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The US economy expanded in the third quarter, reversing a year-long contraction of 3.8% for the world’s largest economy. It was the worst economic performance in seven decades. As for duration, the four consecutive quarterly declines were the longest since quarterly records began in 1947. But in the third quarter, the economy came roaring back with a 3.5% gain, well ahead of the 3.2% median forecast of economists surveyed by Bloomberg news.

There is a steady and dramatic shift occurring in the investment world toward Exchange Traded Funds. ETFs as they are called, represent baskets of stocks which are managed only to match specific indexes, not to beat them, as is the case for actively managed mutual funds. According to a recent study by Barclays Global Investors US listed ETFs climbed to an all-time high of $607 billion at the end of August. The study suggests that a "conservative" growth rate of 20% compounded annually, would put ETFs above $1 trillion by mid-2011. That total would represent 10% of the US mutual fund industry.  Brad Hintz, an analyst at Bernstein Research, in a Sept. 23rd research note said the growth of passive index products in general and ETFs in particular represent "a threat to traditional asset managers." He expects investors will focus even more on fees and tax efficiency with a sluggish outlook for stock and bond returns after the financial crisis. In this Brief I will demonstrate that there are even more significant advantages to the passive approach offered by ETFs than simply lower costs and taxes.

The US Economy continues to show signs of recovery, particularly in manufacturing. Third quarter earnings will show just how quick the pace of recovery is. Early reports this week were good with Goldman, JP Morgan, Citi, IBM, beating expectations and Intel raising fourth quarter guidance. The stock market continued its steady rise this week as reports filed in with the Dow closing about 10,000 yesterday for the first time in a year. And as has been the case since March, the dollar continues to decline as the stock market rises.

Economic recovery will be in the eyes of the beholder for months to come. From the perspective of employment, the economy may remain anemic for months. And Washington’s stimulus efforts are having no discernable impact. Alternatively, the corporate sector seems to be showing life on several fronts including exports, inventory replenishment, and earnings from increasing sales.

The long and mostly uninterrupted rally took a breather this week as investors wondered if the economic recovery might be losing steam. Some wonder if the market might be ahead of itself, given the anemic nature of the recovery. But it is not news that the recovery is going to be bumpy and uneven. The perennial doomsayers continue to harp on the bad and the perennial optimists harp on the good. Today, we’ll simply report the week’s economic news and let you decide.

The stock market, since early March continues to suggest economic recovery. But this week it took a pause as the S&P 500 declined some 1.8%. Still, the average is 55% above its March 9th lows. With the huge rally, consensus seems to be building that the market is ahead of itself. Some even argue that we are in a sucker’s rally or a bear market trap soon to collapse.

With only a small bobble yesterday, the market as measured by the S&P 500 roared another 2.5% higher this week. It is some 7% higher this month, but still 32% below its peak on October 9, 2007. Good news from various economic indicators and positive comments from Central bankers and economists have boosted the confidence of investors. On Tuesday, Mr. Bernanke confidently declared that from a technical perspective, the "recession is very likely over at this point." But he added that tight credit conditions and unemployment will keep the recovery muted. The consensus view is that the economy is in recovery, but views diverge on the whether it is sustainable. The threat of government stimulus being removed prematurely and the notion that consumer spending will remain weak through next year weigh heavily on the prospects of strong recovery.

Three of us met at the dock, one hot summer morning, ready for the day’s adventure. Pete, Reid and I had been intrigued by news in town of the discovery of a sunken German U-Boat, completely intact and sitting upright on the bottom. Details of her location were closely guarded because of her salvage value.

The week’s economic data continues to point to recovery, but investors worry whether it will be strong enough to support the stock rally since March 9th. The S&P fell 2.6% this week as of yesterday’s close. September is historically the worst month for the stock market. In fact as Ed Yardeni notes, since 1926, September is the only month with a negative average return. Investors lose an average of 1% during September compared to a 1% return for the other 11 months. So the market may be in a holding pattern for a while. This is a good time to forego analysis of the various economic and market wiggles to take a broader and longer perspective on investing.

On Wednesday our nation was saddened by the death of Senator Edward Moore “Ted” Kennedy who succumbed to brain cancer in Hyannis Port, Massachusetts. With 47 years of service in the US Senate he was one of the most influential and accomplished lawmakers of our time. Ted Kennedy was the only one of four distinguished brothers to die of natural causes; President John F. Kennedy, and Senator Robert Kennedy were assonated and Joseph Kennedy Jr., a naval aviator, was killed in action during World War II. The service and sacrifice of this remarkable family to our country is gratefully acknowledged and deeply appreciated.

The persistent rise in stock prices rolled on this week as investors continue to believe the economy is rising from recession, despite ever-present news of bank failures, sluggish consumer participation, and huge looming federal deficits. In spite of it, the Dow Jones Industrial Average advanced yesterday for the eighth straight day, each to new highs for the year, and representing the longest winning streak since April 2007. The MSCI World Index of 23 developed nations added 0.9% yesterday extending its seventh weekly gain. Copper, among the very best indicators of global growth, jumped to the highest intraday price since Oct. 1st on the London Metal Exchange, while oil climbed 0.9%. The early re-appointment of Ben Bernanke to a second term also gave markets a boost.