WARM AND COZY RECOVERY

The dog needed to go out this morning and wasn't satisfied with the scents available in our fenced backyard. So, after some intense begging I agreed to take her for a walk in the neighborhood. Lots of dogs, activity, and aromas. But it was also 45 degrees! I beat a hasty retreat into the house in search of a polartec and socks. As I indulged her I remained warm and cozy, appreciative of the argyles that hadn't covered my feet in 6 months.

Investors and the media have been indulging their wishful thinking on an economic recovery and are starting to feel warm and cozy. Each economic datapoint is celebrated for its positive elements even though the actual statistic is terrible and proof positive that we are far from a healthy recovery. Bottoming is not necessarily indicative of an immediate, robust recovery. It's appropriate that companies have cut costs and driven down break-even points, but a recovery worthy of increased P/Es and rebounding stock prices should be driven by increases in sales volumes and adding staff. If the market overshot on the downside, maybe a slight bounce back was needed once it was determined that armageddon wasn't around the corner. But the move we've enjoyed since March is overdone, although it feels warm and toasty.

What's appropriate to invest in today? The same areas that have been prudent for the past six months. Defensive stocks that pay dividends, such as Waste Management and downscale companies like Aaron Rents. I write covered calls on holdings for current income and collect the dividends. Short term trades, on solid companies, as long as they stay trades, can garner a few dollars if the updraft continues. And with either a recovery coming or the recognition that the US isn't the credit it once was, inverse bonds have worked well and will continue to do so.

Rydex's Rising Rate Fund [RTPIX] moves inversely to the 10 year Treasury yield. As rates rise the fund increases in value, the opposite of normal bond prices. They accomplish this with hocus pocus, which is a little scary, but it has been effective. Rydex also has some double funds but I'd stay away from that much financial engineering. RTPIX dropped like a rock in mid March when the Fed said they were going to be supporting the real estate market by buying bonds. The price dropped about a dollar, but has since gone upward now that the 10 year is yielding 3.25%, up from about 2.50%. Fed announcements may push yields down again, but the longer term trend is upward. That's good for inverse funds.

The U.S. has a huge amount of debt outstanding and most of it is of rather short duration. Additionally the government will borrow another $2 trillion dollars to fund the current 2009 deficit! We currently have a Congressionally mandated debt limit of $12 trillion that will need to be raised later in 2009. Tax receipts are also going to be woefully short of projections due to lost employment, lack of capital gains, lower Wall Street incomes, and corporate earnings. Exporting economies and central banks have less reserves available for treasury purchases as economies around the world are suffering and must be supported. Competition for money and the recognition that the U.S. is not as credit worthy as it once was will pressure yields upward. I've had a RTPIX position and plan to keep it as rates are not going down. We don't need a recovery to cause rates to rise. RTPIX feels like my socks.