October 2002 Newsletter
Issue Ten, Volume Three

TRICK OR TREAT ?

By Mike Gasior

First of all, let me apologize for all the recent hassles regarding getting this newsletter out to you. My subscriber list has grown tremendously over the past few years (which I am very pleased about and am NOT complaining) but this growth has caused much strain on the technology necessary to send it. There have been two server crashes in recent months during the sending process and not everyone has received their issue in a timely manner. I hope all of this has been remedied at this point. If you have missed any issues, or EVER want to go and read past issues, bookmark this URL and all previous issues are available for you there:

http://www.afs-seminars.com/newsletter.html

I thought last month's brainteaser was particularly good and you should give it a whirl if you haven't already. Now on to the business at hand.

VERY SPOOKY INDEED

Well it seems a very appropriate time of the year to discuss many of the spooky events occurring in the economy and financial markets of late. As much as many of my readers think I'm usually a big crank and seemingly negative, the truth is that these people don't like parts of my message and then immediately dismiss the messenger. The truth is that the current condition of the markets present plenty of opportunities for people willing to look for them. Investors are struggling to come to grips with the idea that the opportunities no longer resemble what they looked like during the 1990's. Anyone with an open mind and realistic expectations can position themselves to benefit during the next decade. Let me quickly get to my thoughts.

THE DOWN AND DIRTY

Thanks to a recommendation from a reader, I'm trying something new this month. The suggestion was to simply rattle off my feelings about the various asset classes and my viewpoints about their futures. Before going to the individual markets, let me talk about the big picture.

"IT'S THE ECONOMY STUPID"

While this was the rallying cry for the Clinton campaign in 1992, it is also a reasonable thing to consider at this very moment.

The economy is in an EXTREMELY precarious position and my feeling is that we will slip back into recession by early next year at the latest. I might even argue that we truthfully never "recovered" from the recent downturn and we are currently in the "L" shaped recession I predicted almost two years ago.

The facts are undeniable:

--U.S. consumers are overwhelmed with debt and are unlikely to continue their drunken spending spree of the past few years, which fueled the U.S. and many foreign economies. It was just announced that consumer sentiment in the U.S. dropped to its lowest level since 1993.

--U.S. corporations are also overwhelmed with debt and facing a record level of downgrades by the rating agencies in the coming months. As I write this, the rating agencies have 14% of all corporate debt under review for a possible downgrade. This compares to a "normal" level of around 3%, which existed throughout much of the 1990's. You can expect defaults to accelerate.

--The U.S. Government, along with the states and local municipalities are heavily in a deficit situation and will unlikely be able to spend enough to overcome consumers reining in their buying habits. Orders for durable goods (trucks, cars, bulldozers, computers, washing machines, etc.) just dropped 5.9%, which might be thanks to both corporations AND the governments curbing their spending habits.

Overall, the U.S. economy will begin to slide again and the Federal Reserve will be able to do little to stem the decline. The markets already seem to be counting on Alan Greenspan and the Fed to cut rates again before the end of 2002. I personally think that the Fed is acutely aware of the zero interest rate climate in Japan and is in no way eager to venture down that path. The Japanese Central Bank has become a non-entity and completely impotent regarding economic issues in their own country and I cannot imagine that Alan Greenspan wants the final years of his tenure to tarnish his legacy this way. The Fed will use the few bullets it has left in its clip as carefully as possible.

THE STOCK MARKET

This current rally has "sucker" written all over it and is trying to suck in the last few saps who haven't gotten their kneecaps shattered. My feelings are simple, common sense and very straightforward about the U.S. stock market:

--P/E ratios are still WAY too high by any historic standards

--Earnings are under pressure in many industries and there is very little that companies are able to do with regard to raising their prices

--Not only are the price/earnings ratios still much too high, but the earnings for many of these companies are still turning out to be phony

The stock market will drift lower from here and then rattle between 5,000 and 8,000 on the Dow Jones Industrials for the next five to eight years. With some unforeseen disaster, like a terrorist strike or a nuclear incident in the Middle or Far East, things might even get much worse than that.

THE BOND MARKET

Plenty of opportunities here, since the run up in stock prices was somewhat fueled by schizophrenic investors leaving bonds and diving into stocks. This brought bond prices down and the yields on those bonds up.

--The Ten Year Treasury Note yielding 4.09% is a tremendous value and may be a wonderful place to weather the economic storm of the next few years.

--Municipal bonds are trading at EXTREMELY attractive yields. There are lots of very high quality muni's offering tax-free yields of over 5.00%. For those in higher brackets, this equates to nearly an 8.00% taxable yield with very low credit risk.

--I don't like the mortgage backed securities market as much as I did several months ago due to the insane level of prepayments caused by this refinance boom we are experiencing. While you can still find spreads of over 200 basis points above Treasuries, the Treasury you are comparing to now is often in a 1.5 to 2.5 year range, which makes the yield seem stingy, compared to other opportunities. I don't find the reward there right now given all of the cash flow risk an investor takes on when owning these.

--Corporate bonds are very troubling at this time and I would only own the highest ratings available and wouldn't go near the high yield market with a ten-foot pole. In my own opinion, anything much below AA/Aa is not worth the credit risk for the spread these bonds are offering above Treasuries and Agencies. There is no need to go here.

--Money market returns are not even all that bad considering the current inflation climate. At least the return number is a positive one.

REAL ESTATE

I would not buy any real estate right now under almost any circumstance unless it was the home of my dreams, and wouldn't consider it an investment whatsoever.

Commercial real estate has already softened badly and may soften much more.

Residential real estate is now ridiculously overvalued and will begin to decline very soon.

I've expressed my reasoning for these views in newsletters past and will not restate them all here. Suffice it to say, that my opinion of real estate values is precisely where it has been, and that values will be declining soon.

GOLD

Gold? What...are you kidding me here? Forget it. Don't be buying any gold, silver, Beanie Babies, Pokeman, Barry Bonds rookie baseball cards, Superstars of NASCAR collectible plates from the Franklin Mint or any other crap. That's all this stuff is and don't kid yourself.

If you feel so inclined to put any of your hard earned money in such stupid things, do yourself a favor and bury the money in your yard instead. Save yourself a mayonnaise jar and stuff the dough right in there and put it under the porch. This will prove to be a MUCH better investment.

ALAN GREENSPAN AND DERIVATIVES

Since derivatives are one of my favorite things in the whole world, I read with awestruck fascination the recent comments of our friend Alan Greenspan regarding the rise of this marketplace.

While the financial markets have been volatile and tumultuous, the economy as a whole has moved up and down slowly and methodically. Chairman Greenspan has given speeches recently where he credits much of this decreased volatility in the economy to the advent of the derivative market. He says that the various products available today (swaps, options, futures, forwards, caps and floors among others) have enabled the risks to be transferred from the economy at large to investors willing to bear the risk for the chance to make a profit.

So while the financial markets have become a rough and tumble kind of place, the economy as a whole is more sedate and has derivatives to thank for this improvement. This is a pretty cool thing for a guy like me to hear since I've been the biggest cheerleader of derivatives in the world for the past decade. Whenever Alan Greenspan agrees with you about anything it has a way of actually making you seem smarter by association and I'll take all the help I can get.

A COUPLE OF WORDS ON THE SNIPER CASE

It seems that every single night since the capture of these two losers who senselessly killed 10 innocent people, I have been watching the cable news channels debating how law enforcement handled the whole situation.

I'll tell you how they handled it. They handled it GREAT.

I'm sick of these phony media types getting their panties in a knot lamenting how the police conducted themselves this recent case, or how the FBI and CIA handled the terrorist threat prior to 9/11. Americans particularly, and the citizens of many countries around the world, should be on their knees thanking their own personal Gods that there are people willing to do these jobs. The huge, HUGE majority of police, fire fighters, FBI and CIA agents and military personnel toil long hours for moderate pay to protect and serve the population at large.

So my advice to these "Monday Morning Quarterbacks" in the media is to shut up, move on and leave the police alone. Life is not perfect, and the police did a TERRIFIC job in this case and in most cases, which is more than I can often report about these idiot reporters. Let's remember who is doing the more important job.

A SICKENING DISPLAY

When I heard of the untimely, and tragic death of Minnesota Senator Paul Wellstone, I was very moved. Although the Senator and myself probably wouldn't have agreed on many things political, I always felt he was an extremely decent and honorable man who spoke what he truly believed. It is always sad to lose someone of such passion at such a young age of 58.

The other night I was channel surfing (as men do) and came across what seemed like a huge and raucous political rally with Bill Clinton hugging Jesse Jackson. Al Gore, Hillary and Tom Daschle were there too waving and smiling. Then it began to become clear to me that I was actually watching the memorial service of Senator Wellstone. When Senator Trent Lott (who has always spoke fondly of Senator Wellstone) was booed by the audience, I had to change the channel. I felt like I was going to vomit. The politicians need to remind themselves that they lead by example and that this is no example to set with regard to how civilized society conduct itself. It was a very sad moment to witness indeed.

A PRETTY DECENT BRAIN TEASER

I thought last month's brainteaser was a pretty decent one and this was on purpose because of all the complaints about them being too easy. Although I still think last month was fairly tough, this month is all right too.

Each number shown below follows a certain rule. Figure out the rule and fill in the missing number for July:

January 20
April 10
May 5
November 15
July?

I thought this one was cute and in the order of the tulip bulb question of many months ago. If you can't get the answer, just follow this URL to get the answer:

http://www.afs-seminars.com/brainteaser_Oct2002.html

NEXT MONTH

Well year-end is rapidly coming toward us and I will be working on compiling my "best of" and "worst of" lists, along with reviewing my predictions of last December and making my picks for 2003. I might use November for some housekeeping issues before the year is over. You might find the stuff I leave out at the curb somewhat interesting.

http://www.afs-seminars.com

Copyright 2002, Michael Gasior. All Rights Reserved.

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