We have gone from the penthouse to the outhouse in one year. The S&P 500 is currently down 45% from its high. The crux of our problems can be simplified into two areas: leverage and consumer confidence. Hedge fund redemptions have put unprecedented pressure on our markets and further plunges in consumer activity threaten to put our economy into a depression. The triggers of the Great Depression can be argued, but the root cause is agreed by all - consumers dried up. Confidence was lost.
It appears we are at a crossroads before this holiday season where we will either hunker down and stop spending or we will regain hope that we can survive the great crisis of 2008. Here are some reasons why hope will trump despair in intermediate market performance:
1. Stimulus part 2. Fundamental effects of the stimulus plan can be debated. Many economists are against them. To those economists I would say one thing - sentiment and confidence are just as important to the market as the fundamentals.
World leaders embarked upon the G20 economic summit this past Saturday. This meeting is going to light a fire of coordinated, global stimulus. Do you think world leaders are going to sit back and allow a recession to turn into a depression? No way. They are going to be doing everything in their power to thwart this disaster.
We have the tools to manage our way through this downturn and you better believe we're going to use them. If you think this recession might last another 12 months, remember it is the government's responsibility to keep hope alive once a quarter, stringing investors along with reasons to be invested. I expect our government will pass the mother of all stimulus packages before the holiday season. A $1 trillion package to be implemented over four quarters would restore confidence in our ability to manage our way out of this mess.
Investors are too quick to assume that we can't manage our way out of this downturn. Congress will be back in session next week to figure out the automotive reorganization and I'm sure it'll talk stimulus as well.
2. We have learned from history. Ben Bernanke and Hank Paulson have been the right men in the right jobs at the right time. Paulson was able to command the respect of financial CEOs and implement a coordinated plan to stave off systematic bank failure. No deposits were lost. Although he has been recently criticized for his decision to not purchase troubled assets, in the long run this is a brilliant move by the Treasury Secretary. He is investing these funds where they will do the most good. He is helping the financial world to deleverage itself at warp speed.
The next step will be to repeal mark-to-market accounting as Europe has already done. This should happen around January 2nd when the SEC presents its formal recommendations. We will wake up in 2009 and realize that Bank of America (BAC), JP Morgan Chase (JPM), and Wells Fargo (WFC) are screaming buys. Bernanke has been equally as good. He is doing everything within the Fed's power to thaw lending and keep rates low.
3. There are no bread lines, only Apple (AAPL) iPhone lines. Interestingly enough, stock prices suggest the opposite. We haven't sold off like this since the Depression. Even during the inflation crisis of the 1970's, the most we ever sold off was 17%. Being down 40% on the year must be very scary for market bears. Everyone wants to tell you that valuations don't matter but I have a secret for you - they do. It's hard to find a stock with a p/e over 20 anymore. Apple's market cap is down to $79 billion and yet it will have $30 billion in cash on its balance sheet by year end.
Apple's not the only one either. Corporate America has never been more fiscally responsible. Record amounts of cash sit on balance sheets across many different sectors. Leverage has been limited to consumers and banks.
4. Outstanding credit card debt sits at $971 billion for the United States. This amounts to approximately $3,000 per person. This problem is nowhere near the problems that we were faced with earlier in the year in the financial sector. Government stimulus can easily fix the problem of consumer leverage. With a shot of confidence, the consumer will prove resilient once again.
In conclusion, our country just elected a president who ran his campaign based on hope. He will do everything in his power to restore hope in order to stabilize this economy. Be careful betting against our ability to manage through this recession. We know the lessons of the past and will not let a depression happen again.
This weekend's G20 economic summit will be the beginning of a lot of hope entering the markets. There are times when the darkness may seem unbearable, when everything around us contradicts hope; do not surrender to this temptation when the market has already sold off so much. Doubt and despair could lead us into a depression but I'm not betting on it. Sentiment can change in a heartbeat and it will. After all, this is the season of change.
Disclosure: Long AAPL, BAC.