Financial Markets Are All About Cycles

The trick is to know where we are in the cycle.

November 18, 2007       Leave a Comment
By: Jerry Cole - Retirement, Investment

Printer Friendly Story View

Cycles. It's all about cycles. The problem is - what cycle are we on and how long will it last? But like the old saying "what goes around comes around." One of the dictionary definitions is - "a course or series of events or operations that recur regularly and usually lead back to the starting point."

This whole concept couldn't be better exemplified than by the financial markets. For example, this week there was some troubling news about consumer spending as the holiday shopping season builds to a crescendo. These worries were fed by high energy prices, a dismal housing market and big headlines of losses by Wall Street banks. This caused many investors to move out of equities to the relative safety of U.S. Treasury Bonds.

This in turn resulted in Treasury yields hitting a 2-year low, (remember that as bond prices increase, yields decrease). Despite those concerns, stocks finished the week on a high note. For the week the Dow Jones Industrial Average was up 1%. This makes it up 5.7% for the year. So what will happen to Treasury Bonds if the market continues to perform on the up side? Investors will move out of Treasury Bonds and back into equities, thereby bringing yields back up. And there you have a cycle!

In the bigger picture, the subprime turmoil has wreaked havoc in the credit markets across the board. The credit pressure has now filtered down to the muni market, the $2.5 trillion (yes TRILLION) market for tax-free municipal bonds. In recent weeks, prices on municipal bonds have moved lower while their yields have been rising, making them cheap in some investors' eyes. Some new municipal bond issues have been hung up and companies that insure the municipal bonds have seen their share prices tumble.

According to some bond portfolio managers, this is all due to the concerns and fears about the impact of things going on in other bond markets. However, should there really be a concern regarding municipals? In this case it has to due with the insurers of the municipal bonds. If a city or hospital issuing a tax-free bond should struggle to pay, these bond insurers in some cases back them up.

The worry is that some of the insurers in recent years have also become backers of debt instruments holding now troubled mortgage securities. Because of that exposure, the insurers are under pressure from rating services to raise capital to cover potential losses on those securities or face downgrades.

Now look at some of the financial stocks. Traditionally these stocks are cheaper than other stocks. What has happened to these stocks in the past several weeks show there is a reason for this. Billion dollar write-downs now seem commonplace what with Merrill Lynch, Bear Stearns, Citigroup, Bank of America etc. all having to take such steps. These firms make money by managing risk. In times of stability, their earnings can be huge. But in times of upheaval, their losses can be huge.

This is why owning these stocks involves more risk than other sectors of the markets. This is contrary to what many investors would intuitively think. Owning a bank should be very steady and profitable. Perhaps in days gone by this was true, but not today in the era of huge banking empires. At present, financial firms in the S&P 500 index trade at just 11.6 times the past four quarter's earnings. A year ago the P/E ratio for these firms was 13.5.

If you believe the credit crunch cycle is about to turn, you could consider averaging down if you still own stocks of financial firms, or might consider buying outright. Perhaps all of the write-downs won't prove to be required for the banks reserve ratios (the amount of funds necessary to cover bad loans).

So you can see it is all about cycles. Obviously the trick is to know where we are in the cycle. It ain't easy!

So keep your risk within your tolerance and keep ahead of inflation.

I invite your questions.

(The opinions expressed are solely those of the author and not Gen worth Financial Securities Corporation.)

---

Printer Friendly Story View

	Prior Article February 10, 2020 by: Rachel Reh Family Winter Fun Fest is BACC Hot Spot for 2/10/2020
	Next Article February 2, 2020 by: Kathy Rupert-Mathews MOVIE REVIEW: "Just Mercy" ... You Will Shed Tears, or at Least You Should

Agree? or Disagree? Leave a Comment!

---

Jerry Cole - Retirement, Investment
Jerry Cole has been a Financial Planner for almost 30 years in the Tri-City area and holds and MBA from USC. More from Jerry Cole - Retirement, Investment

---

Send This Story to a Friend!       Letter to the editor       Link to this Story
Printer-Friendly Story View

---

--- Advertisments ---