The market rebounded this morning on the back of the banks as rampant short covering drove prices higher. This market has moved sideways since the government decided they were going to change every rule in the book because the game wasn’t working out the way they had envisioned.
No one wants to be short in front of the Mark-to-Market decision or a surprise G20 agreement tomorrow. I don’t expect either to matter much. As I’ve said before, Mark-to-Market really doesn’t change anything. All it allows the firms to do is tuck away their bad assets in the desperate hope that they’ll recover some of their value.
In fact, I think you can go so far as to say that Mark-to-Market makes the issues worse because it allows the banks to pull what Japan did and hold onto bad assets, prop up zombie banks and wait for the inevitable as opposed to attacking the issues and forcing the banks to take the write-downs and potentially go out of business (there was a time in America when bad business decisions resulted in failure). Mark-to-Market is like giving a cancer patient Tylenol and telling him “what you can’t see can’t hurt you”. Until it kills you.
I think the risks are actually increasing as the government runs out of bullets. Quantitative Easing, check. Fed Funds at zero, check. Massive stimulus bill, check. Mark-to-Market, check. Geithner Bank Scam, check. The only bullet (more like rubber pellet) they have left after Thursday is the uptick rule which is a 100% non-factor.
As I’ve been saying for weeks we’re in no man’s land until the government decides to stop fidgeting with the market or earnings season begins (approximately the middle of April). I think we can attribute much of the recent run-up to short sellers and the recent rally chasers who view this as a sign of an economic recovery. The former buy by necessity, the latter buy by idiocy (a.k.a., they can’t read an income statement).
The market has sold off into each of the last 5 earnings seasons as reality hits home. It will be interesting to see how much the Mark-to-Market changes earnings and whether the analyst’s properly account for the fake earnings boosts that are sure to come. As I said earlier this week, I believe investors are still too optimistic about a second half earnings recovery. The few earnings reports I have read this quarter have been nothing short of atrocious. With analysts still expecting $60 in EPS this year I think the market is pricing in a rosy outcome. I am still using a $45 target with a $50 optimistic scenario. I don’t even believe $60 is in the cards. Not without a miracle.
The Ultimate Indicator remains elevated since it topped out on the Fed day. The market has moved sideways since then even though it has felt very resilient. Positive sentiment is certainly getting behind this economic recovery story. I think earnings will tell the real story in a few weeks.
For now, I am still working within the macro idea that we are in a bear market. My expectation ratio and other bear market indicators are not flashing any sort of signs that we are in a new bull market. Within that framework, TUI is waving the caution flag. As a pure risk management tool it is telling us that the risk / reward in a bear market after a huge move like the one we’ve seen is very poor. I think the fundamentals in the credit markets and the earnings reports confirm that belief. In addition, the Four Lids have not changed at all.
There is a very popular theme going around correlating the current market to 1931 and the massive bear market rally that took place. I think that’s nothing short of idiotic. 1931 was a completely different time with different ways of thinking, different information, different technology and different markets. Besides, the fundamentals are completely different this time.
The economy is nowhere near as horrible as it was in 1931. The idea of a 90% stock market decline or a 50% intermediate rally are equally stupid in my opinion. This is a different animal. It’s a fools errand to use one random piece of data to create an entire investment plan. Each recession is unique, each market environment is unique. Use this 78 year game plan with caution.
I believe hedging strategies will achieve good risk adjusted returns in the coming months.