Is it just me, or has the Wall Street Journal really gone downhill since Rupert Murdoch took it over.
I used to love reading it. The quality of its content and the breadth of its coverage was magnificent.
Now, it is just a fancied up daily with color pictures of sensational events, lousy writing, and crappy editing.
I figured he wasn't stupid enough to mess with an institution when he bought it. How dumb was I! Lesson learned. Thanks alot Rup.
RIP WSJ.
Thursday, July 30, 2009
Friday, July 24, 2009
Filling The Cascade Gap
I am a little surprised to see the market running so hard, so quickly after enduring the shock and awe that hit us in October and November of 2008, and the numbing malaise that laid us flat in Feb/March 2009. I can understand a big bounce off the bottom, given the magnitude of the decline, but then I would have expected the market to consolidate its gain and move forward in a more measured manner (especially given the cloudiness of the future). Strangely, this does not appear to be happening. Which leads me to think, maybe we haven't learnt anything from our recent brush with pure, unadulterated risk.
In trying to interpret these movements, the thought occurs to me that maybe as the Feb/March cascade was anomalous (and I think it was), perhaps the cascade move below 1200 in Oct/Nov was also anomalous (I'm not so sure about that). If that were so, then in essence, the market made not one, but two really big mistakes in risk assessment. And if that were the case, then we could possibly see a super spike back to 1200 to backfill the market's mistake. Such a thought is a red rag to the bulls, and a repudiation to anyone concerned with market efficiency and conservatism.
In trying to interpret these movements, the thought occurs to me that maybe as the Feb/March cascade was anomalous (and I think it was), perhaps the cascade move below 1200 in Oct/Nov was also anomalous (I'm not so sure about that). If that were so, then in essence, the market made not one, but two really big mistakes in risk assessment. And if that were the case, then we could possibly see a super spike back to 1200 to backfill the market's mistake. Such a thought is a red rag to the bulls, and a repudiation to anyone concerned with market efficiency and conservatism.
A Little Economic Reality
What has been achieved by this recession? What problems/issues/imbalances have been resolved by the crisis/recession? What has changed in the system/institutions/market as a result of the financial crisis and recession?
My answer to those questions, is not much. Not much has changed. For all intents and purposes, the stimulus and emergency monetary measures have failed to allow the economy to clear (markets cleared, but are now showing strong signs of amnesia). The instability of the economy and the financial markets is greater now than prior to the onset of the financial crisis and recession.
As far as I can tell, the legacy of this crisis is heightened moral hazard, heightened financial risk and heightened economic risk - not to mention higher taxes, greater regulation. We have compounded our problems. We haven't resolved anything. As such we have simply deferred our day of reckoning...again.
For the time being, the market is flashing the all clear sign. This is going to be interesting. We'll all bowl back into the market, only to find out we were chasing ourselves. And should have known better.
My answer to those questions, is not much. Not much has changed. For all intents and purposes, the stimulus and emergency monetary measures have failed to allow the economy to clear (markets cleared, but are now showing strong signs of amnesia). The instability of the economy and the financial markets is greater now than prior to the onset of the financial crisis and recession.
As far as I can tell, the legacy of this crisis is heightened moral hazard, heightened financial risk and heightened economic risk - not to mention higher taxes, greater regulation. We have compounded our problems. We haven't resolved anything. As such we have simply deferred our day of reckoning...again.
For the time being, the market is flashing the all clear sign. This is going to be interesting. We'll all bowl back into the market, only to find out we were chasing ourselves. And should have known better.
Don't Get In The Way Of A Charging Bull!
The market has got a head of steam up.
You could throw any piece of news at this market right now, and it'll devour it through rose-tinted lenses. It ain't thinking right. Will cooler heads prevail? I doubt it.
We're scaling that wall of worry, sucking in all those who are bearish and skeptical (and there are alot of them). Recovery is the only thing in the sights and minds of investors...until it isn't ("Got to get with the program or be left behind").
At what point will economic reality smack the market in the face? Hard to tell. It looks like pretty clear sailing through to the end of the year - generally positive economic data, stimulus monies and monetary stimulus hitting the economy.
More on that economic reality in another post.
You could throw any piece of news at this market right now, and it'll devour it through rose-tinted lenses. It ain't thinking right. Will cooler heads prevail? I doubt it.
We're scaling that wall of worry, sucking in all those who are bearish and skeptical (and there are alot of them). Recovery is the only thing in the sights and minds of investors...until it isn't ("Got to get with the program or be left behind").
At what point will economic reality smack the market in the face? Hard to tell. It looks like pretty clear sailing through to the end of the year - generally positive economic data, stimulus monies and monetary stimulus hitting the economy.
More on that economic reality in another post.
Thursday, July 23, 2009
Exuberant Irrationalism...And How Far It Can Run
Market up and running. Got to cover. We're nearly 12% off the 875 support floor on the S&P in less than two weeks.
Number of technicians point to 1020 or somewhere around there as the next resistance point. That's only 4.5% from where we are.
The fundamental underpinning to this rally, which is gaining momentum, is the palpable sense that the recession is over. Whether you believe that or not, and whether you believe the future is bright or not, is not factoring into the equation right now. You've got to get with the crowd or be crushed.
Earnings are generally better, but they are still very mixed. But the market has decided it is willing to take a leap of faith.
My sense is that most investors/traders are going back to their 2002-03 experience, and using that as their playbook.
P.S. If it turns out that we are genuinely on the road to recovery, I can't help but think we are now more likely than ever to repeat the mistakes of the past AND in much shorter order. In other words, the illusion of growth will return, the market will go up, and we'll come asunder again - probably within the next five years. The reason is the foundation is rotten and we haven't addressed our underlying problems.
Number of technicians point to 1020 or somewhere around there as the next resistance point. That's only 4.5% from where we are.
The fundamental underpinning to this rally, which is gaining momentum, is the palpable sense that the recession is over. Whether you believe that or not, and whether you believe the future is bright or not, is not factoring into the equation right now. You've got to get with the crowd or be crushed.
Earnings are generally better, but they are still very mixed. But the market has decided it is willing to take a leap of faith.
My sense is that most investors/traders are going back to their 2002-03 experience, and using that as their playbook.
P.S. If it turns out that we are genuinely on the road to recovery, I can't help but think we are now more likely than ever to repeat the mistakes of the past AND in much shorter order. In other words, the illusion of growth will return, the market will go up, and we'll come asunder again - probably within the next five years. The reason is the foundation is rotten and we haven't addressed our underlying problems.
Friday, July 17, 2009
So What Is The Right Proportion?
So what is the right proportion? WRT "proportion," I am referring to the appropriate fall in asset prices given the decline in fundamentals. To answer that question, I think it is somewhat helpful to reverse engineer a fair market value for the stock market based on the fall in corporate revenues (and profits), and the fact that the market was overvalued at the peak (ie. risk premium was way too low).
To do this I work off the following assumptions. Public company revenues have fallen somewhere between 20%-30%. Public company profits have fallen somewhere between 15%-25% (stripping out financial write-offs). If I adjust for the undervaluation of risk at the peak of the market, and multiply those declines by say a factor of 1.7x, then I think a case could be made that S&P 500 fair value is somewhere around 1040. Peak S&P 500 = 1576. Decline in profits = -20%. Multiplier applied to decline in profits given the undervaluation of risk = 1.7x. Calculation: -20% x 1.7 = -34%. 1576 - 34% = 1040. All this is saying is, that the market should probably have only fallen about 34% given the decline in fundamentals. The fudge factor, of course, is the risk adjustment multiplier, and its level all depends on how overvalued you think the market was at its peak. And, of course, markets overshoot (both up and down).
The tricky task is in our business is marrying the economic fundamentals with an appropriate multiple for asset prices, adjusted for a reasonable risk factor. Previously, I looked at fair value for the market from a bottoms-up perspective (looking at normalized earnings) and put it somewhere around 900-950 ($60 normalized earnings x 15x = 900). What is confusing me at the moment, however, is determining whether to apply a higher or lower risk factor to the future (ie. what multiple to apply). In many ways I can see where a higher risk factor should be inputed (greater chance for fiscal and monetary policy error, higher taxes, lower consumption, structural shift, etc.), but in other ways I can see where a lower risk factor is warranted given that we have overshot fair value.
All of this speculation is independent of what actually happens in the future, which will tell us (in hindsight) what side of the risk factor I should have fallen on.
To do this I work off the following assumptions. Public company revenues have fallen somewhere between 20%-30%. Public company profits have fallen somewhere between 15%-25% (stripping out financial write-offs). If I adjust for the undervaluation of risk at the peak of the market, and multiply those declines by say a factor of 1.7x, then I think a case could be made that S&P 500 fair value is somewhere around 1040. Peak S&P 500 = 1576. Decline in profits = -20%. Multiplier applied to decline in profits given the undervaluation of risk = 1.7x. Calculation: -20% x 1.7 = -34%. 1576 - 34% = 1040. All this is saying is, that the market should probably have only fallen about 34% given the decline in fundamentals. The fudge factor, of course, is the risk adjustment multiplier, and its level all depends on how overvalued you think the market was at its peak. And, of course, markets overshoot (both up and down).
The tricky task is in our business is marrying the economic fundamentals with an appropriate multiple for asset prices, adjusted for a reasonable risk factor. Previously, I looked at fair value for the market from a bottoms-up perspective (looking at normalized earnings) and put it somewhere around 900-950 ($60 normalized earnings x 15x = 900). What is confusing me at the moment, however, is determining whether to apply a higher or lower risk factor to the future (ie. what multiple to apply). In many ways I can see where a higher risk factor should be inputed (greater chance for fiscal and monetary policy error, higher taxes, lower consumption, structural shift, etc.), but in other ways I can see where a lower risk factor is warranted given that we have overshot fair value.
All of this speculation is independent of what actually happens in the future, which will tell us (in hindsight) what side of the risk factor I should have fallen on.
I've Got To Confess...
...all this talk about "the failure of capitalism"* and the "need to reinvent capitalism", etc., etc. seems to me pure gibberish. One, it doesn't need to happen. And two, it isn't going to happen. We may get a little regulation here, a little limitation there, but I doubt very much we have a wholesale reinvention of the global economic system.
What we are seeing, in this financial crisis and the markets response to it, is capitalism in action. To me, the beauty of the capitalist system is that the laws of economics are allowed to operate somewhat freely (by the way, the laws of economics operate within all economic systems). Given that the system is predicated upon self-interest (not a great moral foundation I might add), it also needs reasonable safeguards and constraints to protect consumers, and ensure that bad apples and bad actions have consequences. But if you live beyond your means and you get swept up in the euphoria of the masses (and fail to assess risk appropriately), then there is an inevitable price to be paid. No system can stop you from making dumb decisions. But the capitalist system seems most reasonable from the perspective of economic efficiency and wealth creation. Issues of wealth distribution and equity are generally best dealt with through the political system.
*The discussion about capitalism is full of hyperbole and ridiculous assertions on both sides. Things such as, "if you believe in capitalism you believe the market is always right and should be given free reign," and "capitalism is morally bankrupt and the cause of all evil," etc. Such comments are ridiculous on their face, and should be treated with the contempt they deserve (by ignoring them).
What we are seeing, in this financial crisis and the markets response to it, is capitalism in action. To me, the beauty of the capitalist system is that the laws of economics are allowed to operate somewhat freely (by the way, the laws of economics operate within all economic systems). Given that the system is predicated upon self-interest (not a great moral foundation I might add), it also needs reasonable safeguards and constraints to protect consumers, and ensure that bad apples and bad actions have consequences. But if you live beyond your means and you get swept up in the euphoria of the masses (and fail to assess risk appropriately), then there is an inevitable price to be paid. No system can stop you from making dumb decisions. But the capitalist system seems most reasonable from the perspective of economic efficiency and wealth creation. Issues of wealth distribution and equity are generally best dealt with through the political system.
*The discussion about capitalism is full of hyperbole and ridiculous assertions on both sides. Things such as, "if you believe in capitalism you believe the market is always right and should be given free reign," and "capitalism is morally bankrupt and the cause of all evil," etc. Such comments are ridiculous on their face, and should be treated with the contempt they deserve (by ignoring them).
Thursday, July 16, 2009
When Will China Explode?
A country, especially one the size of China, can't grow at an average rate of 8% for 30+ years, and not create some imbalances. I'm talking here about a country bubble (not a stock market bubble). China has already had a stock market bubble, with the air coming out in 2007 and a recovery beginning in March of this year.
Everyone knows the future is China's, and that is true. But the path between point a. and point b. on the economic development timeline is not always smooth (as in 8% growth every year!). China reminds me of one of those old movies where the steam engine is racing along the track going faster and faster as the train driver continues to stoke the furnace, and even as it keeps going faster, more and more things are falling off the wagon. Eventually, it goes beyond the point of no return and blows apart at the seams. That, I am afraid, is the economic destiny of China. It is on a collision course with history. I don't know when that day of reckoning is going to come, and I don't know what will push it over the edge.
Hopefully it won't lead to social disorder or anything like that. But there is a price to be paid for defying the laws of economics.
Everyone knows the future is China's, and that is true. But the path between point a. and point b. on the economic development timeline is not always smooth (as in 8% growth every year!). China reminds me of one of those old movies where the steam engine is racing along the track going faster and faster as the train driver continues to stoke the furnace, and even as it keeps going faster, more and more things are falling off the wagon. Eventually, it goes beyond the point of no return and blows apart at the seams. That, I am afraid, is the economic destiny of China. It is on a collision course with history. I don't know when that day of reckoning is going to come, and I don't know what will push it over the edge.
Hopefully it won't lead to social disorder or anything like that. But there is a price to be paid for defying the laws of economics.
Tuesday, July 14, 2009
Taking A Step Back
Sometimes it is helpful to take a step back, and view the action from above the fray.
Economy
The economic future is clouded. This uncertainty feeds market uncertainty. Signs of stabilizing abound. Signs of recovery are not quite there yet, but the market has rallied in response to the postponement of Armageddon and some expectation of recovery. Further market movements are likely to be based on future data points (the proof is in the pudding).
Valuation
Valuation based on forward expected earnings and normalized earnings infer the S&P is probably pretty close to fair value. If you believe in a normalized recovery story, then the stock market is probably pretty attractive (and you ought to be fully invested). If you believe in a less than normal recovery outlook, then you ought to have a decent lick of equity exposure, but you may also want to keep some of your powder dry (as you wait for data confirmation).
Flow of Funds
Deleveraging means higher savings, paying off debt, reduced consumption, and more money for investment. The critical thing for a money manager is anticipating where the sources of funds are going to come from (US savers, Asian central banks, European doctors, Middle Eastern SWFs) and where they are likely to go. My suspicion is that the rapid rise in US savings will become a more prominent feature of the market in time to come. Anticipating where those savings go will be critical. The collective deficits of the world economy poses as a substantial black hole for savings.
Stay tuned.
Economy
The economic future is clouded. This uncertainty feeds market uncertainty. Signs of stabilizing abound. Signs of recovery are not quite there yet, but the market has rallied in response to the postponement of Armageddon and some expectation of recovery. Further market movements are likely to be based on future data points (the proof is in the pudding).
Valuation
Valuation based on forward expected earnings and normalized earnings infer the S&P is probably pretty close to fair value. If you believe in a normalized recovery story, then the stock market is probably pretty attractive (and you ought to be fully invested). If you believe in a less than normal recovery outlook, then you ought to have a decent lick of equity exposure, but you may also want to keep some of your powder dry (as you wait for data confirmation).
Flow of Funds
Deleveraging means higher savings, paying off debt, reduced consumption, and more money for investment. The critical thing for a money manager is anticipating where the sources of funds are going to come from (US savers, Asian central banks, European doctors, Middle Eastern SWFs) and where they are likely to go. My suspicion is that the rapid rise in US savings will become a more prominent feature of the market in time to come. Anticipating where those savings go will be critical. The collective deficits of the world economy poses as a substantial black hole for savings.
Stay tuned.
Wednesday, July 1, 2009
Set-Up To Climb A Wall of Worry
I think an argument can be made that the market could be positioning itself to climb the proverbial "wall of worry."
We've come through the crisis and there is a palpable sense of relief that the worst is over, which is translating into a growing optimism.
That having been said, you don't climb the wall of worry by "getting happy." You climb the wall of worry by having the market move upward on negative news. We saw two examples of that today - the ADP Employment Report and mortgage applications.
Perhaps the strongest thing going for the "wall of worry" thesis is the idea that many market participants are still recovering from the psychological and wealth battering they took from the 60% market drawdown.
The disbelief and skepticism that all could be better again so soon, will increasingly draw these folks back into the market if it continues to climb. Stay tuned.
We've come through the crisis and there is a palpable sense of relief that the worst is over, which is translating into a growing optimism.
That having been said, you don't climb the wall of worry by "getting happy." You climb the wall of worry by having the market move upward on negative news. We saw two examples of that today - the ADP Employment Report and mortgage applications.
Perhaps the strongest thing going for the "wall of worry" thesis is the idea that many market participants are still recovering from the psychological and wealth battering they took from the 60% market drawdown.
The disbelief and skepticism that all could be better again so soon, will increasingly draw these folks back into the market if it continues to climb. Stay tuned.
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