What does Dubai mean to you? (El-Erian in The Daily Telegraph )

Dubai: what the immediate future holds
Until last Wednesday, most investors saw Dubai as an attractive tourist destination, a regional financial centre and an example of what bold and visionary leadership can achieve.

By Mohamed A El-Erian
Published: 12:23AM GMT 29 Nov 2009

Some worried that Dubai's impressive achievements came with a debt burden that would prove difficult to sustain after last year's financial crisis.

This weekend, investors around the world are united in wondering "what does Dubai mean for me?"


At the local level, the standstill is an explicit recognition that the Emirate's debt and leverage levels cannot be sustained in what, at PIMCO, we have called the "new normal". The question for Dubai is now two-fold: can an orderly extension of debt payments be achieved; and how will this impact the risk premium that is attached to other economic and financial activities in the Emirate?

The key issue at the national level is how Abu Dhabi, the largest and richest of the seven UAE Emirates, will react. Here, it is a question of willingness. The leaders of Abu Dhabi must strike that delicate balance between using enormous wealth to support Dubai and ensuring appropriate burden sharing among those that repeatedly failed to heed Abu Dhabi's past warnings about the excesses in Dubai.

The regional dimension is captured by a word familiar to investors in emerging markets: "contagion". The immediate reaction of almost all markets (and too many commentators) is to lump together countries in the region that have very different characteristics. Witness how market measures of risk have surged for all the oil exporters in the region even though they share none of Dubai's debt and leverage characteristics.
At the global level, the Dubai announcement serves as a catalyst to take the froth off expensive financial markets. For the last few months, massive injections of liquidity (primarily by the US), aimed at limiting the adverse impact of the financial crisis on employment, have turbo-charged financial market valuations rather than make their way to the real economy. While many have worried about the generalised over-extension of equity markets, most have hesitated to take money off the table as there did not appear to be a catalyst to break the general "trend is your friend" mentality. Dubai is that catalyst.

So, what next?

First, it will take time to sort out the Dubai situation. Inevitably, this is an uncertain and protracted process that involves both on- and off-balance sheet exposures. It will cast a cloud not only on companies in the Emirate itself but also on institutions that have large exposures there, especially in the banking and real estate sectors.

Second, the immediate indiscriminate sell-off in regional (and emerging market) names will, over time, give way to greater differentiation based on economic and financial realities. Those with strong fundamentals will recover (including Abu Dhabi, Brazil, Kuwait, Qatar and Saudi Arabia) while others, including countries with large deficits and debt burdens in eastern/central/southern Europe, may come under more pressure.
Finally, and most importantly, Dubai serves as a warning to those that were quick to find comfort in the sharp market rally of the last few months. Since the summer, the appreciation of risk assets has been driven predominantly by artificial liquidity injections rather than fundamentals. The Dubai announcement is a reminder that a flood of government-induced liquidity cannot mask all excesses, all the time.
Investors should treat last Wednesday's announcement as an illustration of the lagged financial effects of the global financial crisis. The Dubai situation is no different than that facing commercial real estate in the US and UK.
Let Dubai be a reminder to all: last year's financial crisis was a consequential phenomenon whose lagged impact is yet to play out fully in the economic, financial, institutional and political arenas.

Mohamed A El-Erian is CEO and co-CIO of PIMCO, the investment management firm

Stocks - some realistic expectations (WSJ Opinion Page)

MARCH 30, 2009

How Long Until Stocks Bounce Back?
Even the best-case scenarios will require years.

By PETER J. TANOUS
Investors have breathed a world-wide sigh of relief in the waning weeks of March as equity markets have shown signs of upward vigor. The question now being bruited around the financial centers of the world is: Have we hit bottom?

No one really knows, but that is likely the wrong question. More important to investors than the date we hit bottom is how long the recovery will take. How long will it take for investors to recoup the losses they suffered since October 2007, when the S&P 500 index reached a record high of 1565? Here's a clue: It will take longer than you think. Let me explain.

Let's assume that we have already seen the market bottom and that it occurred on March 9, 2009, when the S&P 500 sank to 676. A return to the lofty level of 1565 reached 18 months earlier requires a stock market gain of 131%. How much time might that take? What if it took five years? I can hear the cries already: "Five years? To recoup the losses we sustained in only 18 months? That's terrible!"

We should be so lucky. You see, if we were to get back to the old high in five years, that would suggest an annual return of over 18% for that five year period. There are few periods in stock market history when the market rose 18% for five years. The last such period was in the late 1990s at the tail end of the Internet boom, which was followed by three years of consecutive stock market declines in 2000, 2001 and 2002. Given the history, a five-year recovery period, far from being terrible, is probably wishful thinking.

More realistically, what if, starting now, we began a munificent period of rising stock prices over a multiyear period of, say, 11% a year? If that happened, it would take eight years to get back to the October 2007 highs. To put all this in historical perspective, the average annual return for the S&P 500 over the past 83 years, since 1926, has been 9.7%. If the market rose at that historic rate, it would take more than nine years to get back to the October 2007 highs.

What is the lesson from these sobering statistics? The recovery in stock prices is likely to take much longer than we had hoped, and investors should taper their expectations accordingly. Raising the risk level of your investments to accelerate gains will set you up for even greater losses if your risky investments don't work out. Instead, allocate your assets wisely and be mindful of the risks in the different asset classes you choose.

The good news is that stocks will recover. It just may take longer than we expect.

Mr. Tanous is president and CEO of Lynx Investment Advisory LLC in Washington, D.C. He is the author of many books including "The End of Prosperity: How Higher Taxes Will Doom the Economy -- If We Let It Happen" (Threshold Editions, 2008), co-authored with Arthur Laffer and Stephen Moore.

Steps You Can Take in A Market Decline (WSJ)

THE INTELLIGENT INVESTOR MARCH 4, 2009
Tempest-Tossed? Take Some Control
By JASON ZWEIG

In normal times, the best advice after a market decline is "Don't be afraid." But these are not normal times, and anyone who is not afraid after a 50% market decline has a few screws loose. The trick is to channel your fear into sensible action that will improve your financial future.

Instead of big impulsive steps you may regret later, you should take small and careful steps that will make you feel you have taken charge. Mental-health experts have found that merely believing you have some control over a painful situation is enough to make the pain more bearable. At a time like this, taking a little bit of action can give you a lot of comfort -- both as an immediate salve for your market wounds today and as a portfolio strengthener in the years to come.

For investors, that means being deliberate in everything you do and making sure that all your decisions are gradual and incremental, rather than sudden and drastic. Call it "smart panic" -- calculated actions that free you from the chains of inertia without compelling you to go haywire.

Normally, inertia keeps investors locked into all their investments, good and bad. As Sir Isaac Newton might have put it, an investor at rest stays at rest, and an investor in motion stays in motion, unless acted upon by an outside force. Severe losses can shock any investor out of inertia, often in destructive ways.

Here is a list of constructive steps you can take instead:

Inventory all your assets. The stock market has lost half its value -- but chances are that when you properly measure the performance of all your investments, you will see that your portfolio as a whole is down considerably less. Use an Excel or Google spreadsheet, even just pencil and paper, to tally up all your cash, bonds, stocks, funds and other investments. Only by taking inventory of everything you own can you tell how well or poorly your wealth has held up. In the process, you will also see -- perhaps for the first time -- how well you are diversified. This advice may seem simplistic, but over the years I have met very prominent investors who actually have no idea what they own. If they could benefit from this step, so can you.

Get an upgrade. By erasing your capital gains, the bear market has taken away much of the tax liability that might have entrapped you in an overpriced mutual fund with an underperforming manager. Now you can ditch it and replace it with what you should have held all along: a low-cost index fund (or if you do not invest regularly each month, an exchange-traded fund). Steve Condon, investment director at Truepoint Inc., a wealth-advisory firm in Cincinnati, points out that this will not only lower your annual expenses and your tax bill, but is likely to raise your return when the stock market does recover. That's because the managers of active stock funds have raised their cash levels to an average of nearly 6% of assets, while index funds always keep all their assets in the market.

Change your new money, not your old money. In your 401(k), you could leave your existing positions in stock funds as they are. Bailing out completely is not the only option for reducing your exposure to stocks. You can take your new contributions from future paychecks and direct them into an investment-grade bond fund. You can always reverse this decision later; to make sure you remember, mark your calendar to review the choice one year from now.

Move your dividends. If you own a stock fund, you aren't obligated to reinvest your dividend distributions in more shares of the same fund. Instead, you can deposit them into a bond or money-market fund. That, says finance professor Meir Statman of Santa Clara University, may be less psychologically painful than having to dump the stock fund in its entirety. "You're turning the dividends into 'fresh money' that doesn't have the taint of loss," he says.


Move on tiptoe. If you can't take the pain of being in stocks anymore, then get out -- an inch at a time. Set up an automatic withdrawal plan with your mutual fund or brokerage account, selling a fixed dollar amount each month for, say, the next five years. Take comfort from the fact that you can stop it, decrease it or raise it at any time. Tiptoeing your way out is a move that's easy and cheap to change. Bailing out of the market in one fell swoop, however, is a step that's difficult and expensive to reverse. Besides the commissions you can face, there's a high psychological cost to the regret you may later incur from any impetuous action.

Sell stocks to erase debts. If you do move money out of the stock market, think first about what you should do with the proceeds. One of the smartest possible uses for the money: getting rid of your credit-card debt. With the interest rates on credit-card balances averaging 10% to 13%, this move gives you what New York City financial planner Gary Schatsky calls "an exceptionally high, guaranteed rate of return." According to the Federal Reserve Board, the median credit-card balance, among families that carry one, is $3,000. The median holding in stocks and mutual funds, on the other hand, was $73,000 in 2007. Let's assume that the value of those investments has since fallen by half, to $37,000. Then selling just 10% of their portfolio of stocks and funds would not only make many families feel better; it could get them out of credit-card debt. (With today's low mortgage rates, credit cards are the liability to attack first.)

Smarten up your cash. Designate the cash part of your portfolio as the "risk-free bucket." That way, you can know that at least one portion of your money will be absolutely safe. Allan Roth, a financial planner with WealthLogic LLC in Colorado Springs, Colo., points out that with inflation approaching zero, five-year certificates of deposits yielding up to 4.5% offer "a very high real return." (You can start your search for them at bankdeals.blogspot.com.) Make sure that the bank or credit union offering the CD is backed by the Federal Deposit Insurance Corp. or the National Credit Union Administration; double-check at www.fdic.gov or www.ncua.gov. Many investors don't realize that the FDIC and NCUA will insure an IRA separately for up to $250,000 if it is invested in a deposit account like a CD. Putting a high-yielding CD in a retirement vehicle is tax-smart, to boot.

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