Is the Strong Start Indicative for the Remainder of 2012?

U.S. stock markets started off the year very strong with the S&P 500 returning 12.59% for the first quarter of 2012. On the other hand the main bond benchmark index was up only 0.3% for the quarter. This is the opposite of last year where bonds outperformed stocks. It would seem, with stocks going up and bonds underperforming that investors are gaining more confidence in the stock market and things are starting to normalize again. The strong start, however, has caused the “herd” to become complacent, which is a major concern going forward as there are a lot of red flags of which investors need to be aware.

Decoupling of U.S. Markets and International Markets

Overseas markets will usually outperform U.S. markets during a strong bull market. Currently, however, we are seeing a divergence from this historical pattern. Some foreign markets of the Euro zone countries like Spain, France and Italy (All three are major economies) are actually approaching their respective lows of their last bear markets in 2008-2009 (see charts below). Conversely, U.S. markets are approaching their last bull market highs of 2007. This trend divergence known as decoupling (a breaking apart of two things that normally trend together) rarely continues for an extended period of time and eventually reverts to trending in the same direction, which I believe will be down.

Complacency (lack of fear)

The “herd” or average investor has become complacent as U.S. markets approach their all time high and popular stocks such as Apple surpassing all time highs. When someone is complacent in the stock market they do not fear that it will go down. When that is the case the “herd” will put most of their money in stocks causing a further upside movement with the extra demand. At some point, however, the “herd” runs out of new money to invest in the market and now they have become a large group of potential sellers. Simultaneously, as the herd is in this euphoric mind set and buying stocks after they have already gone up significantly, the “smart money” is using this extra demand to sell their positions. Once the herd has bought just about all they can, then the market runs out of new buyers which sets off a chain reaction of events usually causing a sharp down turn. As stocks start to fall the herd realizes they have made a bad decision and they start to sell, causing prices to go lower creating more fear. This snowball effect eventually leads to the herd “throwing in the towel” and selling all of their positions also known as capitulation at which point the market usually bottoms as the smart money who sold to the herd at the top of the market now start to buy from the herd who has sold out at the low. This symbiotic dynamic (the masses making wrong decisions and the smart money capitalizing on the opportunity) is a natural law prevalent in the market whereby prudency dictates that we invest contrary to the herd. At the end of the first quarter, the primary measurement of fear and complacency, the CBOE volatility index (VIX), measured the highest level of complacency since 2007. The last time the market was this euphoric was at the peak of the housing and stock market (see below).

Update on the Secular Bear
In the first quarter I discussed the current secular bear market, here is a quick update. We currently believe the upside is limited while the potential downside could be severe. In the chart below you will see that the highs of the S&P 500 for year 2000 and 2007 were approximately 1550 (see horizontal red line of resistance). The recent high in the S&P 500 was about 1430, just under 8% from the highs of 2000 and 2007. From a technical perspective it will be very difficult to surpass those highs. On the other hand the lows of 2002 and 2009 were around 750 (see horizontal green line of support). That means the long-term potential downside is around 40%. The limited upside and the extended potential downside increases the need for risk management. We have managed the portfolio’s quite defensively because of this large disparity of increased risk of loss.

Bond Market Update

As of March 31st corporate and high yield bonds were strong and U.S. Government bonds were weak. This is typical in a market that is rallying. Since the end of the 1st quarter, as the market has started to rollover and head lower, the bond strength has reversed. Safe haven bonds like U.S. Government bonds have gone up while the more risky corporate and treasury bonds have decreased. Over the last 14 months until this past February, Muni bonds were particularly strong. While we have benefitted from the rise in Muni bond prices, now is the time to be cautious, as sharp corrections can occur after big runs. Consequently we have shied away from the riskier long-term Muni bond holdings in favor of the safer short and intermediate term Muni bonds. Our bond portfolios, as a whole, are light on risky bonds and heavily invested in more core and U.S. Government bonds as we anticipate a more volatile market in the near future.

As such, Allgen’s focus in the second quarter of 2012 will be on preserving portfolio values by managing all of the above mentioned risk, holding high levels of cash, safe haven assets and non-cyclical assets when appropriate in order to avoid major losses when markets drop and conversely positioning assets for what we believe will be a strong post secular bear market run. Historically, the markets have produced double digit returns for an extended time period following secular bear markets. As such, proper positioning and timing of market reintegration will prove to be of great value for our client’s portfolios into the extended future.

Although these types of markets are very challenging, history has shown that those who persevere come out on the other side stronger and well positioned for the prosperous times that follow. We are excited to continue to overcome such market environment challenges with diligent market monitoring, positioning and purposeful client communication.

Have a great spring time!

Download This Market Commentary in PDF Format

Written by:
Jason Martin, CFP®, CMT
Chief Investment Officer
Allgen Financial Services, Inc.
martin@allgenfinancial.com

Speaker:

Jerry Ross
Director
National Entrepreneur Center
Embassy Suites Orlando Downtown

Time:
11:30 – 12:00 – Networking
12:00 – 1:00 – Lunch and Speaker

About Jerry Ross:
Jerry Considers himself a serial entrepreneur who has worked for the largest business in the world (AT&T) and the smallest (his own).  He has been called a “virtual business incubator” and “a small business grower” by the Orlando Business Journal for his entrepreneurial success and his ongoing support of the small business community.

About Priority Associates – Orlando:
We help marketplace influencers become transformational leaders by providing opportunities to explore issues of success, leadership, faith, significance and relationships from a biblical perspective.

Register at: www.paorlando.org

More Information:

http://www.leadercastorlando.com/

Schedule:

Location:

National Entrepreneur Center
Fashion Square Mall
3201 E. Colonial Drive Suite A-20
Orlando, Florida
http://www.nationalec.org/
For more information call 407.422.9200

> Register Now

The first 20 people to register with us will have their registration fee covered. (Deadline: March 28, 2011) But, you must be a member of the Allgen family.

Date & Time:
Thursday, April 12, 2012
5k race officially starts at 7:15 p.m.

Be at the Allgen tent at 6pm to stretch and get pumped up!

Location:
Lake Eola, Downtown Orlando

About this Event:
The corporate 5k is a 3.1-mile run/walk event held exclusively for Florida’s corporate community. Businesses and non-profit organizations form teams and participate in the Corporate 5k for camaraderie and friendly competition. This event benefits the Track Shack Foundation.

Registration:
Deadline: March 28, 2011
https://register.trackshack.com/register/groups/jointeam.aspx?event=5999
Choose Team: Allgen Financial Services
Password: Email Mary Rose @ rose@allgenfinancial.com for the password.

Jason Martin will be leading a Financial Peace University class located at:

Discovery Church
4400 S. Orange Avenue
Orlando, FL 32806

First Class: Tuesday, Feb. 7th 7:00 – 9:00 pm

Classes for this 13-week course begin Tuesday Feb. 7th 7-9pm (first class is free)

The direct contact for FPU at Discovery Church is Linda Cyr 407-855-3141 X 137
fpu@discoverychurch.org

You can register by going to http://www.daveramsey.com/fpu/home/ and putting in the zip code for Discovery Church which is 32806. Then just register online.

If that is not close to you, then put in your zip code and locate a class near you. We would love for you to be in Jason’s class, but if that is not convenient for you, we encourage you to attend somewhere that is close to you.

Here’s the website for Dave Ramsey who is the writer of the books and materials “Financial Peace University” and “Total Money Makeover”. www.daveramsey.com

If you have any questions about this, please contact Mary at 407-210-3888 or rose@allgenfiancial.com.

Looking Ahead to 2012

Happy New Year! And this will be about as cheery as we will be as we take a moment to take a quick look at investing in 2011 and more importantly in 2012.

2011 proved to be another challenging year as economies, plagued by debt, continued stress on real estate markets, low production, tight credit, etc. ended up yielding little to negative returns. The S&P 500 returned just over 2% for 2011 including dividends. This return was earned with a lot of anxiety as investors witnessed a lot of volatility throughout the year (not to mention those that decided to invest abroad as several international markets have been in a bear market since 2010). For those that chose to stay away from the anxiety of equity investing yet still seeking returns, fixed income instruments did not yield much better as a whole. The safer-haven type of debt did well while the higher yielding bonds for the most part underperformed.

So here we are in 2012, a political year, with European markets struggling, unemployment barely moving, baby boomers looking to retire, interest rates at historic lows and folks wondering how they will earn money on their investment portfolios.

We hate to say that due to all of the above conditions, 2012 will prove to be yet another challenging year for investors. Historically, election years, where the incumbent has a good chance of losing, have proven to be very challenging years in the U.S. equity markets due to the inherent uncertainties. Add to that the global fiscal pressures in the US and European economies and the increasing real estate and leveraging patterns developing in the emerging markets, resemblant of the US economy before the bubble burst, and we are looking at a challenging year, especially for those seeking immediate income or return from their portfolios.

In the US, we are experiencing a secular bear market (a long-term stagnating trend that historically has averaged 13-16 years, consisting of sharp up and down trends in between but with negative to flat returns from beginning to end). Since 2000, the S&P 500 is basically flat point to point. However, while dull in ultimate return, the investing experience during these years has been quite nerve racking as we have witnessed extreme volatility throughout. This is expected to continue for another 1-2 years if history repeats itself.

Global economies are faced with fiscal issues as increased spending along with insufficient revenues has led to increasing deficits. While the problem seems fundamental to fix (decrease spending and increase revenues), political interests make it difficult to pass laws to change these patterns as someone is ultimately affected with such behavior changes (where does the government cut?).

Emerging markets are witnessing different challenges. Economies such as Brazil, China and India are following the trend established in the US a few years ago. Consumer debt is rising, real estate is booming, showing unsustainable double digit growth rates, all supported by looser institutional credit standards. This has created a euphoric consumer similar to the U.S. in 2007. In the meantime, their equity markets have been in a bear market since 2010, some showing drops of over 30%. The combination of these elements will surely lead to the busting of the existing economic bubble as occurred in the US and other Global economies in 2008.

So as we have just listed several challenges facing investors in 2012…what would be our strategy moving forward?

As has been the case historically, buy and hold is not effective during secular bear markets as you can hold on to a market for 13 years and end up with little to no return. Such markets warrant a more proactive approach to investing where economic, fundamental and technical indicators are considered in order to pick and choose the appropriate defensive sectors and know when cash is the best place to be. While we agree that perfect market timing is impossible, market trends do occur and repeat themselves. Knowing and understanding these trends, whether investing for long term returns or immediate income, enhances the odds of holding an effective portfolio.

As such, Allgen’s focus in 2012 will be on preserving portfolio values by managing all of the above mentioned risk, holding high levels of cash, safe haven assets and non-cyclical assets when appropriate in order to avoid major losses when markets drop and conversely positioning assets for what we believe will be a strong post secular bear market run. Historically, the markets have produced double digit returns for an extended time period following secular bear markets. As such, proper positioning and timing of market reintegration will prove to be of great value for our client’s portfolios into the extended future.

Investing for income in this low interest rate environment will require specific strategies to balance the management of interest rate sensitivity risk, economic risk, credit and market risk with the need for increased returns and higher yields. Rather than relying solely on bonds for income there is a need to look at other avenues such as high dividend yielding, stable, non-cyclical stocks that have a long term record of increasing dividend payouts.

Although these types of markets are very challenging, history has shown that those who persevere come out on the other side stronger and well positioned for the prosperous times that follow. We are excited to continue to overcome such market environment challenges with diligent market monitoring, positioning and purposeful client communication.

Have a great 2012!

DISCLOSURE:
Allgen Financial Services, Inc. (Allgen) is an investment advisor registered with the State of Florida. Allgen does not provide personal financial advice via this web site. The purpose of this site is limited to the dissemination of general information regarding the services offered by Allgen. It is not intended to be a solicitation or offer to sell investment advisory services to residents of any state in which Allgen is not currently authorized to do so, nor is the information given meant to be a recommendation to buy or sell any security. The Disclosure Brochure, Form ADV Part II, which details the business practices, services offered, and related fees of Allgen’s, is available upon request. The information contained herein, including any links or charts from third party web sites, has been obtained from sources believed to be reliable, but we do not guarantee its accuracy or completeness.

Blogs, Videos & Web Site Content:
The information on this website is of a general nature and is not intended to answer any individual’s financial questions. Do not rely on information presented herein to address your individual financial concerns. Your receipt of information from this website does not create a client relationship and the financial privileges inherent therein. If you have a financial question, you should consult an experienced financial advisor. Moreover, the hiring of a financial advisor is an important decision that should not be based solely upon blogs, articles, videos, interviews, or advertisements. Before you hire a financial advisor, you should request information about the financial advisor’s qualifications and experiences.

Key points for each section:

Market Returns

Year to date returns are down nearly 10% for U.S. large companies. Small cap U.S. stocks and international stocks are down anywhere from 14% – 24% for the year. The third quarter was the worst quarter for the stock market since the last major bear market of 2008-2009. Bonds (especially treasuries) did well in a move to safety.

Fundamental Analysis

The current price to earnings ratio for the S&P 500 is high compared to historical PE ratios leaving more room on the down side for valuations and prices to drop, but during the last quarter valuations improved. U.S. Treasury yields are at historic low levels.

Technical Analysis

Stock markets declined significantly in the third quarter pushing equities into an oversold range. This will likely result in a short term bounce as most of the bad news has already been factored into the recent drop. Bond markets are mixed; safe havens have sky rocketed, while higher yield bonds have fallen with the stock market.

Market Sentiment

While money flooded into safe-haven assets like the dollar and treasuries last quarter the Volatility Index (which measures fear) went into an extreme level of fear, which from a contrarian standpoint is bullish.

What does it all mean?

Going into the third quarter we were very defensive, and although some of our portfolios lost money in the 3rd quarter, we held up significantly better then the market as a whole. The current extreme level of fear and irrational selling present an opportunity to capture a potential market bounce into the Christmas season. Although we intend to stay somewhat defensive, we do believe a relief rally will occur in the 4th quarter and have rebalanced and positioned the accounts to take advantage of this scenario.

Birmingham, Alabama, September, 30, 2011 – Allgen Financial Services, Inc. (Allgen Financial) is excited to announce the establishment of its newest office located in downtown Birmingham. Allgen is a registered investment advisory firm that predominately serves families and businesses in southern states east of the Mississippi.

Allgen Financial believes its presence in Birmingham will provide the community a unique team-based and client-centric method of financial advising. As a fee-based registered investment advisory firm, Allgen Financial has the freedom to offer a vast array of investment options since it custom designs its own portfolios based on each client’s particular situation and needs.

James Bruno, a Birmingham native and seasoned executive will be representing Allgen Financial as an investment advisor representative. Mr. Bruno will be leading and managing the Birmingham branch office on behalf of Allgen Financial. Mr. Bruno says, “I am excited to reach out to all the wonderful members of the Birmingham and Alabama community at large in order to serve them with the attention and care only a firm like Allgen Financial can provide.”

As a way of embracing the community, Allgen Financial Services, Inc. is offering the first 50 prospective clients a complementary investment portfolio evaluation to help educate the Birmingham community on the healthiness of individuals and company portfolios.

Paul Roldan, CEO of Allgen Financial says, “We are excited about our new office in Birmingham as we believe this tightly knit community will be able to benefit from our proactive approach to investment and financial management, especially during the challenging economic times we currently face.
We anticipate a warm welcome from the Birmingham community because its rooted culture mirrors Allgen’s philosophy of building up its local community.”

Allgen Financial specializes in active and strategic money management as well as financial planning. Allgen Financial strives to successfully navigate the markets during periods of prosperity and decline. The company constantly researches and studies the markets to find the next emerging area. Allgen’s ultimate goal is to assist clients in defining and reaching their personal financial goals.

The first chart below titled  “Head & Shoulders Breakdown” shows a classic reversal pattern called a Head & Shoulders pattern, the name comes from the visual appearance of a silhouette of person’s head and shoulders from the shoulder up (you may have to use your imagination!). Without getting into all the details of pattern let me simply explain what it means for the market.  The break below the neckline, which started to occur on 8/2 and was confirmed with today’s major sell off, from a technical point of view puts a high probability of further downside movements for the stock market.  The downside target is calculated by measuring the distance between the neckline and the top of the head, then take that exact distance and you project downward from the neckline.  As you can see on the chart below the downside target using this technique would be 1150 which is another 4% or so lower than today’s close.  This only gives you an initial intermediate downside target though and the market could go much lower.

Chart provide by (www.stock charts.com)

Looking at the next chart titled “Long Term Breakdown” illustrates another key technical breakdown of a long-term trend line that was broken decisively today.  A break of a long-term trend line usually indicates the end of that trend.  This does not always mean you start to go directly into a down trend, in fact sometimes it means you trade sideways for a period of time.  This break could point to the end of the bull market that has lasted since March of 2009.

Long Term Breakdown

Chart provide by (www.stock charts.com)

This final chart titled “Long Term Stagnation” illustrates what the S&P 500 has done over the last 11 years.  Since the market topped in 2000 the S&P’s price is lower now than it’s high 11 years ago.  Long-term resistance is near 1500 (high points of 2000 and 2007). Long-term support is near 750 (low points of 2002 and 2009).  In the last 11 years the market has traded in this range of 750 on the downside and 1500 on the upside.  This long-term sideways movement is typical of time period of stagnation.  Other similar periods of stagnation occurred during the great depression and the 1970’s (more specifically 1965-1982).  These periods of stagnation usually last around 15 years give or take a few years.  The typical trading pattern is to go back and forth from the upside of the trading range and the downside of the trading range.  If history repeats itself and it usually does, although with slight variations (in order to keep us on our toes), the market should gravitate back towards the low end of the range which is somewhere around 700-800.  We think this is a definite possibility and have prepared accordingly.  If we were to put a date on the next major market bottom (which is very difficult to do) we believe that it would be around the elections of 2012.  Election years are full of uncertainty and the market hates uncertainty.  Plus, this timeframe would coincide with our prediction of a major pop in the emerging market real estate bubble that we discussed in our recent commentary titled “Allgen’s Macro Economic & Market Update July 2011”.  Altogether presenting a period of extreme economic fear and enough selling pressure to push the S&P 500 and other markets around the world down toward their market lows of 2008-2009.  Going forward towards the time frame of the next market low could be extremely profitable especially if we are able to maintain significant purchasing power and be ready to buy when everyone else is frantically selling regardless of how undervalued the market is.

What does this mean for Allgen clients and their portfolios?  Allgen has been preparing for this scenario for a long-time.  Actually I admit that we started preparing and going defensive too early, but the defensive posture is really starting to pay off now.  At Allgen we manage two different styles of portfolios, a traditional asset allocation style portfolio which we call “Strategic Money Management” and  an actively managed style which we call “Active Money Management”. We have been defensive in both of these styles since before the infamous “flash crash” in May of 2010 and we have stayed defensive until now.

In the strategic portfolios the way we have postured the accounts defensively is as follows:

• Investing in low-beta / high alpha funds that have a history of holding up well in down markets
• Avoiding emerging markets that ran their course and made their big moves in 2009 and early 2010
• Increasing our cash reserves
• Holding safe havens like long-term treasuries in the form of an ETF (symbol TLT) which has currently skyrocketed in a flight to safety

In the strategic accounts we are attempting to protect from large losses which so far we have been able to accomplish with even our most aggressive (all stock) accounts only capturing about 60% of the what the market has recently dropped.  Our moderate to conservative accounts have lost only a small fraction compared to the markets since the market’s top.

Going forward with the strategic portfolios our strategy is to stay defensive until the market is showing signs of extreme fear at which point we will attempt to allocate some of our safe haven holdings and our cash into areas of the market that have suffered sharp price drops in the attempt to buy into stocks at undervalued levels.  We also periodically (on average once a quarter) rebalance the portfolios to sell from areas that have gone up significantly greater than other portions of the portfolio, then use the proceeds of the sale to buy into other areas of the portfolio that have lagged or gown down a significant portion more than the other holdings. This usually results in buying undervalued assets and selling overvalued assets. Rebalancing also helps to keep the portfolios in line with their target allocation attempting to prevent the portfolio from ever becoming too risky or too conservative compared to the client’s risk tolerance.

In our actively managed portfolios the way we have postured the accounts defensively is as follows:

• Significantly increasing our cash (as high as two thirds of the client’s portfolio in some portfolios)
• Investing in very few stocks which make up only a small portion of the overall holdings
• Investing in safe havens like long-term treasuries and zero coupon bonds in the form of ETF’s (symbols TLT and EDV) both of these holdings have made major moves higher as the market has dropped
• Investing in investment vehicles that are designed to trade inversely to the market and go up as the market goes down (VXX and EFZ)

Because we were postured defensively in our actively managed portfolios we have underperformed the S&P 500 over the last 12 months as market went up,  on the other hand the defensive posture really paid off during the flash crash (2nd quarter of 2010) and during this current market drop.  In fact on a day like today (8/4/2011), when the markets were down about 5% or more our active accounts on average we’re up approximately 0.25%, that’s around a 5% difference compared to the market in one day.  Taking a longer term picture we have outperformed the S&P 500  since its top in Oct. 2007 which includes two market cycles, the bear market from 2007-2009 and the bull market that has lasted since Mar of. 2009 up until now. Our strategy in the actively traded portfolios is to anticipate major intermediate to long-term market moves and position the portfolios accordingly ahead of time.  This could mean that we get very defensive ahead of an anticipated market drop (usually while the market is still going up), this is what we’ve done recently over the last year. Or it could mean that we buy heavily into a market that is falling and showing signs of high levels of fear in anticipation of it reversing and starting a new bull market like we did in 2008. We use the combination of technical, fundamental and quantitative analysis with an overlying contrarian mindset that understands the “herd” is usually wrong and if you do the opposite of the herd you will usually prosper overtime.  We also use the above analysis to carefully pick individuals stocks and sector ETF’s the we believe will outperform.

Going forward with the actively traded portfolios our strategy will be to stay defensive until the market is showing signs of extreme fear at which point we will attempt to allocate some of our safe haven holdings and our cash into areas of the market that have suffered sharp price drops in the attempt to buy into stocks at undervalued levels.  We will also look to exit out of our investments that are designed to go up as the market goes down.  Since we believe that the market is going to be in a down-trend until approximately election time of 2012 our plan is to stay defensive until then.  At certain points though like today’s current market condition where we have started to go into a free fall, we will attempt to make small purchases to take advantage of temporary oversold conditions.  From a big picture point of view we are looking to maintain as much buying power as possible until the market makes its next major market bottom which we believe will be sometime near the end of 2012 or beginning of 2013.  If we are successful we will look to take advantage of stocks that are priced very low during that bottom and try to buy in at very favorable prices in order to enjoy the next bull market.  It should be noted we understand it is impossible to predict future market movements consistently overtime to the exact day, or month for that matter, so we always keep an open mind to the possibility of us being inaccurate in our predictions and through studies of different indicators we will attempt to make adjustments as necessary.

Allgen’s Investment Approach
Allgen specializes in active and strategic money management. Through technical and fundamental analysis, along with a contrarian mindset, we strive to successfully navigate the markets during periods of prosperity and decline. We constantly research and study the markets to find the next emerging area even in asset classes that are typically not used in your “buy and hold” asset allocation portfolios. When we invest for Allgen’s clients there are two main objectives:

1) Manage Risk First – Preserve capital and avoid major losses
2) Produce superior risk-adjusted returns over a full market cycle (Bull and Bear Market)

Please feel free to call if you have any questions or concerns.  If you are not a current client and want to see how Allgen’s money management may help your investment portfolio then please email us at advisors@allgenfinancial.com or give us a call at 1-888-6ALLGEN (625-5436).

Written By:
Jason Martin, CFP®, CMT
Senior Partner & Chief Investment Officer
Allgen Financial Services, Inc.
martin@allgenfinancial.com
888.6ALLGEN