Why Alternative Assets Make Sense

I had an interesting conversation this afternoon with a colleague that specializes in foreign exchange trading.  Now granted, he was trying to get me to move some client money to his firm, and felt that his approach is ideal for a portion of our portfolios.

Surprisingly, unlike a lot of financial planners and certainly contrary to many equity portfolio managers, I actually agree that, for a portion of client portfolios, what have traditionally been called “alternative assets” like real estate, commodities, foreign exchange, hedge funds and private equity, are an integral part of a well designed portfolio.  In fact, there are numerous studies over the years that have shown that, although they can be volatile in the short term, alternative assets, over the long term actually REDUCE portfolio volatility and in INCREASE overall return.  That’s right, you heard it right, portfolio volatility is reduced and overall return is improved.

Over periods of time, like the 1990’s traditional assets like stocks and bonds have outperformed “hard assets” like gold and oil.  Over other periods, the 1970’s for instance, the hard assets have outperformed.  With exposure to BOTH types of assets, your portfolio should perform better over time than a portfolio built around one or the other.

The moral of the story is, don’t be afraid of these other assets.  Although they’re not advertised on TV like some other asset classes, they can prove to be quite valuable to your long term growth prospects.

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Fed Cuts Rates Yet Again

After a week of market chaos, culminating in the fire sale of Bear Stearns, the Federal Reserve announced today that it was cutting its key interest rate, the Federal Funds Rate, by ¾% to 2.25%, the lowest rate in 5 years.   In its statement announcing the cut, the Fed cited the continued downside risk to the economy, suggesting it might be open to cutting rates further if necessary.   The stock market responded positively, even though many experts thought the cut would be a full 1%.   This rate cut is positive for many consumers in that it will lower the rate on things like Home Equity Lines of Credit and variable rate credit cards.  While you won’t see the results immediately, by the end of next month, the lower rate should have trickled through to your statement.  If you’ve been thinking about refinancing your home or you’re looking to buy, now might be the time to pull the trigger.   The flip side to this rate cut is that you’ll see the rate you get on your savings and money market accounts drop and the weakening dollar will increase the cost of imported goods to increase, so expect high gas and commodity prices to stay with us for a while.

Fire Sale

Yesterday’s announcement that JP Morgan Chase was purchasing Bear Stearns for $2 per share, or about $236 million was a great deal for JP Morgan and a lousy one for Bear Stearns shareholders.

The Federal Reserve helped negotiate and finance the deal in an effort to prevent widespread panic that the credit crisis was going to take down other financial companies, deepening the problems.  Had the Fed waited one day, however, the markets would have found that both Lehman Brothers and Goldman Sachs, two Wall Street powerhouses, had earnings that, although reduced by the sub-prime exposure, beat most analysts’ estimates.  It seems that the carnage on Wall Street might just be limited to a handful of companies that were particularly aggressive in this space.

So who wins in this situation?  Only time will tell if this, and other Fed moves, helped stave off or shorten a recession.  Certainly, JP Morgan stands to benefit TREMENDOUSLY.  Bear Stearns headquarters building, which they own, is worth TWICE what JP Morgan paid for the whole company.  Many analysts feel that the fair market value of Bear Stearns is somewhere around $40 per share.  Lawsuits are sure to follow so I guess, at the end of the day, the attorneys, as always will come out the big winners.

As I write this, we are less than 30 minutes from the Fed announcing what most people think will be a 1/2 to 1% cut in the Fed Funds rate.

I’ll keep you posted.

It’s Official

Well, it’s finally official. According to a Wall Street Journal economic-forecasting survey, conducted from March 7 to 11, a majority of the economists polled said that the U.S. has finally slipped into recession. This marks a huge change from the last poll conducted only 5 weeks before.

To add to the evidence, new data shows that retail sales dropped .6% in February, the result of the sub-prime credit crisis, falling housing prices and increased prices for staples such as food and gasoline.

According to Ned Davis Research and their study, 10 post-war recessions have lasted an average of 10 months. At the same time, during these recessions, the S&P 500 has seen the following returns:

Year Leading to Recession: -4.3%

Six Months After Recession Begins -4.8 %

One Year After Recession Begins +3.2%

Year After Recession Ends +14.4%

As you can see, the pain in the markets is short-lived and the recoveries are usually robust. Remember these are just averages and each recession has its own characteristics. Let’s hope this is a mild one with an ever better rebound!!!

Federal Reserve Trying to Hold Off Recession

The Federal Reserve today, in an attempt to improve conditions in the credit markets and, hopefully, help the economy avoid recession, opened its coffers and made $200 Billion (with a ‘B’) of highly-liquid U.S. Treasuries available to primary dealers, secured for 28 days. It also significantly expanded the types of securities that can be used as collateral for loans, allowing them to swap mortgage notes it can’t sell for government securities that can easily be sold to raise cash.

The hope from the Fed is that this action will bring some normalcy to a credit market that has all but dried up in recent months and that this cash infusion will allow banks to lend money to keep the economy moving.

The financial markets have responded well to this latest move, with the Dow, NASDAQ and S&P all up more than 3.5% today.

The other positive aspect of this move is that, unlike a broad interest rate cut, this strategic bump helps a specific portion of the market without stoking the fear of increased inflation.

Finally, to its credit, the Fed is being pro-active in addressing issues caused by the sub-prime meltdown and is using every tool in its arsenal to both (hopefully) contain and minimize the long-term impact.

Stay tuned to see how this plays out.