What the Heck is Going On???
Emerald Asset Advisors
March 19, 2011
In recent weeks, the capital markets have weathered a bout of volatility not seen for quite some time. What are the main causes and how does this volatility affect our strategies and your portfolios?
While there are many flashpoints around the world, we will highlight the "Big 3" that have made the most headlines, and those which we believe have had the greatest and most recent impact on volatility.
First, the devastating Japanese earthquake and tsunami, and the reported elevated radiation risk from leaks within the nuclear reactors. Based on our due diligence to-date, including a conversation with a Japanese national in New York City who is glued to NHK (Japan's independent public broadcaster) on behalf of his employer, the U.S. media may be exaggerating the radiation risks because they do not fully understand the science or they need compelling content to syndicate their stories...or perhaps both. Certainly the Japanese economy (#3 in the world) will slow for a while, but given the temporary nature of these horrific disasters, we expect economic acceleration in the intermediate term. As such, we look (somewhat counter-intuitively) for a boost to global GDP.
Second, the rolling revolution attempts in the Middle East. While the romantics among us are prone to root for these "democratic" revolutions, the cynical realists see anarchy and theocracy as potential threats to global order. No one knows for sure what will happen, but geopolitical instability, particularly in the energy cradle of the world, will likely lead to disruptions in the production, storage and transportation of oil and gas. The magnitude is uncertain, but we do believe this will result in rising prices.
Third, the U.S. federal budget hi-jinx. Again, who knows what will happen...but whatever the case, federal government outlays will grow again, the US government will borrow more, and the budget deficit will expand further. And, with the economy persistently stuck in first gear, we wouldn't be surprised to see Chairman Bernanke engage in further quantitative easing (i.e., buying bonds with government-created money to increase the money supply). We think this cocktail of deficit-funded fiscal expansion plus Fed-induced monetary expansion will lead to a debased currency and higher inflation (e.g., rising food and commodity prices).
If our assessments are accurate, our investment conclusions are as follows:
1) energy prices will ultimately go higher;
2) gold will ultimately go higher;
3) equities will ultimately go higher;
4) bonds will ultimately go lower; and
5) the U.S. dollar will ultimately go lower.
We say "ultimately" because between now and some point in the reasonably near future, markets will swing wildly as traders unwind and unleverage positions that worked.
We believe our strategies are allocated effectively for these potential scenarios. Even if we are off-the-mark on some of these calls, we believe our portfolios should still perform within a reasonable range of expectations. Our strategies are performing about as expected -- preserving capital from some of the downside volatility and participating on the upside.
Our goal is to get our investors from point A to a higher point B while smoothing out the valleys and peaks. While we will make some adjustments around the edges of our strategies, we believe the core theses for our existing allocations remain valid, even during this time of heightened volatility. If and when we feel that something has materially changed, we will act swiftly and decisively to reposition our portfolios as we see fit. This is the nature of our flexible style, one that can invest across different asset classes and has the ability to hedge as we continually strive to fulfill our investment goals.
(c) Emerald Asset Advisors