The Smart and Dumb Money

Buying and selling shares is not my ‘cup of tea’. Gowdie Family Wealth focuses on following major trends and acting only when those trends indicate investment is warranted and represents minimal downside risk.

Identifying and waiting for trends to unfold is a bit like watching grass grow.

This past week a few more pieces of the ‘slowing world with too much debt to service’ scenario appeared to fall into place.

The following chart (courtesy of Yahoo Finance) shows you the price movement of the KBW Bank Index (US) since January 2006.

click to enlarge

During the week of Feb 12, 2007, the bank index peaked at 120 points (note the little blue dot). The broader S&P 500 index did not peak until eight months later (October 2007).

Subprime was only just starting to appear on the radar in early 2007 and Bernanke’s ‘subprime would be contained’ commentary reassured the average punter.  The early tipping point in the banking index indicates the insiders knew something sinister was afoot.

Over the next two years the banking index lost over 80% of its value. From its early 2009 lows, the index has recovered 350% in value – double what the S&P 500 has gained over the same period.

The exceptional recovery is due largely to the US Federal Reserve’s banking friendly stimulus policies.

Last week in Europe the STOXX 600 Banks Index broke through its 50-day and 100-day moving averages. Have a look at the following chart:

click to enlarge

Is this a replay of the US in 2007? Or is it a case of one swallow does not make a summer?

State Street makes the observation of why this selling activity could be a sign of worse things to come in their Weekly World Flows report:

European Flows: Institutional investors have stopped buying European Banks. This is a worrying trend given extended positions that have been built up in the sector, while the financial crisis valuation discount has been largely worked off. Furthermore, the lack of institutional support for Financials highlights doubts investors may have in the European recovery story.

Not only are there doubts over the European recovery, the European banks are expected to be stress tested again later this year. The institutional shareholders may be a little more than concerned about the banks having to dilute their equity capital to get a pass mark.

There are also ructions in Asia. Nomura and Barclays have both revised their Q1 GDP growth rates for China, from 7.5% to 7.3%. A slowing China spells bad news not just for Australia but the rest of the world.

Daiwa Institute of Research expects China will attempt to depreciate the yuan by at least 10% against the US dollar to try and kick-start exports:

We believe the People’s Bank of China will have to keep printing money to ensure the economy stays afloat and not care too much about downward pressure on the currency. This option could at least buy some time for the PBOC to fight the fire.

China, Japan, Europe, UK and the US are all adopting versions of the same printing strategy. Surely these tactics cannot all work together at the same time? Perhaps the stench of something fishy in central bank balance sheets is what’s motivating the sales of banking shares.

Over in South Korea, major steelmaker Steel & Posco told shareholders that new investment for expansion was on hold. The new CEO, Kwon, said instead the company is looking to increase value by spending money ‘downstream’.

The other frank and rather ominous warning Kwon delivered was (emphasis mine): ‘steel oversupply and global economic slowdown are inevitable‘.

In a world of central bank ‘smoke and mirrors’ it is refreshing to have a business leader at the pointy end of the supply chain tell it as it is: global economic slowdown is inevitable.

Even those with half a brain and a deaf ear to the ground know the wheels of global commerce are grinding ever so slowly these days. It’s just that these gut feelings are rarely verified by the talking heads in mainstream media.

As well as institutional investors  not buying bank shares, this past week there has been news of a couple of wealthy individuals selling down their private equity holdings.

The Swiss-based Jacobs family has pocketed US$2.5 billion for the sale of its 16% stake in Adecco, the world’s largest recruitment company.

Asia’s richest man, Li Ka-shing has received HK$2.5 billion for the partial sale (60%) of Hong Kong’s Port Terminal 8 West to mainland shipping giants. Perhaps after this deal the surname should be pronounced Ka-ching.

Analysts have raised questions about whether, ‘Li has lost confidence in the Hong Kong port business’.

Are these sales purely to free up cash for other acquisitions? Or is it a case of the ultra-rich knowing an old debt problem cannot truly be solved by adding ever-increasing amounts of new debt?

The other big sale in the past week has been foreign central banks unloading $104 billion in US Treasuries. Is it the Russians dumping some of their holdings or China playing games or both?

The slowdown in China, the tensions in Crimea, the downturn in European banking stocks, a candid corporate assessment on the global economy and some very wealthy individuals cashing up.

Are these indications from those on the inside of the next great financial meltdown or a random collection of unrelated events? Is the smart money getting jittery?

Perhaps the smart money is watching what the herd is doing.

The Investment Company Institute’s 2014 funds flow data for the US mutual (managed) fund industry shows in excess of US$47 billion has poured into equity funds – an average of over US$4 billion per week.

From its low point in March 2009, the US share market has increased 170%. Yet in 2009, when the market was on sale, there was an outflow of US$2 billion for the year.

You should ask yourself, who are the smart ones and who are the dumb ones?

As a long-term value investor, it is hard to find any compelling value in current equity valuations. That doesn’t mean the herd won’t keep buying – creating a self-reinforcing loop. But all this does is give the smart money more time to cash out at levels that will seem ridiculously expensive in a few years’ time.


Vern Gowdie+
for The Markets and Money Australia


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Vern Gowdie has been involved in financial planning since 1986. In 1999, Personal Investor magazine ranked Vern as one of Australia’s Top 50 financial planners. His previous firm, Gowdie Financial Planning was recognized in 2004, 2005, 2006 & 2007, by Independent Financial Adviser (IFA) magazine as one of the top five financial planning firms in Australia. He has been writing his 'Big Picture' column for regional newspapers since 2005 and has been a commentator on financial matters for Prime Radio talkback. His contrarian views often place him at odds with the financial planning profession. Vern is is Founder and Chairman of the Gowdie Family Wealth advisory service, a monthly newsletter with a clear aim: to help you build and protect wealth for future generations of your family. He is also editor of The Gowdie Letter, which aims to help you protect and grow your wealth during the great credit contraction. To have Vern’s enlightening market critique and commentary delivered straight to your inbox, take out a free subscription to Markets and Money here. Official websites and financial eletters Vern writes for:

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