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Moody’s Debt Downgrade Will Only Make China’s Problem Worse

For the first time in thirty years Moody’s has downgraded China’s debt. Bloomberg discusses the ramifications of China’s downgrade from A1 to Aa3.

The downgrade of China’s debt by Moody’s Investors Service may push Chinese companies to borrow even more money from domestic banks as overseas debt becomes more expensive, increasing risks for the nation’s finance industry.

With growing indebtedness at home, compounded by a slowing economy, there’s a risk of a “negative feedback loop,” said Khoon Goh, head of Asia research for Australia & New Zealand Banking Group who sees state-owned enterprises and property developers feeling the biggest impact. The downgrade will particularly hurt airlines and shipping companies, said Corrine Png, chief executive officer of Crucial Perspective in Singapore.

China’s economy kept going during the 2008 financial crisis and thereafter by borrowing money. Corporate debt was 100 percent of GDP in 2008 and today it is 156 percent. State owned companies took on most of this debt so the government is at risk in case of defaults.

The underlying problem for China is its business model. For decades the land of managed capitalism has borrowed and grown as its markets expanded. But there comes a time when markets are saturated and add in the worst recession in 75 years. Then you have an obsolete business model and a lot of leftover debt. A lower debt rating means higher interest rates at a time when China’s debt is at historic highs. This could descend into a negative feedback loop in which companies borrow more and more money at higher and higher interest rates until they go bankrupt. What does this mean for the rest of us outside of China?

Economic Size versus Growth

The problem for the rest of us if China’s economy tanks is that China has been the growth engine for the last decades. Forbes notes that while China is 15% of the global economy it has constituted 25-30% of global growth. We can see now that this growth has come on the back of ever increasing debt.

Much of Chinese growth simply has to do with producing, buying and selling within China. However, China has been the world’s second largest importer next to the USA according to OEC report on China.

In 2015 China imported $1.27T, making it the 2nd largest importer in the world. During the last five years the imports of China have increased at an annualized rate of 2.3%, from $1.1T in 2010 to $1.27T in 2015. The most recent imports are led by Crude Petroleum which represents 9.4% of the total imports of China, followed by Integrated Circuits, which account for 7.48%.

How Moody’s debt downgrade matters to the rest of us depends on what we want to sell to China. Australia, for example, hurts every time China reduces iron ore and coal imports. And while the USA has a negative trade balance with China there are American companies that make money in China. For example General Motors’ largest market is China and not North America as it increases sales to 10 million vehicles per year. China’s problems with its debt may get worse and the fallout will affect companies and countries across the globe.

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What Would a Pence Presidency Mean for the Economy?

As troubles mount in the Trump White House the talking heads on TV have started to utter the “I” word, impeachment. As the independent prosecutor investigation proceeds into the question of coordination between the Trump campaign and Russian hackers this issue will linger. No one is really predicting a Trump exit and a Pence presidency just yet but a year ago no one was predicting a Trump presidency! On the outside chance that things go from bad to worse for the 45th president what would a Pence presidency mean for the economy and for the stock market?

Different Economic Messages

The stock market has rallied after Trump’s victory based on the hope that his economic plans will stimulate the economy. For the time being tax cuts, stimulus spending, repatriation of offshore corporate cash and massive deregulation are largely on hold due to dysfunction White House. If tomorrow we all wake up surprised to find Pence in the White House what will be different regarding the economy? Politico said during the campaign that Trump and Pence are peddling competing economic messages.

Donald Trump looks at the economy and sees a “crippled” America, a nation ravaged by incompetent leaders who’ve betrayed the working class – especially in the rust belt, ground zero for the loss of manufacturing jobs.

But one of those rust belt governors, Indiana’s Mike Pence, has spent years touting his state’s economy, noting a drop in unemployment, an increase in factory jobs and a growing workforce.

The problem for Trump is that talk is cheap but getting legislation passed through congress can be difficult, especially when you have routinely insulted everyone with whom you need to work. But what happens if Trump leaves and Pence comes in? Pence will not feel obliged to follow through on all of Trump’s rhetoric. And the Governor from Indiana has experience in crafting legislation and working toward its enactment. The mere thought of a functional White House could be a boost to the stock market. And Pence is more likely to be happy getting something tangible instead of wishing for everything and getting nothing.

Will There Be a Sigh of Relief?

The Trump presidency has been one of continuing drama, lots of talking and little accomplishment. Whatever one thinks of Pence, a Pence presidency would probably be less flashy and more centered on getting the job done. As such one might expect the stock market to react positively. On the other hand if Pence takes over and dumps most of Trump’s economic promises as unworkable the market could correct strongly. We could see a post-Trump economic slump as all of the wishful thinking attached to his promises evaporates.

What Is Pence Doing Right Now?

Business Insider gives us a hint as to what is on the VP’s mind as he started a PAC.

Vice President Mike Pence launched a political action committee last week, which raised eyebrows amid fresh turmoil in the Trump administration.

Some have questioned whether the vice president’s new leadership PAC, which was noted on the Federal Elections Commission’s website Wednesday, was aimed at promoting a possible future presidential bid at a time when some conservatives have started whispering about the possibility of President Donald Trump’s impeachment.

“No Vice President in modern history had their own PAC less than 6 month into the president’s first term,” Roger Stone, Trump’s longtime political adviser and confidant, tweeted Friday. “Hmmmm.”

This does not necessarily mean than Pence is getting ready to be president but on the other hand it does look suspicious.

What Would a Pence Presidency Mean for the Economy? DOC

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Is the Economy Strong or Weak?

The stock market is a forward looking institution. That is to say investors and traders buy and sell based on their beliefs about what tomorrow will bring. However, the eventual price of any given stock always moves toward its intrinsic value, its value based on forward looking earnings. Looking forward the market has moved up with the election of Donald Trump because investors have expected to see tax cuts, infrastructure spending, repatriation of offshore corporate cash and a lot of deregulation. But not all sectors of the economy are doing well so the stock market advance is not spread out across all stocks. And when the Trump economic band wagon gets stuck in the mud of its own making the market drops back. No matter what the politics of the day the US economy is what drives stocks. Is the economy strong or weak? The New York Times notes that stocks tumble as chaos roils the White House.

Stocks in the United States were down sharply in midday trading. The Dow Jones industrial average, the Nasdaq and the Standard & Poor’s 500-stock index each were down more than one percent.

Here are the reasons they cite for the drop in stock prices.

One) Trump firing an FBI director after asking to have an investigation dropped involving a Trump advisor and Trump sharing sensitive intelligence information in a chat with the Russian ambassador. How this affects stocks is that investors believe that the government will get bogged down these issues and the economic agenda they dreamed of will not be enacted.

Two) Economic weakness is more of an issue than the market would indicate. Most of the run up in stock prices has been from a few tech stocks while car makers and retailers are hurting.

The VIX options fear index is up 20% after resting at low levels. Investors are looking beyond the hype and seeing a weaker economy. Will this be the end of the bull market and if so how bad could it get?

Trump Bump to Backlash

Remember that the market always looks ahead. Optimism has driven stocks up but pessimism could take things down in a hurry. CNBC looks at a possible inverse Trump effect.

Major investors are “somewhat cautious” as they wait to see whether President Donald Trump and Republican leaders on Capitol Hill can deliver on promises of lower taxes and massive business deregulation, Starwood Capital Group founder Barry Sternlicht told CNBC on Monday.

Sternlicht described what he called the “inverse Trump effect” on the economy — the idea that uncertainty over the details of the president’s polices is holding back investors. “If I’m an individual and I know my capital gains tax is going to drop I might just wait to sell stuff,” and sell into a more favorable tax environment, he argued.

As a result, Sternlicht said there could be fewer real estate transactions “until this is cleared up.” Investors also could be waiting to sell stocks, he argued.

The U.S. economy is on a good trajectory, but investors want to know “the rules of engagement” before making big money decisions, said the chairman and CEO of Starwood Capital, which has $52 billion in assets under management.

As we have said time and time again, investors like to know the rules and have a plan. The longer chaos rules in the White House the longer business decisions, investments and the economy will be held in check. The down side is that if none of the economic hype comes to pass the correction could be significant.

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Are Cyber Security Tools Worth the Price?

The current ransomware attacks spanning the globe have taking down computer systems in schools, offices, hospitals and factories. According to Reuters cybersecurity stocks are up.

A global “ransomware” attack disrupting factories, hospitals, shops and schools spurred investors on Monday to buy up stocks expected to benefit from a pick-up in cybersecurity spending by firms and government agencies.

The cyber attack began spreading across the globe on Friday and by Monday had locked up computers in more than 150 countries, with experts warning of an even wider impact as more employees logged on and checked e-mails.

European Union police agency Europol said on Monday the attack had hit 200,000 machines.

“These attacks help focus the minds of chief technology officers across corporations to make sure security protocols are up to date, and you often see bookings growth at cybersecurity companies as a result,” said Neil Campling, head of technology research at Northern Trust.

In London, shares in cloud network security firm Sophos (SOPH.L) jumped more than 7 percent to a record high and security firm NCC Group (NCCG.L) rose 2.9 percent.

The current attack has to do with a flaw in mostly older Microsoft systems but this is just one of many attacks by hackers looking to take your money, your personal information or your personal photos from your computer files. When simply downloading and installing the available software fix from Microsoft two months ago would have avoided the trouble most folks are experiencing now, there are always new threats. Paying for cyber security tools and services is a bit like buying insurance. Are these tools worth the price when you want your assets and information to be safe?

Cost of Protecting Your Computers

A couple of years ago Bloomberg looked at a bill for cybersecurity of $57,600.

How much should a small business spend to protect against cyber villains? I asked Eric Montague, president of Executech, an IT firm in South Jordan, Utah, for an estimate. While the answer will vary, depending on the type of business-not to mention the relative optimism of its owner-Montague’s response offers a useful baseline: Some $57,600 a year for a 50-employee company.

If you want to protect your business or your trade station computer you could get by with a $1,200 firewall that will probably last 5 years. If you trade online you are at risk of being hacked. How about getting cyber insurance for a few thousand or more? Or how about routinely changing your password and not downloading junk from social media to your business computer?

And How about Investing in Cybersecurity Stocks?

Maybe you cannot totally avoid a cyber-attack on your computer but can you, perhaps, make some money investing in stocks of cybersecurity companies? CNBC discusses the issue.

CNBC analyzed the last 15 major cyberattacks using analytics tool Kensho. A week following the hacks, shares of Barracuda Networks, F5 Networks, and Fortinet posted the biggest average gains.

A month after an attack, the major cybersecurity players did even better as demand for their services increased. Barracuda, FireEye, and Fortinet, along with Proofpoint, were big gainers, on average, a month out.

Over the longer term these stocks seem to fade when cyber threats are not in the news. FireEye traded for $80 a share three years ago and sells for $16 now. Similarly Barracuda Networks traded at $45 a share two years ago and trades at $22 today. F5 Networks looks better as it is trading near the top of its 20 year range at $130 a share. Fortinet has been going up for a year and trades at $40 a share but it was briefly up to $47 two years ago.

It would appear that cyber security tools are worth the price if your risk is great and that cybersecurity company stocks are short term bargains when you have a crystal ball and buy immediately before the next cyber-attack.

Are Cyber Security Tools Worth the Price? DOC

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Has Over-Regulation Been Killing the US Stock Market?

In the last forty years the market capitalization of all stocks listed on US exchanges has risen from $704 billion to $27 Trillion. Forty years ago there were nearly 5,000 stocks listed on US exchanges and that rose to about 7,000 by twenty years ago. Today there are 3,600 listed companies in US markets. How is it that while market cap has gone up forty-fold the number of listed stocks has fallen by a third? Business Insider discusses the case of the missing US stocks.

The U.S. seems to be the only developed country that lost so many stocks. Most other countries actually gained around 50 percent.

This matters because the U.S. stock market accounts for a little over half of the entire global equity market, meaning a huge (and growing) number of investors and fund managers now have fewer options to choose from than they did only a couple of decades ago.

The article cites three reasons for a decline in the number of listed US stocks.

  1. Mergers and Acquisitions
  2. Growth of Private Capital Investment
  3. Increased Number of Federal Regulations

M&A is easy. Two companies become one in a takeover. And private capital has allowed many companies to avoid going public or put off their IPO until they have grown significantly. The article notes that Apple went public four years after starting out in Job’s garage while today the average age of a tech company at IPO is 11 years. This is a function of available private capital but also increased costs associated with getting listed on a stock exchange. The end result is that only large well-funded companies have the wherewithal to do an IPO.

However, regulation, accord to Business Insider is the real culprit.

Sarbanes-Oxley Act

In 2002 in the wake of the Enron and WorldCom scandals congress passed the Sarbanes-Oxley Act. Investopedia explains.

The SOX Act mandated strict reforms to improve financial disclosures from corporations and prevent accounting fraud.

The rules and enforcement policies outlined by the SOX Act amend or supplement existing legislation dealing with security regulations. The two key provisions of the Sarbanes-Oxley Act are Section 302 and Section 404.

Section 302 is a mandate that requires senior management to certify the accuracy of the reported financial statement. Section 404 is a requirement that management and auditors establish internal controls and reporting methods on the adequacy of those controls. Section 404 has very costly implications for publicly traded companies as it is expensive to establish and maintain the required internal controls.

The bottom line regarding this law is that it is proportionally more expensive for small startups than for larger companies and thus inhibits the growth of the sort of companies that feed into to market to make it grow.

Dodd-Frank Wall Street Reform Act

In the wake of the 2008 market crash and Great Recession congress enacted another law to clean up bank lending. Unfortunately the victims of the law have been small companies. The Federal Reserve Bank of Dallas writes that Small-Business Lending Languishes as Community Banking Weakens.

Community banks are key providers of loans to small businesses, which are important contributors to the local economy and international trade. While regulatory burden on small banks and its impact on lending has received attention, it is difficult to isolate the most significant driver of sluggish small-business lending.

Business Insider writes that the answer is easy. Banks simply don’t want to deal with smaller (less than a quarter million) loans because the cost of compliance with Dodd-Frank is the same for all loans large or small.

The end result of all this is a lot fewer but much larger publicly traded companies

Has Over-Regulation Been Killing the US Stock Market? DOC

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Investments That Are Good Forever Until They Are Not

Warren Buffett and Berkshire Hathaway are in the news again after their annual shareholder’s meeting. Buffett is famous for saying that his preferred time frame for holding an investment is forever. But the so-called Oracle of Omaha has criteria for buying stocks and when those criteria are no longer met, he and his crew have been known to sell in a hurry. Yahoo Finance writes about 11 stocks Warren Buffett didn’t hold forever.

However, when it comes to managing Berkshire Hathaway’s $153 billion stock portfolio, Buffett and his top money managers aren’t afraid to reverse on a dime and liquidate a stock, should the company cease to meet Buffett’s four investment criteria.

And these are his four criteria for buying and holding a stock.

We select investments on a long-term basis, weighing the same factors as would be involved in the purchase of 100% of an operating business:

(1) favorable long-term economic characteristics
(2) competent and honest management
(3) purchase price attractive when measured against the yardstick of value to a private owner
(4) an industry with which we are familiar and whose long-term business characteristics we feel competent to judge.

The eleven stocks that Berkshire Hathaway purchased with an eye toward holding forever and then sold are these.

Deere
Verizon
Kinder Morgan
Walmart
Intel
Conoco Philips
Exxon Mobil
Bank of America
Nike
Home Depot
Lowe’s

In more than one case Buffet’s decision to purchase was more successful than his decision to sell as stocks like Home Depot, Lowe’s, Walmart and Intel which all rallied after Berkshire Hathaway dumped them.

When Is a Stock No Longer a Good Long Term Investment?

Buffett’s criteria for picking stocks are his criteria for selling. The vast majority of investors would do well to follow his criteria.

Do You Understand the Industry?

We have mentioned before how Kodak had a great business model and then it didn’t in our article, Can You Hold an Investment for Too Long?

Eastman Kodak was founded in 1888 and prospered for decades as the inventor of the personal camera and maker of film. Although Kodak had a chemical division its success was based on the fact that in order to have a photograph of something you needed film. Then the digital era arrived and the Kodak business model was outdated. A stock that grew in value year after year and provided dividends year after year filed for bankruptcy protection in 2012.

This issue with Kodak was that the industry changed and Kodak could not change its business model and succeed.

Attractive Purchase Price to a Private Owner

In this case think as though you were going to purchase the entire company and run it forever. Does the price make sense? This is the intrinsic value approach.

Competent and Honest Management

In this case think as though you be buying a company and putting people you trust in charge. Are the current managers the ones you would pick? Although Buffett still holds Wells Fargo stock he has been openly critical of their management for not picking up on the account scandal and immediately stepping in to fix it.

Favorable Long Term Economic Characteristics

Here we are back to the factor you would consider in determining intrinsic stock value but then you take that evaluation out for well past a decade. Here is where Buffett’s comment about why he has generally avoided tech stocks comes in. He does not know what people will pay for a computer in ten years but has a pretty good idea what they will pay for a coca cola or a snickers bar.

The point is that investments are good forever until they are suddenly not and that is because they fail to stand up to one of more of your initial criteria for buying them.

Investments That Are Good Forever Until They Are Not DOC

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Buy Options Ahead of Earnings Reports

AAPL earnings came out and the stock went down 2.1% after going up 0.6% the day before. The issue with Apple was that iPhone sales were down. It appears that Apple product devotees are waiting for the tenth anniversary launch of the iPhone 8 later this year. Nevertheless if you purchased AAPL in the run up to the earnings report you lost money. An alternative could be to buy options ahead of earnings reports. Investor’s Business Daily makes the same suggestion in an article about how stocks are set to fall on Apple earnings miss.

Investors should be careful of holding or buying stocks heading into earnings and may want to use options as a way to shield themselves from a sudden plunge. That’s something to keep in mind as Facebook and Tesla reports loom Wednesday.

How does that work? There are two types of stock options, calls and puts. Our sister site, Options-Trading-Education.com explains.

A call contract gives the buyer the option to purchase the underlying equity which he will do if the equity price moves in the direction anticipated. A call contract confers an obligation on the seller (writer) of the call option to sell the underlying equity if the buyer executes the contract. Similarly a put contract gives the buyer the option to sell the underlying equity which he will do if the equity price moves in the direction anticipated. A put contract confers an obligation on the seller (writer) of the put option to buy the underlying equity if the buyer executes the contract.

The point is that if you believe that a stock you hold might be subject to a huge loss you can buy puts on the stock. If it does fall you can execute the put contract and sell the stock at the contract price instead of the now-lower market price. And if you were thinking of buying a stock like AAPL before earnings reports you might consider buying a call option instead. If the stock goes up you get to exercise the contract and buy at the contract price instead of the now-higher market price. In each case, call or put, your expense is limited to the price of the options contract which is essentially insurance against a market loss.

Making Money Selling Options

Let’s say that you own AAPL stock and you believe that it will not go up with the next earnings report. You are not planning on buying any more but you would like to make a little money anyway. In this case you can write a covered call option. Here is again is what Options-Trading-Education has to say.

A covered call option is an options contract sold by someone who owns the underlying stock, commodity, or future. How to write a covered call most profitably has to do with picking the strike price of the option. A very high strike price, compared to the current price of the stock, will sell for less but the contract will be less likely to be executed. Thus the owner of the stock and writer of the option will be able to recurrently sell options on his stock. This is a little bit like eating your cake and having it too.

Because you own the stock and are familiar with how it trades you can often sell call options repeatedly, making a profit each time, and keep your favorite stock as well.

Buy Options Ahead of Earnings Reports DOC

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How to Evaluate Investment Opportunities

Investment opportunities come and go. Success comes from recognition of an opportunity and accurate analysis. It is in learning how to evaluate investment opportunities that investors find long term prosperity. Here are some thoughts on how to evaluate an investment from an article in Forbes.

Successful investing boils down to buying assets at a discount to intrinsic value. The greater the discount, the more likely the investment will perform. Benjamin Graham, the father of value investing, called this “margin of safety.” The concept is simple in theory and extremely challenging in practice, with the valuation process anything but straightforward.

The problem, as the author notes, is that any two reasonable people may see an investment opportunity differently. With that thought in mind he discusses intrinsic value.

As just one participant in the market, here’s how I evaluate a company’s intrinsic value.

Owner Earnings = Net Income + Non-Cash Expenses (Depreciation, Amortization, Depletion) + One-Time Charges – (Maintenance Capital Expenditures + Working Capital Needs)

This step is essential in how evaluate investment opportunities but it can be difficult. The problem is that predictions based on available evidence can vary greatly. Thus one investor will look at a company and see solid long term earnings and another will see stagnation or decline.

Security versus Growth Prospects

If you want to follow Buffett rules one and two (1-don’t lose money and 2-don’t forget #1) you want a company with a moat around it. In investing terms a moat is a solid competitive business advantage. This advantage virtually guarantees above average returns on investment for a long time. Companies with moats include Coca Cola, Apple and Exxon. But IBM used to qualify so there is no guarantee that a secure stock remains a secure stock forever.

Unfortunately solid companies are commonly not growth companies. Microsoft in its early days was not a secure stock but a home run hitter for growth. If you are looking for homeruns you need to find companies with new technologies, patent-protected and management with the ability to capitalize on their advantage before the rest of the world catches up. You need to decide on whether you want security or growth of a combination in order to know how to evaluate investment opportunities.

The Time Value of Money

What do you do if you inherit $10,000, $100,000 or $1,000,000? You could just put the money in the bank in CD’s that roll over at intervals and sleep soundly. A 5 year CD gave you about 10% interest in 1985 and about 5% by 1995, 3.5% by 2007 and about 2% today. Investing in real estate or stocks is more risky but can be more profitable. Picking the right investment can be critical. Most investors choose to diversify their stock portfolio in order to average out risk. The ultimate approach is an index fund that tracks the S&P 500. The S&P 500 has grown by an average of 10% a year since its inception in 1928. And in the last 5 years the S&P 500 has doubled which is a 10% per year per year growth rate. The time value of your money is more in the stock market than in a CD. Investopedia looks at the average annual return of the S&P 500.

Investors can easily mirror the index’s performance by investing in an S&P 500 Index mutual fund or exchange-traded fund. For an individual’s investment success, when he chooses to enter the market makes a significant difference. The stock market performed very well for an investor who bought stocks between 1950 and 1965, but the market was nothing but a continuous 15-year disappointment for an investor who entered in 1965. The market’s best sustained performance was from 1983 to 2000.

More and more investors have gone the index fund route in order to take advantage of gains in the stock market while averaging out the risk of individual stocks. This approach greatly reduces the difficulty in evaluating investments.

How to Evaluate Investment Opportunities DOC

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Investing When There Are Too Much Oil and Steel and Too Many Workers

Proponents of automation envision a world of plenty with resources shared by all. But the real result of automation has been increased production coupled with fewer jobs. Workers produce products and they get paid. Then they use their money to buy products. And manufacturers turn around and produce more products. But when fewer workers make products there are fewer people with money to keep the cycle going. Today we look at investing when there are too much oil and steel and too many workers, many without jobs. The New York Times writes that we may be in a long term low inflation world.

There is a worldwide glut that includes oil wells, steel plants and eager would-be workers, and it will take more than a United States presidential election and a few months of solid global growth to fix it.

That, in a sentence, is the reality that haunts the world economy a third of the way through 2017.

There was a brief surge of inflation following Trump’s election and expectation of tax cuts, infrastructure spending, repatriation of offshore corporate cash and massive regulation. But the Trump bandwagon has gotten stuck in the muck of social and political disputes as well as the reality of dealing with congress and inflation has fallen back.

Oil Prices, Steel Plants and Inflation

When the price of crude oil goes up so, eventually, does the price of everything else. But there is a glut of oil. OPEC says it will reduce production but too many OPEC members cheat and oil prices are not likely to go up significantly for some time. In China there are too many steel plants. Central planners in the land of managed capitalism assumed that growth would continue on an exponential curve forever. With too much capacity for domestic needs Chinese steel manufacturers are dumping their products across the globe, depressing prices and driving local steel companies out of business. Along the way inflation remains low and thus the Fed does not raise interest rates very rapidly if at all.

Where Do You Invest When Inflation is Low?

Forbes looked at this issue a few years ago. Investing strategies for low inflation revolve around finding companies that can create new products. Low inflation goes with slow economic growth. Without steady inflation and economic growth it is hard for companies to raise prices.

Companies will continue to have problems exerting pricing power, meaning they won’t be able to raise prices without customer resistance or lost sales. Rather, companies will have to look to either new product introductions or acquisitions to drive revenues higher.

The companies that will prosper in this brave new world will be the ones that create new products and new product sectors in which they have little or no competition and strong pricing power. Even in a world with too much oil and steel and too many workers everyone seems to have a cell phone/mobile device with access to the internet. And even in a world of slow growth and low inflation a new cancer cure will command a high price for a pharmaceutical company. The problem for investors is to seek out and choose the winners who can create new products and new value in a low inflation world.

Investing When There Are Too Much Oil and Steel and Too Many Workers DOC

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Can You Hold an Investment for Too Long?

A recent article from The Motley Fool about 3 stocks to buy and never sell got us thinking. Can you hold an investment for too long? The three stocks they mention are Walt Disney, Amazon.com and Activision Blizzard. Each is a strong brand in its respective market. We wrote recently about how many years are required to make an investment long term.

Just how many years are required to make an investment long term? We can get a hint from the so-called Oracle of Omaha who says that he cannot outguess the market in the short term but has a pretty good idea of what will sell well ten years hence.

So, you need to stay in the market for longer than 5 years and perhaps even longer than 10 years to see the benefits of long term investing.

The point is that it can very hard to outguess the market, so you often need a decade or more in a stock to see the best benefits. But, can you hold an investment for too long?

When a Business Model Becomes Outdated

Eastman Kodak was founded in 1888 and prospered for decades as the inventor of the personal camera and maker of film. Although Kodak had a chemical division its success was based on the fact that in order to have a photograph of something you needed film. Then the digital era arrived and the Kodak business model was outdated. A stock that grew in value year after year and provided dividends year after year filed for bankruptcy protection in 2012. In the case of Kodak the issue was the business model that was great for years and then antiquated. Yes, you can hold an investment for too long if you don’t pay attention to whether or not the business model for the company provides strong intrinsic stock value.

An inherent weakness in this concept is that too often the medium and long term prospects of a company and its stock price are not clear. So, what is intrinsic stock value of a company if the future is uncertain? The ability to see into the future to see how well a company will manage its assets, products, costs, R&D, and marketing is of utmost importance in calculating intrinsic stock value as a means of deciding whether or not to purchase a stock.

When The Motley Fool suggests Disney, Amazon and Activision blizzard as stocks you never want to sell make sure to think of Kodak or for that matter the whale oil business or prosperous carriage and saddle makers of the 19th century.

Clorox and Building on Core Competence

Clorox Corporation has been around for over a century. It started by making bleach, liquid chlorine which still accounts for 12 percent of its revenue. However the company has added other cleaning products as well as water filtration equipment and filters. All of their products revolve around keeping things clean and keeping the consumer happy. So long as this business model works the stock is one that you cannot hold for too long.

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