Private Account Management Services
Newsletter Issued 05-11-04:
By: John T. Moir
Chief Editor: Sara E. Collier

Position overview . . .

Our previous newsletter, dated April 6th, forecasted that the DOW had completed another countertrend rally the day prior to its release, and we expected a trading range for the month between 10,000 and 10,560. The DOW actually topped on the release day of the newsletter at 10,570 and had an intra-day low for the month at 10,219. The actual range proved to be slightly narrower, but fairly accurate in projecting the DOW’s peak point level along with the date of its occurrence. We also projected that there would still remain many uncertainties in regards to the US economy, and reestablished our US treasury position after the release of the stronger than expected March employment number. In mid-April, we chose to adjust our short-term outlook, since the US treasuries failed to hold the entry support levels and take advantage of the price weakness, profiting from the continued decline while hedging clients’ cash US treasury positions. We further anticipated the US dollar to have a larger trading range for the month between euro fx equivalent of $1.1950 and $1.24 due to the large and growing trade deficit, now exceeding 5.6% of US Gross Domestic Product. This forecast proved to be partially accurate with an actual trading range between euro fx equivalent of $1.1780 and $1.2366.

Looking forward . . .

The sharp rise in gasoline prices to record levels in most parts of the United States has brought with it a number of concerns for the longevity of an economic recovery. Reason being, there is a general “rule of thumb” that for every penny per gallon that gasoline prices rise, $1 billion is taken out of the US economy — having an effect much like a tax increase.

As the US imports most of the petroleum that is turned into gasoline and is consumed, these funds are not available for domestic purposes, such as reducing the government’s budget deficit. Rather these funds leave the country, and there are no signs that this increase in prices alone has reduced demand. Furthermore, the fact remains that unless replaced by additional fiscal or monetary stimulus, the incremental funds that are spent on gasoline will be at the expense of purchases of other goods and services, thereby causing a drag on the US economy.

Bullish market investors keep raving about the strong earnings performance of big companies, while in all actuality, the market is declining. This is the market’s clear way of expressing doubt that the sequel will be desirable.

Currently, the spread between the percentages of companies reporting upside and downside profits surprises are running at an all-time high.

The previous peak in the gap between upside and downside surprises occurred at the ultimate market peak, in the first quarter of 2000, which comes as no surprise. In that period, 70.6% of S&P 500 companies beat estimates and only 11.3% failed to meet them, for a “spread” of 59.3 percentage points.

In the current period, with nearly 90% of companies having reported results, 74.4% have beaten their targets and just 13.8% missed their numbers, for a spread of 60.6 percentage points.

This shows that the earnings-management game is once again flourishing. Executives start to beat their chests and express confidence in hitting higher targets, and/or analysts will set their sights higher to justify bullish stock forecasts. The last time the number of earnings winners beat losers to this degree, the spread between the two groups fell over the subsequent three quarters.

We may be in a different part of the earnings cycle, and things may not repeat themselves in detail, but it is hard to believe that three-quarters of all these companies will prove themselves as out-perfomers in the coming quarters. This will raise the odds of more disappointments as the year progresses.

The DOW, along with the other major indices, has begun the bear market decline and our wave pattern technical analysis is forecasting a lower trading range for the month between 9,800 and 10,400. An end-of-the-day close for the DOW below 9,800 will confirm a much larger decline, as the bear market starts to accelerate downward. More fundamental reasons for the decline will become more readily apparent as the descent extends in amplitude. We encourage investors to consider adjusting their current portfolios to reflect the suggested allocations outlined at the end of this newsletter. Both listed options provide suggested percentages of allocation for the different investment vehicles with their numerical order of importance.


The strong March and April payroll employment number are giving forecasters the impression that the next move in interest rates is up, ending the rally in US treasuries that began last August. They foresee substantial business spending on inventories, equipment and software, which is supposed to propel the economy to full employment and inflation before long. So, the Federal Reserve, they say, will raise rate in anticipation, maybe before the November election. These forecasters also think that foreign central banks will stop their huge buying of US treasuries, which would then push US rates up significantly.

We, however, disagree with these forecasters, since the March and April job gains were generated in government, hospitality, retail, construction, and health care. These sectors do not reflect the majority of American business — the ones that must restrain labor costs since they lack pricing control in a global world of surpluses. As the extra income from tax cuts and mortgage refinancing cash-outs fade, continuing layoffs will refrain consumer spending in this year’s second half. Expected sluggish sales will retard business spending and keep the Fed on hold, even with their statement of “at a pace that is likely to be measured” on raising interest rates after the latest May 4th Federal Open Market Committee (FOMC) meeting. Once again, deflationary concerns will start to revive with the renewed slowing of the US economy in the months to follow.

We expect foreigners to keep recycling dollars into US treasuries equal to our current account deficit of a $500 billion annual rate, since they must invest them in dollar assets of some sort. Right now foreigners are doing much of the job soaking up these dollars, investing them in safe and liquid US treasury bills. In the 12 months through January 2004, foreigners were net buyers of $316 billion of US treasuries, with Asians accounting for $207 billion. Foreigners owned $1.5 trillion in US treasuries as of January 2004, or 38% of the total. Meanwhile, US private investors have reduced their holdings to 45%, as they bail out of bond funds and US treasuries, with the remaining 17% being held by US government bodies.

Our current account deficit goes hand in hand with the federal deficit. The underwritten rule in Washington, DC is that if you have a fiscal deficit, you should run a trade deficit of like amount. This way, foreigners will finance the federal red ink as they recycle the current account deficit dollars.

The recent jump in foreign official US treasury holdings also reflects the dollars the central banks buy to support the mighty buck. Japan would prefer not to have a strong currency to impede its exports, so it keeps the yen value down by printing yen at a furious rate and using this currency to buy US dollars — 190 billion of them last year and 138 billion this year so far. The acquired dollars are then turned into US treasuries paper. China as well, with a dollar-pegged yuan, has to recycle all of the US currency generated by its trade surplus with America. This also includes the US dollars brought in for direct investment within China.

Therefore, if foreigners, especially governments, stop buying or choose to liquidate their US treasuries, there could be major valuation concerns for the bond market. However, these actions are unlikely. We further do not believe the rumors that Japan will no longer support the US dollar because it can afford to downplay exports.

The four previous Japanese recoveries in the last decade quickly faltered. Consumer spending there remains weak, while deflation encourages the Japanese to wait for lower prices before buying. We feel the central bank will keep propping the US dollar up to make exported cars and various electronics cheaper to American consumers.

Furthermore, China cannot abandon its US dollar buying. It needs a strong dollar — a weak yuan, that is — to keep its exports competitive and to keep its underemployed population busy. The day may arrive when the Chinese government suspends being the lender of last resort to America, but if it does suspend, there are a billion or more Chinese citizens ready to take up the cause. These ambitious Chinese citizens, given the legal right to do so, would remove their deposits from the Chinese banking system and invest in US securities.

The stability of US treasuries and the preference of the dollar still make US treasuries very appealing to central banks overseas. When they are effectively hedged during short-term price declines — as offered through both of our unique management services — their appeal remains in tact and we see the next big move in interest rates as being down. The near-term price weakness throughout the entire US treasury yield curve is in the process of bottoming, possibly in the next few weeks.



1. A 75% to 85% allocation of their taxable ordinary funds and/or tax-deferred funds into a conservative as well as flexible investment strategy using various no-load index mutual funds offered through our Private Account Wealth Management Services (Minimum investment: $1 million). This services is ideal for individuals and privately held corporations who have liquidated large stock, bond and/or real estate holdings and are seeking an investment vehicle to generate a positive rate of return between 12% to 19% per year (after fees) through either a rising or declining stock, bond or real estate market.

2. A 15% to 25% allocation toward cash, Treasury bills, CDs or money market funds with short maturities which will allow investors to rollover these instruments and obtain a higher level of return as interest rates move higher.


1. A 15%-20% in the futures/derivatives markets. This will help provide investors a means to hedge as well a further diversify their investment portfolio during either a rising or declining stock, bond and/or currency markets with taxable ordinary funds as offered through our Private Account Management Services (Minimum investment: $250,000). This services is ideal for individual investors seeking an aggressive investment vehicle to enhance their overall portfolio performance, which can provide a rate of return between 20% to 125% per year (after fees), depending which trading model is used and the client’s profile.

2. A 25% allocation into 2 to 5 year maturity of US Government bonds.
3. A 20% allocations into 20 to 30 year zero coupon bonds commonly referred to as STRIPS.
4. A 0% allocation into inflation-protection index bonds (TIPS). If the US treasury prices decline, this instrument will effectively generate profits as investors reposition out of bonds and back into stocks.
5. A 0% in stock index mutual funds or large cap growth mutual funds. There is limited upside potential and a majority of stocks provide a low dividend yield with many providing none at all.
6. A 35% in cash, Treasury bills, CDs or money market funds with short maturities which will allow investors to rollover these instruments and obtain a higher level of return as interest rates move higher.

If there are any questions regarding the information discussed within this newsletter, the two investment allocation options mentioned above or our management services, please call the number provided below or e-mail us and we would be happy to provide further clarification.


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

Acknowledgments: Michael Panzner, Author of forthcoming: Stock Market Jungle, Irwin Kellner — Hofstra Economic Report, and A. Gary Shilling & Co.

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