A Stock Market Rally Does Not a Recovery Make 16 comments
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Banking may well be a career from which no man really recovers.
- John Kenneth Galbraith.
How much of the bailout money is actually supporting companies that provide jobs? That was the question asked by entrepreneur Luke Johnson in his regular and typically outspoken column for the Financial Times last week. He answered it anecdotally, with reference to a “chilling conversation” with a senior banker, in which it emerged that almost three-quarters of the taxpayer lifeline provided to support British banks has gone to property lending. As Johnson sharply observes:
A distorting addiction to real estate is part of why it all went wrong in the first place.
You can give a banker money, but you cannot make him lend. Or at least, not to those causes most worthy of the aim. Gillian Tett, writing for the FT on Friday, pointed out that when Japanese bankers, mired in their own credit crisis, were ordered to lend to small businesses, they ended up directing loans to subsidiaries of Toyota (TM) – not exactly what their governmental overlords intended. If both bankers and politicians were constrained by appropriately powerful oversight, perhaps financial crises would be less infrequent. That suggests that there may be a fundamental problem with the democratic process itself.
Euphoria for those banks operating independently of the dead hand of government has been whipped up by their investment banking-led gains. It would be difficult even for bankers to lose money when it is being provided essentially for free, and all the resources of government are being deployed to ensure that the trading environment offers up a rich harvest of short term profits so that banking balance sheets can be laboriously rebuilt at the expense of small businesses, individuals and savers. Shareholders seem to be blind to the fact that trading profits, even when the game is largely rigged, are inherently cyclical. And to the fact that without those trading profits, most commercial banks, like their government-owned rivals, would be reporting colossal losses due to still deteriorating loan books. Whether banks are through the worst is largely conditional on the health of the broader property market.
On the basis of research from Deutsche Bank on the US property market – the epicentre of the financial crisis – optimism as regards the banks is premature. Analysts Karen Weaver and Ying Shen forecast that the percentage of US homeowners suffering from negative equity will almost double to 48% in 2011 from 26% as at the end of March. “We predict the next phase of the housing decline will have a far greater impact on prime borrowers.” Prime conforming loans make up two thirds of the mortgage market. “For many, the home has morphed from piggy bank to albatross.” Weaver and Shen reckon that 41% of prime loans will be underwater by 2011 versus about 14% now. They foresee another drop of 14% in US real estate prices.
I am indebted to Tim du Toit of Eurosharelab and to The Inoculated Investor for the following viewpoints from some of the investment greats. These were originally referenced in June of this year but with the recent equity rally threatening to break, they deserve renewed consideration.
I ask anyone to give me an example of an economy beefed up by huge amounts of quantitative easing that did not inflate tremendously when or if the economy improved. I think what we‟re doing now will either fail, or it will result in unbelievably high inflation – and tragically, maybe both. That would mean a depression and explosive inflation, which is frightening.
- Julian Robertson, interviewed in the May issue of Value Investor Insight.
...my trust has been severely shaken in the Federal Reserve, the Treasury, the Congress and the executive branch of government in their collective judgment as to what is required and appropriate for a fundamentally sound long-term economic recovery... Governmental programmes deployed to stabilize and grow the economy appear highly risky, especially those involving an unprecedented Federal intrusion into the private capital system. They have been implemented in an ad hoc fashion with little predictability and consideration for their long-term effects upon the economy... My financial market outlook is rather cautious. I believe the recent stock market rally is nothing more than a bear market rally.. Many forecasters are forecasting an end to the recession by year end, and I have even seen one anticipating a “V” shaped recovery. If my previous comments about the stimulus plan prove to be correct, these forecasts will be wrong.
- Robert Rodriguez, CEO of First Pacific Advisors, at a recent Morningstar conference. You can read the full transcript here.
But my sense is that we have had a terrific rally, we have had a vast amount of stuff – dollars, injections of all sorts of things into the economy, TARPS and other new programmes – and the ultimate effect is hard to know entirely at this point. But my sense is that this will not change the course of what is going to happen very much: that the economy is weak; it will remain weak. Whether we have seen the weakest moment, whether we're going to decline at a lesser rate - that may be true because the rate at which we were declining was so precipitous. But I'm not sure that's good enough. And my net feeling is that this rally does not have all that much more to go and the dangers out there remain consequential.. The dangers in the economy are most everywhere.
- Michael Steinhardt interviewed on Bloomberg's "For the Record".
Luke Johnson's piece for the FT was entitled "Britain needs a national will to reform". But while identifying the problem is comparatively straightforward, and advocating solutions is relatively easy, implementing those solutions may be beyond us:
...too many of those who comment and advise are theoreticians and academics. I actually work every day with owners and managers who are in a life-and-death struggle to keep their companies going. The grand announcements of economists and politicians appear to bear little resemblance to the brutal realities of business conditions at the moment. By nature most are slaves to the state – what can they know of capitalism? We face stagnant markets for an extended period, and must rebalance our industries – and our principles – if we are to be properly equipped to meet the challenges ahead.
The stock market is not the economy, although a still overpopulated financial services industry may be tempted to view it that way. The red and green digits that represent markets and stock indices on a Bloomberg display do not represent the real economic world so much as they reflect in real time the feel-good factor of a relatively small clique of economic agents. The improved confidence of those agents since the March lows may suggest that the world economy is powering back up. But as every facet of the banking crisis reminds us, those economic agents are entirely self-interested. They do not serve the real economy, only themselves. The picture of apparent health they paint is a grotesque distortion of a still troubled and badly unstable world.
There is a phrase often used in dealing rooms (at least it used to be): enjoy the party, but dance near the door. A stock market rally does not a recovery make. Julian Robertson's words above point to two possible outcomes for the economy: deflationary ice, or inflationary fire (or conceivably both). The rally has lifted many stocks back to fair value, but given the macro backdrop they should really still be cheap.
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This article has 16 comments:
Reality. Think about it.
Essentially, the loose monetary policy is "giving a drunk another drink" and while it may alleviate the headache today, it does little to reform the long-term addiction to excessive debt which is so ingrained in both the consumer and business markets. Whatever happened to expanding your net worth or business based on hard work and conservative fiscal discipline - instead of excessive borrowing?
zachstocks.com
The stock market cannot remain divorced from reality for ever. Benjamin Graham wrote that, the stock market behaves like a voting machine, but in the long term it acts like a weighing machine (i.e. its true value will in the long run be reflected in its stock price).
While the economy is truly bad right now it will get better. Time is a great healer. My analysis of past bear markets show that it may take 5+ years for investors to regain what they have lost. So patience and an eye for value is the key to survive and prosper.
www.scribd.com/doc/180...
You can't save him and as they are falling you run towards the well screaming. You look down and you see nothing but blackness and then what could be interpreted as a thud, but nothing is certain. Possibly muffled sounds are heard, too
You, hoping and praying that was indeed a thud you heard start singing and dancing.
The fire department arrives and you gleefully and enthusiastically tell them what has occurred. They, being sort of pragmatic, ask what the hell you are doing.
"Everything is ok, I believe he stopped falling and I think he might still be alive" is your response to the confusion of the crowd.
The fireman, even more unbelievably, start to dance and sing with you. While your friend is dying below, the party at the top is pretty swell.
The crowd, incredulous to your excitement, won't join in on your celebration until the person is known to be alive, up and out of the well and in good hands that can provide the right care.
You are Wall Street, the falling person is the economy, the fireman are the media schills, the crowd is retail and the "good hands" is our government.
So good luck with that.............
THIS IS ONE HELL OF A BEAR MARKET RALLY
There are enormous deflationary forces out there and they are being met by enormous inflationary forces deployed by central bankers. But nothing moves in a straight line. There will be upturns and there will be renewed downturns. It will take a number of years for this to wash through the system. Ultimately inflation will win but it may take a long time to get there. In the meantime, with these enormous forces around, sparks will fly. There will be shocks and, because of the size of the forces deployed, the shocks will be big. That's why I agree with your last sentence: "The rally has lifted many stocks back to fair value, but given the macro backdrop they should really still be cheap."
> While the economy is truly bad right now it will get better. Time
> is a great healer.
Ned: without structurally changing our economy, which I doubt will happen, just how will the economy get better? This is not a rhetorical question, I really would like to know how you think the economy will get better, please be specific?
It seems to me that absent structural changes to our economy, we will continue to lose the economic high ground and the life style that goes with the high ground.
www.scribd.com/doc/180...
On Aug 10 02:47 PM Bjarne Jensen wrote:
It seems to me that absent structural changes to our economy, we will continue to lose the economic high ground and the life style that goes with the high ground.
War machines have huge negative value to the society that builds and uses them. They strip a nation's ability to both pay off the debt incurred when building them without shrinking its economy. National governments of war participants print fiat money faster and faster as a remedy in post war years. They print too much too fast and create exploding inflsations followed by collapses in their values of debt and common stock and buildings and labor rates,
Want to know what will happen next in the USA or other countries? Read history books. Study the post Worldly Duo Wars period in England, Germany, and the USA.
Think South America, Asia, and Europe for happy ever after, at least till start waring.
Good luck.
On Aug 10 02:47 PM Bjarne Jensen wrote:
> On Aug 10 12:28 PM E Nuff Sed wrote:
On Aug 10 12:13 PM markfl wrote:
> I read the article from Deutsche Bank a few days ago. It is explicitly
> sobering. Even if you only watch the first few minutes of Shiller's
> interview seekingalpha.com/artic...
> , readers of this article really ought to allow themselves that opportunity.
> It may take YEARS for home prices to increase. Not months, but YEARS.
> His words, not mine. An owner upside down or locked into a negative
> equity trap can sit it out until 2015, write a check to cover the
> short, or walk.
>
> Reality. Think about it.
On Aug 11 03:08 PM Sunnsea wrote:
> 18 years is the full real estate cycle and 2015 would be right on
> schedule from the last rebound start of 1997-98. Sit tight, if can
> you still have your job, it's only 5.5 years from now.
The cure may well be the root problem. Simultaneously deploying QE and Keynesian Government Deficit Spending, in a current environment of high government debt, is an extremely dicey project fraught with unknown-unknowns and plenty of unintended consequences (Japan 2001-2006 being the lone experiment in an advanced economy).
Both QE and Keynesian Government Deficit Spending are theories developed in low or zero debt environments. Combining the two theories, in an environment of high debt, can clearly create disconnects such as stock markets/real economy, banking with zero capital acquisition costs/making loans to odd economic sectors, etc.
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