Monthly Archives: May 2010

ETFs Took a Pummeling During May 6 Glitch

Reuters is reporting that no one knows exactly what caused last week’s crazy market gyrations, although there are plenty of weird theories to go around. Personally I kinda like the space alien theory, although the fat finger theory has a certain lyrical quality too.

Approximately 10,000 trades were cancelled, but many traders were left on the hook for trades that were considered within bounds. The complaints from those left out in the cold will probably continue for some time. It appears a large number of people were caught by automated stop-loss orders that sold their positions out at or ┬ánear the bottom. According to former SEC Commissioner Roberta Kemel, there may be little recourse for those investors. Lawyers say that claimants would have to show “gross negligence” in order to have any kind of case.

SEC Chairman Mary Schapiro told the House Committee on Financial Services that ETFs were particularly hard hit by the chaos for reasons that “are still unclear”. More than 25 percent of all such funds lost at least half their value. One ETF sponsor told the SEC that 14 of its funds briefly traded for less than 15 cents a share.

This is the type of circumstance which highlights the downside of  index tracking passive management. It also exacerbates the issues surrounding leveraged investments and the narrow focus of some industry specific ETFs.

I think ETFs have been mischaracterized as a buy and hold investment, when in fact they were originally designed for active traders who wished to track an individual index or basket of stocks. They were always intended to be sold if the markets trended downward.

And heaven help anyone who was involved in any leveraged products, and didn’t understand what they were getting themselves into. I don’t think the industry has done a very good job of explaining these products to the average retail investor, and yet everywhere you see advisors pushing them as a low cost substitute for mutual funds and recommending ETFs for inclusion in buy and hold RRSP accounts. Not good.

Today’s lesson – a little knowledge can be an expensive thing.

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Filed under Dow Jones, ETFs, Nasdaq, Securities & Exchange Commision, Stock Market, Uncategorized

Computerized Mayhem on the Dow Jones

A thousand point drop in the Dow Jones is stomach wrenching enough to make the toughest investor queasy. A thousand point drop in moments is just mind numbingly inconceivable. How many of us just stood in front of our tv screens like we had just been smacked upside the head with a board?

Although it now seems likely that the excruciating market gyrations we watched today were probably as the result of human error and/or a technical glitch, it really begs the question, How could we not have systems in place to guard against this type of thing?

Our stock markets have become so globalized that any news in any part of the world impacts decisions at trading desks everywhere. We have reached the point where turmoil in Greece impacts the price of oil in Alberta, and the rising price of gold affects the softening Euro.

Then some guy wearing his tie too tight hits the wrong button, and the Dow Jones tanks in moments.

I have to admit it made for great visual theatre, but the whole fiasco does call into question the degree to which we now rely on automated computer algorithms, and how unstuck things can become before real humans can step in to reassert manual control over the system.

Perhaps we need a rethink about the glories of technology and it’s ability to run our lives. Or should that be “ruin our lives.”

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Filed under How It Works, Investing, Stock Market, Uncategorized

Rising Mortgage Rates

I have to admit I was a bit shocked today when someone asked me if they should lock in the interest rate on their mortgage .

Shocked mainly that they hadn’t already done it.

Historically mortgage rates have run in the 6% range, I’m talking 100 year averages here. So I consider it a general rule of thumb, that if mortgage rates are below 6% you are in bonus territory, and should lock in for as long as possible.

We are now just beginning the process of making a transition from a period of falling interest rates into what I think will be a fairly protracted period of gradually rising interest rates.

Now, I am not saying that I see rates rising to the levels we saw in the mid-eighties (god forbid) unless some unforseen financial crisis hits (of course that’ll never happen, right). But it is not unreasonable to expect to see mortgage rates climb into the 6-8% range in the next few years.

It is possible that there will be a political imperative which keeps rates lower than this, but honestly, with the mess the deficit mess the US is in, and the bumpy ride the Euro zone is going through, I can’t see the current low rate environment continuing indefinately.

So what to do?

Generally, in a rising interest rate environment you want to be locking in the low rates as long as you can, for as long as they exist.

In the opposite case, in a falling interest rate environment you want to be in short term, variable rate mortgages so that you can take advantage of savings as they occur.

But both scenarios have end points. This is where you must make a personal judgement call based on your own comfort zone. For myself, I called 5% the bottom, and considered anything offered less than 5% as bonus territory. This is probably true of many of us who struggled with 14 and 16% mortgages years ago.

But when mortgages are rising, when do I want to stop locking in, and go short term in hopes that rates will begin to fall again? This is tougher. What happens if you go variable and the rate shoots up to 16%? What a killer that would be. But do I take the chance on a variable if rates are 12% and I think they will fall?

I can only fall back on historical averages again. Personally I would probably only lock in for a year at a time once rates get higher than 8%. If rates go over 10% I am going to be looking to a variable mortgage, knowing that I am going to have to ride the rollercoaster until the rates fall again.

But you can be sure that once they fall, and eventually they will, I will again lock in for as long as I possibly can. Because I know, that one day interest rates will rise again.

And if you ever needed an argument for paying off your mortgage as quickly as possible – this is it.

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Filed under Economy, How It Works, Inflation, interest rates, mortgages, Saving, Uncategorized, US Debt