Financial Watch

It’s a time to take a lesson from the dot-com bubble during the 1990’s and learn where to profit from the next bubble. Even before the air is entirely lifted from the housing bubble investors are rushing to find a place for their money. It is being lead by a flood of money that went into alternative investments following the collapse of the stock markets earlier this decade. Hedge funds and private equity firms benefited most from the shift into alternative investments. Hedge funds may have peaked last year when easy money started to dry up as the Fed was raising interest rates. We are also seeing a rapid shift out of commodities that accounted for a disproportionate amount of the new money moving into hedge funds the last few years. Amaranth’s collapse earlier this summer when natural gas prices plunged from year ago levels raised concerns among investors about the safety of investing in hedge funds. This new level of scrutiny will surely cause some of the less stellar funds to close up shop. However as hedge funds pass their peak, private equity is running wild. Even most in the private equity markets believe that there is just too much money floating around.

Today’s proposed hostile takeover bid by U.S. Airways of Delta confirms this. In looking through the synergies of the deal, it may make sense for U.S. Airways to pattern with another carrier. The problem comes with how the deal is being structured. U.S. Airways has secured $4 billion from Citigroup to finance the deal. From any logical standpoint there is absolutely no way Citigroup will ever recoup their investment, much less make a profit from it. There is one rule that should be followed when investing in legacy air carriers’ don’t do it. Legacy carriers have had a good run and it may hold up for another couple years, but come the next downturn these same airlines thriving today will be back in bankruptcy court. Luckily for Citigroup there are still substantial hurdles ahead before any hostile merger between U.S. Airways and Delta takes place.

Looking ahead, we are at the start of a bull run in the stock market. During the last several years small cap stocks have outperformed large caps by a significant margin. Small caps were underpinned by strong economic growth and a lack of interest in the stock market among small investors. The U.S. economy has clearly slowed making it more difficult for small caps to grow their earnings fast enough to attract more capital. Further, next year many expect global growth to be stronger abroad than it here in the United States. Conglomerates such as General Electric, Microsoft, and IBM (all of which I personally own) should get a boost from both a falling dollar and better growth overseas. Second for the first time in many years we are seeing quality growth in the spending power of white-collar workers. Should the markets continue to steadily rise, as Financial Watch expects, more middle class households will return to the stock markets. It will take at least another six months to a year before small investors recognize the potential of this market, but once it happens look out. As Financial Watch has stated before the Dow should easily surpass 20,000 this decade.