We are perched on a knife-edge and it all depends upon whether interest rates rise, or not, as to whether we crash and burn (aka relapse), or continue to dig our way out of the hole.
A deflationista would argue that there is no inflation and deflation is the true bogey. As such, they are probably highly conflicted because their view would support a low level of interest rates, and large amounts of monetary and fiscal stimulus. And, we have already seen what that does to asset prices. But rising asset prices is unlikely to comport with their view that a deflationary environment reflects falling demand which should translate into falling asset prices. Conflicted or confused. I'm not sure what they are.
On the other hand, an inflationista would argue that inflation is the true bogey, lying in wait around the next corner. The hydrant of low rates, and large amounts of monetary and fiscal stimulus is creating fictional money that will morph into inflation. They would point to the rapid rise in assets and the quickly reflating economy as support for their contention. At this point, the inflationistas seem to be winning the war, although inflation has yet to show itself.
Irrespective of whether you are a deflationista or an inflationista, we are sitting on precarious gains both in asset prices and in economic recovery. Should interest rates rise for whatever reason (inflation scares, reversal in monetary policy, funding concerns, liquidity constraints, currency crisis), all bets are off. The consumer is up to their eye-balls in debt (and would be hammered by re-setting and re-casting mortgages), the govt is up to their eye-balls in IOUs (and would be hammered by higher funding costs impacting the deficit/debt), and financial institutions, who are already skating on thin ice, would have less cushion to work with and be hammered by falling asset values.
We better hope the deflationistas are right, so that the inflationistas can continue to take the day.
Tuesday, August 25, 2009
Monday, August 24, 2009
Towels Flying Everywhere
The melt-up is entering its last phase.
You can just feel the flutter of towels flying into the ring. The relentless march of the market is squeezing out the last of the mohicans.
As confirmation, I present exhibit 1 - Bob Doll, the perma-bull CIO of BlackRock, bought out of hibernation to co-host CNBC this morning.
How much further can we rise. Can't see us going through 1200. That to me is the maginot line.
How much longer will we rise. No clue. It feels like a pretty strong tailwind. People are getting much happier, and much more comfortable with the economic outlook. This happiness is not going to evaporate anytime soon.
You can just feel the flutter of towels flying into the ring. The relentless march of the market is squeezing out the last of the mohicans.
As confirmation, I present exhibit 1 - Bob Doll, the perma-bull CIO of BlackRock, bought out of hibernation to co-host CNBC this morning.
How much further can we rise. Can't see us going through 1200. That to me is the maginot line.
How much longer will we rise. No clue. It feels like a pretty strong tailwind. People are getting much happier, and much more comfortable with the economic outlook. This happiness is not going to evaporate anytime soon.
Thursday, August 20, 2009
Of Golf Scores and Flight Logs
CEO's have a new scourge to deal with.
Golf scores* and flight logs.
Not only can folks make fun of your score, more importantly it can be used to track your whereabouts. This, of course, can be especially embarrassing when you have responsibilities and priorities elsewhere. Flight logs can be used much in the same way.
I guess credit card and phone records would also be pretty revealing. Fortunately, they are a little less accessible. But there is a moral in there somewhere.
* A recent dealbreaker post reminded me of this issue.
Golf scores* and flight logs.
Not only can folks make fun of your score, more importantly it can be used to track your whereabouts. This, of course, can be especially embarrassing when you have responsibilities and priorities elsewhere. Flight logs can be used much in the same way.
I guess credit card and phone records would also be pretty revealing. Fortunately, they are a little less accessible. But there is a moral in there somewhere.
* A recent dealbreaker post reminded me of this issue.
Look on the bright side
Okay. I feel like a real scrooge. After talking about revolutions, red flags, and policy mistakes, how about something a little more positive.
The economic data is almost unambiguously pointing to a recovery. Historically, this indicates it is time to loosen up and hit for the fences. I'm a little more circumspect than that, but at least I know I'm running uphill.
That having been said. Whatever way you look at it, the numbers have stabilized and in many cases are turning positive. Whether it is...
Leading Economic Indicators (0.7%),
Philly Fed (4.2),
ISM (48.8),
Existing/New Homes Sales (3.6% &11%),
Initial Claims (< 600K),
Consumer Confidence (46.6 and rising),
Industrial Production (0.5%),
Empire Manufacturing (12.08),
Mortgage Apps (5.6%),
House Price Index (0.9%),
NAHB Housing Market Index (18),
Personal Spending (0.4%),
Unemployment Rate (9.4%),
Domestic Vehicle Sales (8.4m),
Nonfarm Productivity (6.4%),
Factory Orders (0.4%),
Avg. Hourly Earnings (0.2%),
...the numbers are generally moving in the right direction (retail sales, durable goods, consumer credit, chain store sales, personal consumption are still stuck in neutral).
And it is not just here in the States. Germany and France produced shockingly positive economic growth, house prices in England have turned the corner (can't quite work that one out), China appears to be going gang-busters (with an emphasis on busters), and South America seems to be doing well.
A recovery would be good for everyone. Economic dislocation brings pain and suffering. It isn't just numbers, real lives are effected.
I'm just not sure we have purged our excesses from the system.
The economic data is almost unambiguously pointing to a recovery. Historically, this indicates it is time to loosen up and hit for the fences. I'm a little more circumspect than that, but at least I know I'm running uphill.
That having been said. Whatever way you look at it, the numbers have stabilized and in many cases are turning positive. Whether it is...
Leading Economic Indicators (0.7%),
Philly Fed (4.2),
ISM (48.8),
Existing/New Homes Sales (3.6% &11%),
Initial Claims (< 600K),
Consumer Confidence (46.6 and rising),
Industrial Production (0.5%),
Empire Manufacturing (12.08),
Mortgage Apps (5.6%),
House Price Index (0.9%),
NAHB Housing Market Index (18),
Personal Spending (0.4%),
Unemployment Rate (9.4%),
Domestic Vehicle Sales (8.4m),
Nonfarm Productivity (6.4%),
Factory Orders (0.4%),
Avg. Hourly Earnings (0.2%),
...the numbers are generally moving in the right direction (retail sales, durable goods, consumer credit, chain store sales, personal consumption are still stuck in neutral).
And it is not just here in the States. Germany and France produced shockingly positive economic growth, house prices in England have turned the corner (can't quite work that one out), China appears to be going gang-busters (with an emphasis on busters), and South America seems to be doing well.
A recovery would be good for everyone. Economic dislocation brings pain and suffering. It isn't just numbers, real lives are effected.
I'm just not sure we have purged our excesses from the system.
We Need a Revolution
Just as Jesus threw the money changers out of the temple, so to do we need to do a purging of US political, legal, and economic institutions.
The system is weak, decrepit and bereft of integrity with various parasites feeding off the host. Money talks, and when you're talking about the wealthiest country in the world, there is a lot of money at stake. And it is precisely this money and the power surrounding it that will continue to eat away at the foundations of society.
Sadly, as with any unsustainable imbalance (think healthcare inflation, tertiary education inflation, rising debt levels, oil consumption, disproportionate military spending, etc.), nothing will be done until a catastrophe occurs. And even then, if the current response to the financial crisis is any indication, we are unlikely to achieve true reform. It is a bad position to be in, to be a Jeremiah, when you have no clue as to when the walls will come down. But the writing is on the wall, and history shows that when something is corrupt, economically unsustainable, and being eaten away by parasites, the result is foregone.
The current healthcare debate is just another symptom of the rottenness in the system. With it so hard to create good policy, is it any wonder that we can't get true reform until it is too late.
The system is weak, decrepit and bereft of integrity with various parasites feeding off the host. Money talks, and when you're talking about the wealthiest country in the world, there is a lot of money at stake. And it is precisely this money and the power surrounding it that will continue to eat away at the foundations of society.
Sadly, as with any unsustainable imbalance (think healthcare inflation, tertiary education inflation, rising debt levels, oil consumption, disproportionate military spending, etc.), nothing will be done until a catastrophe occurs. And even then, if the current response to the financial crisis is any indication, we are unlikely to achieve true reform. It is a bad position to be in, to be a Jeremiah, when you have no clue as to when the walls will come down. But the writing is on the wall, and history shows that when something is corrupt, economically unsustainable, and being eaten away by parasites, the result is foregone.
The current healthcare debate is just another symptom of the rottenness in the system. With it so hard to create good policy, is it any wonder that we can't get true reform until it is too late.
Tuesday, August 18, 2009
Red Flags In Surprising Places
I screen a lot looking for quality companies. Quality companies are not hard to identify. They are companies with above average growth rates, above average profitability, expanding margins, positive earnings surprises, low debt levels, high operating leverage, etc., etc..
I was watching William Black's presentation "The Great American Bank Robbery" and it reminded me of some thoughts. Namely, that the naive process of screening for "quality" companies often throws up a number of duds and dupes. These are companies that look good on paper, but are rotten beneath the surface. Black refers to red flags related to companies exhibiting huge growth rates, monster margins and always beating the number. He argues that the growth rates and the "always beat" are often hallmarks of an environment where bad ethics is driving out good ethics. The weapon of choice for white collar crime is accounting fraud. Sometimes, when it is too good to be true, it is too good to be true.
Foreign companies (especially Chinese companies) often exhibit these characteristics, so it is always buyer beware. However, the measure I have come across to cross reference the quality of a company is the level of short interest. The short guys (at least those who specialize in it and not necessarily the hedge guys who simply run long/short portfolios) always seem to sniff out accounting fraud, or a broken business model, or a company/industry in secular decline, or fads. They do their homework and have a healthy dose of skepticism.
Black, to his credit, also holds no punches when he calls the Big Four accounting firms and the credit rating agencies failures - ouch!
I was watching William Black's presentation "The Great American Bank Robbery" and it reminded me of some thoughts. Namely, that the naive process of screening for "quality" companies often throws up a number of duds and dupes. These are companies that look good on paper, but are rotten beneath the surface. Black refers to red flags related to companies exhibiting huge growth rates, monster margins and always beating the number. He argues that the growth rates and the "always beat" are often hallmarks of an environment where bad ethics is driving out good ethics. The weapon of choice for white collar crime is accounting fraud. Sometimes, when it is too good to be true, it is too good to be true.
Foreign companies (especially Chinese companies) often exhibit these characteristics, so it is always buyer beware. However, the measure I have come across to cross reference the quality of a company is the level of short interest. The short guys (at least those who specialize in it and not necessarily the hedge guys who simply run long/short portfolios) always seem to sniff out accounting fraud, or a broken business model, or a company/industry in secular decline, or fads. They do their homework and have a healthy dose of skepticism.
Black, to his credit, also holds no punches when he calls the Big Four accounting firms and the credit rating agencies failures - ouch!
It takes a brave man to...
...call a double dip.
The 'new normal' thesis is both eloquent and reasonable. But it takes a brave man to call a double dip. Originally the bears were calling for some sort of mega-recession. Now that we're showing signs of bottoming, they've had to revise that to a double dip. That makes some sense, but it is a big call.
History and current economic signs weigh against the thesis. We have seen very few double dip recessions in history. Usually they are caused by some sort of policy mistake (which I think has a greater than normal chance of happening - both monetary and fiscal). Probably most likely is some sort of muddle through in which the economy struggles to find traction, but doesn't actually go down again.
Time will tell, as they say. But the future seems more murky than normal.
The 'new normal' thesis is both eloquent and reasonable. But it takes a brave man to call a double dip. Originally the bears were calling for some sort of mega-recession. Now that we're showing signs of bottoming, they've had to revise that to a double dip. That makes some sense, but it is a big call.
History and current economic signs weigh against the thesis. We have seen very few double dip recessions in history. Usually they are caused by some sort of policy mistake (which I think has a greater than normal chance of happening - both monetary and fiscal). Probably most likely is some sort of muddle through in which the economy struggles to find traction, but doesn't actually go down again.
Time will tell, as they say. But the future seems more murky than normal.
Monday, August 17, 2009
We're Almost Guaranteed A Policy Mistake
The Fed is walking such a tightrope that we are almost guaranteed a policy mistake.
Will it be staying at the party too long, or will it be taking the punchbowl away too soon?
Either which way, it is highly unlikely they will maneuver successful through the minefield.
For my money, it seems to me they have given every indication that they will stay too long at the party. But with so much slack in the system, I don't see CPI-type inflation coming through anytime before mid-2011 (at the earliest). With the pedal to the metal, this means bank reserves will continue to leak out into asset prices.
Will it be staying at the party too long, or will it be taking the punchbowl away too soon?
Either which way, it is highly unlikely they will maneuver successful through the minefield.
For my money, it seems to me they have given every indication that they will stay too long at the party. But with so much slack in the system, I don't see CPI-type inflation coming through anytime before mid-2011 (at the earliest). With the pedal to the metal, this means bank reserves will continue to leak out into asset prices.
Friday, August 14, 2009
The Problem With Being a Perma-Bull
The problem with being a perma-bull is that there isn't much room for reflection, or introspection, within one's countenance.
Conditioned by the modern phenomenon of economic growth, perma-bulls have never met a dip they didn't like (the positive skewness of the market leads to a certain complacency). There isn't much pause to consider the value of an asset, or the underlying health of an economy. They are generally dismissive of anything negative, and fail to understand that they operate within an industry that has every incentive and predilection to being bullish. They also tend to be practitioners of momentum (some would say herd followers), and contra to their stated economic worldview (free markets), are great believers in the value of the central bank (emperor with no clothes) to bail them out (they have spent their whole careers succoring on the teet of monetary stimulus).
Interestingly enough, practitioners of this science tend to be American and/or equity managers, while practitioners of the counter-stance (perma-bears) tend to be British and/or bond managers.
I spoke a little about some of the traits of a perma-bear the other day, but in the wake of being so harsh on perma-bulls, it would be remiss of me not to expand upon those thoughts here. Let me just add that the positive skew of the markets has killed perma-bears over time. It is one thing to identify and talk about structural flaws or imbalances in the system, but it is a totally different thing to get your timing right in acting upon those concerns. Markets and economies get out of whack periodically. Minsky rightly pointed out that imbalances build over time during periods of general stability. He also pointed out that markets and the capitalist system are inherently unstable. In this environment (and especially after a crash), it will generally pay to have a bullish bias. Besides, people like a positive person over a naysayer anyday. At this point I don't see any repudiation of the phenomenon of economic growth, and so that adds to the case toward a positive skew. Having said that, I am of the opinion that the general growth outlook for the future will be more muted than what we have seen over the recent past (1980-2007). As usual, there will be winners and losers in that environment. The trick will be to pick the winners and avoid the losers.
Conditioned by the modern phenomenon of economic growth, perma-bulls have never met a dip they didn't like (the positive skewness of the market leads to a certain complacency). There isn't much pause to consider the value of an asset, or the underlying health of an economy. They are generally dismissive of anything negative, and fail to understand that they operate within an industry that has every incentive and predilection to being bullish. They also tend to be practitioners of momentum (some would say herd followers), and contra to their stated economic worldview (free markets), are great believers in the value of the central bank (emperor with no clothes) to bail them out (they have spent their whole careers succoring on the teet of monetary stimulus).
Interestingly enough, practitioners of this science tend to be American and/or equity managers, while practitioners of the counter-stance (perma-bears) tend to be British and/or bond managers.
I spoke a little about some of the traits of a perma-bear the other day, but in the wake of being so harsh on perma-bulls, it would be remiss of me not to expand upon those thoughts here. Let me just add that the positive skew of the markets has killed perma-bears over time. It is one thing to identify and talk about structural flaws or imbalances in the system, but it is a totally different thing to get your timing right in acting upon those concerns. Markets and economies get out of whack periodically. Minsky rightly pointed out that imbalances build over time during periods of general stability. He also pointed out that markets and the capitalist system are inherently unstable. In this environment (and especially after a crash), it will generally pay to have a bullish bias. Besides, people like a positive person over a naysayer anyday. At this point I don't see any repudiation of the phenomenon of economic growth, and so that adds to the case toward a positive skew. Having said that, I am of the opinion that the general growth outlook for the future will be more muted than what we have seen over the recent past (1980-2007). As usual, there will be winners and losers in that environment. The trick will be to pick the winners and avoid the losers.
Thursday, August 13, 2009
Surely the Market is Smarter Than That
Are we going to make the same mistakes that we made from 2000-20007? Surely not!
Surely the market is smarter than that. Surely it knows how this is all going to end. Sadly, the market doesn't think in terms of smart or dumb (and apparently it also struggles with foreseeable long term consequences). It is more properly a place where people come to place their bets on the next 1 month, 2 months, 3 months or, heaven forbid, 6 months. How else would you explain an avg. portfolio turnover rate among professional money managers of 125%, or the growing attraction of short term momentum strategies. The myriad of market actors - all with different perspectives, all with different incentives - are collectively conditioned by one pavlovian treat. Money. Most market participants know that we haven't solved our long term structural problems, and that major issues loom. But, they have to play the game. And so long as the game is going up (because the Fed and govt are providing the treat), they've got to go along with it. Once again, it reduces itself to a game of musical chairs with everyone betting they are quicker than the other guy. We know how that ends.
It is therefore not surprising that I am really conflicted. On the one hand, I can see the market wising up to the false signals and artificial imposts, and after attracting the last of the bears in, taking us down to a real gut-check level. On the other hand, it also wouldn't surprise me if we simply had a little consolidation, before taking the next leg up in another upcycle (ie. business as usual). I think both scenarios are about equally possible, with a slight nod to the latter because of the current momentum in the system.
Surely the market is smarter than that. Surely it knows how this is all going to end. Sadly, the market doesn't think in terms of smart or dumb (and apparently it also struggles with foreseeable long term consequences). It is more properly a place where people come to place their bets on the next 1 month, 2 months, 3 months or, heaven forbid, 6 months. How else would you explain an avg. portfolio turnover rate among professional money managers of 125%, or the growing attraction of short term momentum strategies. The myriad of market actors - all with different perspectives, all with different incentives - are collectively conditioned by one pavlovian treat. Money. Most market participants know that we haven't solved our long term structural problems, and that major issues loom. But, they have to play the game. And so long as the game is going up (because the Fed and govt are providing the treat), they've got to go along with it. Once again, it reduces itself to a game of musical chairs with everyone betting they are quicker than the other guy. We know how that ends.
It is therefore not surprising that I am really conflicted. On the one hand, I can see the market wising up to the false signals and artificial imposts, and after attracting the last of the bears in, taking us down to a real gut-check level. On the other hand, it also wouldn't surprise me if we simply had a little consolidation, before taking the next leg up in another upcycle (ie. business as usual). I think both scenarios are about equally possible, with a slight nod to the latter because of the current momentum in the system.
The Problem With Being a Perma-Bear
The problem with being a perma-bear is that there is no joie de vivre.
When one is always looking for disaster to hit, every little twitch, every little movement from the market or the economy signals impending doom. It is hard to believe that the market might actually go up when one's underlying belief is that disaster is just around the corner.
All the foibles of behavioral bias manifest within one's outlook and actions. As such, it is hard to see the trees for the forest.
It seems to me that we are committing the same mistakes in the present that we have committed in the past. All the signs are there that we will reflate again, only to have to deal with the same problems again in the future. It is the timing of the "again in the future" that is so hard to forecast.
When one is always looking for disaster to hit, every little twitch, every little movement from the market or the economy signals impending doom. It is hard to believe that the market might actually go up when one's underlying belief is that disaster is just around the corner.
All the foibles of behavioral bias manifest within one's outlook and actions. As such, it is hard to see the trees for the forest.
It seems to me that we are committing the same mistakes in the present that we have committed in the past. All the signs are there that we will reflate again, only to have to deal with the same problems again in the future. It is the timing of the "again in the future" that is so hard to forecast.
Now, where have I seen this before...
...oh, that's right.
2000-2007. Tech bubble bursts==>Cascading decline in global equities==>Economy in recession==>Fed stimulates with historically low rates==>Govt. provides its share of fiscal stimulus==>Proportional recession averted==>Markets rebound strongly==>Economy gets back on the growth path (although unemployment lagging)==>Global equities continue to demonstrate strength==>Housing and increasing debt become backbones of the recovery==>Energy and commodity prices skyrocket==>All is well with the world.
Fast forward to 2007-2009. Housing bubble bursts==>Cascading decline in global equities==>Financial crisis ensues==>Economy in recession==>Fed stimulates with historically low rates==>Govt. provides its share of fiscal stimulus==>Proportional recession averted==>Markets rebound strongly==>Economy stabilizes (although unemployment lagging)...Increasing debt becomes backbone of the economy==>
I wonder how this ends! The only question is what asset class/area will become the investor's bubble of choice? Stay long until they take the punchbowl away.
2000-2007. Tech bubble bursts==>Cascading decline in global equities==>Economy in recession==>Fed stimulates with historically low rates==>Govt. provides its share of fiscal stimulus==>Proportional recession averted==>Markets rebound strongly==>Economy gets back on the growth path (although unemployment lagging)==>Global equities continue to demonstrate strength==>Housing and increasing debt become backbones of the recovery==>Energy and commodity prices skyrocket==>All is well with the world.
Fast forward to 2007-2009. Housing bubble bursts==>Cascading decline in global equities==>Financial crisis ensues==>Economy in recession==>Fed stimulates with historically low rates==>Govt. provides its share of fiscal stimulus==>Proportional recession averted==>Markets rebound strongly==>Economy stabilizes (although unemployment lagging)...Increasing debt becomes backbone of the economy==>
I wonder how this ends! The only question is what asset class/area will become the investor's bubble of choice? Stay long until they take the punchbowl away.
Friday, August 7, 2009
Cyclical Tailwinds Dominating Secular Headwinds
The current cyclical tailwinds of stimulative monetary and fiscal policy, and the natural turn in the cycle have transformed the markets disposition and created a more hopeful outlook.
Beware the Ides of March.
Lying in wait are significant secular headwinds (higher taxes and regulation, ongoing deleveraging, structural unemployment, higher savings/lower consumption, greater govt. involvement in the economy, rising inflation, higher energy & food prices) which when combined with the reversal of the current monetary and fiscal stimulus pose a serious problem for the markets recovery and the economy's long term health.
Beware the Ides of March.
Lying in wait are significant secular headwinds (higher taxes and regulation, ongoing deleveraging, structural unemployment, higher savings/lower consumption, greater govt. involvement in the economy, rising inflation, higher energy & food prices) which when combined with the reversal of the current monetary and fiscal stimulus pose a serious problem for the markets recovery and the economy's long term health.
Thursday, August 6, 2009
How Overcrowded Is The Short USD Trade?
I don't know how overcrowded the short dollar trade is, but if the seeming consensus is anything to go by, the dollar is good for nothing and heading into the bowels of hell. Does it deserve to be trashed? Probably. Is it a one-way trade you can't lose on? I wouldn't be so sure about that.
The US has certainly done its best to debase the dollar, and the outlook sure don't look too pretty. But you've got to remember that the dollar is a unit of relative value and that it tends to run in 5-7 year cycles (and we're closer the end of this cycle than the beginning). In that context, the USD doesn't look all that bad. Throw in the fact that the current account is moving in the right direction, the Fed will raise rates sometime, the Chinese will likely revalue at some point, "hard currencies" are not so hard, the Europeans and Japanese are begging for relief, and it doesn't take too much imagination to see the dollar moving higher.
On second thoughts, I think I'll keep my dollars.
The US has certainly done its best to debase the dollar, and the outlook sure don't look too pretty. But you've got to remember that the dollar is a unit of relative value and that it tends to run in 5-7 year cycles (and we're closer the end of this cycle than the beginning). In that context, the USD doesn't look all that bad. Throw in the fact that the current account is moving in the right direction, the Fed will raise rates sometime, the Chinese will likely revalue at some point, "hard currencies" are not so hard, the Europeans and Japanese are begging for relief, and it doesn't take too much imagination to see the dollar moving higher.
On second thoughts, I think I'll keep my dollars.
Where Is The End Of Rally Mania Going To Come From?
If momentum is the strategy du jour, then an end of rally blow-out in the large cap space is likely to come from Materials, IT and Consumer Discretionary. But with those sectors already up 32%, 36% and 20% YTD respectively, there is a chance we won't get much more juice out of them, and it'll be left to some of the laggards to equalize this turn. Prime candidates are Industrials, Telecom, Healthcare, and Energy (2.75%, -5.03%, 3.98%, and 1.9% YTD respectively).
What is interesting is that when you drill down into the small and mid cap space, you get slightly different sectoral leaders and laggers. Leading sectors in the mid cap space have been Energy (43%), Consumer Discretionary (36%), IT (35%), and Materials (31%). Laggards have been Telecom (-5.9%), Financials (-0.11%), and Utilities (3.09%). In the small cap space, leading sectors have been Consumer Discretionary (37%), IT (33%), Energy (28%) and Materials (26%). Lagging sectors have been Utilities (-6.17%), Telecom (-40%), and Financials (-12%).
Defensive strategies have been crushed this year, while being leveraged to cyclicals would have knocked the ball out of the park.
What is interesting is that when you drill down into the small and mid cap space, you get slightly different sectoral leaders and laggers. Leading sectors in the mid cap space have been Energy (43%), Consumer Discretionary (36%), IT (35%), and Materials (31%). Laggards have been Telecom (-5.9%), Financials (-0.11%), and Utilities (3.09%). In the small cap space, leading sectors have been Consumer Discretionary (37%), IT (33%), Energy (28%) and Materials (26%). Lagging sectors have been Utilities (-6.17%), Telecom (-40%), and Financials (-12%).
Defensive strategies have been crushed this year, while being leveraged to cyclicals would have knocked the ball out of the park.
"Rallying because we're rallying"
Just heard a classic quote from a guy on CNBC.
"We're rallying because we're rallying. People are jumping in because they can't afford to miss this move."
Talk about exuberant irrationality.
I'm sorry to break it to those folks "jumping in," but they have missed the move and there is only more pain for them if they think they can time their entrance and exit to the last leg of this move.
"We're rallying because we're rallying. People are jumping in because they can't afford to miss this move."
Talk about exuberant irrationality.
I'm sorry to break it to those folks "jumping in," but they have missed the move and there is only more pain for them if they think they can time their entrance and exit to the last leg of this move.
Wednesday, August 5, 2009
Attention Shoppers - Standard of Living Adjustment in Progress
It seems reasonable to believe that the US (and a number of other developed countries) will be undergoing a standard of living adjustment over the next 10-20 years. The adjustment will probably be effected through a combination of stagnant real incomes and faster relative growth outside the country. And, the impetus for change comes from the need to get the consumer's economic house in order and the general indebtedness of the economy. The deleveraging of the economy will manifest itself in many ways and in many areas, but there is a good chance that the USD will play a very pivotal role.
Stagnant to falling real incomes will be underpinned by relatively high unemployment and high underemployment, as it relates to productive overcapacity. It will also be interesting to see how quickly the private sector rightsizes itself to these realities. American management is ruthless, so this transition may happen more quickly than thought. The government is going in the opposite direction, and so will serve as a counterweight to the private sector's improvements.
Stagnant to falling real incomes will be underpinned by relatively high unemployment and high underemployment, as it relates to productive overcapacity. It will also be interesting to see how quickly the private sector rightsizes itself to these realities. American management is ruthless, so this transition may happen more quickly than thought. The government is going in the opposite direction, and so will serve as a counterweight to the private sector's improvements.
Controlling The Hydrant
Will the Fed act quickly enough to reduce bank reserves when the velocity of money normalizes? If they are like anyone else in the market, they won't. The problem is not a lack of knowledge or vision related to the risk (they are fully conversant of the risk). The problem will be a failure of timing due to human nature and political pressures. Just as most market participants failed to time their exit from the market with a crisis looming (and their entrance back into the market by the looks of things), the Fed is likely to fail in its attempt to time the withdrawal of reserves from the system.
The Fed is playing a high risk poker game. One that they have demonstrated little aptitude for based on historical precedent. The problem is compounded all the more by the ongoing decline in the duration of government liabilities and the split personality of balancing inflation with employment. The result is, they have a smaller window of opportunity to get things right before the the market dings them, and the costs of failure mount.
The Fed is playing a high risk poker game. One that they have demonstrated little aptitude for based on historical precedent. The problem is compounded all the more by the ongoing decline in the duration of government liabilities and the split personality of balancing inflation with employment. The result is, they have a smaller window of opportunity to get things right before the the market dings them, and the costs of failure mount.
Why The Big Beats?
Company earnings are coming in way above consensus expectations. Why the many, and why the big beats?
Couple of thoughts. (1) When the economy was in freefall nobody had any clue what the future looked like. In the panic that followed, companies erred on the downside and set us up for the current round of big beats [managed expectations]. (2) It appears that companies have a lot less operating leverage than we give them credit for [earnings have fallen less than topline declines would imply]. (3) We are borrowing earnings from the future to win in the present [accounting manipulation]. (4) Companies were pretty quick on the trigger to fire workers [lots of fat in the system].
Several implications. Analysts are playing catch-up by raising forward estimates, but they'll soon be getting closer to reality, and that means the lowered expectations game will be tougher to play ["we're onto you"]. If it was too much fat in the system, then we are likely stuck with high level structural unemployment [dead weight costs to economy and one-off gains for company earnings]. If it was simply management hitting the panic button, then we are on the mend [operating leverage will propel future earnings but be counterbalanced by rehiring costs...highlights the short sightedness of some managements]. As far as I am concerned, management is always suspect with regard to their accounting policies, assumptions and treatments, and their attempt to manage and massage earnings [that is a gross generalization, but probably not far from the truth]. This time is no different, and it will be interesting to see how and where they try to manage earnings going forward [lots of moving parts on this one].
Couple of thoughts. (1) When the economy was in freefall nobody had any clue what the future looked like. In the panic that followed, companies erred on the downside and set us up for the current round of big beats [managed expectations]. (2) It appears that companies have a lot less operating leverage than we give them credit for [earnings have fallen less than topline declines would imply]. (3) We are borrowing earnings from the future to win in the present [accounting manipulation]. (4) Companies were pretty quick on the trigger to fire workers [lots of fat in the system].
Several implications. Analysts are playing catch-up by raising forward estimates, but they'll soon be getting closer to reality, and that means the lowered expectations game will be tougher to play ["we're onto you"]. If it was too much fat in the system, then we are likely stuck with high level structural unemployment [dead weight costs to economy and one-off gains for company earnings]. If it was simply management hitting the panic button, then we are on the mend [operating leverage will propel future earnings but be counterbalanced by rehiring costs...highlights the short sightedness of some managements]. As far as I am concerned, management is always suspect with regard to their accounting policies, assumptions and treatments, and their attempt to manage and massage earnings [that is a gross generalization, but probably not far from the truth]. This time is no different, and it will be interesting to see how and where they try to manage earnings going forward [lots of moving parts on this one].
Two Things You've Got To Get Right*
As an asset manager there are two things you've got to get right.
(1) Where is the money coming from?
(2) Where is the money going?
If you have your finger on (1) and (2) then you have a good chance of getting the trend right. And if you get the trend right, then you can make a whole lot of mistakes, and still be a genius.
At a big picture level, the money seems to be coming from Asian Central banks, sovereign wealth funds, and big bank prop desks (with perhaps the prop desks being the most important player).
In the current environment, there are two subtexts. The first is the USD as the engine of the carry trade. And the second is the use of ETFs and commodities as the preferred vehicle and store of value.
* You've actually got to get a lot of things right. But one of the other things you've got to get right is having the acuity of mind to change position should you be wrong. The trick, like most things in life, is having balance.
(1) Where is the money coming from?
(2) Where is the money going?
If you have your finger on (1) and (2) then you have a good chance of getting the trend right. And if you get the trend right, then you can make a whole lot of mistakes, and still be a genius.
At a big picture level, the money seems to be coming from Asian Central banks, sovereign wealth funds, and big bank prop desks (with perhaps the prop desks being the most important player).
In the current environment, there are two subtexts. The first is the USD as the engine of the carry trade. And the second is the use of ETFs and commodities as the preferred vehicle and store of value.
* You've actually got to get a lot of things right. But one of the other things you've got to get right is having the acuity of mind to change position should you be wrong. The trick, like most things in life, is having balance.
Tuesday, August 4, 2009
Looking For The Panic
I'm looking for the panic buying of the "I've missed the boat brigade" diving into the market on the back of the new consensus sounding the "all clear" to keep pushing this market up.
There may be good reasons for this market to go up over the long term, but we are fast getting to a point where the reasons for the market to continue its meteoric rise are getting thin. I don't know where that point will be - it could be 1050, it could be 1100, it could be 1150, or even 1200 - but as this market continues to march higher, I think it would be wise to sell into it.
It wouldn't surprise me if the peak of this move marks the top of a longer term trading range, from which the market consolidates its gains and periodically tests the range over the next couple of years. If I had to put a floor on the market it would probably be around 800 or so.
There may be good reasons for this market to go up over the long term, but we are fast getting to a point where the reasons for the market to continue its meteoric rise are getting thin. I don't know where that point will be - it could be 1050, it could be 1100, it could be 1150, or even 1200 - but as this market continues to march higher, I think it would be wise to sell into it.
It wouldn't surprise me if the peak of this move marks the top of a longer term trading range, from which the market consolidates its gains and periodically tests the range over the next couple of years. If I had to put a floor on the market it would probably be around 800 or so.
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