Apropos of the previous post (“I Have A Guy”), Jane Bryant Quinn skewers funds that invest in other funds:

They collect the money, extract a large fee, and pass it on to another manager who does the work. By the time both levels of fees are paid, your principal probably will decline, even if the fund itself makes gains. The general partners in feeder funds have only one job: to be rich, mingle with the rich, and make the rich want to surrender their money, at any price. Not bad work, if you can get it.

While she is talking about funds of hedge funds, the same applies to investment managers who simply direct your money into mutual funds.

The Fed announced that it had hired BlackRock Inc., Goldman Sachs Asset Management, Pacific Investment Management Co. and Wellington Management Co. to manage its previously announced $500 billion purchase of mortgage-backed securities. It also noted that it would pay for the purchases by printing the money.

At least Pimco, and presumably the others, have their portfolios stuffed full of MBS. But not to worry, says the Fed:

“Each investment manager will be required to implement ethical walls that appropriately segregate the investment management team that implements the Fed’s purchases from advisory and proprietary trading teams”, the Fed said.

Ah yes, ethical walls. Kinda like Chinese walls? We know how well those work. This is a license to steal from the taxpayer. Bill Gross of Pimco has been playing the Fed like a violin.

In any event, the Fed wants to drive down mortgage interest rates. The old murder the savers routine. When will they ever learn? And there is a reasonable scenario that the rate lowering could lead to a new wave of defaults.

Everyone trying to refinance into lower rates at once should hasten the national reality that the largest portion of the home owner’s net worth has evaporated in the past year. One loan officer I spoke with equated this call to a Doctor notifying a patient that they had a terminal illness.

Many of the people we know, often with substantial assets, but even those who probably have only modest amounts, delegate the management of their investment assets to someone else. Markets and the economy come up in conversation, but when it comes to investment strategy,  “I have a guy who takes care of that.” There is a whole horde of “guys” out there, taking care of other people’s money for substantial fees. And investing the money in funds which attract more layers of fees. These guys seldom do more than join the herd, and so most of them are probably earning their fees at this tag-end of the year by consoling their clients and counseling tax-loss selling. I was driving back from dropping one of my sons at the airport on Saturday, listening to talk radio. The hosts were two money managers in succession, both offering essentially mutual fund investing. Both apologetic about the year, which made me think about this. Both also emphasized their constant communication with their clients, rather than their performance. This made me wonder if maybe I was missing the point, that the value of these managers was not their investment performance, but the psychological support that they offered their clients. I guess it is easier to lose money when a “professional” tells you that it is OK and normal.

Clearly the layers of fees are a huge handicap when it comes to gains over the long term. I would not be surprised to find that half of returns are siphoned off by the various fees. So what is the alternative? There are three tasks to be performed:

1. Asset allocation. How much of the portfolio is to be allocated to a particular asset class.
2. Asset selection. Within an asset class, which specific investments are to be made.
3. Savings, withdrawal and tax strategy. How much to put in which kind of account, how much can safely be taken out, and so forth.

The last is by far the most important, but is more the domain of a real personal financial planner or CPA. I use a CPA for taxes, myself, and do not begrudge her fees. She more than earns them in the money she saves me, and besides not giving a cent more than absolutely necessary to the government is more important to me than just the financial expense aspect. But that’s not what I’m talking about here. The “guy” is often a broker or personal investment manager, who at best gives a passing nod to the item #3 issues.

I have made a huge personal investment of time in bringing my financial knowledge to a decent level, and learning to manage my emotions so that I can apply that knowledge effectively, by managing risk intellectually rather than emotionally. I have done this in large part because I find it interesting and challenging, but I can understand that others have better things to do with their lives, and don’t want to make that investment. That’s why they pay their “guy.” So, I ask myself, what should they do?

The claim that is made that, over the long haul, stocks outperform the other easily accessible and liquid asset classes is true. So, invest in the stock market. The recent fall from grace of the only mutual fund manager to outperform the market over a substantial period, Bill Miller of Legg Mason, illustrates that stock-picking is really, really tough. So diversify. If you have the time to sit through drawdowns, buy the lowest expense index funds available, probably Vanguard’s S&P 500 fund. But only buy when valuations are compellingly cheap. Use Hussman’s rule of 6% earnings growth and some simple TA like the 200-day MA to figure this out. That’s all you need. Or, if you want less drawdown at some cost in long-term performance, give your money to John Hussman to run in his fund. Since inception in Nov 2000, his fund is up 85% versus a 41% loss for my benchmark fund, Fidelity Magellan (untaxed distributions reinvested). And then fire “your guy” (unless he/she did better, which is unlikely to say the least). If your name is George Soros, Warren Buffett or Julian Robertson (or even John Mackay), you shouldn’t be reading this nonsense anyway.

How about me (I’m my own “guy”)? Do I still have a job? Thankfully, yes (I like the work). And I have no connection to John Hussman other than as a client from time to time.

Paul Krugman was awarded what should be called the Myrdal prize (“The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel”). This prize is commonly and incorrectly described as the Nobel prize in economics. Alfred Nobel explicitly forbade the awarding of a Nobel prize in economics in his will, and this piece shows that he had good reason to do so.

It is so wrong on many levels. But fundamentally, it confuses growth of spending with growth of the economy. We talk of Gross Domestic Product, but then proceed to measure spending. Hoover was not wrong to try to balance the budget. That way, private savings would be invested, not diverted into government programs. Mr Krugman’s fundamental misunderstanding is that government spending always comes out of private incomes. If not through taxation, then through the purchase of government debt, or, through inflation, removal of purchasing power which reduces real incomes. Even the much-ballyhooed foreign purchasers of debt get the dollars to buy the debt as a result of a trade deficit that leaves the dollars overseas. Where did those dollars come from? Out of consumers’ pockets, of course, and they represent dollars not spent in the US, and therefore subtracted from potential GDP. There is no way out. So if you control public spending, and reduce consumption, you get investment of savings. It is not a quick fix, it takes time. But it is the only lasting fix. We don’t need $200K/year firefighters sitting on their butts. We need people at work producing goods that can be distributed to their fellow citizens. The more money the government spends, the longer it will take to return the economy to stable growth.

Edit: From the New York Times:

“We got into this mess to a considerable extent by overborrowing,” said Martin N. Baily, a chairman of the Council of Economic Advisers under President Clinton and now a fellow at the Brookings Institution. “Now, we’re saying, ‘Well, O.K., let’s just borrow a bunch more, and that will help us get out of this mess.’ It’s like a drunk who says, ‘Give me a bottle of Scotch, and then I’ll be O.K. and I won’t have to drink anymore.’ Eventually, we have to get off this binge of borrowing.”

The Israelis and the Arabs started shooting at one another again. Isn’t religion wonderful? Actually I guess the Arabs never actually stopped shooting, but the Israelis did. Or at least kept it down to a dull roar. Now it is back to the more usual hammer and tongs.

However, it should serve to remind people that much of the world’s oil supply is sitting under regimes that are less than stable. Should make the Canadian energy companies more attractive. Unlike the U.S., Canada is still a democracy. And the companies are on sale. My boat is, however, already loaded.

The bigger question is, why on earth is the U.S. taxpayer paying for these wars? Religious freedom is one thing, subsidizing religious war is quite another.