My best reckoning in January was that 2011 would be a catch-up year and that U.S. equities should perform well. This proved to be the case in the first quarter. But, investors need to analyze what’s happening and challenge their expectations every quarter. Even though things seem to be working just fine, we must constantly reassess and ask, like former New York Mayor Koch, “How am I doing?”

So, how are we doing? Has anything changed over the past quarter? Yes, actually the “overweight everything” investment process is officially over. That easy trade to overweight all risky assets ran its course. Look at the first-quarter performance of the S&P 500 and you’ll see in late February when the market started to slip, well before the sell-off that followed Japan’s earthquake on March 11.

The winding down of QE2 is behind this shift. QE2 brought stability to the markets and made it possible for investors to overweight everything. When Fed Chairman Ben Bernanke began talking about a second round of quantitative easing measures last September, he essentially gave investors a free “floor” underneath the stock market. Promising to buy $600 billion in Treasuries was his way of reassuring investors not to worry about the negative economic data we saw last August or the possibility of a double-dip recession. He made sure the bond market would not riot and encouraged investors to trade their safe-haven fixed income assets for riskier assets.

Our central bank’s campaign of buying Treasuries to hold down interest rates will expire in June. But to stave off any synchronized rush for the exits, and to ease any withdrawal in the aftermath, count on Ben to drag out the end of “QE2” over at least three acts.

Act One could come as early as Wednesday, when Bernanke will end a policy meeting with an unprecedented press conference and get coy with reporters. To smooth the transition, he’s expected to detail plans to reinvest maturing securities and interest back into the Treasury and mortgage markets, which will help keep the Fed’s balance sheet big and indulgent for a while longer.

Next, if the economy continues to thrive after it’s taken off life support, the Fed might begin to let maturing securities roll off its books. “This passive contraction in the Fed’s balance sheet will likely be a prelude to explicit tightening,” notes one well known economist and chief market strategist. Only then will the Fed begin to unload securities or raise short-term interest rates—a final act that could be more than a year away. Source, in part, Barrons and Reuters.

Standard & Poor’s Ratings Services Inc. cut its outlook on the United States of America to negative, increasing the likelihood of a potential downgrade from its triple-A rating, as the path from large budget deficits and rising government debt remains unclear. “More than two years after the beginning of the recent crisis, U.S. policy makers have still not agreed on how to reverse recent fiscal deterioration or address longer-term fiscal pressures,” S&P credit analyst Nikola G. Swann said. He said the rating agency puts the chance of a U.S. downgrade within two years at least one-in-three.

S&P said “We believe there is a significant risk that Congressional negotiations could result in no agreement on a medium-term fiscal strategy until after the fall 2012 Congressional and Presidential elections. If so, the first budget proposal that could include related measures would be Budget 2014 (for the fiscal year beginning Oct. 1, 2013), and we believe a delay beyond that time is possible,” S&P added. Source: S&P.

S&P’s time line is very much in line with my past comments projecting a financial crisis that may occur in 2015 (plus or minus two years).

“Plans are only good intentions unless they immediately degenerate into hard work.”

— Peter Drucker

This weekend, my wife Jo Anne and I visited Washington DC to visit my daughter Jennifer. We attended Easter church services at the National Cathedral. If you have the opportunity to attend a church service or visit, I strongly recommend it. The National Cathedral is a true treasure and the 6th largest cathedral in the world. My most vivid memory, other than the immensity of the building: the procession at the beginning. It lasted at least 7 minutes comprising of the symbols, relics, and local heads of two different churches, two choirs, banners and two groups of assistants.

There was something else I noted in my trip to DC. The trees there are FULL and all flowering bushes are in full bloom. I returned home to the Lehigh Valley to find the trees here still mostly barren and harsh looking. We are at least 3 weeks behind at this point.

Relishing the present instead of fretting about the future, the U.S. stock market snapped out of its recent indifference, snagged its first gain in three weeks and climbed toward its highest level of 2011.

Living in the now is easy when General Electric (GE) and Intel (INTC) are reporting surging profits. Apple’s (AAPL) income jumped 95% as it overtook Nokia (NOK) as the largest handset provider by revenue, while companies ranging from Qualcomm (QCOM) to United Technologies (UTX) told investors to expect even better earnings this year.

Of the 137 companies in the Standard & Poor’s 500 that have reported first-quarter results, three out of four have beaten profit forecasts—better than the 17-year average near 62%—while just 14% have missed their marks, says Thomson Reuters. Profits are coming in 8% higher than analysts expected—well above the longer-term average outperformance of 2%, though less than the 9% margin by which they were trumping targets the past four quarters. An impressive 69% also beat revenue expectations, with sales coming in 2% better than forecast.

So, the market barely flinched when S&P cut its outlook on U.S. debt from “stable” to “negative,” which paves the way for a future downgrade. Is it because we now see rating agencies as toothless and belated staters of the obvious? Traders expect Washington to take a token—though showy—stab at slowing the rise in our national debt, but not making a real dent for years. That would still favor equities versus government debt. Says Jan Loeys, JPMorgan’s global head of asset allocation: “Governments’ muddle-through approach is a negative for their bonds, but is not bad enough to destroy economies and equity markets.”

So where does that leave us? Money managers love proclaiming that they’re long-term investors and not market-timers, but lately that’s a lie. Anyone sitting on stock-market gains and angling for more are, like Cinderella, dancing with their eyes on the clock. We want to wring the most out of this party, but leave before the bill for this revelry comes due. So we scour the credit markets for signs of a loss of confidence and economic-momentum gauges for the first whiff of a turn, while we watch commodity costs climb toward the day when the crowds might cringe.

With the stock market closed for Good Friday, the Dow Jones Industrial Average ended last week up 164, or 1.3%, to 12,506, its highest finish since June 2008. The S&P 500 added 18, or 1.3%, to 1337, the highest since Feb. 18. The Nasdaq Composite Index jumped 56, or 2%, to 2820, while the Russell 2000 added 11 points, or 1.3%, to 846. Crude oil also rebounded, while gold rose to a new record at $1,503 an ounce.

A year ago, the stock market began a 16% correction, as our central bank wound down its quantitative-easing campaign, dubbed QE1, and as Europe’s debt crisis flared and business confidence plunged. The consensus now believes our economy is on a stronger footing and thus better able to withstand the end of QE2 this June. It helps that employers are hiring anew, and the rush to pay down debt has started to slow, which will allow consumers to spend more of what they earn. But we’re still keeping our eyes peeled for the first sign of trouble, just in case.

Today, cash in money-market mutual funds stands at 17.4% of what Ned Davis Research reckons is the market value of all common stocks, down from 47% in March 2009. “That still leaves a lot of savings the Fed perhaps wants to force into the stock market,” Davis writes, “but I think it’s fair to say the really anxious buyers of stock have already acted.” While Main Street seems vexed by $4.00 gasoline and creeping food inflation, the latest Conference Board survey shows that CEO confidence at the highest in seven years. At these levels, it’s hard to argue that corporate confidence isn’t increasingly priced into the market. So if CEO confidence starts to flag, watch out. Until then, Davis argues, the overall evidence “continues to lean bullish”—no doubt for now (Source: Barrons Online).

“The first one gets the oyster, the second gets the shell.”

– Andrew Carnegie

QUESTION: I want to gift my son $5,000 for him to contribute to his IRA. Does it matter when I give him the money to do this?

ANSWER: Yes, there is an advantage to making the IRA contributions as early as possible, and thus lengthening the deferral period. This point is best demonstrated by an example. It should be noted that, although the following example assumes a traditional IRA, the principle of tax deferral on earnings also applies to the Roth IRA. Further, the Roth IRA has the advantage that qualified distributions will be tax free.

Example:
Ed begins to make annual contributions to a traditional IRA when he is age 30. He invests $5,000 each year until he reaches age 60. The IRA grows at 8 percent each year. If Ed makes these contributions at the beginning of the year, the IRA will equal $611,729 at age 60; if made at the end of the year, the IRA will equal $566,416. The difference is substantial, $ 45,313.

Rates of return are for illustration purposes only. No guaranteed result is implied. Feel free to contact me if you or someone you know has this type of situation. Financial Planning and tax planning advice presented here is general in nature, and individual circumstances make applying these general rules tricky; thus, the above answer cannot be applied to all circumstances because the slightest variation could cause a different outcome.

Yesterday, my wife Jo Anne continued our tradition of assembling family and friends for a traditional Italian dinner on Palm Sunday. Jo Anne’s version: homemade (durum semolina flour) pasta with her own meatballs with plenty of good red wine. I applaud her energy. She made many pounds of pasta and dozens of meatballs for a total of 32 people. And, there were no leftovers – a sure sign of a success in the eyes of an Italian cook.

Last week there were many more NEGATIVE than POSITIVE developments, and the many stock markets around the world declined.

Below is a succinct list of last week’s events:

Positives:
1) Retail Sales in March were good, notwithstanding rising gasoline and food prices
2) NY mfr’g survey in April rises to 1-year high
3) Apr Univ. of Michigan confidence bounces 2 pts from lowest level since Nov ’09 with still elevated 1 yr inflation expectations
4) China reports stronger than expected Q1 GDP, retail sales and IP

Negatives:
1) US CPI rises 2.7% y/o/y, most since Dec ’09 and Import Prices rise 9.7% y/o/y
2) Initial Jobless Claims rise back above 400k for the 1st time since early March
3) Higher than expected trade deficit and lower than expected rise in business inventories send Q1 GDP forecasts down to around 2%
4) NFIB small business optimism index falls to 5 month low as price pressures rise, and plans to hire, expectations of better economy and better sales fall. Cap ex component did rise
5) Soft start to Q1 earnings season as seen with AA, JPM, GOOG and BAC
6) Yields in Greece, Portugal, Ireland and Spain all rise as clock ticks on inevitable timing of Greek debt restructuring. Greek 2 yr yield up 225 bps on the week and CDS goes to record high
7) Gold at record high, direct indictment of Fed policy
8) China reports stronger than expected higher than forecasted CPI and PPI.

Source: The Big Picture