Diversification is an important strategy to follow when investing in equity markets. It is especially important for retail investors who can least afford to lose hard-earned money. To be sure even professional money managers who run other people's money for a living use diversification to reduce risks. For example, many equity mutual fund managers hold 50 or even 100+ stocks in their fund portfolios to take advantage of diversification. However whether diversification can be only be achieved by holding that many stocks is beyond the scope of this article. In general, it is a wise idea to diversify one's portfolio across sectors, countries, asset classes, etc. This is especially important for long-term investors who monitor their holdings but do not trade often based on the gyrations of the market.

In order to fully gain the benefits of diversification it is important to hold a mixture of stocks and bonds of

By Robert Goldsborough

After years of underperformance, the battered United States financial sector has been off to a strong 2013, driven by continued good news from the housing industry and more gains from the stock market. But many of the same headwinds facing the sector are unchanged--starting with continued low interest rates (which will remain so for the foreseeable future) and the lower interest-rate-spread revenue that banks have accepted. Added regulation has meant another layer of costs for financial services companies, and counterparty relationships with European banks could mean losses for U.S. banks if Europe's banking system collapses.

Despite these headwinds, we see some attractive drivers that could continue giving a lift to the financial sector, even if rates remain low. Further macroeconomic improvements and lower unemployment rates should increase borrowing and repayment rates. Banks have cut costs in other places, including reducing staff and branch locations, which we believe

I feared this would happen. Peter Eavis has a column today about what his headline calls “Down Payment Rules”. Here’s his lede:

It seemed an easy fix to prevent the excesses of the housing market: make home buyers put more money down.

Read on, and you’ll find lots of talk about “down payment requirements”, “restrictions” on lenders, and whether “requiring a down payment” is a good idea or not, given that we want to both encourage homeownership and prevent systemic risk.

But the subject of Eavis’s column — something called the qualified residential mortgage, or QRM — was never designed to be “an easy fix to prevent the excesses of the housing market”. Rather, it was designed as a loophole to allow banks to wriggle out from an entirely sensible skin-in-the-game requirement.

I covered this subject in some depth back in June 2011, so go read that post

Bank earnings are up, but little confidence can be gained from the results. Citigroup (C) reported profits of $3.8 billion; Goldman (GS) had profits of $2.3 billion; and BofA (BAC) had profits of $2.6 billion.

In terms of return on equity: Goldman was the leader with a ROE of 12.4 percent; Citigroup was second with something under 5.0 percent; and BofA continues to have an ROE of substantially less than 2.0 percent. Everyone has a long way to go to cover their cost of capital and everyone seems to be searching for something solid in terms of banking performance. However, this seems to be evasive to all concerned.

Brian Moynihan, the Chief Executive Officer of Bank of America, gets the prize for the most blind optimism: "Solid increases in loan growth to small businesses and middle-market companies, four straight quarters of steady growth in mortgage originations, record earnings in

When we look back on this period of financial history, I wonder if it will not be called the "era of unintended consequences." I can think of lots more names for the era, some of them unprintable, but this one certainly applies.

I tend to think of unregulated markets as chaotic, but fundamentally structured. They tend to be efficient, although research has demonstrated that even completely free markets can produce bubbles and negative bubbles. But I really do believe in something like Adam Smith's "invisible hand," that leads the baker to make just enough bread without being told how many loaves to make. A farmer's market or third-world bazaar, although seemingly chaotic, still often manages to arrange itself so that most purveyors of similar goods end up in one general area.

However, when someone intervenes to organize the chaos, there is often an unintended consequence. A recent example

There's a bright golden haze on the meadow,

There's a bright golden haze on the meadow.

The Dow is as high as an elephant's eye,

An' it looks like it's climbin' clear up to the sky.

Oh what a beautiful morning!

Oh what a beautiful day.

It's far too pretty for trading,

So why don't we play golf today.

With apologies to Rodgers and Hammerstein, it appeared as if the lovely spring day in the Northeast took its toll on market activity Tuesday. It has always been the case that good weather tended to cause trading to slow, but as trader bonuses have gradually disconnected from performance over the last few years it seems as if the pattern has been accentuated. True, there wasn't much to trade on Tuesday, but in the past that didn't seem to matter quite so much.

That said, I won't stop at merely butchering show

Cyprus-style confiscation of depositor funds has been called the "new normal." Bail-in policies are appearing in multiple countries directing failing TBTF banks to convert the funds of "unsecured creditors" into capital, and those creditors, it turns out, include ordinary depositors. Even "secured" creditors, including state and local governments, may be at risk. Derivatives have "super-priority" status in bankruptcy, and Dodd-Frank precludes further taxpayer bailouts. In a big derivatives bust, there may be no collateral left for the creditors who are next in line.

Shock waves went around the world when the IMF, the EU, and the ECB not only approved but mandated the confiscation of depositor funds to "bail in" two bankrupt banks in Cyprus. A "bail-in" is a quantum leap beyond a bailout. When governments are no longer willing to use taxpayer money to bail out banks that have gambled away their capital, the banks are now being instructed

Ken Rogoff wrote a very interesting article on the mystery of low interest rates. He starts by going back to 2005 when Ben Bernanke blamed the "Global Savings Glut" for the unusually low (by historical standards) real interest rates in the world economy. His comment was a reaction to the conventional assumption that interest rates are determined by central banks. As Rogoff correctly argues:

I share Bernanke's instinct that, while central banks do set very short-term interest rates, they have virtually no influence over long-term real (inflation-adjusted) rates, other than a modest effect through portfolio management policies (for example, 'quantitative easing').

Interest rates should be seen as the price that clears a market where the supply of funds (saving) meets the demand for funds (investment). A shift in the global supply of funds through a combination of the aftermath of the Asian crisis, the reaction of oil-producing countries

Sens. Sherrod Brown (D-Ohio) and David Vitter (R-La.) have been working on a bill to block the largest banks and financial firms from receiving federal subsidies for being deemed Too Big to Fail. On Friday, a draft version of that bill was leaked to Tim Fernholz of Quartz, much to Vitter’s chagrin. So, what does the bill do?

Let’s start with what it doesn’t do: It doesn’t break up the big banks. Rather, it focuses on how much capital they have to hold to protect themselves from disasters and would “prohibit any further implementation of” the international Basel III accords on financial regulation.

But let’s back up. Banks hold capital to protect against losses. The more capital they hold, the safer they are from crisis. As Alan Greenspan said after the financial meltdown, “[t]he reason I raise the capital issue so often, is that, in a sense,

Three Federal Reserve District Banks (Kansas City, St. Louis, and Chicago) calculate and report statistical measures of financial stress in the U.S. economy on a regular basis. Today the Kansas City Fed updated its monthly Financial Stress Index for March (see full report here), and the other two indexes (both weekly) were both just recently updated for the last week of March. Now that all three Fed bank stress indexes are available for the full month of March, they appear together in the chart below from January 2004 to March 2013.

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Here's a summary of the March stress indexes:

1. The Kansas City Financial Stress Index (KCFSI), a monthly composite index of 11 variables reflecting stress in the U.S. financial system, fell in March to -0.63, which is the lowest index reading for the KCFSI since May 2007 (see blue line on chart). Negative values for

Confiscating the customer deposits in Cyprus banks, it seems, was not a one-off, desperate idea of a few eurozone "troika" officials scrambling to salvage their balance sheets. A joint paper by the U.S. Federal Deposit Insurance Corporation and the Bank of England dated Dec. 10, 2012, shows that these plans have been long in the making; that they originated with the G20 Financial Stability Board in Basel, Switzerland (discussed earlier here); and that the result will be to deliver clear title to the banks of depositor funds.

New Zealand has a similar directive, discussed in my last article here, indicating that this isn't just an emergency measure for troubled eurozone countries. New Zealand's Voxy reported on March 19:

The National Government [is] pushing a Cyprus-style solution to bank failure in New Zealand, which will see small depositors lose some of their savings to fund big bank bailouts...

By Ashish Shah

Investors continue to pour money into funds that invest in high-yield bank loans, reciting the numerous perceived advantages of this asset class. But investors' thirst for loans is encouraging borrowers to be aggressive, and the risks seem to be rising. Here are a couple of commonly cited benefits of high-yield bank loans, and our take on why they may not hold true.

"Since loans are higher than bonds in a company's capital structure, I'll be able to recover more of my investment if the company goes bankrupt."

That's seems like a nice idea, but specific loans may not have that advantage. The term to watch out for is "covenant-lite." Bank loans have traditionally offered lenders the protection of written covenants that require the borrower not to exceed a certain level of debt; lenders can negotiate a higher interest rate or even a restructuring if the company exceeds

There's an interesting video where several of the world's most esteemed monetary experts got together to honor ex Bank of England Governor Mervyn King, and in the process acknowledged they needed a financial mechanism that affects the general economy. They can't figure it out exactly, they just know finance is very important to the economy.

In the meantime, they continue to countenance, if not encourage, the persecution of banks. Every quarter there's a new lawsuit brought against the banks. The news Tuesday night was about the Libor scandal, which, surely needs punishment, but it's just getting old and the damages are unlimited, so banks are naturally wary. Can we fast track these things? Add to this that regulators are giving banks extra scrutiny for everything they do, and naturally most banks are afraid to lend. Thus, all this new money

Following the crisis in Cyprus, which I talked about here, there has been a question about how much stress the banks can take during a bank run before their liquidity is at stake. A typical bank balance sheet looks like this (Figure 1):

If the deposits get drained on the right side, the cash gets drained on the left side. The question is: How high is the limit of a drain on deposits? That's easy to tell. Either you look at the bank's reserve requirements or you look at their capital and reserves.

Let's analyze the bank reserve requirements first. This is the amount of cash reserves a bank needs to have as compared to the deposits and notes. Cyprus currently has a 7.5 billion euro contribution of deposits and loans. And the reserve requirements were only 2 billion euro (see

This post is the optimistic counterpart to my post yesterday, "Why Is Everyone So Gloomy?" Here are 18 charts, in no particular order, that document the economy's ongoing recovery. I think this amounts to a persuasive body of evidence supporting my belief that the economy is recovering, and growing, and likely to continue to do so for the foreseeable future. It's not a robust recovery, to be sure, but it is definitely a recovery and things are indeed getting better.

Housing starts as of February were up fully 70% from their 2010 year-end level. That comes after starts fell to their lowest level in recorded history, where they remained for almost three years. This allowed a huge reduction in the supply of new housing which likely corrected for the excess of housing that was built in the heydays leading up to the bursting of the

Today we abandon long-winded analysis and let some carefully selected graphics do the talking for us.

Déjà Vu Anyone?

After a 10-day streak of consecutive gains, you might be tempted to think that the stock market has shot up too far, too fast. Think again.

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At just over 50 trading days into the new year, the S&P 500 is up 9.29%. But at this point last year, the S&P 500 was actually up 11.76%. So the next time someone even tries to convince you that stocks have risen too far, too fast, I want you to whip out this chart.

Myth-Busting Runaway Gas Prices

Another common misperception is that gas prices have risen unreasonably fast. They're up about 16% since mid-December, so it's easy to understand why people would think that. But, as always, perception seldom matches reality.

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Per Deutsche Bank's Carl Riccadonna, "Gas