly. When the financial markets imploded in September and the resulting credit squeeze led to a global recession, demand collapsed and prices fell back to around $70 / barrel.

Where are they going now? After stabilizing at close to the cost of production, they’ve recently gone up some 30%. But 30% is not 3 times. Our economy is has more flexibility than it did just three years ago. As in the ‘80s, higher prices will be highly volatile both up and down.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

Grameen to the Rescue

Sometimes Nobel prizes go to their heads.

Take Linus Pauling. The man was one of the greatest scientists the world has ever known and won the Nobel Prize in Chemistry in 1954 for discovering the structure of protein molecules. Eight years later he won the Peace Prize for his advocacy on behalf of nuclear disarmament. He capped this distinguished career with … Vitamin C? Against all expectations, he is often remembered for promoting that daily mega-doses can cure head colds, the flu, cancer, and all sorts of other ailments.

Other Nobel laureates have done similarly foolish things. Lately Muhammad Yunus, a pioneer in the microlending movement, hasn’t been content to stick to his proven credit formula: extend small loans to female entrepreneurs and tie them together via small accountability groups. He now wants to speak out on political and public finance issues in his native Bangladesh.

Well, that’s a crowded trade. The world is full of financiers who get involved in politics. And the politics of a developing country can be rough. The current Prime Minister of Bangladesh is a democratically elected woman who worked her way up through the political process of a Parliamentary government in a Muslim nation. She’s tough.

So Yunus shouldn’t be surprised if the elbows get a little sharp. Because a Peace prize doesn’t win elections. And being smart doesn’t always make you wise.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

Taxing Times

The timing couldn’t be better.

For once governments are discussing taxing and spending plans just when folks are focused on the issue. As we collect our W-2s, 1099s, and receipts, our elected representatives are debating how to deal with the ever-present gaps in government finances. And taxes are important. They’re a wedge between producers and consumers. If high enough, they eliminate economic activity that would otherwise happen. It’s been suggested part of the reason Europe has grown more slowly than the US over the years had to do with the level of its taxes.

And taxes distort things. When one part of the economy receives special favors from the government, this creates a structural incentive to devote more resources to that sector. Housing is a great example: making mortgage interest and property taxes deductible means that more people are homeowners. Maybe that’s a good thing, but it probably contributed to the housing bubble. And the lost revenue from the tax-break has to be made up somewhere else.

Which contributes to the complexity of the tax code. Figuring out your taxes by hand used to be fairly common. Now, only a few intrepid souls try to master the myriad State and Federal forms without the assistance of an accountant or tax-preparation software. And a byzantine tax code creates permanent opportunities to game the system.

Taxes are inevitable, but distortions and complexity aren’t. Let’s hope our officials can see this now.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

Not in the News

So are state finances falling off a cliff?

Four months ago some analysts made headlines by predicting a financial cascade in municipal bond land. With the expiration of the stimulus package, the Federal government was due to stop making transfer payments to the states. To preserve their own budgets, the states in turn would slow or stop support payments to local municipalities. The resulting credit squeeze would produce 50-100 bankruptcies totaling hundreds of billions of dollars

How’s that working out? Well part of it is. The Federal government is indeed reducing its transfer payments on schedule. Moreover, the expiration of the Build America Bond program reduced a significant source of financing to the muni market. But this hasn’t resulted in a wave of bankruptcies. In most cases increased tax receipts have more than compensated for the reduction in Federal transfer payments. In California, revenues have gone up $5 billion over the past 8 months, or 9%. In Illinois, revenues are up 6%. Local assistance payments have gone up, not down.

And so far in 2011 so far we have seen … one Chapter 9 bankruptcy filing. Boise County, Idaho, has filed for bankruptcy protection on their $70 million in debt. The US economy is improving and filing for bankruptcy is too expensive. Government finances are a lagging factor in the economy—so in a recovery their revenues don’t turn positive until later in the cycle.

Now that’s happened. And the fiscal reforms sparking debate around the country should strengthen municipal finances. The sky is not falling. At least, not yet.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

Saving Private Bankers

Are the big banks still too big to fail? You bet they are.

The top four banks in the US have over $6 trillion in assets. Goldman and Morgan Stanley probably have that much exposure in swaps and other off-balance-sheet items. If one of them faced insolvency, the interconnectedness of our financial system demands that government step in and guarantee their financial operations, even if shareholders are wiped out. When Lehman failed, its global web of assets and liabilities led to a financial panic.

Since officials don’t want to see another Lehman-inspired collapse, the implicit backing of the government supplies intangible capital to every firm seen as too important to be cut loose. There’s no doubt that the large firms benefit from this implied support—their bonds yield far less than they otherwise would. So what to do?

It’s simply not tenable to say “Never again,” and write them off. Politicians won’t go there. And breaking them up by governmental fiat seems Orwellian at the least. It’s never been a crime to be successful here. The solution should be financial: since implicit taxpayer support has a financial benefit, make that support explicit and charge a fee, as we do with the FDIC. That would incent firms to be profitable and small, creating less systemic risk in the process.

Dodd-Frank was an attempt to control systemic risk through regulation. But regulators can be captured, and regulations can be circumvented. Financial incentives seem far more robust. Because even when it comes to banks, death and taxes are inevitable.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

Cold and Hungry

The Fed often gets roasted for excluding food and energy in its policy discussions about inflation. Is this fair?

Of all the Fed’s comments, one of the most irritating is their focus on “core” inflation, excluding food and energy. Don’t these folks eat or drive?

It’s not accurate to say that food and energy make up a small portion of consumer budgets. The Cleveland Fed recently studied this. They found that median households spend 17% of their budget on food and energy, and the poorest fifth spend about 20% on these items. Clearly this is a significant amount.

So why does the Fed cut them out? It has to do with forecasts. Over time, the best forecaster of overall inflation is core inflation. And the Fed tries to use data that look forward rather than backward.

Still, it’s irritating for them to discuss an inflation measure that excludes something we spend one fifth of our money on. So they’ve recently changed their terms: instead of core inflation, they’re now talking about medium-term inflation. The measurement is the same; only the label has changed.

But I don’t think it will help. Shakespeare asked, what’s in a name. He concluded, not much. You can’t make people happy by re-labeling what upsets them.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

Health Care Nation

“If something cannot go on forever it will stop.”

Economist Herbert Stein observed this some 40 years ago. At the time, many people were worked up over the US’s balance of payments. Extrapolating recent trends, they forecast that by the year 2000 the US would be importing half of the goods it consumed. Stein noted that this simply wasn’t tenable; a nation must produce the vast majority of what it consumes, especially services. Trends that can’t continue, won’t.

This also could have been applied 15 years ago during the budget discussions in Washington. At that time some folks were worried that our budget surpluses would retire all of our national debt, which would impact the financial sector. But budget surpluses cannot continue, and they stopped.

Today, discussions regarding health care appear to suffer from the same sort of hyperbole. In 50 years, it is forecast, Medicare will consume over half of the Federal budget. I would submit that it won’t. Something will intervene: technology may make health care cheaper; people may become healthier; or fiscal pressures may force us to change the way we pay for health care.

I’m not saying that analysis and planning are unnecessary. But we don’t need to obsess over it. Which reminds me of the great economist Frank Knight’s famous observation: “Never waste any time you can spend sleeping.”

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

Of Brickbats and BRICS

Some commentators are critical of President Obama’s Latin American trip. They think that with Japan facing a nuclear crisis and overwhelming reconstruction expenses, the timing of his trip is poor. On the contrary, I think it couldn’t be better.

One of the more amusing questions raised by the earthquake and tsunami disaster in Japan has been that of financing: “Where will the Japanese get the money to finance perhaps $200 billion in reconstruction expenses?” Are they kidding? With a trade surplus of $85 billion last year and a $5 trillion economy, I think they can find the funds.

But one question is relevant. For four decades Japan has been a major purchaser of US Treasury securities. If they are now going to spend this money to rebuild Sendai and other hard-hit areas, who will replace Japan as the marginal buyer of US debt securities?

Enter Latin America—specifically, Brazil–also Russia, India, and China. The BRIC countries have tremendous trade surpluses, stable budgets, growing economies, and a need to “sterilize” their currencies—to invest their surplus abroad, lest repatriation cause the currency to rise and ruin their export machines. They’ve got the cash. With Japan out of the picture, we’ll soon be needing that cash.

President Obama is in essence paying a sales call on Brazil. Expect him to visit the other investors soon.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net

The Downside of Honor

Honor is usually a good thing. But the triple crises in Japan have shown us that there are two sides to everything.

Japan is an honor-driven society. Your reputation for integrity and competence is extremely important. Self-respect is maintained, one anthropologist notes, by doing what is expected. Personal desires are secondary to social expectations. If someone is shamed, the only way to restore self-respect is to do what society expects.

While such an approach provides a great degree of social order, it also leads to a focus on what others say. Self-respect is dependent upon other people’s respect. This can help us understand why the information provided by Tokyo Electric during the nuclear crisis has been overly optimistic. The company is responsible for the safely of this power plant. Negative assessments hurt its reputation. In such a situation it’s not surprising that their disclosures would be incomplete.

This is important as we invest globally. Understanding local customs and cultures helps us assess the reliability of financial disclosures and other public statements. Assessing the underlying reality can be an art—you have to look for inconsistencies and at numbers that are not broadly followed.

The crisis at the Fukushima power plant is a tragedy. But we can learn from Japan’s response. Calm, focused energy is good. And transparent, full disclosure is essential. Because, ultimately, the truth is out there.

Douglas R. Tengdin, CFA
Chief Investment Officer
Hit reply if you have any questions—I read them all!

Follow me on Twitter @GlobalMarketUpd

direct: 603-252-6509
reception: 603-224-1350

www.chartertrust.com • www.moneybasicsradio.com • www.globalmarketupdate.net