Wait for the correction, then step on the gas pedal

To give you an idea in an anecdote, back in 2001, the executives running Australian mining giant BHP Billiton sensed that China's economic growth was gaining critical mass. So they commissioned a study on how the country's rapid industrialization might affect the global markets for copper, coal, iron ore, oil - all the stuff that the company pulls out of the earth and sells.

"The results were quite - well, 'outrageous' is probably the right word," CFO Alex Vanselow told me when I visited BHP's headquarters in Melbourne a few months back. "Because we didn't believe it. We thought something must be wrong. If our models were right, the pressure China would put on the world would be tremendous."

But the more they tinkered with their models, the more unbelievable the results became. The fast-growing per-capita income of China's billion-plus people pointed toward a massive thirst for raw materials. When the researchers added India's potential for growth - and its own billion-plus population - the numbers got even more extraordinary. And when they factored in the industry's inadequate investment in new production capacity, they concluded that over the next two decades there would be a historic demand-driven boom in the resources world.

Today, of course, the commodities boom that the BHP study anticipated is in full swing - and impossible to ignore. You see it every day in the $100-plus it now costs to fill up your SUV. Or the 39% increase in the cost of electricity over the past eight years. Or the fact that you're paying 20% more for that box of pasta than you were a year ago.

As painful as all those rising prices can be for consumers, the bull market in raw materials has proved to be an awesome investment opportunity. Over the past five years the S&P 500 has had a total return of 59%. But over the same period, the diversified Dow Jones-AIG Commodity index has risen some 110%, and the S&P GSCI Commodity index, another broad measure, has jumped 141%. The price of gold has more than doubled, and crude oil and copper have soared more than fourfold. If you were prescient enough to go long on rice on New Year's Day, you've already seen a return of 33% this year. And don't you think you should take some profits in this run, when the commodities prices are taking from your paycheck already at gas pumps and groceries?

No wonder, then, that money is flooding into resource markets. According to Gresham Investment Management, institutional investors like pension funds and endowments had $175 billion in commodities at the end of 2007, up from $18 billion in 2003. Just as predictably, Wall Street has rushed out a flurry of new products geared toward individual investors.

But unless you happen to have a degree in mining and a cousin who works at the Chicago Mercantile Exchange, the idea of putting some of your precious retirement savings into commodities right now probably seems pretty risky. Isn't it too late? Aren't these markets way too volatile for investors planning for retirement anyway? And isn't investing in commodities too complicated for average investors? In short, the answers to those questions are: probably not, no, and no.

Let's start with the biggest, scariest question: Is the commodities boom now like Cisco stock in 2000 or Miami Beach condos in 2006 - i.e., a bubble?

Some of Wall Street's big brains seem to think so. In recent weeks strategists at Lehman Brothers, Citigroup, and Brown Brothers Harriman, among others, have volunteered the B-word and warned of a painful sell-off. The surging price of oil has prompted particular handwringing.

One enlightened observer who's not worried about a commodities collapse is Jim Rogers. The maverick investor, author, and one-time partner of George Soros famously predicted the bull market in hard assets back in the late 1990s and began putting his money in resources when most of us were still enthralled by the dot-coms. According to Rogers, the current highs may represent a market top, but hardly the peak.

"The bull market still has a long way to go," says Rogers. "Is it time for a short-term correction? I have no idea. And even if we are due for a pullback, that's not necessarily true for all commodities. Oil might be ready for a shock, but that doesn't mean that zinc is." (The price of zinc has, in fact, fallen by half over the past year because of a glut. Rogers says he's monitoring industrial metals for the right moment to buy more.)

History is on Rogers's side. As he likes to point out, research shows that over the past 140 years the typical commodities bull market has lasted about 18 years. Rogers calculates that the current boom kicked off in early 1999, which means that if it conforms to precedent, we have almost another decade left.

Even if you believe that most of the easy gains have already been gotten, there are other reasons for adding commodities to your portfolio. For starters, studies show that the performance of commodities as an asset class has very low correlation to stocks and bonds. That means that when stocks are up, commodities tend to be down. And vice versa. "You have to be prepared for bumps on the way," says Karen Dolan, director of fund analysis at Morningstar. "Commodities can be volatile, but adding them to a portfolio can actually reduce overall volatility."

A second important reason to add commodities to your investment mix - one that's especially relevant to those approaching retirement age - is to offset inflation. "As an investor you are exposed to a variety of risks," says Don Coxe, global portfolio strategist at BMO Capital Markets and another commodities bull. "If you own agriculture and oil, then you put in a built-in hedge for yourself because you're now somewhat independent of rising food and fuel prices."

For both of those reasons a growing number of financial planners and money managers are following the lead of institutional investors and spicing up traditional stock and bond recipes by putting 5% or 10% of a portfolio in commodities. "I think there's a new wave," says Tom Lydon, a financial advisor whose Global Trends Investments in Newport Beach, Calif., manages $75 million. "It's not overly aggressive to propose a 10% allocation at this point."

How do you begin? One way to get exposure, of course, is to invest either in mutual funds that focus on stocks of miners like BHP and energy companies like ExxonMobil, or to invest directly in the companies themselves. If you pick the right fund or stock, it can work out great. But because resource stocks are affected by the direction of the broader market, you lose the advantage of not being correlated with equities. During the past year, for instance, Exxon's stock rose less than 5%, while the price of oil doubled. From a portfolio-planning standpoint, it would be better to put your money directly into the hard assets themselves.

Luckily, this is one case in which Wall Street's marketing zeal works in favor of the individual investor. In the past couple of years dozens of new products have appeared that track both broad commodities indexes and narrower slices of the resource world. The main vehicles are exchange-traded funds. ETFs, as they're known, are funds that track indexes but trade like stocks. "It's very easy to build a well-rounded portfolio with just two or three ETFs," says Lydon, who also runs the website ETFTrends.com.

You can start with a single fund that tracks a basket of various commodities. For a basic foundation, Lydon recommends the PowerShares DB Commodity Index Tracking fund, an ETF that is pegged to the Deutsche Bank Liquid Commodity index. There are also exchange-traded securities that track the energy-heavy S&P GSCI Commodity index, the less concentrated Dow Jones-AIG Commodity index, and the wide-ranging Rogers International Commodity index.

Some of these products are structured in the form of Wall Street's newest fad: the exchange-traded note. Like their ETF cousins, ETNs can be bought and sold freely like stocks. But they are actually long-term debt securities. Essentially, when you buy an ETN you are lending your money to the issuing financial institution in return for a promise that it will pay you the equivalent of the return of a given index. One potential downside is that you are taking on the credit risk of the issuer. (So, for instance, you might want to wait a little while before buying the new Opta ETNs from Lehman Brothers, given questions about the bank's liquidity.) But most experts regard them as a safe and relatively efficient way to invest in basic indexes.

If you're looking for a more specific commodities bet with big upside, the best place to invest right now, say many observers, is agriculture. While the prices of corn, rice, and wheat have spiked recently - and food shortages have sparked rioting in Egypt and other countries - they have only just begun to catch up with the rest of the resources world.

Over the past five years the Dow Jones-AIG agriculture index is up 33%, vs. 59% for the Dow Jones-AIG energy index, for instance. But grain reserves worldwide are at lows not seen for decades. And new strain is causing increased volatility. Earlier this year the price of wheat shot up 61% before correcting. Again, the main driver is Asia's economic growth. "Billions of people are changing the way they eat, adding protein and calories to their diets," says analyst Sean Brodrick of Weiss Research. "That's a demand story you just can't shrug off. We need bumper crops to keep up with what people are eating now." If you're interested in adding some fiber to your portfolio, check out a pair of securities with comically unwieldy names: the iPath Dow Jones-AIG Agriculture Total Return Sub-Index ETN and the Elements Linked to Rogers International Commodity Index-Agriculture ETN.

Strategist Coxe of BMO Capital Markets is also bullish on an old commodities standby: gold. He sees it as a further hedge against both currency risk and the ongoing financial contagion on Wall Street. When investors panic about the prospects of banks, gold - a.k.a. "the one true currency" - tends to rise.

But investors might also investigate another precious metal: silver. Whereas gold touched new all-time highs above $1,000 an ounce earlier this year before pulling back, silver remains 60% below its 1980 record price of $44 an ounce, even after more than tripling over the past five years. Plus, potential new industrial uses for silver in cutting-edge batteries and nanotechnology could add to demand. The two-year-old iShares Silver Trust ETF makes it easy to add the metal to your portfolio, but, like many other ETFs, there is an annual management fee. This might be one commodities play where it pays to keep it old-school and buy some coins.

Conservative Plays

I've been dismayed lately, as many of us have been, by the low interest rates we're getting on our CDs and savings accounts in the U.S. If we are retired or approaching retirement, we may be especially upset by these low rates.
Fortunately, we have options. Even in today's low interest rate environment, many stocks and funds offer attractive dividend yields. Especially the emerging market high yield funds, comprising of both bonds and stocks, seems to be a better bet than staying within U.S. confines.

I would never advocate putting all of your eggs in any one of them, but rather to spread around a good chunk of your savings in these assets if you need current yield. As discovered by my pal Phil DeMuth, and often utilized in his rapidly growing client base at Conservative Wealth Management, here are a few options for high current yield with safety.

The iShares Lehman Aggregate Bond (AGG) exchange traded fund (ETF) largely owns bonds of investment grade and steers well clear of the subprime mess. Experts are expecting more defaults on bonds through next year, but the default rate lately has hovered at or close to zero so even a jump will not significantly affect a large mix of bonds. AGG's trailing twelve month yield (TTMY) is 4.8%. (Note: The trailing twelve month yield, used throughout this column, is not the same as the current yield. As the price fluctuates, the yield changes even if the dividend stays constant or rises. Check with Yahoo! Finance for the latest yield figures.)

The Cohen & Steers Dividend Majors (DVM) ETF is comprised of many high yielding real estate investment trusts (REITs). As any reader of this space knows, I love REITs for their yields. Yes, I know they took a huge drop last year. But that only increased their yield. They are recovering now and so the yield is falling. But the trailing twelve month yield is 6.5% and that looks good enough to eat.

BlackRock Global Energy and Resources (BGR) holds high yielding energy stocks from all over the globe. I happen to think oil prices are in a bubble (I could well be wrong). But even if they are, with a yield like 8.7%, BGR could lower its dividend and still be doing fine.

Templeton Emerging Markets Income (TEI) contains bonds of emerging markets. These bonds are often issued by nations that are in better economic shape than the US is right now by virtue of running budget surpluses and trade surpluses. With a yield of 9.1% it's good enough for me and own it I do.

Black Rock Dividend Achievers (BDV) is comprised of high dividend stocks. It has an amazing yield of 6.9% and while its price will fluctuate like mad as markets move, its yield is positively mouth watering.

Great Northern Iron Ore (GNI) mines, well, iron ore, in Northern Minnesota. Its 6.9% dividend rate tells us that world demand for iron ore remains robust.

BP Prudhoe Bay Royalty Trust (BPT) pays you a royalty on the oil taken from a series of oil fields near Prudhoe Bay. Its yield for the past 12 months was a stunning 10.4%. As the price of oil rises, it could do even better but might not as a ratio of price.

Bank of America (BAC), the nation's second largest bank, has been stung by sub-prime and other poor investments. It's possible that it will cut its lofty 7.1% dividend, so if you are really, really cautious, you might wish to stay away. Even if it were cut by 20%, however, it would still yield north of 5%, which isn't bad at all.

Consolidated Edison (ED), which New Yorkers know as Con Ed, is an immense electric utility. It's paying a fabulous 5.6% yield. It is regulated, although not as much as it once was, so the yield is fairly safe.

General Maritime Transport (GMR), a firm that transports oil, that most precious of commodities, across the seas, pays a 6.9% yield. Looks good to me.

Now, the REITs mentioned here will not, repeat NOT, qualify for the super low Bush dividend taxation rate. Neither will the oil royalty trusts. And neither will the bond fund at the top (AGG) or in the middle (TEI). But the yield on all these remains excellent.

The strategy here is to not buy just one of these investments. As always, diversify. I would also highly recommend that you talk to your own financial advisor, and you should have a financial advisor. He or she may have his or her own ideas. But this is a start towards a Stein/DeMuth High income portfolio you might like.

Size Matters

These days, it seems like everyone is just throwing out ETF's like cinnamon sprinkles. Throw some out there, and see which one sticks. Well, although ETFs are great tools (I've emphasized thsi point in previous articles) to invest in a sector without the risks of company specific problems, don't just choose one based by names.

As of May 1, there were 107 industry-specific ETFs providing exposure to more than 30 different industries, according to a Morgan Stanley report released this week. By design, industry-specific ETFs allow investors to own a basket of stocks in a given slice of the economy.

Initially, two ETFs may appear to be similar by name, but the formulas behind their underlying indexes can result in very different portfolios. Most ETFs are weighted by market capitalization, which means larger companies receive greater representation in the index. But in an equally weighted fund, all stocks carry the same weight, regardless of a company's size, earnings, or revenues (so you'll find more small companies in equally weighted ETFs).

Here's an example of how this plays out. Two retail ETFs: the equally weighted SPDR S&P Retail ETF (symbol XRT), which includes 53 companies, and the Retail HOLDRs Trust (symbol RTH), which has no underlying index and holds just 18 stocks.

Because the S&P fund includes more small companies, it's heavily exposed to apparel--a more cyclical slice of the industry. Companies with market capitalizations of under $5 billion make up 60 percent of the fund, versus just 7 percent in the HOLDRs fund. In that ETF, retail giants Wal-Mart, Home Depot, Target, and Walgreens account for half of the portfolio.

That being the case, do check under the hood with these ETFs. When in doubt, go with the larger names. The bigger companies tend to do better in recoveries, becaue of their size and economy of scale. Plus, at the very least, you've probably heard of Coca Cola or Boeing.

Here's some top picks.

iShares DJ US Oil Equipment & Services (IEZ) holds 55 companies in the Dow Jones Wilshire 2500 Index that are suppliers of equipment or services to oil-field and offshore platform companies.

Market Vectors Global Alternative Energy (GEX): tracks the Ardor Global Index, which includes 30 global companies involved in alternative power production and supporting technologies. The fund will always have 30 percent of assets in non-U.S. companies located in at least three different countries.

PowerShares Water Resources (PHO): tracks the Palisades Water Index, which includes U.S.-listed companies involved in water supply and treatment, and in technologies or services associated with the water industry. At least 80 percent of the index's components must derive at least 50 percent of revenues from water-related activities.

Financial rebound

After free-falling for more than 6 months, has the financial sector stocks finally bottomed? Well, YES.

The financial sector crises, consisting of subprime mess and other credit problems, has driven down the sector more than 30% since last December. Now with all the surprises out of teh way, it looks like the sector is looking to rebound in the second half of the year.

There will be more bad news, yes, but not surprises. As the impact from Fed rate cuts start reflecting, and companies take measures to remedy the losses, this sector is headed for a rebound.

The world's largest financial group, Citigroup, is considering selling its Japanese consumer finance company CFJ KK or cutting the unit's business significantly as part of its plans to shed assets, Japanese daily Nikkei reported on Sunday. This is another bold move to cut the losses, and rebuilding for the future.

The biggest U.S. bank is aiming to unload $400 billion of assets within three years after being hit hard by flagging mortgage and credit markets.

Market in W-shaped rebound

Many gurus in recent weeks have come out with predictions that the market has bottomed, and is ready to rebound. Although anything is possible, the likelihood of a rebound is somewhat unlikely in my opinion. For one thing, the stock market started its decline, if not a crisis in the last days of 2007 and continued well into March of this year. The market dropped more than 20% from its peak of Dow at 14000. Now, as bad as that sounds, a market that has troubles in wide-reaching credit system, real estate bubble, worthless dollar, and inflation in almost everything in a daily need, is one that would certainly drop more than it has so far.

Looking back at the Nazdaq bubble in 2000, many "gurus" also said the market has bottomed is ready for a rebound every time there is a technical rebound. Note that the Nazdaq did not drop from 5000 to 1200 overnight, but it did so with several 1-2 month rallies in between, but only to drop even further when the steam runs out. Traders and fund managers on Wall street hates to see their portfolios drop double digits, and tends to sell at managebal losses and re-balance their portfoilios. Everytime they do that, there is a rally in specific sectors (usually the ones that has dropped the most, getting funding from trades who sold their losses in other sectors that dropped less) and thus bidding up the market. Therefore, the "rebound" we're getting in this couple weeks, really is a technical rebound and one that is NOT sustainable. Especially when many traders go on vacation in the summer, when the market tends to drop in allmost every summer, we will see this rebound dissipate. That would prove a real buying opportunity for the bulls. I would predict 4Q 2008.

Furthermore, the Fed has pretty much ran out of ammo by cutting the interest rate to 2%. Cutting anymore, would cuase a widespread infaltion that is beyond remedies.

The Fed cut rates to 2 percent this week from 5.25 percent in September. With the value of the dollar falling against foreign currencies, and rising commodity costs pressuring consumers at the gas pump and the grocery store, the central bank wants to steer clear of actions that will push prices up even more.

By lending directly to banks, the Fed can provide capital that banks need to lend to consumers and businesses without fueling higher prices in industries that don't.

By relieving the seizure plaguing financial markets, the Fed hopes it can free up the cash many banks are hoarding. This would presumably encourage banks to lend their money out through mortgages or business or car loans.

Recent months have seen surging food and energy costs. Wall Street is concerned that the threat of inflation and the persistent struggles of the housing market would force consumers, who account for about 70 percent of U.S. economic activity, to spend less.

The Fed said Friday it would boost the amount of emergency reserves it supplies to U.S. banks to $150 billion in May, from the $100 billion it supplied in April. The Fed took this action and several other moves to boost credit in coordination with the European Central Bank and the Swiss National Bank.
But even after the Labor Department said the U.S. economy shed 20,000 jobs last month -- fewer than expected -- stocks had a lukewarm response. That suggests that, like the Fed, investors aren't sure the credit crisis has been contained.

So be cautious in this market right now, and don't rush into buying stocks. Especially ones that has seen a rebound in recent weeks, as this market is certain to do a W-shaped rebound, before it really takes off into another bull run.

When insiders buy, u buy!

Whenever a buyback is announced, it is always a good idea to check out the company, its fundamentals and its prospects. Let's take a look at one company that has recently announced a buyback: Friedman Billings Ramsey Group (FBR).

Friedman Billings Ramsey's board has raised its buyback authorization for Class A shares to 100 million, from the earlier approval of 50 million. FBR has already bought back 23.6 million shares under the earlier authorization.
The company has suspended dividend payments for the current quarter. The last quarterly payment of 5 cents a share was made on Oct. 31 for the quarter ended Sept. 30, 2007.

The company's net loss expanded to $214.7 million, or $1.28 per share, in the third quarter, with heavy writedowns and losses related to its on-balance-sheet securitized loan portfolio. FBR expects its losses to narrow in the fourth quarter to $38 million. The company has completed the sale of its on-balance-sheet securitized loan portfolio and is currently negotiating the sale of the remaining $48 million of the mortgage loans.

FBR has certainly felt the pressure of the housing and financial-market turmoil, but some may feel this one is drastically undervalued because it is currently trading below book value per share.

Stock price of FBR has shot up in the past couple weeks, despite the subprime crisis.

Go Green!

If you have not noticed the increase in prices at gas pumps, grocery stores, and just about everywhere else, it's time to come out of the cave.

A large part of the inflation we are witnessing nowadays is due to the surge in oil prices. Putting aside the reasons behind this surge of oil from $30 a barrel few years ago, to the new $100 mark, it would be nice to make some money in the dire situation.

Turning this opportunity to make some profit, isntead of just paying like a dummy, you can either do energy plays with oil and natural gas. Or, you can consider the following: green energy. By doing so, you'd be investing in the future to come.

Here are six ETFs, and I've included their investment focus, international exposure, market cap, and expenses -- in each fund's holdings:

1. PowerShares WilderHill Clean Energy Portfolio (PBW)

Listed in March 2005, PBW was the first alternative energy ETF and tracks the WilderHill Clean Energy Index. The fund holds 40 U.S.-listed companies that produce green or renewable energy and related technologies. It's focused on small-caps (69 percent weighting) and is dominated by information technology companies (41 percent of holdings). The ETF charges a 0.60 percent annual fee that will weigh on gains. The relatively volatile PBW has returned a 22.5 percent gain since its inception, but dropped just over 6 percent in the past year. See PBW's full holdings.

2. PowerShares WilderHill Progressive Energy Portfolio (PUW)

This ETF differs from PBW by focusing on companies providing "transitional energy bridge technologies" -- that is, technologies that improve the use of existing fossil fuels, rather than entire new approaches. PUW also has heavy small-cap exposure (49 percent), but offers relatively diversified sector exposure: the largest single sector, industrials, constitutes just 28 percent of the fund. Since its inception in October 2006, PUW has returned a strong 18.7 percent; it also charges a steep 0.60 percent yearly fee.

3. PowerShares Cleantech Portfolio (PZD)

This ETF tracks the Cleantech Index, which aims to capture the potential for companies that "produce any knowledge-based product or service that improves operation, performance, productivity, or efficiency, while reducing costs, inputs, energy consumption, waste, or pollution." PZD is heavily weighted toward industrials (59 percent), with 63 percent of its holdings in small-caps; like the other PowerShares ETFs, it has a 0.6 percent expense ratio. See PZD's full holdings.

4. Claymore/LGA Green ETF (GRN)

GRN launched in December 2006, and follows the Light Green Eco*Index, which is comprised of about 200 stocks that are in some way active in alternative energy. Yet a quick look at GRN's holdings reveals the world of difference between this and the PowerShares ETFs. Top holdings of GRN read more like the S&P 500: Mobil, Citigroup, and General Electric -- mega-cap corporations that allocate a certain (no doubt, growing) portion of their investment or R&D in green technologies, but are hardly "pure plays" on the alternative energy theme. GRN has a 0.6 percent yearly fee.

5. Van Eck Global Alternative Energy ETF (GEX)

Launched on May 9, 2007, GEX tracks the Ardour Global Index (Extra Liquid), which is composed of stocks in 30 publicly traded companies that obtain at least half of their revenue from alternative energy activity. GEX is unique among its peers in two key ways: emphasizing large-cap exposure (31 percent of the fund's holdings; small-caps are only 26.9 percent), and international reach (European companies constitute 47.1 percent of the fund, China/Japan 11.1 percent, and U.S. 41.8 percent). GEX charges 0.65 percent annually.

6. First Trust NASDAQ Clean Edge ETF (QCLN)

Launched in February 2007, QCLN follows the NASDAQ Clean Edge U.S. Liquid Series Index, which captures five subsectors of the alternative energy industry: renewable power generation, renewable fuels, energy storage and conversion, energy intelligence, and advanced energy-related materials. The 44 stocks in this basket are almost entirely small-caps. QCLN charges a 0.68 percent annual fee.