Thomas J. Feeney's  Instablog

I was saddened last week to learn of the death of Alan Abelson, long-time editor of Barron's. Although I fell from the ranks of subscribers years ago, I have for many years enjoyed picking up the magazine when I would happen upon it and quickly reading Alan's Up and Down Wall Street column. It would invariably prove entertaining - and usually education if he were writing about broad market themes rather than individual securities.

Alan had a droll wit and regularly directed heavy doses of sarcasm toward purveyors of Wall Street's common wisdom. He recognized and criticized the tendency of investors and advisors alike to fall in love with whatever had been moving aggressively upward. And he wielded an especially derisive pen toward marketers of securities products with unsound valuations. Those who read Alan's columns over the years came away with a comprehensive understanding of sound investing principles.

Relatively early on in my investment career, I had the good fortune to get to know Alan. Having founded Marathon Asset Management Co., now a part of Mission Management & Trust Co., in the mid-1980s, I was in my first years as a Registered Investment Advisor. Alan came across one of my articles and published it in Barron's. Writing essentially for Marathon's clients, I was surprised that my work had attracted the attention of one of the preeminent scribes in the world of financial journalism. Only later did I learn from others far more familiar with the difficulty of getting published how fortunate I was to have been published nationally early in an investment career and without a publicist.

I met Alan only once in his New York office, but we interacted by phone from time to time. He quoted me in his column occasionally, once sent a photographer and interviewer to my La Jolla office and even saw fit to put me on Barron's cover page one week. His belief in the president of a young company lent Marathon a credibility that helped us to grow. It is with appreciation, respect and sadness that I note his passing.

Mission's new formularized equity allocation processes, initially introduced in last year's third quarter commentary, have produced increased profits for clients who have chosen to adopt them. Although this won't always be the case, each transaction produced a profit in the first quarter. The full benefit accrued to those who adopted the processes in last year's fourth quarter. Those who began at various points in the first quarter received more benefit the longer they employed the processes.

Economic conditions throughout most of the world continue to deteriorate. Europe's recession is deepening. Emerging countries that have led the world recovery since 2008's crisis are slowing perceptibly. Japan's economy remains in the doldrums. The U.S. is experiencing its most sluggish recovery since World War II. Sluggishness prevails despite world central bankers pumping far more new money into the banking system than ever before. Despite years of aggressive stimulus, economies are not picking up steam. In fact, recent economic deterioration has provoked central bankers to even more virulent stimulus.

Most of the world's major stock markets have performed poorly this year. The two striking exceptions have been the U.S. and Japan, whose central banks have each committed to unlimited quantitative easing. Aggressive stimulus has not revived their economies but has powered their stock markets. That divergence will not go on indefinitely. The open question is whether the economies will pick up or whether the stock markets will falter. The failure of stimulus elsewhere argues against the likelihood of economic revival, but it's not impossible. Multi-century history similarly suggests that it's unlikely that major nations will be able to print their way out of debt crisis without considerable collateral damage. Mission's new equity allocation processes recognize the difficulty that faces the Fed, yet present opportunities to benefit should market strength continue, without assuming the risks that a permanent equity position presents.

The picture is similarly unattractive on the fixed income front. The Fed has directed its stimulus effort toward driving interest rates as close to zero as possible. That endeavor has provided artificially strong bond market returns for years. Rates on most fixed income securities are now at or close to all-time lows. While the Fed continues its commitment to hold rates near rock bottom for the foreseeable future, a growing chorus of critics is arguing that the unintended consequences of the policy will outweigh its benefits. Some of those critics come from the ranks of Fed governors themselves. Virtually all fixed income analysts agree that interest rates will rise from these levels sooner or later, doing damage to prices of all fixed income securities except those with the very shortest maturities. To earn anything more than a minimal interest rate return, rates must decline even further. While that remains possible, despite already historic low yields, the potential losses from rising rates far exceed the potential rewards from declining rates. Slightly rising rates in the first quarter led to losses on longer maturity fixed income instruments. Such losses could become far more severe should rates rise more aggressively.

As a hedge against the long-term inflationary effects of excessive money printing, we have held a small gold position for several quarters. As we have said throughout that holding period, there is no way to compute an "appropriate" gold price based solely on fundamental factors. Gold's price is primarily determined by investor sentiment. We acquired a 3% gold position in late-2011, indicating at that time that we would add to that position only if prices declined further. Prices instead rose. When it appeared that gold prices were unlikely to break to new highs, we scaled back by taking profits on part of that position near gold's 2012 high prices. Declining gold prices took a little out of first quarter performance. We will build a larger position if the current decline continues, especially if prices move significantly lower.

The year ahead will likely present a great many twists and turns. Most critical will be whether or not investors retain the belief that central bankers are capable of overcoming deteriorating economic fundamentals. Governments have been winning that battle over the last few years, but risk levels remain extremely high.

Another country bites the dust.

The dominant news item this week is that Cyprus has reached the point of no return without a financial rescue. By itself, the failure of such a tiny economy would have virtually no effect on the broader world economy, notwithstanding the tremendous pain inflicted on direct creditors of the government or the country's banks. Cyprus's economy is roughly the size of Vermont's. How this local crisis unfolds, however, could have far wider repercussions.

The banking system in Cyprus is far larger relative to the size of the economy (about eight times) than comparables in the rest of the world. The United States banking system, for example, is about the same size as the country's GDP. Cyprus's banks bet heavily on Greek debt, trusting that rescues ultimately would produce big profits. On the contrary, losses were huge when Greek debt was restructured.

Eurozone monetary authorities have proposed a rescue plan, but have insisted that Cyprus's banks bear a sizable part of the financial burden. The initial plan, since rejected by the legislature, was to tax bank deposits up to 100,000 euros at 6.75% and above 100,000 euros at 9.9%. Depositors both large and small screamed at such confiscation, especially because-at least at the lower level-deposits had been guaranteed, much as deposits in the United States are guaranteed by the FDIC.

Russia is expressing heavy displeasure, its citizens having deposited an estimated $12 billion in Cypriot banks. Many in the Eurozone suspect that much of that money may be the product of "Russian Mafia" activities. Understandably, that suspicion lessens Eurozone members' willingness to contribute to a bailout.

Unable to deal with the problem expeditiously, Cyprus has closed its banks until at least next Tuesday. A primary concern is that open bank doors might lead to runs on the banks. An even greater concern throughout the Eurozone is that depositors in financially challenged larger countries like Spain and Italy might begin to pull assets out of their domestic banks. In an already precarious financial situation, the last thing heavily indebted countries want to see are pictures on the nightly news of lines of scared depositors streaming down the sidewalks outside major banks. Such fears can become highly contagious.

Following the rejected tax on depositors, several proposed solutions have emerged, including tapping public pension funds. There is no clear Plan B. Hope remains strong, however, that the other members of the Eurozone will ultimately pony up needed rescue money, rather than allow Cyprus to drop out of the 17 nation monetary union.

It is not at all clear which is the more powerful force: antipathy of Eurozone members toward providing more rescue money or fear of unknown consequences should Cyprus have to leave the union. Should they leave, revalue their old currency and begin to recover, there could be a parade of others-led by Greece-that start down the same path.

While acknowledging that Cyprus's default would barely register on the world financial scale, my first reaction was that this could be today's version of the assassination of the Archduke Ferdinand, which line I used at a meeting yesterday. I thought it was a clever analogy until I heard two others use it today on financial TV. Let's instead wonder whether Cyprus could be the canary in the coal mine.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.