Pensions and Endowment Funds

One reason that January is even more important now than ever has to do with the way that the boards of pension funds and endowments — which control hundreds of billions of investment dollars — operate.

These boards took a long time to come around to the idea of buying “alternative investments,” which is industry jargon for hedge funds and private equity funds.

They ultimately did so in recent years in many cases either by buying directly into hedge funds or by buying into entities called “funds of funds,” which are investment pools that hold shares of up to 100 hedge funds.

The endowments and pension funds — such as the ones run at Harvard and Yale universities — have lost a lot in these funds, with their stakes down 20% to 50% or more, and many redeemed as much of their money as they could in the last three months.

These pension fund boards usually meet every three months, and make decisions at the start of the calendar quarters which subsequently take effect at the end of the quarter.

If these boards meet amid another market conflagration over the next few weeks, they are expected to react by putting in massive redemption requests again, and that will add more fuel to the fire.

This will accelerate the hedge fund deleveraging process that began last year. Due to this structural issue, a weak January would likely lead to an even weaker February.

Retailers Face Impending Bankruptcies

On the retail front, it looks like an extremely soft holiday shopping season will lead straight to Chapter 11 for many leading store chains. Analysts interviewed by the Wall Street Journal forecast that 10% to 25% of all retailers are in financial distress and in danger of turning to bankruptcy to settle their debts.

AlixPartners, a Michigan-based turnaround consulting firm, estimates that around 47 of the 182 large retailers it tracks are at risk of filing for Chapter 11 protection in 2009 or 2010. In past years, it was only seeing around 9 or 10 retailers at this level of risk at any given time.

Even if bankruptcy is not on the agenda, a lot of chains are likely to simply shut down outlets. The International Council of Shopping Centers reported last week that 148,000 stores will close in 2008, the most since 2001, and it predicted another 73,000 closures by July 2009. If accurate, this could help improve profitability for the individual retailers but will smash profits at mall operators, throw hundreds of thousands of people out of work and cause ripple effects among suppliers.

Although some mall REITs saw their trust units double or better since the November low, the industry is expecting the mall vacancy rates to hit nearly 13% by September, a 50% jump from this year. Rents, meanwhile, are expected to fall 7.3% next year after falling 2% this year, with no prospect of a second-half bounce.

The cause of all this pain is simply lower spending by consumers worried more about having the money to pay the rent than the humiliation of not having the most fashionable clothes. MasterCard reported last week that total retail sales fell 5.5% in November and 8% in December, year over year. The worst affected: retailers of electronics, appliances and luxury goods.

Retail Chains That Fared Better in 2008

My advisory services’ portfolios have steadfastly avoided retailers this year, fortunately. But this could change soon, because discount store chains are likely to be among the biggest beneficiaries of the big middle-class tax rebates that the incoming Obama Administration and Congress will try to enact. Some of these chains, such as Family Dollar (FDO), 99 Cents Stores (NDN) and WalMart (WMT) actually navigated 2008 quite well, as shown above. This is one trend that could very well continue into 2009 as another tax rebate is likely in the cards, and the stocks are not expensive.

On the Housing Front

Rates for 30-year mortgage loans have fallen sharply over the past two weeks, producing a wave of refinancing and home buying. According to Thomson data, mortgage refinancing was up 550% over the past four weeks through Friday while mortgage purchase activity was up 121%. A lot of this is expected to be cash-out deals, as people who still have equity in their homes squeeze some of the value out as a bridge during unemployment.

There was bad news on the housing front as well over the past week though, as the Office of the Comptroller of the Currency and the Office of Thrift Supervision showed only a slight improvement in the number of home foreclosures during the third quarter. The federal agencies reported that new home foreclosures declined 2.6% during the third quarter not because of improved conditions but because of new state moratoriums on foreclosures.

At the same time, loan quality began to deteriorate: Agencies reported that the percentage of current and performing loans fell to 91%, from 93%, during the quarter. And all those efforts to help aren’t working too well either. The federal report showed that more than half of the loans modified during the first quarter of 2008 fell back into delinquency after six months and were more than 30 days past due as of September 30.

This means that just modifying mortgage payment terms is not enough to offset the fact that most holders of junky mortgages can’t support them on virtually any terms. This situation has to improve before the housing and financial sectors can sustain a move higher. We have largely avoided banks and the home construction complex all year, and that will likely continue over the next few months.

Safe Bet

My portfolios’ sole bet in the area has been on investment-grade 30-year bonds backed by Fannie Mae and Freddie Mac, which are government guaranteed. The ETF tracking these bonds, the iShares Trust (MBB), above, has provided some capital appreciation as well as a solid 4.5% dividend. It’s still a buy.

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This article was written by Jon Markman, contributor to InvestorPlace Media. For more actionable insights likes this, visit www.InvestorPlace.com.