Private Account Management Services
Newsletter Issued 05-07-01:
By: John T. Moir
Chief Editor: John Allen
Associate Editor: Barbara Crenshaw

Position overview . . .

In the April 9th newsletter, we were expecting the DOW to remain within a wide range of 9,450 to 10,280, with the higher end being reached on either April 10th or 11th. With the DOW reaching the lower end of the range early in the month, a small long DOW position was entered and generated a reasonable profit. Additionally, we stated that if further economic weakness was shown in data being released on April 12th and April 17, the Federal Reserve would possibly reduce interest rates immediately thereafter. In fact, the Fed waited for the leading economic indicator to be released on April 18th. They then proceeded to cut the Fed Funds rate by 1/2 a percentage point. With our timing off by only one day, we were able to capture a sizable profit in the treasury market since the interest rate adjustment we expected came as a complete surprise to Wall Street. This fundamental event was projected by the use of our detailed technical wave analysis.

As a result of the long position DOW trade, the long treasuries trade prior to the Feds rate cutting, and various treasury spreads, we were able to generate a substantial profits for all standard and conservative models. Depending on which of the five standard trading models used for our various clients, the net return on investment (including fees) for the month of April 2001 ranged from a low of 11.4% to a high of 25.5%, with the more aggressive models capturing the higher levels of returns. Cumulative year-to-date net return on investment has now reached 33.2 to 65.2 percent for our standard trading models. Additionally, the newly introduced conservative trading model (restricted to trading treasuries only) generated profits between 12.7% to 28.6% for the month depending on the clients profile and trading model selected. This brings the year-to-date performance to between 20.7 to 36.6% for the conservative model. With the increased level of volatility in the treasuries, the more conservative model outperformed the standard model due to its focus in treasuries and various treasury spreads.

This places our year-to-date private account management service performance near the top as compared to over 9,000 public mutual funds and hedge funds. The increased level of volatility coupled with the flexibility offered in the futures/derivatives markets has helped us generate returns well above industry norms.

Looking forward . . .

If would appear that the DOW, once again, is at or near the top of a large trading range with stiff resistance at 11,000 and 11,185. Our wave pattern technical analysis indicates that the DOW will put in a top at or near one of these levels on either May 7th or 8th. Once again, investors should use this bear market rally to further reduce stock holdings and consider alternative investments. A majority of investors are convinced that the Federal Reserve will support the various stock indices with further interest rates cuts. We must be careful to remember that stocks prices are ultimately driven by the growth of profits and incomes flows. These in turn are dependent on higher levels of household and business spending, which currently show continuing signs of decline. This is further discussed in the section below titled “Money Flows still indicate no recovery.”

Reviewing the stock performance over the past 50 years, stocks have offered the worst performance from the fourth day of trading in May to the last trading day in September. A $10,000 investment during this period for the past 50 years would have yielded a cumulative gain of just under $3,000, which represents an annualized return of less than 1 percent! Therefore, we suggest that investors consider a small allocation in stocks (10%) and a larger bond allocation (60%), with the remainder is cash and/or a more flexible type of investment instrument. This will be especially important over the next 5 months and possibly much longer with the strong probability that the current rally in the stock indices is purely a bear market rally.


Late last year in our November 6th 2000 newsletter (copies available upon request), we stated that the economy and financial markets would not perform well in 2001 because of the long and sharp deterioration in the liquidity index. Almost according to script, the economy stumbled, profits fell, equity prices plunged and interest rates declined sharply as investors and policy makers reacted quickly to a weaker environment than had been forecast only a few months earlier.

What has happened to the liquidity index since then? Not very much. Liquidity flows continue to decelerate on a year-on-year basis, with the index level in the first quarter up 1.5% versus year-ago levels. If there is any good news, it is that the liquidity index seems to be bottoming. Viewed on a monthly basis, it seems to have a low point in December 2000 and has edged up modestly since the Federal Reserve effected one of the swiftest official rate reductions in history.

A bottom, however, does not indicate an immediate economic recovery. Indeed, changes in liquidity flows lead changes in the real economy by about six to nine months. All that can be said about the near-term economic outlook, based on the current trends in liquidity flows, is that the Fed’s rapid response has lessened the odds of a sharp and broad decline in economic activity. But interest-rate relief by itself has not yet produced the financial conditions that in the past signaled an economic recovery.

Some may wonder why liquidity flows are not rising at an even faster rate, given the recent surge in the broad money-supply measures. That money growth is being offset by the sharp slowdown in flows into stock and bond mutual funds as households have shifted their new money flows toward money-market funds, which are part of the broad money aggregates, and away from equity mutual funds. In the end, what drives the liquidity index is an increase in the demand for money and credit, not portfolio shifts.

Importantly, there are a number of reasons why the demand for money and credit may be less responsive to Fed easing than in prior cycles. Top of the list among them is that the economy has not suffered from insufficient demand. Indeed, prior to the rate cuts, consumers and businesses were spending far in excess of current income flows. When profits fell or unprofitable companies were denied access to additional capital, firms had to reduce capital spending quickly and substantially. Households may also be cutting spending now that workers’ incomes seem to have stalled as a result of the sizable decline in jobs. Profits and income flows, not interest rates, are the primary drivers of spending.

That being the case, what could trigger a rebound in liquidity flows? We think additional monetary relief in necessary, but so, too, is a quick and sharp reduction in taxes. Will that policy combination work? History says it should, but the private-sector spending slowdown may prove to be longer than normal, given the huge income-savings imbalance.

Editorial by Chief Editor: John Allen

As readers of this column probably already know, nothing gets my blood going faster than hearing some ivory tower analyst respond to investigative research of his “strong buy” recommendation of (in this case) ADC Telecom at 18 buy invoking the sacred Wall Street shield of “investing for the long term” . I’m sure investors having followed his advice are ecstatic to know that they now have the “opportunity” to average down their position at 7 1/2! Let’s see . . .hmmm. . . that’s a 60% loss, annualized to 140% if you really want to get ugly. The guy couldn’t just say, “I OBVIOUSLY screwed up that one Mark!” No, he maintains a glib smile and tries to sell us on how this is just part of the master plan.

I decided to do a little research into the “advantages” of long term investing. Using the major indices, we computed the return of an investor for one, two and three years. Those intervals were chosen as we believe that anything farther out is a simply a crapshoot. Let’s face it, we can’t even get visibility from CEO’s for more than 12 months anymore. Even last fall when they were still omnipotent and possessed super Ouija boards, few would give guidance past 2 years. Even with that most have been backpedaling ever since. Also, remember that most funds have had difficulty matching these results, much less surpassing them.

Here are the results: An investor having purchased an index fund on May 1 of last year would have realized an annual return of: DOW +1.6%, S&P -13.6%, NASDAQ -44.9%

Saw that coming, right? But how fair is it to pick one of the most difficult years. OK, let’s do it for the last two cumulatively: Dow +.5% (1/2 of one percent Annually) ; S&P -2.2%; NASDAQ -7.4%

Not too impressive, is it. CD’s would have been a big improvement without the risk or fees. Surely it will be better if we go back three years. After all, that will encompass the strong ’99 performance. Let’s see: Average annual return for the last 3 years is as follows. Dow +5.9%; S&P +4.1%; NASDAQ +4.8% Remember, these are performances WITHOUT any fees being assessed.

Now for comparison sake, let’s see what trading only the major cycles in these indexes would have brought. Major cycles will be defined here as cycles causing a change of at least 10 percent in the index. This would be described as buying on the dips and then shorting/selling at the peaks. There were, coincidentally, exactly 10 cycles for each index during the last 3 years. The total percentage move for all ten cycles combined were; Dow 198%; S&P 159%; NASDAQ 458%; The average annual results break down as follows: Dow +66.3%; S&P +53.7%; NASDAQ 152% ! Additional analysis of these cycles reveals that just less than 40 percent of the profit potential is in SHORTING into the rallies.

Clearly the “buy and hold” theory of old has lost it’s luster. This methodology worked for many years during a maturing market that watched equity positions outstrip home ownership as the largest asset held by a family. Further, meteoric rises in productivity allowed even modestly managed companies to grow their bottom lines at rates which almost justified the high relative valuations placed on their stock. Now, clearly, new strategies are needed to take advantage of the volatile nature of this market. Investors limited to “going long” on stocks and indices are at a clear disadvantage during the next few years. They additionally run the risk of being on the wrong side of the market altogether if further economic storm clouds gather.


Even with the Feds assistance of cutting interest rates to help prevent a deep recession, the seasonal tendencies and money flows will drive the stock market in it’s primary bear market direction. Consumer and corporate debt levels remain very high and defaults are accelerating. At present there is no indication of any immediate turnaround in this corporate profits recession. Even with the bursting of the technology bubble, the stock market still remains grossly overvalued. In all likelihood, tech stocks will be range-bound underperformers for some years to come. Furthermore, in a recent survey of investors, we have again reached one of the highest levels of investor bullishness complacency with over 64% being bullish, 22% bearish and 15% neutral. The highest level of bullishness indicator that we have ever seen prior to either a correction or change in stock market direction has been 66.5%, so we are quite close.

Conclusion: When you reach a maximum level of investor optimism, it is important to review current investment allocations and make the necessary changes so that portfolio appreciation can continue with changes in stock market conditions. We will be happy to assist with suggestion in other investments to provide a properly balanced and weighted investment portfolio. Also, if there are any questions regarding the information discussed within this newsletter, please either call our office or e-mail us with your question(s), and we would be glad to provide further clarification.


John T. Moir
Worldwide Investment Manager
Wavetech Enterprises, LLC
Phone: (775) 841-9400

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