Taking a step back, it is not very difficult to recall events that could be considered to be ‘Black Swans’ in the past few years. Let’s put together a list of such events -

• Hurricane Katrina
• The World Trade Center bombing
• The earthquake in Haiti
• The tsunami in South-East Asia
• The earthquake and the resulting tsunami in Japan

These events in and out of themselves can be considered to be Black Swans. However, given that these events have occurred in a span of a decade, it makes you wonder if the definition of the Black Swan needs to be changed. I will not even get into the other Black Swan type events that have occurred in other areas such as the economy, finance etc.

If there is a common thread that connects these tragedies, it would be our inability, as humankind to cope with these events in a timely, effective manner. Haiti is still recovering from its devastating earthquake. New Orleans is still a ghost of its former self. Japan will most likely take years to rebuild – if a nuclear disaster can be averted. Developed countries often like to talk about law and order, their level of preparedness to deal with situations, the safety of their cities etc. However, these events expose just how fragile civilization can be.

This begs another question. What if a bigger event were to occur in a developed country? The world has become so interconnected over the past few decades that it can be argued that we are citizens of a global metropolis. Proper functioning of every part of the global metropolis is required for the global economy to work. As Japan continues to deal with its tragedy, an important cog in the global supply chain has been impacted. A meltdown would impact this global supply chain in a manner which, arguably, could take years to recover.

Another situation, which is now developing under the radar of most people is in the middle east. A butterfly which flapped its wings in Tunisia threatens to bring the global economy to a standstill if the supply of oil is disrupted. How prepared are we as a people? Do we need to reconsider our procedures and safety measures? What alternatives do we have and what level of disruption can we handle? Do these events underscore that we need to be self reliant on many levels or should we continue specializing ourselves to infinity?

• A decline in the housing market? No problem!
• European debt crisis? Old news!
• Sub-par earnings or revenue numbers? Heard that every quarter!
• An uninspiring holiday season? That is so last year!

Multiple expansion was the only focus of the market. Indeed, over the past few months, the P/E ratio of the S&P rose to 23.5 from 20 – a 17.5% expansion. The S&P on the other hand rose from about 1075 to 1290, a 20% move. This means that the earnings increase has been a MUCH smaller part of the market move than investor expectation and in some part – investor euphoria. Lets take a look at the investor euphoria that has welcomed 2011.

The consensus bullish sentiment as measured by Consensus Inc measured 72% to welcome 2011. The AAII sentiment had almost 56% of its responders feeling bullish with a mere 18% feeling bearish. Are we sensing something here? The bullish percent on the S&P 500 was 86% and a full 90% of the shares on the S&P 500 were trading above there 50 day moving average and an even greater percentage, 91%, trading above their 200 day moving average. It sure looks to me that the eggnog that the investors were drinking over the holiday season might have been spiked!

Now for a dose of reality -

• The recent earnings numbers coming out have been less than inspiring. For the first time in the last 6 quarters, the stocks have stopped moving higher through the earnings season. While the earnings season has not yet come to an end, this is something to be concerned about.
• China has a serious inflation problem – and so does India and Brazil and most other countries we look to as ‘savior’s of the American way of life’. As these countries start tightening their monetary policy, the results for countries relying on China to buy their exports such as Canada and Australia, or on those countries exporting inflation such as American and the EU will feel the pinch. Exports from Canada and Australia will likely slow while the U.S. and the E.U. will likely have to stop supporting the concept of a welfare state as the bond yields start spiking higher.

Now to be fair, I am not suggesting you pull your money out and stuff it into your mattress. What I am suggesting is that, there is room for a pause, and perhaps a correction lower – in the range of 1200 on the S&P and 12,000 on the TSX. This will help shake us investors out of the eggnog induced coma and help us start focusing on the reality so that we can all start looking at the markets in a more constructive manner. The 3rd year of the presidential cycle has produced positive returns for the markets since 1939, and there is a high probability we will be higher by the year’s end.

- See what others see, think what others don’t.

Thanks to names like Northern Dynasty and Titanium Metals, these picks significantly outperformed the S&P 500. It is interesting to note that most of these names underperformed the index until the 4th quarter. However, patience is often rewarded.

I will not be able to post specific names for 2011, so I will try to outline sectors which I feel have a chance of doing well in the future posts.

Wishing you a Happy and Prosperous New Year!

What struck me as odd was the U.S. rhetoric about the Canadian oil sands. It has been no secret that the Obama administration has never looked at the oil sands in a positive light. However, three facts remain clear.

1. Canada is the largest exporter of oil to the U.S.
2. With the exception of Mexico, none of the countries between #2 – #6 particularly like the U.S.
3. Mexico’s oil production has been on a sharp decline recently

Regimes like Saudi Arabia, Nigeria and Iraq are a hot bed of terrorism. Venezuela has a dictator who openly detests the U.S. If the U.S. had a choice between dirty oil and dirty regimes, I would like to think that they choose the former.

In 2010 America ended up paying $101.7 billion to Nigeria, Saudi, Venezuela and Iraq combined. $101.7 billion can buy a lot of AK47s, IEDs, and bazookas. Either start using natural gas, or choose to send your money north. Get smart America!

It would appear that the Canadian bankers do not want to achieve short term glory by sacrificing long term stability.

For the capitalists out there, would you rather be making money by targeting 5% of the population or 95% of the population? On the brighter side, the cost of advertising might come down!

I am beginning to think that we are likely going to be headed for a correction very soon. Here are my reasons:

• The Black Friday sales numbers were expected to be strong, +2%, but the actual print was 0.3%.
• The volatility index has started spiking recently after bottoming at 18.
• There are increasing signs that China’s inflation problems might be getting out of control. The country will do everything it can to contain the inflation and the direct loser is all things commodities.
• The amount of money waiting to be deployed by mutual funds is around 4%. I doubt this represents big support.
• Jobs are not coming back to the U.S. any time soon.

Lets see how the holiday season unfolds. Be sure to keep a watchful eye on the markets. The waters might be getting rough for the bulls. It is easy to see that gold and silver will continue doing well in this environment.

Rino was the 2nd company this year to be alleged of misreporting earnings. In Rino’s case, they booked revenue on contracts that they hadn’t even entered into. The other company that comes to mind is Duoyan Global Water (NYSE: DGW). These sort of companies should serve as a lesson to investors that there is nothing better than doing due diligence on every investment you make.

The importance of using professional money managers also becomes important in this case since most of these professionals meet with the company management before committing money to them. In addition to the fancy growth rates, the management has to pass the ‘smell’ test. If it looks like a rose, but smells like something else, it ain’t a rose.

The story –

Rino mess gets muddier

The mud is only getting deeper for Rino.

Rino International (RINO), the Nasdaq-traded Chinese maker of steelmaking emissions gear, said Thursday that investors shouldn’t go relying on its public financial statements for the past two years and change.

A sinking feeling

The statement comes a week after shares in the company plunged following a report by a Hong Kong-based short-seller and research firm called, um, Muddy Waters, alleging that Rino’s financial statements were essentially made up out of whole cloth.

The story -

Rino responded by saying it would look into the matter, and a filing with the Securities and Exchange Commission Thursday indicates the probe isn’t going well, at least if you happen to own Rino shares.

The conclusion of the Board that the financial statements for the above-described periods should not be relied upon was based on statements made by the Registrant’s Chief Executive Officer, Mr. Zou Dejun, after consultation with the Registrant’s Chief Accountant, who reported to the Board that the Registrant did not enter into two contracts for which it reported revenue during the Registrant’s 2008 and 2009 fiscal years.

Three of the Registrant’s Board members, including the Chairman of its Audit Committee and Chief Executive Officer, discussed the foregoing matters with the Registrant’s independent accountant on November 16 and 17, 2010.The Registrant’s Board has authorized its Audit Committee to take all steps necessary to investigate the matters set forth above and other allegations of misstatements, and address any deficiencies found, including authorization to engage an outside law firm to conduct an independent investigation with the assistance of such other professionals as it may require.

So that’s where that stands. Rino shares were halted Thursday at $6.07, down 78% this year, and are likely to remain so for some time.

From: http://finance.fortune.cnn.com/2010/11/19/rino-mess-gets-muddier

Going forward, I will refrain from posting about any specific stocks, but try to keep my posts more macroeconomic in nature. I will also try to start posting general learning principles on here as well to help those looking to get started in equity valuations.

Keep an eye out for new posts starting soon!