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June 2011 Investment Journal 
Stock markets and commodities sold off for most of June, while bonds rallied in the face of weakening U.S. economic data and more potential default news from Europe/Greece. Towards month end, the trends reversed, leaving all asset classes in the negative column for the month.  The S&P 500 declined 1.6%, bonds were off .8%, and gold was down 1.6%. 

We might re-title the market commentary for June "All Greece, All the Time", as CNBC and other media endlessly pontificated on the meaning of the various bailout outcomes. In the end, the Greek Parliament voted to adopt new and harsher austerity measures in order to "support" the repayment of their massive debts under terms imposed by the IMF and EU. It looks like to us this is another "kick the can down the road" scenario, as all Greek bond maturities over the next three years will become a "forced" rollover out to 30 years. And, if a "default" is deemed to have occurred somewhere in this process, major European banks (especially French ones) will be forced to cough up billions in insurance payments they are liable for. (It should make sense under this scenario that Christine LaGarde, the French Finance Minister, was appointed head of the IMF just before the Greek vote to replace the indicted former IMF head and fellow Frenchman Dominique Strauss-Kahn.)

In short, the European drama continues and no one wants to face the music. The best analogy we ran across this month was that Greece is not a "Lehman Brothers" type of event, but more akin to Bear Stearns, which preceded the real collapse by months. The pickle will come when Spain and Italy waver. We can be sure that the EU will be pulling out all the stops to prevent this, but the question is how will the man in the street ultimately deal with all this? The Greeks have shown us the way, by dumping Euros and buying gold coins and bullion enmasse, following the Chinese, who are said to be buying the equivalent of all Switzerland's holding every 3 years. 

In the US, Fed Chairman Bernanke held a press conference after the release of the FOMC Minutes and admitted to being perplexed by the lackadaisical response of the economy to the stimulus applied. Despite all the complex tools and models at the Fed's disposal, we think it comes down to simple uncertainty on the part of borrowers, savers, and spenders: incomes are flat to down in real terms, important issues like health care and tax reform are in suspended animation, and government keeps growing and becoming more intrusive (take your pick from regulatory burdens to IRS audits).

Much of the coming month will be spent wrangling over the US debt ceiling, with both sides likely to drag investors to the precipice before compromising. Dire warnings have been issued and investors will be subject to the waxing and waning of sentiment around this important issue. Moves in the bond market could be especially sharp.

Much ink has been spilled also over the fate of the stock market with the end of the Fed's QE program in June. The Fed will continue to reinvest interest and principal payments from their holdings as they come in, but no "new" programs will be announced, especially with the 2012 election looming. That will not stop them from buying up Treasuries, especially in the short end, under some internal guise (remember the US Fed extended loans to multiple foreign banks during the Lehman crisis with nary a peep of disclosure nor authorization under its Charter). Since employment growth works with a long lag, most pundits think persistent joblessness is here to stay through this election cycle, and the Fed is "out of bullets".

Unlike the public sector, private companies have been aggressively right-sizing for the new, less leveraged world, and have strong balance sheets and an increased focus on dividends and income. While some countries (notably India and China) are well into a rate-raising cycle, the US Fed remains stuck on the "low rates for an extended period of time" script, which will continue to put US investors in a tough spot. Defined benefit pension plans and endowments have been especially hard hit, as their 8%+ assumed rates of return have not materialized and current funding deficits have widened substantially over this Fed easing cycle. High quality stocks may be the best alternative, as intermediate Treasuries yield sub-2.00%. All eyes will be on the ECB in July, as they have a chance to raise rates for a second time this year, creating a path of divergence from the US. We have a feeling discussions between the Fed and the ECB will be heating up this month as the two economic super banks seem to be turning in different directions.

Gold, oil, grains and all things that hurt if dropped on your foot sold off in June, due to combination of profit-taking and jawboning from governments. Most notable were comments from France's President Sarkozy that "agricultural speculators" will be punished, and France would not allow food prices to rise any further (we guess they'll  announce weather controls and anti-flood and storm directives soon too. No rain on Sundays please. And don't mind our farm subsidies to favored domestic producers.) Corn futures prices closed limit down several times in June, and were especially hard hit by this uncertainty. We remain fundamentally bullish on agriculture as food carryover remains slim to none from year to year, growth in demand is growing steadily, and weather plays havoc with planting, growing and harvesting cycles.  (We also point out that weather experts are noting the alarming decline in activity of sunspots over the last several years, which could lead to much colder weather over the next few decades, in what scientists refer to as a Maunder Minimum.)

For the time being, these "hard assets" will re-order themselves in the face of what is likely to be stepped up intervention by authorities. President Obama's decision to release oil from the U.S. Strategic Petroleum Reserve for only the third time in history is a direct and recent example. Oil dropped over $7 a barrel the day of the announcement, but the quantity supplied was less than 2 days worth of national demand. Going Green won't get us to energy independence any time soon, and the nuclear option has been down-shifting of late. The only real solution is intelligent development of domestic resources, including offshore fields, with appropriate environmental safeguards. The enormous quantities of natural gas that have recently become extractable due to "fracking" and other new drilling techniques offer strong promise for a clean energy future, and Big Oil is on board (Exxon Mobil's huge 2009 purchase of XTO Energy was for their huge onshore U.S. natural gas reserves).

There has also been increasing chatter about a slowdown in China and other industrial centers, but their stock market is well off its yearly high and much slowing has already been anticipated. Chinese Premier Jiabao said this month in a widely cited FT op-ed piece that Chinese inflation has been contained at 4%, which might mean rates are done rising there for now (that has not been anticipated and is not the consensus view). Many emerging and developing economies offer favorable investment profiles and that is where much future growth is coming from. (The Bank for International Settlements -- BIS - released a report at month end which essentially said the developed world had no choice but to live with lower growth - too much debt and solutions centered around austerity make for a below trend world over here).

Thank you for reading our Journal, stay cool and have a relaxing month of July!

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