Personal Finance Advice

CNBC reported earlier today that a bailout plan to rescue trouble bond insurer Ambac would be announced sometime early next week.  The news sparked a late rally on Wall Street even as investors cope with increasing signs of an economic slowdown.

Yesterday’s news that manufacturing activity was slowing as well as a bleak forecast on future economic growth had stocks trading down sharply until the CNBC report surfaced late in the afternoon.

There is a lot at stake for the financial sector in keeping Ambac and it’s rivals at their AAA rating level.  With the industry insuring over $2.4 Trillion in bonds that are in danger of being devalued, the ramifications of a ratings downgrade are incalculable. 

Already new bond issuance has slowed to a trickle and bonds that are being sold are doing so at sharply increased costs.  Municipalities are having an especially rough time of it, with many of them delaying their scheduled public works projects.

The biggest fear for investors is that a bond devaluation would lead to a new wave of write downs for an already beleaguered banking system.  Some analysts are estimating that bank write downs could go as high as $100 Billion.  It would pretty much signal a deathblow to any chance of our economy staying out of a recession.

Even with this bit of good news most analysts are remaining cautious.  The bond insurance industry still has a lot of exposure to sub prime debt that isn’t going to go away overnight.

As it has become increasingly difficult to find investments with positive gains, municipal bonds have begun to surge to the forefront. The yields on muni’s have become comparatively attractive in recent months due to a number of factors.

Although a shaky stock market tends to have investors fleeing into the warm embrace of the bond market, things are a little different this time around. The bond market is having it’s own little crisis at the moment.

Bond insurers are reeling from the fallout of the sub prime mortgage collapse with many firms in that industry having lost or are in danger of losing their AAA ratings. This has in turn added an aspect of volatility to a normally placid market.

This added uncertainty along with renewed fears of inflation, due to the Fed’s recent aggressive moves, have sent bond prices falling recently and yields up. These higher yields coupled with their tax free status have led many financial analysts to extol their virtues.

If anything, the recent troubles in the bond market have made muni’s even more attractive. While the short term risk has grown considerably, the long term risks are negligible.

This is due to the fact that historically, muni’s have a miniscule default rate, less than 0.01%. Even non AAA rated muni bonds have a lower default rate than their AAA rated coporate counterparts. As a long term investment, it’s one of the safest bets around.

2008 is shaping up to be a murky year for the economy and the stock market.  A turbulent end to 2007 has many analysts wondering if the long bull run might be over.  Investors will face many difficult choices on where to best put their money to good use.

While the bond market is often seen as a safe haven in troubled times, even it has it’s share of risk.  Fears of inflation coupled with a weak dollar, not to mention the impact of international involvement, could send long term rates soaring and bond prices tumbling next year.

Commodities markets seem highly favorable now with the prices of oil, food and gold skyrocketing this year. However, any analyst will tell you that these markets are highly volatile and that with the chance of high reward comes high risk.  So while this market makes a good hedge against inflation, you wouldn’t want to bet the farm on it because that’s what this market is, a gamble.

Most analysts tend to agree that tech stocks will perform comparatively better than other types of stocks even if the economy were to go into a recession.  But who can forget when the tech bubble burst earlier this decade and with many fleeing into tech stocks nowadays, investors might be bidding up prices to unreasonable levels.

While the housing market as well as finance stocks are down in the dumps at the moment, that may not always be the case.  Although I believe that these markets will continue to fall for at least the next six months, an investment in these depressed markets in the near future could be the springboard for substantial gains to your portfolio in future years.

What may seem like a smart decision now, might not be in a few years.  Now more than ever, it is important to maintain a long term view in your investment strategy.