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Saturday, 19 March 2011

Time the Market at Your Peril

by Laura Rowley

Stocks have been fluctuating sharply since the Japan earthquake, tsunami and subsequent nuclear crisis. As Peter Cardillo, chief market economist at Avalon Partners, told the Associated Press Tuesday: "It's a situation where you sell, and you ask questions later," he said. That's why it may be helpful to look at what happened to investors who bailed out during the last sharp market decline.

T. Rowe Price recently did an analysis of investor returns based on the financial crisis in the fall of 2008. On Oct. 6, a well-known television commentator (unnamed in the analysis) advised viewers to take any money out of the stock market they might need in the next five years and put it into safe-haven investments. The analysis assumed investors who heeded this advice on that day shifted their money in short-term Treasury bills. T. Rowe Price then compared those returns to stocks and a diversified portfolio through Dec. 31, 2010.

U.S. stocks indeed continued to fall for the next six months before sharply rebounding. Between Oct. 6, 2008 and Dec. 31, 2010, short-term Treasury bills returned 0.4 percent; U.S. stocks (invested in the S&P 500 Index), 25.3 percent; and a diversified portfolio, 13.4 percent. The diversified portfolio contained 20 percent stocks (S&P 500); 50 percent bonds (Barclays Capital U.S. Aggregate Index); and 30 percent cash (Barclays Capital 1-3 month T-Bill Index).

Although the fluctuations of the past week provoke a discomforting sense of déjà vu, "you can't evaluate your strategy based on what happened in 2008," says Stuart Ritter, a T. Rowe Price financial planner. "Imagine I asked you to randomly pull a card from a deck and guess if it's a two or not. You would likely guess that it's not a two — that makes logical sense — but the two's are still in the deck, and once in a while they come out. That doesn't change every card in the deck to a two. Prior to 2008, investors had to decide to make a plan based on a huge bear market or not a huge bear market — and if you look historically most of the time we have not had a huge bear market. But they're out there."

But what about the Wall Street traders I knew who started shifting their funds to cash in the spring of 2008, before the market meltdown? They may have been right, Ritter says, but the consequences of not getting the timing just right can wreak havoc on a portfolio. Many investors who tried to time the market bailed after the greater part of the decline and missed out on a substantial rebound.

"The asset allocation in your portfolio gives you a balance between lots of growth and short-term stability," he says. "There's a direct tradeoff between the two. If you want more growth, you'll have less stability and vice versa. The way to determine the appropriate balance is by looking at the time horizon. If it's 15 years or more, you should have most of your money in equities because the biggest risk is not having enough money to pay for your goal."

Ritter recommends that people who need their assets in five years allocate their money in line with the diversified portfolio described above, and shift into cash two years before the money is needed. More conservative investors can substitute additional savings for market exposure. "It's not about how much you can make in the market — it's about the goal," he says. "If you need a $30,000 down payment to buy that house in five years, and you're able to save the money in two, you're done" and can shift the money to cash if the market gives you jitters. "It's not about putting your chips back on the color red and letting it ride."

I have to admit that after covering the stock market's twists and turns for 15 years — including the Asian market meltdown in 1998, the bursting of the Internet bubble in 2001 and the 2008 freefall — I've become more conservative. Just two-thirds of my retirement portfolio is invested in stocks, although I won't need the money for 20 years. I've compensated for that conservative approach by maxing out my retirement savings each year.

As Ritter puts it, "The more money you have saved and the sooner you have it saved the more options you have. You're not depending on someone else to come through with something; you're not as worried about the things you can't control."

I agree with Ritter, which is why I found the recent advice of one of his colleagues profoundly dangerous. T. Rowe Price senior financial planner Christine Fahlund suggested baby boomers could stop saving so much for retirement and indulge more on vacations, home renovations and the like right now. The tradeoff: They have to work until age 70, instead of retiring at age 62 when they become eligible for Social Security.

Fahlund's plan has two big flaws: You have to stay healthy, and you have to stay employed — certainly not a guarantee for most people these days. A 2010 survey of retirees by the Employee Benefit Research Institute (EBRI) found that 41 percent of respondents left the workforce sooner than they had expected. Of that group, more than one in four cited changes at their companies, including downsizing or closure.

Separately, the Department of Health and Human Services reported in December that more than one-quarter of Americans have two or more chronic conditions that require continuing medical care and limit their abilities. They include conditions such as heart disease, diabetes, high blood pressure and arthritis. Among Americans over 65, two-thirds have multiple chronic conditions. They are not likely the best candidates for full-time work. In fact, in 2010, just 16 percent of that population worked at all — with about half, or 8 percent, working full time.

Last year EBRI found that more than 40 percent of baby boomers are at risk of not being able to meet "basic" retirement expenses and uninsured health care costs. People don't need another excuse to avoid saving for retirement. To achieve long-term wealth, stick with the fundamentals: Save consistently, allocate appropriately and don't try to time the market.

How to Stash $1 Million+ in Savings

by Jessica L. Anderson

Dane Lacey, 49, a radiologist from San Diego, has saved nearly $1.4 million for retirement in eight years by living below his means.

Did you always have a goal to front-load your savings? Yes. I want to retire when I am still young enough to travel, hike and body surf. It was a race for me to put a large amount away so that I could enjoy it. I knew that if I got it in early, it could grow.

You've been in practice for 14 years. Why the big push for the past eight? During the tech bubble, I put every cent into Cisco and other tech stocks. Within two years, I had accumulated $300,000, while I was living on about $35,000 a year. I went on vacation and came back to find that my $300,000 was worth $10,000 because the bubble had burst. So I started over at age 41.

How did you make it happen? As a resident physician, you get paid about $26,000 a year for four years. Then when you're in practice, you start making big money. My first job paid $220,000 a year, so I had all this money coming in, but I didn't feel like I needed that much. I live in a small bungalow and drive a Chrysler PT Cruiser. I decided to live on what I was making before and just pay myself a little bit more each year. It would seem like a pay raise but still allow me to put a lot away for retirement.

In at least two of the past eight years, you contributed more than $250,000 to retirement savings. How did you do that? Until recently I worked as a navy contractor, and I was basically self-employed, so I was able to save more money in tax-deferred retirement accounts than the average employee. In addition to funding my 401(k) account, I established a traditional defined-benefit pension plan for my business, which allowed me to contribute as much as $240,000 in one year. I used any excess money to pay down my mortgage or to add to personal savings and my IRA.

How do you manage your money? I used to keep all my money with a Merrill Lynch manager, who invested it in mutual funds. The approach was diversified, but he wasn't as aggressive as I wanted to be. Three years ago, I diversified my money managers as well, and I split the money in the defined-benefit plan in half. My guy at Merrill Lynch invests in mutual funds with half of the money, and I have a guy at Schwab who invests in stocks with the other half. It has given me peace of mind that I'm not basing my future on one person's decisions or one company's philosophy.

How did you learn to be so disciplined? My parents were very good with money and taught my brothers and me to be responsible. At age 14, we were required to get a job and budget our money. We budgeted for clothing, college, and room and board (which went into a college account), and we kept 20%. My family instilled good financial sense in me — your salary is for day-to-day expenses, and anything to play with, you work extra for. I don't borrow, except for my mortgage, and I pay my credit cards off every month.

What is your best advice for savers? Save first and pay yourself later. If you pay yourself first and then try to save, your standard of living will always adjust up to what you're making, and you're not going to have money left to put in savings. Figure out a goal and what you need to save for that, and then keep the rest.

Now that you've saved so much, what's next? Although I want to have the money to retire locked up by age 50, the savings habit is so ingrained in me that I'll probably just keep saving the way I have been and look at retiring early and getting out of the rat race. I plan on having a second career in retirement, something to get up to do every day, but without the responsibilities of being a physician. I'd be happy living a more comfortable lifestyle, although not a rich one. Still, I've always said that when I turn 50, I'll buy a doctor's car — a BMW or a Mercedes.
Copyrighted, Kiplinger Washington Editors, Inc.

Tuesday, 15 March 2011

Motive for Stock Leak Can Be Respect, Love

Testimony in Galleon Case Shows Greed Isn't Everything

Blame it on the money. On the love. Or just a primal need to be liked.

As testimony began last week in the Raj Rajaratnam insider-trading trial, the question hanging over the courtroom was why rich, powerful people would leak inside information and risk going to jail for it.

Some answers started to emerge in the testimony of 52-year-old Anil Kumar, who served as a technology adviser for the prestigious consultancy McKinsey & Co.

Greed appears to be a top motivator for Mr. Kumar and others, testimony and court documents show. But other less-obvious factors seemed to have played a role for the sources of Galleon Group's Mr. Rajaratnam, including friendship, romance and a yearning for greater respect.

Speaking eruditely, with a pained, hangdog expression, Mr. Kumar described his descent from the pinnacle of the business world to become a self-admitted felon aiding Mr. Rajaratnam.

He described how Mr. Rajaratnam, a longtime friend, praised his insight regarding technology companies. "You have such good knowledge that is worth a lot of money to me," he said he was told by Mr. Rajaratnam, who urged him to accept pay as a "private" consultant.

Mr. Kumar relented "after some discussions" and decided to accept $2 million in payments, some through an offshore account under his housekeeper's name, he testified. Mr. Kumar, who pleaded guilty to conspiracy and securities fraud, will take the witness stand again on Monday.

While varied motives for insider trading by Mr. Rajaratnam's alleged conspirators may surface at trial, they aren't necessarily legally relevant, says C. Evan Stewart, a partner at Zuckerman Spaeder LLP in New York. "It's the question, 'Did you do it?' " he says, not if "you have a good intention or a bad intention. You passed it along to your mother because you love your mother...So what?"

Still, jurors and spectators are left to wonder. "The jurors are weighing the motivation of every witness who is testifying...to weave a compelling version of what happened," says lawyer Andrew Stoltman, who isn't involved in the case.

Lawyers for Messrs. Rajaratnam and Kumar declined to comment.

When Rajiv Goel, a 52-year-old former manager in Intel Corp.'s treasury department (NASDAQ: INTC - News), testifies later in the trial, he is likely to say that his motivation for giving inside tips about Intel was his 25-year friendship with Mr. Rajaratnam.

Earlier he explained his behavior. "I knew it was wrong," he said at a Feb. 8, 2010, hearing where he pleaded guilty to conspiracy and securities fraud. "I gave Raj the information because of my friendship with him."

The defense seized on that friendship to explain why Mr. Rajaratnam gave Mr. Goel hundreds of thousands of dollars. Mr. Rajaratnam wasn't paying for illegal information, the defense said."He was like a brother to Raj," Mr. Rajaratnam's lawyer, John Dowd, said in his opening statement last week.

In 2005, when Mr. Goel asked for a loan for a down payment on his house, Mr. Rajaratnam gave him $100,000, Mr. Dowd said. The next year, Mr. Goel called Mr. Rajaratnam from India and said he was sleeping on the floor of a hospital where his father was ill. Mr. Rajaratnam sent $500,000 to help repair his father's apartment, Mr. Dowd said.

"He asked Raj for help...Goel did nothing in return," Mr. Dowd said.

In the case of Robert Moffat, 54, formerly one of the top executives at International Business Machines Corp. (NYSE: IBM - News), money doesn't seem to have been a motivation—something both his lawyers and prosecutors agree on.

The motive "was not venal and profit-driven," lawyers for Mr. Moffat wrote in a request to a judge regarding his sentencing last August. Mr. Moffat, who isn't expected to testify in the trial, pleaded guilty to passing on confidential information about two companies, including his own, to former hedge-fund manager Danielle Chiesi.

"Perhaps his ego got in the way by making him want to impress someone with whom he had become intimate. Perhaps he just wanted to seem knowledgeable and worldly," Mr. Moffat's lawyers said in the request to the judge. Lawyers for Mr. Moffat and Ms. Chiesi declined to comment.

The two had met in 2002, when Mr. Moffat was "devastated" by his mother's death and moved his family back to the northeast from North Carolina, his lawyers said.

"Ms. Chiesi...was unabashed in telling Bob her ideas about what IBM should do to best present itself to the investment community," they wrote, adding that "apparently Ms. Chiesi ingratiated herself with many corporate executives to pry confidential information from them."

Over time, their relationship became "an intimate one," causing Mr. Moffat, who was married with four children and had spent his entire career at IBM, "to lose sight of the principles he had lived by," the lawyers wrote.

Mr. Moffat, in his own letter to the judge, blamed "a misguided desire to appear important and knowledgeable, and to show Ms. Chiesi that I was 'in the know.' "

Prosecutors agreed that he did it for the 45-year-old Ms. Chiesi, and not money, but said he nonetheless should serve time. In convincing a judge to give him six months in prison, they said the executive had "put his personal interests above his job."

"Moffat's crimes," they wrote in a court filing, "were surely committed out of arrogance and a misguided belief that he could never be caught."

Mr. Moffat, who earned $11.2 million in 2009 at IBM, is serving six months in a Brooklyn jail.

For her part, Ms. Chiesi, who pleaded guilty to conspiracy to commit securities fraud in January, has told people in private conversation that she met with Mr. Rajaratnam because she was flattered he wanted to talk shop with her. She hasn't been sentenced.

An Easier Way to Bet on the Next Facebook

Good news for wealthy investors looking to get in on the ground floor of the next Facebook or Twitter: The risky but potentially lucrative world of "angel" investing is getting easier to navigate, and tax breaks are making it more attractive.

Angel investors put money in privately held, high-growth start-up companies.

In the past year, the number of investing groups catering to angel investors has jumped by 13%, to 340, according to the Angel Capital Education Foundation, an education and research group. Many of the groups make the process easier by allowing investors to share the work of researching particular investments.

Just be warned: Angel investing can be devilishly dicey. While the basic requirement is that investors be "accredited," having a $1 million net worth excluding the value of their primary residence, they also should have the stomach for blowups.

In a recent study done with a researcher at the Federal Reserve Bank of Atlanta, , a banking and finance professor at the University of Tennessee-Knoxville, examined roughly 400 completed angel investments that lasted at least a year and found that more than 100 ended with the company going out of business, handing those investors an average annual return of minus-93%.

But the returns can be extraordinary if the ventures succeed. Another 180 investments in Mr. DeGennaro's study were ultimately bought by other companies, giving their investors average annual returns of 84%.

A rule of thumb: Angel investors should be prepared to have their money tied up for seven to 10 years. And angel investments should make up no more than 5% of a wealthy person's overall portfolio, says , a financial adviser in Exton, Penn., who last year began putting some clients into the investments.

Angel investing is rebounding from its financial-crisis doldrums, researchers say. In the first half of 2010, investors committed fewer dollars in this niche than the same period a year earlier but spread them across a larger number of deals. Angel investments totaled $8.5 billion across 25,200 ventures in the first half of last year, a 6.5% decline in dollars but a 3% increase in deals from the same period a year earlier, according to the Center for Venture Research at the University of New Hampshire. While final 2010 data aren't yet available, it appears that total angel investment has ticked up from 2009, says , the center's director.

With the federal and state governments looking to spark job growth, angel investors can take advantage of an expanding set of tax breaks on small-business investments. Under a law enacted late last year, investors won't have to pay any capital-gains tax on certain small-business stock they acquire before the start of next year. The stock must be held for more than five years, among other requirements.

A number of states also have enacted tax breaks for angel investors recently—and in some cases, you don't need to live in the state to benefit. Minnesota, for example, last year began offering a 25% tax credit for certain investments in small businesses headquartered in the state. Out-of-state investors who don't have any Minnesota tax liability can get a refund from the state. The state tax credit helped build momentum for the Minnesota Angel Network to launch earlier this year, says , the group's executive director.

Angel groups can be anything from casual get-togethers to more formal organizations that charge dues and have paid directors. While each member tends to stay actively involved in investing his own cash, rather than delegating the work to a fund manager, group membership can in many ways smooth the process for angel investors.

The Minnesota Angel Network, for example, will put entrepreneurs through preparation "similar to martial-arts school" before they have any interaction with potential investors, Mr. Leonard says. That preliminary work includes having mentors review the business plan and financials, he says, and it should help reduce risk and save time for investors shopping for deals through the network.

Another benefit of such networks is visibility. While entrepreneurs may have a tough time finding individual angel investors, they will have no problem finding the larger groups, says Mr. DeGennaro, who is also a member of an angel group based in Nashville, Tenn. A small team within the group rigorously screens potential investments, he says, presenting fewer than 10% of them to the broader group of angels. That way, the larger group can spend more time reviewing high-quality deals rather than sifting through piles of mediocre ideas.

The local groups are key because more than 90% of angel investing is done within half a day's travel time of the investor's home, Mr. Sohl says. A list of angel groups by region is available on the Angel Capital Education Foundation's website, www.angelcapitaleducation.org.

While most angel investing remains local, broader networks also are popping up. AngelList, launched last year, is a free online community that connects qualified angel investors around the world with entrepreneurs. The site allows investors to collect data on a broad swath of start-ups seeking investment and anonymously ask questions of the entrepreneurs, says , AngelList's co-founder.

Other strategies to tone down risk in angel investing include being very selective but also diversified, experts say. Only one or two of every 10 investments will generate any significant return, Mr. Sohl says. Given the risk, "don't do it unless you'll make 10 or 20 investments over time," Mr. Ravikant says. Since $25,000 is generally a starting point for angel investments, that requires plenty of cash to spread around.

Sunday, 13 March 2011

Busting Retirement Myths

by Linda Stern

Our nation's retirement system is a hot topic. In addition to frequent surveys finding that Americans are ill-prepared and worried about retirement, there are statehouse disputes about whether public pensions are too fat.

There is debate in Washington on how to fix Social Security, and if that is even necessary. And policy wonks, including some in the Treasury Department, are discussing how to tinker with 401(k) plans to make them better.

In the midst of all that talk -- but not, at this point, much action -- it seems worth examining some of the assumptions underlying the debate. It turns out they may not all be true.

Here are a few candidates for "Mythbusters."

Everyone used to have a pension. That is far from the truth. Until pension law changed in 1974, companies used to require decades of vesting for employees; many folks spent 15 or 20 years on the job and were let go just before they vested. So while they technically "had" a pension, they never reaped the rewards. And workers who spend their careers at small businesses or changing jobs every few years were cut out of those fixed-benefit pensions. According to data from the Employee Benefit Research Institute (EBRI), traditional pension benefits may have peaked in 1991, with 37.1 percent of people over the age of 65 receiving income from private or public pensions. In 2009, that figure had fallen only a bit, to 34.5 percent. So, historically, only a minority of retirees have ever received that vaunted monthly pension.

Annuities are the answer. The Obama Administration may soon propose rules that would make it easier for employers to offer workers guaranteed annuities in exchange for their 401(k) balances, according to J. Mark Iwry, deputy assistant secretary for retirement and health policy at the U.S. Department of the Treasury. "We can offer guidance and remove impediments" he said at a retirement policy conference of the National Institute on Retirement Security. That had to be music to the ears of the insurance industry folks who were there: They make a lot of money on annuities, which take a lump sum of money and turn it into guaranteed income for life.

But here's the problem with annuities: Some of them are fee-laden and expensive. And retirees who annuitize too much of their money may be trading away the kind of flexibility they need in case of emergencies. Having a monthly income guaranteed for life might be nice, but it doesn't really reflect the irregular way in which people typically spend money in retirement. The solution? Consider annuitizing only 15 percent to 20 percent of your nest egg, suggests EBRI's Dallas Salisbury. And when you do, find a reasonably priced annuity.

We need a new program. Some thinkers suggest that we need a new savings program -- something between 401(k) accounts and guaranteed pensions. Something that requires automatic investments and guaranteed income for life. Ahem ... isn't that what Social Security is? We already have Social Security, 401(k), 403(b), public pensions, private pensions, deductible Individual Retirement Accounts, nondeductible IRAs, Roth IRAs, Roth 401(k)s, and SIMPLE, SEP and Keogh accounts for the self-employed, and I've probably forgotten a few. The one piece that's missing for most workers is professional money management in their 401(k) accounts. Employers and policymakers could fix that by allowing workers to buy into existing programs with their retirement funds.

You're doomed. Make no mistake: You will never regret saving too much for retirement. The more you have, the more life style options you have. But what typically happens in retirement is not that a person runs out of money and gets kicked to the curb. A more likely scenario is that they spend less, eat at home more, skip the trips and tighten their belts as they go. They can still enjoy family and friends and everyday life even if they don't have the same disposable income as before.

Social Security -- which isn't going away soon -- has saved many people from the alarming pet-food scenarios that were more prevalent a generation ago. People who completely run out of money and can't support themselves are typically older and in need of expensive care that regular retirement savings and annuity payments aren't typically sufficient to cover for too long. There are answers for that, too, but they'll have to wait for a future column.

Friday, 11 March 2011

How Recent Disasters Affected Markets and Economies

The biggest earthquake to hit Japan in 140 years has killed at least 44 people and sent stock markets across the globe sharply lower, while the yen and oil prices also fell.

The quake was followed closely by a 10-metre tsunami and auto plants, electronics factories and oil refineries were shut across large parts of the country. The death toll is expected to rise.

Several airports, including Tokyo's Narita, were closed and rail services halted. All of the country's ports were closed.

While it is still very early to tell what the impact of the Japanese earthquake will be, it is likely that the events will not derail the country's stock market over the longer term, Olgerd Eichler, co-head of asset management at MainFirst Asset Management, told CNBC Friday.

The disaster is another challenge to Japan's recovery, but it may provide a jolt to the economy over the short term, Lawrence Summers, president emeritus of Harvard University and former director of the White House National Economic Council, told CNBC.

Historically, big disasters have rarely caused big drops in stock markets immediately after they happened, but their consequences on the economies and markets were felt long after.

Following the Asian Tsunami of 2004, which killed more than 230,000 people in 14 countries, markets in Indonesia and India ended the trading week after the tsunami over 1 percent higher, while the Thai and Malaysian markets were little changed.

Sri Lanka's market fell sharply immediately after the disaster, than got most of the lost ground back later, ending the week down about 4 percent.

The greatest sector hit in Asia in 2004 hit was tourism. The tsunami had far less economic impact because of the extreme poverty of the region, according to the Associated Press.

Hurricane Katrina

Another major disaster, Hurricane Katrina, that hit New Orleans in August 2005 and killed more than 1,300 people, was not only one of the most deadly hurricanes in history, but also one of the costliest.

It is estimated that the cost to the US economy of Hurricane Katrina was $45.15 billion, according to the Insurance Information Institute.

Around 400,000 jobs were lost, economic growth for the second half of the year was trimmed by a full percentage and oil supplies were severely affected. But Hurricane Katrina had little effect on the performance of the New York Stock Exchange in the two months following.

On the day Hurrican Katrina hit Louisiana, August 29th 2005, crude oil prices on the New York Mercantile Exchange closed at $67.20 a barrel, up 1.6 percent, after touching a high of $70.80 a barrel in earlier electronic trading.

New Zealand, Australia

Another country hard hit by earthquakes recently is New Zealand, which was under tsunami alert after Friday's earthquake but was later removed.

The country is just recovering from its own devastating earthquake that hit at the end of last month, killing at least 75 people.

The country's NZX 50 stock index fell 0.7 percent and the New Zealand dollar plunged by nearly 2 percent against the greenback after the quake in February.

But its effects are still felt throughout the economy and earlier this week the New Zealand central bank cut its main rate by 50 basis points to 2.5 percent to a record low to deal with them.

Insurers are still calculating the costs of that quake, while analysts said it may hit the government's plans to consolidate its finances. Another earthquake, which hit New Zealand in September last year, caused damages worth around $3.7 billion.

Australia was also hit by disastrous floods at the beginning of the year, and markets were not immediately affected, with Australian stocks - except for insurers - rising in the days after the floors.

But stocks and the Australian dollar were hit later in January by the government's announcement that it wants to raise $1.8 billion from taxes to help foot the estimated $5.6 billion reconstruction bill.

In January 2010, Haiti was hit by its worst earthquake in 200 years, which killed 316,000 people.

An Inter-American Development Bank study estimated that the total cost of the disaster was up to $14 billion, but global markets did not take a big hit on the day of the quake. The Dow actually finished the day slightly higher.

Iceland's Volcano

The eruption of the Eyjafjallajoekull volcano in Iceland on April 15, 2010, forced the closing of European air space for a week.

Airlines requested aid from the European Union to help them deal with the economic disaster.

According to the IATA (the International Air Transport Association), companies saw about $1.7 billion of business lost from the eruption.

The ash cloud forced the cancellation of 30 percent of scheduled flights, affecting an average of 1.2 million passengers a day.

However, airline values dropped by only 4.94 percent during the first three days after European air space closed. European airlines lost 7 percent of their value on average during the nine days when European air space was partially closed.

Other transport companies benefitted as passengers looked for alternatives to flying.

The Eurostar saw huge demand from passengers, saying it carried 50,000 extra passengers on the first two days of the volcanic ash cloud - an increase of nearly a third.

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