2011 Review and 2012 Investment Outlook
By Jason Tillberg
January 2, 2012
At the onset of 2011, I wrote about our investment choices available to us at the time and felt that overall, our choices remained poor. I was concerned about both rising inflation or the general rising cost of living and the very low yields offered to us in safe fixed income investments, ranging from 0% in savings accounts to 3.32% on a 10 year US treasury bond. The US stock markets appeared overvalued based on historical valuation metrics and residential real estate prices were beginning to fall again after the $8k tax credit stimulus expired in 2010.
What I believed would be a prudent place to park our funds aside from cash would have been precious metals, like gold and silver. I also felt having shares of stock in companies that are in Asia, where the wealth of the world is transferring to and where I believe the growth will come from over the next 5, 10 or even 20 years would suffice as better risk reward. Although gold and silver were like everything else, up and down throughout the year, gold finished up about 10% and silver down about 10%. Our Chinese stock continued to experience selling pressure in 2011 as well.
So before I begin sharing my thoughts on the outlook for this coming year, let's review what happened in 2011 first.
Inflation
Inflation did heat up over the past 12 months. It was 1.63% in January of 2011 and increased to 3.87% by September. It has been falling a bit to 3.39% as of November of 2011.
Energy and Transportation costs have seen the most severe inflation. The Fed Chairman, Ben Bernanke stated on April 4th, 2011 with respect to inflation which was just beginning to go over 3%, "I think the increase in inflation will be transitory. Our expectation at this point is that in the medium term inflation, if anything, will be a bit low. We will monitor inflation and inflation expectations very closely."
Inflation kept rising and peaked in July at 3.87% but has begun to cool off to now 3.39%.
When investment yields are paying less than the rate of inflation, we are guaranteed negative real rates of return, at least as far as keeping up with the general cost of living.
The Fed is aiming to keep interest rates as close to zero as possible until at least 2013 and perhaps longer.
What I'm monitoring is this balance of keeping rates so low with inflation creeping up. This is taking a toll on our standards of living.
Real Median household income has been falling. This is income, adjusted for inflation.
Moving on to residential real estate, overall prices remain flat to down. The most recent data shows that in the month of October, prices fell 1.1% from the prior month of September, and down 3% from 1 year ago.
So prices are back to levels of Mid 2003 and well off the 2006 peak.
This is where it gets scary. About 1 in 3 homes are owned outright in the US whereas the other 2/3 have a mortgage. The total value of Residential Real Estate is estimated to be $16.131 Trillion found in this dozy of a financial report provided by the Federal Reserve. This is as of the 3rd Quarter of 2011. This is down from $22.717 Trillion in 2006. $6.58 Trillion in RE value gone.
There is $9.882 trillion in Residential Mortgage debt as of the 3rd Quarter of 2011. This is down from $10.540 Trillion in 2007.
Here is a chart showing equity is homes simply by taking the total value of residential real estate and subtracting the mortgage debt. $6.249 Trillion Equity is left in homes as of the 3rd Quarter of 2011.
So if 1/3 homes are owned free and clear of a mortgage, let's assume that is 1/3 of $16.131 trillion, then $5.377 Trillion is equity that is owned free and clear. The remaining equity ($6.249 - $5.377) is only $872 billion of those with a mortgage. There are millions of homes under water on their mortgages in the US today and this is going to continue to impact the housing market.
The Fed is succeeding in keeping interest rates low for borrowers at least so that is helping to put the breaks on the fall in house prices.
On one hand, falling values is good because homes can be more affordable but on the other hand, given that homes play a critical role in the wealth of American families, the fall in house prices continues to wreck havoc on household balance sheets and prevents families from moving to other locations where there might be better job prospects.
Stock Markets
2011 was simply a very volatile year for stocks. Globally, stocks lost 12.2% or $6.3 Trillion in 2011.
The major markets around the world did as follows:
US Market
Britian
Germany
France
Japan
Hong Kong
China
India
Gold and Silver
With savings accounts, CD's, bonds all paying such low yields and the Fed keeping interest rates at zero for at least the next 18 months if not longer, Gold and Silver were popular investments in 2011, but proved like everything else to be extremely volatile.
Gold finished the year up about 10% and Silver finished down about 10%. Here are charts of their performance over the past year. Note: GLD is the gold fund and SLV is the Silver fund.
What do I see in Store for 2012?
Have low expectations for aggregate investment gains for 2012. Europe appears to be in a recession and the US may well be in one too. With inflation running over 3%, I don't think it's likely for the Fed to initiate any Quantitative Easing for more stimulus in the near future.
Inflation may well cool due to a slowing global economy. Standards of living are simply falling in the West and that is driving down demand for commodities and general economic production.
I would think that if inflation goes back below 2% and the economy falters further, the Fed will once again print money to help stimulate activity, which will only further drive down the value of our Dollar making gold and silver attractive.
I continue to like gold and silver long term, but the short term is a little fuzzy as further correction might be in order before another meaningful rally developers.
One of the worst performing markets this year was the Chinese stock markets. Despite 9% GDP growth there, their major stock index, the Shanghai composite, was down 21.68%. It was also down in 2010 and is now back to levels last seen in March of 2009, when our markets bottomed.
In 2009, to stave off the global recession, China stimulated heavily their economy by issuing loans to help build infrastructure. This stimulus caused a lot of inflation and to fight this inflation, the Chinese Central Bank tightened bank reserve ratio requirement to slow lending. This has worked and inflation has cooled from 6.5% in July to 4.2% in November. The Central bank in China has now begun to lower the bank reserve ratio requirement and allow the banks to issue more loans again. They also know full well that Europe and the US are slowing and they cannot depend on exports to grow their economy and they intend to invest more heavily on social welfare of their 1.3 billion people and on stimulating demand in their own domestic economy.
China is where I see the potential for the greatest gains ahead. In order to give justice to my case for why I like China as a place to park some of our funds requires a separate research note that will follow.
The caveat is that I've liked China for some time now and thus far, investing in stocks there has not bared us any fruit and has even proven to be far more volatile than I would have ever expected. This is where not only have I appreciated your patience but have humbled myself greatly for asking for so much of it.
Disclosure: This newsletter is not a means to solicit any of the securities mentioned nor does it recommend it for any person before they speak with a licensed professional investment advisor for their own suitability. Investing in Equities bears risk of capital loss. This newsletter is strictly the opinion of Jason Tillberg, President and founder of Tillberg Capital Management, Inc. and shall not be held responsible for investment loss from this newsletter.
