Sell In May and Go Away? NAH!

As The Clash so elegantly put it, "Should I stay or should I go?". We are coming off a very strong first quarter move in the market followed by an earnings season flush with upside surprises. As we head into the post earnings time frame and investors must now begin to come to grips with the urge to follow the popular rhyme, "sell in May and go away". The memories of the summer of '11 are still very fresh in investors minds so locking in any gains before any correction weighs heavy. But, are we due for a sequel? Let's enlist Themis Blind Justice and her scales to weigh in on whether we'll see a repeat of 2011. On the one side of the scales we have Leading Economic Indicators at a four year high. We have Retail Sales up for twenty of the last twenty one months. We are enjoying a benign inflation environment. We are witnessing a housing market that is basing, albeit at a very low rate. We have a Federal Reserve Chairman that has basically drawn a line in the sand in a, Not On My Watch, stance in preventing a repeat of the Great Depression. We have, finally a fully engaged European Central Bank, doing whatever it can to keep European financial markets liquid. On the other side of the scales we have the memory of 2011 and an ECB President Trichet in denial about the domestic economy and on inflation watch as the EU banking system basically seized up due to a liquidity crisis. We have partisan politics bringing the US to the verge of default and an ensuing credit downgrade. Oh, yes did we mention the ECB standing pat on rates as their credit markets seized? If Justice were truly blind and non-political her scales would surely tilt towards no repeat of 2011. Under new stewardship the ECB is full throttle, peddle down engaged. With the recent ouster of the incumbents in Greece and France the EU memberships mettle and resolve to remain in tact and relevant will be tested and may result in a member leaving. Though at this point unlikely, the market amd financials have had plenty of time to prepare for just such an event. The US is about to take on our own version of austerity, but that won't happen until after the elections in November. US corporate earnings and revenues continue to surprise to the upside. Inflation remains well constrained by elevated levels of unemployment, slack in factory capacity utilization and an abundance of newly tapped reservoirs of domestic fuels sources. Time for brass tacks. The US has muddled along often referred to as the Goldilocks economy. Not too fast not too slow pace of economic expansion. Not fast enough to ignite a bout of hyper inflation. Not slow enough to declare a double dip recession. With the Greeks and Europeans being, well Greek and European not wanting to work or pay for the luxury of a roof over their heads or food on the table, Germany, Asia and the US must pick up the slack. Germany must ease off on their Austerity on steroids demands and allow for growth initiatives to be included in the EU/IMF bailout plan. China must continue easing bank reserve requirements to stimulate growth while keeping the reins on real estate speculation taut. The US needs to unleash the entrepreneurial forces and pent up demand constrained by an overly aggressive National Labor Relations Board, overburdened by elevated tax rates and unclear at best, regulatory reform. The question and argument currently on Wall Street is can the US economy decouple from Europe? The debate is held daily and is in full force. Meaning can the US and our markets continue to expand and move higher even as Europe teeters and potentially enters a full blown recession. I believe they are missing what is really taking place. It's not a decoupling. We are witnessing the emergence of rising domestic consumption from China, India, Indonesia, Vietnam, Mexico, Brazil and Columbia along with the emergence of the US consumer from its cocoon. The US consumer is more confident is his/her employment status and is significantly delevered (un-indebted), retaking our seat at the head of the table. This acts as a nice counter-balances to the Euro crisis playing out. The decoupling/de-emphasizing is most clear as always in the free market. To date the US market as measured by the S&P 500 is up 8.3% year to date (YTD) and off 3.9% from the March highs. By contrast, Spain's market as measured by the IBEX 35 is off 19% YTD, the Greek market as tracked by the ASE is off 49% over the last year and Italy is down 7 1/4% YTD. I anticipate we are in for some rough sledding over the next few weeks. Ultimately patience should pay off as prices may decline, making companies on our watch list far too attractive to resist. We'll keep a close watch on Europe near term and continue to monitor the progress of the Greeks forming a coalition government along with Spain. They are following Citibank's lead in creating a good bank/bad bank to warehouse the hordes of non performing mortgages weighing down lending and threatening the stability of the sovereign. Side note. We in the financial arena have been warned for the past decade about the baby boom generation transitioning from workers to retirees. From savers acquiring assets to spenders dispersing them. I need to question the conclusion of this hypothesis. The fear had been, retirees would become mass liquidators of assets to support their lifestyles depressing asset prices. A few points, as we as investors get closer to retirement we should adjust portfolios away from risk and more towards fixed income and cash. Typically one would anticipate having a majority of their holdings in fixed income. First point, that dynamic changed when the Federal Reserve moved to a zero interest rate policy. Next, the near collapse of our financial system and market swoon, decimated many investor portfolio's mere years away from retirement. This may push out that retirement date five, ten, fifteen years if ever. Lastly, during our working years, we are enslaved daily by up to ten hours a day. Eight hour work day plus two hours prepping, traveling and winding down. When we are able to retire we transform into a twenty four hour consumer searching for ways to fill our day and entertain ourselves. How in an economy reliant on the consumer for 70% of GDP can this be bad? The pain may be felt by our children who had anticipated a hefty inheritance. But we're Americans after all, we work for what we need and want. They'll overcome the disappointment, move forward and be better off in the long run. So, for now, load up the RV, forget about Greece , We're Ready To Go! Thank you again for the opportunity to work with you in these very challenging times. Yours in pursuit of the KWAN!

GSA Market Update April 2012

After a stellar first quarter investors were fearing and feeling no pain. The market has however recently succumbed to a wave of profit taking as we opened up the second quarter. There always is a heightened skittishness as we exit a quarter and enter into the great unknown, earnings season. For many investors this is a time for reviewing corporate fundamentals, valuations and the macro issues at large to determine comfort levels in holding onto equity and bond positions or initiate a sale. For others, emotions get the better of them and a ready, fire aim process follows. Perhaps brought on by election season, the Iranian nuclear ambitions the economic contraction in Euro group or simply KU losing in the NCAA finals. Ouch. This is what we, as disciplined investors look to avoid. Those of you GSA clients that steered through the near collapse of the financial markets with us, only to elevate back to the safety of higher ground know this is not always the easiest course to follow. But, removing emotion from the equation is the only way forward toward successful long term investing and financial security. Far too many investors sought the safety of certificates of deposit and savings accounts yielding 1/8%-1% and abandoned their strategy at or near the trough of the market rout. Now with the interest received on their new investments insufficient to meet their income needs they are eating into their principal which is irreplaceable unless of course they wish to re-enter the work force. To protect our clients GSA removes emotion from the equation to focus on long term fundamentals and opportunity even when out of vogue as the market does not move symmetrically or reward all immediately.

The economy. The economy is obviously in much better shape now then one year ago data would reflect. The non-farm payroll number was a blow to the solar plexus, but the number is volatile and uneven so taking a look at the three month average brings us to 215,000 jobs created monthly. Leading Economic Indicators. The Conference Boards Leading Economic Indicators Index flashed +.7 for February. Couple February's release with the four prior positive numbers suggests enough momentum to carry the US expansion through the summer months. Industrial Production. Industrial Production was neutral in February but add back in the January release was revised up to +.04 from 0. Manufacturing has seen a resurgence, advancing for nine of the last ten reports. A restructuring of union contracts, cheap dollar, lower gas prices and of course a highly skilled/productive workforce has prompted corporate America to begin repatriating some of those jobs they've been outsourcing for the last four decades.

Now the horsefly's in the ointment. The risks to a derailment of the global economy are no strangers to us or other market participants. Among my leading concerns, 1. China 2. Iran. 3 Europe. Let's frame them out briefly:

1. China's economy has been successfully reigned in over the last two years. Raising cash reserves for financial institutions has had the desired effect of slowing the meteoric rise in real estate prices. Whereas the Greenspan Federal Reserve held policy stable and instead countered with the now famous "irrational exuberance" phrase and nothing else, leading to a massive bubble in equities and real estate, the Chinese central bank chose to be proactive and prick the bubble before it became grotesque and unmanageable. However, monetary policy is not that precise a tool and the de-facto tightening has left some fearing China's economy will have a hard landing dragging down the global economy along with it.

2. Iran's nuclear ambitions have been brought to the fore-front along with Iran's attempt to expand its sphere of influence in the Middle East. Oil prices have been the beneficiary of the heightened tensions. A super spike in oil and gasoline at the pump would surely take the wind out of the sails of the USS Economy as consumer discretionary spending would suffer and potentially bring GDP back to stall speed.

3. Euro trash is again front and center. It appears the European Central Bank's bailout of the European banking system (3 year low interest loans offered at 1%) only prompted the brain trusts to take the $1 trillion+ or so Euros and invest it right back into the same toxic sovereign debt at the basis for what ailed them to begin with. So, now they are merely $1 trillion+ larger. BRILLIANT! Good news out recently, the ECB has issued commentary leading investors to surmise a back stop for Spain's systemically important banks, or too big to fail part deux. It's like cod liver oil, it doesn't taste good going down, but you know it will ease the discomfort.

Going Forward. The market is bracing for a weak earnings season. I don't see why. We have an expansion in the work force albeit uneven. We have growth in earnings, though somewhat tepid. We've seen a steady uptick in retail sales. Housing appears to be finally basing. We've seen consistently strong numbers on orders for durable goods and LEI. So, while the concerns stated above are very real and the jobs figures need to be watched for any new moderating trend forming as they may potentially morph into something more substantial the reality is they are for now worth monitoring only, not strategy altering issues. We view the current correction as a healthy stage in any bull market that has gone virtually straight up since October resulting in a 28% gain. We look for this shake out to be contained within a 5%-7% move, with the reversal catalyst being strong corporate earnings.

One closing note. At a time when market strategists argue non-stop whether to purchase 10 year treasuries yielding 2% or view them as the classic bear trap, we find great comfort investing in good quality, high yielding securities fetching 8%+. Sometimes it takes backing away from the forest to see the trees which is the case here also. The 8%+ yield is annualized or another way to look at it, 4% semi-annually or take a few more steps back and 2% quarterly. Just remember the remedy to the day to day volatility is those dividends constantly dripping into the portfolio. They are like Novocaine, just give it time and it always works.

Thank you again for the opportunity to work with you in these very challenging times.

Yours in pursuit of the KWAN.

GSA March Market Snapshot

Grand Street Advisors
Market Snapshot
March 2012

We have an update on the state of the economic recovery. We believe accumulated data suggests the US economy has finally breached the Motarin Nebula (thank you Capt. Kirk) or more commonly referred to here as breakaway velocity from the gravitational pull of the horrific near fatal recession. We've recently received the second scoring of fourth quarter GDP which was upgraded from 2.8% to 3%. On the all important real time jobs front we saw our second consecutive reading of 350,000 +/- on weakly jobless claims. GSA believes this figure is more important than the widely followed monthly reported non-farm payroll figure. The non-farm payroll is a figure compiled from the previous month, or from looking in the rear view mirror to gauge the current job environment, whereas unemployment claims are reported weekly. As for the monthly figure to be released this upcoming Friday, the figure should come in above 200,000 once again, setting in place a three month trend analyst won't be able to dismiss any longer.

This sounds great taken with the EU finally coming to consensus on the Greek bailout. Market participants, including myself breathed a collective sigh of relief when the deal was first announced. As we approach the deadline for debt holders to sign on we find out some large investors (hedge funds) are refusing to sign off on the exchange. The purchased deeply discounted Greek debt along with an insurance policy (Credit Default Swaps-CDS) against a possible default Should Greece not receive enough tenders for the debt "restructuring", it would trigger a "credit" event and force payment of the CDS contracts written against the ongoing Greek default. We'll find out tomorrow how this drama ultimately plays out and any ripples from across the pond.

The improving jobs front, increased productivity, the reemergence of the ever resilient US consumer, booming auto sales all point to the US economy being on much firmer footing and ready to resume it's place as the driver of the global economy. We do believe however, the question arising will be, front and center, is this rally in asset prices we've been experiencing solely liquidity driven (Federal Reserve Monetary Policy) or does it have real legs driven by fundamentals and strong sustainable growth? If the prior, look out because as the economy continues to strengthen the need for further Quantitative Easing lessens draining the fuel tank from this bull market. If the latter, that the economy is in a pro-growth sustainable mode where consistent job creation introduces a higher level of consumption into the equation, well all's well in the world and look out above.

GSA believes we are in the late stages of the US economy "coming about" to borrow a nautical term. The turn we've made has been painful, long and drawn out due to the severity of the downturn and size of our economy along with structural imbalances. As the global economy continues to experience the lagging side effects from the near collapse of the global financial system along with the US economy catching a case of the flu, accommodative monetary policy should continue to be the most likely response. This should, barring a severe shock to the market, such as a super spike in oil, lead to a global resumption to consumption and higher corporate revenues and earnings.

On energy. We believe Iran does not wish to enter a war on any front with Israel, the US or its neighbors, but needs to find a way to back away from their Presidents' nuclear ambitions without losing face. Until we are able to see a path forward in this high stakes face-off , oil prices should remain elevated and markets skittish as $4 gasoline or potentially much higher, takes a hefty bite out of discretionary spending for the greater part of America's consumers.

We'll be watching 1.the Greece debt restructuring tomorrow along with weekly unemployment claims. 2. Friday's non-farm payroll number along with the household survey and workweek figures. and 3. The ongoing negotiations between IAEA nuclear inspectors and Iran. Should there be any unpleasant surprises we will be in contact immediately to adjust our equity allocations.

Thank you again for your patience in these ever trying times.

Yours in pursuit of the KWAN!


--

GSA 2012 Outlook

As we exit 2011 I’m reminded of the season finale from the television series Dallas. After a whole season of treachery, cheating, back stabbing, love and hate we learn it has all been one long bad dream for Larry Hagman. This year’s markets have experienced it all. We look for 2012 to be the awakening. But, first let’s review.



GSA’s outlook for 2011 went unfulfilled. Earnings came in better than projected, however the earnings multiple afforded the superior growth rates and earnings actually contracted instead of expanding to the historical norm. We don’t take it lightly, but a miss is a miss and we own it. We listed four major risks:



1. Political. The inability of the mainstream Republican Party to find common ground with the tea party faction cost the US its AAA rating. This nearly triggered a credit default event and double dip recession due to consumer angst.



2. Sovereign debt default. We warned about the necessity to be aggressive and progressive abandoning the reactive posture the EU memberships had taken thus far. We warned of a potential 20% haircut on Greek debt of which we were too conservative. It turns out it will be a 50% or greater scalping. Meaning holders of Greek treasury bonds will receive .50 for every $1 they own. The EU membership and ECB never took the necessary pre-emptive steps to fend off the bond vigilantes. Thus the battle lines are now drawn squarely around Italy. This will prove to be the European Union’s Lehman moment. Less talked about, in GSA’s assessment the ECB just went all-in with their latest 3 year term loans program. Step 1. Lending out unlimited Euro’s to the Euro banks. Step 2.The banks can in turn buy Sovereign debt. Step 3.They can use this debt as collateral at the ECB for additional funding. Sound familiar?

3. Inflation. The current benign inflationary period we are enjoying (for those of us that don’t eat, heat our homes or drive) was threatened over the summer when gasoline spiked above $4. The effect on consumer psyche and in turn spending choked off retail sales momentum to near recessionary levels. The stopped clocks (analysts preaching same story ad infinitum waiting to be proven correct) resurfaced en-masse. In short time and with renewed confidence the calls for a super spike in oil and gas came along with the rehash of the useless Peak oil theory. Then Ghadaffi was ousted and Libyan oil began to flow again. Natural gas fracking unleashed enormous amounts of both domestic gas and oil. This deflated the price of Natural gas below $3 and held oil in check below $100. For now.

4. A failed US treasury auction. Not even close here. The US lost its AAA rating and auctioned off a staggering amount of new debt at record low rates. There was in some instances unprecedented demand. The flight to safety trade was incredibly impressive.





We batted .750% and didn’t win the World Series. Our projections were undermined by severe skepticism of global politicians’ backbones and willingness to do what was right and necessary for their respective countries. The US was front and center. Politicians need to do what is necessary vs. worrying about keeping their jobs which in times such as the ones we live in, may prove to be at odds with one another. We were further hamstrung by the collapse of MF Global just as the market was regaining its footing and recovering from the summer Washington political stalemate. Instead of gaining confidence from dramatically improved balance sheets, increased optimism from an improving jobs market and year over year gains in revenues and earnings resulting in a historical P/E or P/E v G we actually witnessed the opposite and the market multiple contracted. The prevalent negative sentiment resulted in investors pulling monies from equity markets globally. In closing, we would like to wish a happy retirement to ex-ECB President Jean Claude (Sleepe’) Trichet, have fun second guessing your successor. Ex-Greek Prime Minister Papandreau, enjoy the two-for-one dolmathes coupons I sent. Ex-IMF chief Strauss-Kahn, lay off the hotel staff. Ex-MF Global CEO Corzine, go back to politics. Finally Ex-Italy PM Berlusconi, now you’ll have plenty of time for your other girl friends. I think I was a teenager living in Rockaway Beach, NY one summer on a bad streak the last time I had this many ex’s in one year. But, in this case anyway I can almost guarantee I’ll be a better person without them.



We’ll look at a few potential major risks to 2012:



Iran. The global community is seemingly finally united in confronting Iran’s nuclear ambitions. Their solution, hit ‘em where it hurts, in their purse. New sanctions on the Iranian Central Bank have prodded Iran to respond with threats of closing the Straits of Hormuz which sees roughly 17 million barrels of energy pass through daily. Should there be an all out blockade we’d most likely see a super spike in oil crippling consumer discretionary spending, at a minimum. The next escalation would mostly be a full blown strike on Iran by the US or Israel. We look forward to the day the Middle East can patrol and protect themselves.



China. The soft landing currently anticipated turns out to be more of a crash which sets off riots among the populace.



The European Union. The EU membership is unable to come to consensus on fiscal policy and backtracks from any rescue package. Greece abruptly exits the EU, followed by Portugal triggering credit events that force EU financials to pay on outstanding CDS contracts punching huge holes in their balance sheets as the credit markets slam shut for new funding to fill those gaps causing cascading defaults, a run on the banks, Italy being frozen out of the credit markets and finally the ultimate destruction of the Euro as a whole.



The Good ole’ US of A. (A) The US economy, fueled by a rejuvenated job market producing 250,000+ new jobs per month allowing for an even greater increase in consumer spending. This light the inflation fuse, the Federal Reserve must adjust policy before previously planned, pushing up sharply borrowing costs across the spectrum. The nascent housing recovery is stifled. The US dollar spikes, reducing our export advantage our current dollar exchange rates affords US multinationals.



The Good ole’ US of A (B). The US “leadership” remains severely partisan and divided in the face of ballooning entitlement programs and we experience another summer of 2011 resulting in an almost inconceivable and insurmountable second ratings downgrade. This second downgrade should cause global investors to seek in earnest another more fiscally responsible safe haven for the monies. This should cause a spike in US borrowing costs and potential QE III which would begin the swirling of the toilet bowl.





Projection:

Global Monetary policy remains highly accommodative. The US Federal Reserve has pledged to maintain the zero interest rate target until mid 2013 and may extend the date if necessary. The European Central Bank under New leadership from Mario Draghi has gone all-in with its offering of unlimited liquidity in the form of 3 year loans at 1%. My concerns surrounding the end of such policies and Quantitative Easing in general as such, are not of a concern for 2012 obviously.



The EU membership has finally begun to work toward fixing their balance sheets. In some cases draconian cuts in social services, downsizing the government work force and reshaping the local labor laws are being fought tooth and nail by the union membership as well as those on the receiving end of these all too generous unsustainable programs. For any of these austerity measures to be successful they must have a growth counterpart. All they need do is look to Ireland as a model of success, which just returned to positive GDP expansion, albeit modest. After a decade of over borrowing and spending beyond their means the EU membership are finally dealing with this debt and spending largess. In the end it may be years before these issues are resolved and they are on firmer footing, but the mere presence of a sound plan should be enough. The Euro-zone economy is expected to dip into a recession in the first quarter of 2012 and end the year modestly positive 1% with Germany and France doing the heavy lifting.



China has hit a slow patch. The dissipation of the inflationary clouds should allow for the stimulus spigots to get turned back on and help this behemoth regain its footing. This managed economy’s plan of build it and they will come has resulted in ghost cities and put strains on their domestic banking system. Doubters need only look to Shanghai as turning out to be just such a success the Chinese leadership hang their hats on. We’ll also continue monitoring how the shift towards a more balanced economy, one of manufacturing and services unfolds. Further, the push to foster domestic consumption is an ongoing story that has made for a good read with reasonable success. The economy is expected to expand at a modestly slower than norm, but enviable rate of 8 ½%.



India heal thy self. Elevated levels of domestic Inflation forced the central bank to hike rates even as the economic growth eased. India needs to reform its tax code and reintroduce a strengthened anti-corruption legislation. Passing this stronger more broad based anti-corruption legislation along with opening the doors for further foreign capital investment should allow the Indian markets to help regain the confidence of investors and capital flows. Like China this country has over 1 billion folks that continue to migrate towards urban living and ultimately become consumers of US goods. The domestic economy, likewise expands a bit slower than last but at an enviable 6 ½-7% rate.



The US economy continues to be exceptionally resilient DESPITE Washington. The ISM Manufacturing Index just released came in +53.7, better than expected, with a strong jobs component and new orders index embedded within. The Leading Economic Indicator increased .05 in November on top of +.09 the prior month. Housing start rose 9.3% in November while permits were a strong +5.7% both highs not seen since March and April of 2010. Perhaps a sign of a bottoming process in housing taking place. The jobs front continues to make gains with this upcoming Friday’s Non-farm payroll number expected to come in a healthy 175,000-200,000. I will look more closely at the household jobs figure to come in +350,000-400,000. as this figure captures small business and self employed not counted in the more popularly reported Non-Farm Payroll number. Capital spending has been robust, exports are exploding, with the US about to be a MAJOR exporter of OIL and GAS. We couple these with virtually pristine balance sheets of non-financial corporations and fortress like balance sheets of the major financials allowing us to be cautious but certainly optimistic for 2012. We see S&P 500 earnings coming in conservatively $106 and due to the pessimistic overhang coming into the year a below historical average market multiple of 13 ½-14 to come up with our year end target range of 1431-1484. Volatility should remain the stubborn family member that refuses to go home after the holidays are over. We may see a strong move above our year end target and brute selling that will test the metal of investors yet again. Should confidence grow the EU has a formidable plan to handle the debt crisis that gripped headlines the last few years along with US politicians making progress with a credible deficit reduction plan our targets may prove to be too conservative.



We maintain our aggressive, balanced investment posture entering 2012 but remain on heightened alert for any setbacks to the EU debt issues and domestic jobs creation front and center. Should the economic environment retrace from the progress already made or the EU hit crisis mode, yet again, we’ll be quick to reassess our cash position and be in contact immediately and act accordingly.



We thank you for your patience and confidence in these extremely challenging times.



Yours in search of the Kwan!

Let 'Em Eat Dolmathes

Let Them Eat Dolmathes! The US markets are being held hostage by a country the size of a postage stamp. Greece accounts for a bit less than 3% of the Eurozone GDP output. The Greek economy is the 32nd largest in the world. Why are we hanging on every rumor? Why do the lights go hot and the cameras fire up every time a Greek student flings a stone at the Greek Parliament building? It started out as contagion fear. It seems so long ago, but remember the PIGS. Portugal, Ireland, Greece and Spain. Portugal received its bailout and is in the process of righting the balance of debt to GDP. Ireland took their EURO-TARP like bailout and backstopped the banks and staunched the bleeding immediately followed up with severe austerity measures. The Celtic tiger is beginning to roar again. Greece, well there is simply an unwillingness of the citizenry to work and pay taxes. Pure and simple. Politicians over the years continued to stuff the public payrolls with unnecessary hires in order secure their cushy seats. The details I read look so very similar to the auto union contracts. Teachers were hired without any classrooms to tend to. Once hired, they were near impossible to fire. People didn't get fired anyway, they were put into a jobs bank. Meaning they sat in a room, collected a check with full benefits and played Sudoku. We saw how well that worked out for our Auto industry. In Greece paying taxes is merely a suggestion. One example, Greece has a pool tax. Meaning if your home has a pool, you must pay a pool tax. Pretty simple. The clever home owners instead called in the interior decorators and had them attach an AstroTurf like cover over the pool so the helicopters flying overhead to count pools would miss them. BRILLIANT! The situation is so poor Greece finally had to attach individual tax bills to monthly electricity bills. They felt this was the only way to begin collecting taxes. The situation is simply unsustainable from both sides. I believe it has come to the point of let them eat their own cooking. The politicians don't want to anger their constituents any further lest they lose their treasured seat. The citizenry believe outsiders are ruining their way of life and don't wish to pay their bills. I believe it is time to let them go. After allowing the global economy to be walked to the edge of the abyss far too many times over the last three years, the EU has finally gotten serious about this financial mess. The formation of the ESFS with over $1 trillion euros ($1.35 trillion US) in firepower was huge. Now that the EU has gotten serious the IMF can be more aggressive in their interventions. Here is a game plan as I see it:

1. Totally wipe out the Greek debt. Forget taking 50% haircuts. Taxes aren't being collected, spending cuts aren't being enacted, entitlement programs aren't being scaled down. Write off the debt completely
.
2. Kick their non-Laissez Faire cans out of the Eurozone. This Greek tragedy has tortured us long enough. Until the Greek citizenry realize it isn't outside forces destroying the country, it is unsustainable social programs and cronyism that is the cancer, no one can help them. Much like an addict that needs to hit rock bottom before he can scrape himself off, pick himself up and begin rebuilding.

3. Initiate operation Euro-Tarp. Direct injections of capital into banks. Back stop financial institutions, guarantee money market funds and flood the system with cash.

Time to rip off the band-aid with one quick yank instead of the slow painful process we're experiencing currently. Either way it takes the same amount of hair off your shin, but the shriek is a heck of a lot shorter.

There is something really positive going on right under our noses and apparently hiding in broad daylight. The US economy is regaining its footing. Third quarter GDP popped up to 2.5%, good not great. Unemployment claims, released this morning dipped below 400,000. The monthly private employment survey released by ADP showed a surprising 110,000 gain for October. Retail sales remain elevated. Finally corporate earnings have not cratered, as some perma-bears have been prognosticating. Companies that have released earnings thus far have beaten 75% of the time. We are on target for $95-$100 earnings per share for S&P 500 companies for 2011. Next years 2012 earnings estimates come in close to $110 per share. If these numbers hold, it becomes the multiple on those earnings we will afford. It would be reasonable to use a 13-15 multiple historically which brings us our target range of 1430-1650. This with a dysfunctional Euro zone. This with the collapse of another Investment bank with $41 billion in assets. Think of the firepower US corporations would have if one of our major trading partners stabilized along with the soon to be announced US austerity measure by the Gang of 12 on or before November 23.

In closing today we continue to be held hostage by Greece and until that gets resolved, we remain cautious and skeptical we can have a meaningful breakout without some resolution. Either way this meal leaves a sour taste in your mouth and one begging for a change in menu.

I'll continue monitoring the data and be in touch should we need to shift out strategy going forward.

Yours in pursuit of the Kwan!

Fourth Quarter Outlook

In the past a major critique of market watchdogs has been that Federal Reserve officials stand idly by watching, even fostering the formation of bubbles instead of acting decisively and preemptively thus saving us all from the ensuing shocks to the system. More importantly the dents to our wallets and investments. Key example was the tech bubble. At the time, Federal Reserve Chairman Greenspan even identified the bubble in the making. His preemptive strike? He searched deep into his arsenal of tools available. Should he raise the Fed Funds Rate? Raise the Discount Rate? Perhaps hike the reserve levels banks are required to hold in order to stem the free flow of credit? No no to arcane and blunt. No this called for all the force he could muster his most powerful tool at his disposal, his exquisite grasp of the English language. Thus he launched his assault and we were buried with "Irrational Exuberance". Oh the pain! No, Chairman Greenspan did nothing but observe and we see ten years later the NASDAQ Index still trades well below fifty percent off the highs.

There is and had been evidence of bubble formation in a few areas. Look no further than commodities. The Federal Reserves easy money policies have consequences. Inflation and possible bubbles. The difference this time is our watchdogs are engaged. In response to the rapid rise and possible speculative bubbles in gold, silver, wheat, corn and oil etc., the regulators have hiked margin requirements on all of these futures contracts numerous times this year alone. Regulators finally acknowledged the last time oil traded up to $140 under the Bush administration it had more to do with hot money and rapid speculation than the fundamental supply and demand equation. Listen when you go to the casino you know you're gambling and more likely than not to come away with a few more vacancies in your wallet or purse. The commodities trading floors are not supposed to be casinos though, and futures contracts are a legitimate tool utilized to help mitigate risk. When speculators drive commodity prices into the stratosphere and completely decoupled from the underlying commodity the effect on the consumer and his spending habits can and have been stifling to the economy. We seem to be shaking out some more of the hot money as witness the price of oil back from $120 to $75, see gold hitting a high of nearly $1900 intra-day and recently tanking to $1560 the same price action can be seen with all the food stocks. I haven't been able to say this about our regulators to often this decade, but WELL DONE!. The battle isn't over but those speculators that were using cheap funding and excess leverage to make huge directional bets on our food sources and energy (basically everyday staples) have been put on alert. There is one more bubble that is being allowed and fostered. That is the one in the US Treasury market. Savers balk when they look at bank CD's yielding 1/2%. Why are investor scrambling to lock up their money for ten years at 1.75% and thirty years at 2.8%? The Federal Reserve has launched operation Twist (Chubby Checker). This entails the Federal Reserve selling off the shorter maturity bonds in the 1-3 year vicinity in their portfolio and purchasing bonds that mature in 6-30 years to push down long term lending/borrowing rates to help stimulate the economy. The Fed is breaking out all the tools in an attempt to support the US economy. The Chairman seems to be the only passenger on this boat with a set of oars, or is it a bucket he's trying to bail us all out of a mess our elected officials seem unable or unwilling to tackle? History will answer whether the Chairman was right. I'm willing to side with him and give him credit for his creativity and willingness to try and do something and near about anything to spark the economy.

The current environment is fraught with danger, amplified by the upcoming election year. At a time where the primary theme for all involved should be "it's the jobs stupid", we're left to scratch our heads at the goings on in Washington. The EPA (Employment Prevention Agency) is on a full frontal assault focusing on Nat Gas and Oil Fracking. Pennsylvania and North Dakota are terrific success stories of states that encouraged companies and the new technology utilized to access these once unreachable resources. Pennsylvania alone boasts 70,000 in job creation along with $2 billion in revenues. North Dakota is a similar story. The EPA response to take on ND with fines for killing 24 ducks while windmills are slaughtering 440,000 birds a year without a blink is again, a head scratcher. Similarly the NLRB is attempting to block Boeing from utilizing good paying high skilled workers in South Carolina instead of Washington state. Whew! What would they say/do if Boeing decided Mexico was a more friendly environment and site for its plant? The message in these instances is the White House and Capitol Hill need to get out of the way of businesses that work and would put some of our 16 million unemployed back to work.

Front and Center. What's infected our economy and markets is rancid debt festering in the Petri dish in Europe. The Greek debt crisis 2 1/2 years and counting is desperate for a soothing financial tonic. The prescription, cultivated here in the US laboratory called Wall Street is what I refer to as Euro-Tarp. Direct injections of capital into the strategically important Euro zone banks. The fiscal and monetary impotence demonstrated by the European Central Bank and the European Union membership in general has left our domestic markets solely reliant on Federal Reserve stimuli. In our current global financial structure the response must be global. Which helps explains the limp response of the markets thus far.

Where we're at. The US economic recovery is progressing as anticipated, below trend expansion. Housing remains a constant drag that must be addressed. Homeowners, with borrowing rates and generational lows, need to have access to refinancing. The Fed has done their part in pounding rates into the dirt. Banks and regulators need to come together to allow underwater borrowers that are current on their payments to refinance. In many cases home owners cannot refinance because the outstanding balance on their mortgage is more than the value of their homes due to the housing market collapse. What needs to be done is 1.banks need to waive a new appraisal .2. banks need to receive a waiver from Fannie Mae and Freddie Mac from putting back any of these mortgage that may default citing lax underwriting. That simple. This would stem the tide of foreclosure along with the flood of supply currently flooding the resale markets depressing values and deterring new home buyers. Allowing homeowners to refinance at today's low rates would put billions of dollars into consumers wallets/purses. Next Euro Tarp and a Greek restructuring needs to happen sooner than later. Lastly the White House and Capitol Hill need to cease this political gamesmanship on Free Trade, Energy Policy, Tax Reform all of which should result in job creation. Do any combination and potentially unleash a tsunami of investment and job creation to steady this, at best, shaky economic recovery.

For now, no surprise, we remain on Euro watch. As Federal Reserve Chairman Bernanke stated in his recent testimony, "in this current situation we, the US, are the tail and the EU is the dog". With the final departure of ECB President Trichet hope springs eternal. We have most recently heard rumors floating in the market a bailout of the banks and Greece is coming and at long last there is a sense of urgency to move with scope and force. Domestically the US economy is anticipated to expand at a 2-2 1/2% GDP pace for the just completed third quarter and 2 1/2-3% for the upcoming fourth quarter. Obviously we have not been able to obtain break away velocity from the pull of the severe recession we are attempting to extricate ourselves from. While worries of a double dip recession have been elevated by the Euro woes, recent data do not support this conclusion. But, again the longer EU zone countries take to address and contain any potential contagion, the greater the risks to the global economy. GSA remains cautious and continues to build out our watch list. We'll wait for the market to signal the time to get fully re-engaged again and continue to monitor this very fluid situation as it develops.

Third Quarter Outlook Points to More Turbulance But A Positive Outcome

Grand Street Advisors

Market Outlook

Third Quarter 2011

Where we are. Right to it. The US equity market is celebrating its third anniversary of the bull market kick started in early 2009. Top down and bottom up analysis of the economic recovery have been wildly bullish and wildly pessimistic, basically all over the map. This is no more evident in the scorecards for hedge funds over the last twenty four months, negative thirty percent to positive one hundred percent. These are supposed to be some of the best and brightest who put their money where their “black box trading models” are. Just evidence how difficult and challenging it has been in reading the economic tea leaves and investing appropriately.

From my perch analysts are looking at this earnings cycle from the wrong perspective. Many view the earnings momentum as about to peak. In my view, for this to occur, the US economy would need to revert back to the brink on recessionary levels. I just don’t see it. The US economy is growing below trend. Domestically, steps are being taken to stimulate growth with potential tax cuts being discussed in the hallowed halls of Congress as we speak. Thus far emerging market growth has been pulling the US along for the ride reflected in the explosive growth in exports and export related job growth. When the US economy regains its traction and we will, earnings and revenue growth should accelerate up markedly, unemployment should drop precipitously. The austerity measures being negotiated currently up on the hill will push the US back towards a balanced budget and trend rate growth.


I will have to be the first to state I’m wrong (as far as I know anyway) my projections for the market were incorrect. I’ve been far too conservative. Even with unemployment at 9% corporate earnings and productivity have defied gravity. Viewing an accommodative Fed policy for the next two years (due in no small part to the bulbous housing stock), strong export driven growth, lower corporate tax rates and even a modestly expanding job market coupled with pristine corporate balance sheets earnings and revenues should continue their upward trajectory dragging the S&P 500 along for the ride well through 1500 over the next six to twelve months.

Risks.

1. Forget about the 800 lb. gorilla in the room, let’s look at the 1200 lb. polar bear. He’s the one less dangerous looking, highly pet-able and cuddly that will rip my face off if I don’t have a 3” glass partition between us. He’s lurking out there. He’s playing coy in the form of the potential US debt default. Should our fearless leaders dig in their heels and fail to come to a deficit cutting, revenue increasing compromise a US debt default would most assuredly shred any and all portfolio making the Lehman Titanic look like a dingy.

2. The end of the Feds QE II asset purchase program allows natural market forces to identify and dictate where investors are willing to commit capital. If it turns out rates rise precipitously it may choke off any housing recovery.

3. Greece Part Deux. The ECB and Jean Trichet seem to not have learned anything these last few years. The ECB refuses to or is unable to get out in front of this potential financial collapse and/or exit of Greece from the EU.

It is not only Greece the markets fear, it is the potential contagion and bond vigilantes. If Greece fails, the thinking is then Portugal, if Portugal then Ireland/Italy and Spain etc... This would be the equivalent of Lehman squared. There would be nowhere to hide…again.

In the end we have to factor in probabilities. Ex-Lehman our esteemed academics may have run an experiment and re-hash “moral hazard” (hey it was catchy) and let either Greece or the US go thinking they have any collateral damage contained. However, they have experienced the Lehman catastrophe and found out first hand how interconnected the global financial system is no matter how many creative financial derivatives we concoct to “hedge” our risk. We can still see the carcasses in the rear view mirror, we know the claw marks would cut too deep and critically injure any recovery.

So, while we need to be aware of risks and always look for the unexpected, I believe the likelihood of any default to be extremely slim. Going forward I see uneven market gyrations, but ultimately ending with a strong rally to finish up the year and recommend an aggressive posturing to equities. We’ll continue to monitor the data and market. Should our opinion change and we need to alter our strategy I will be in contact immediately.



Thank you again for your patience and confident in these very challenging times.



Yours in pursuit of the Kwan!