Dan Alpert is a founding Managing Director of Westwood Capital LLC and has more than 30 years of international merchant banking and investment banking experience domestically as well as in East Asia, the Middle East, and Eastern Europe and has written extensively on the housing and credit bubbles and the resulting economic crisis.
H.L.: The government collapse in Portugal, the debt crisis in the European euro countries, civil war in Libya, unrest in Syria, Japan’s problems, $105 oil, bad February durable goods orders, and lower consumer confidence – all of those have not particularly shaken the stock market. Why not?
D.A.: Half of these issues are “black swan” type issues that nobody could have expected, including the Middle East and Japan. In theory, those have shaken the market, albeit for the very short term. The bigger issue is why are people buying equities and at a peak valuation which is very, very high historically which clearly in my opinion reflects speculation. It reflects a considerable amount of liquidity which is floating around the world, It’s found itself chiefly in the equity markets and in the commodities complex.
You’re seeing irrational exuberance, a perhaps overused phrase, the same way we saw it in 2008 when the bloom was off the rose, and money rushed in and cause a huge situation in the commodities complex. We see it every time. The liquidity is in excess of where it should be rationally used. Specifically, we’re looking at some numbers in the economy that are very highly unattractive.
The traders I speak to - and I speak to a number of them - are telling me the volumes in the public equity markets are such that really none of the smart money is playing. These are people who are going in for the day, moving the market one way or the other, and getting out. These are not investors who are buying to hold. God forbid the retail investor is fooled by this, because the retail investor should be about as far away from this market as anyone can get.
Now that the big money, the hedge funds, are going in and going out within a day, nobody’s got any confidence in this thing and it’s all showing up in the volumes. You can see the volumes are pretty light.
H.L.: What are the biggest concerns for the U.S. economy?
D.A.: Where do I start? Although we’ve flooded the market with cash, we’re still battling enormous deflationary pressures that continue to bear down on us as a result of the expansion of the emerging markets. No matter what anyone says, the size of the global-demand pie is not going to grow fast enough to avoid dealing with the enormous imbalances between the emerging nations and the developed nations and having to rebalance our wages and standard of living.
We prefer to use the metaphor of (Federal Reserve Chairman) Ben Bernanke as the Dutch boy holding his finger in the dike and hoping that the deflationary pressure stays on the other side of the dike until the domestic economy recovers. But as we can see, the domestic economy is not really recovering if we have pretty dismal employment and underemployment situations. We look at the employment population ratio, which is at a really horrible level. The number of low-wage jobs keeps going up, and the number of high-wage jobs keeps going down, so just adding jobs which all have been added at the low end really doesn’t do very much for the economy.
Add to that the factor that we’re still dealing with a massive debt overhang. We were truly in a horrible environment. During the bubble it cost literally $7-plus in additional debt in order to create every dollar of Gross Domestic Product at the peak of the nonsense, and that’s ridiculous. The debt-to-GDP ratio obviously continued to go up and up and now is hovering just shy of four times, which is an overhang which very, very few nations, other than Japan, have to endure.
Money supply is very much endangered. We’re still losing the credit creation, meaning that broad measures of money supply are going down still. The only reason the economy is surviving is off velocity – the number of times capital is turned in a year -- not money supply growth, and velocity is reaching cyclical highs, and I’m not sure how far we can push it.
During the Fed’s two quantitative easing phases, QE 1 and QE 2, federal assets obviously went up, because they kept buying securities, and during QE 1 the stock market went up, up, up, and as soon as QE 1 ended the stock market went down. And as soon as QE 2 began the stock market went up again. So you have QE2 ending in June, so after that, what’s next?
The stock market is also being juiced by margin account balances (cash borrowed to buy stock). During the current rally we’ve seen for the first time since the crash margin balances go up above $300 billion. Clearly, this is a market that’s being driven by fluff not substance.
H.L.: How solid are soaring corporate profits?
D.A.: Corporate earnings are very, very impressive. Due to enormous efficiencies that corporations have picked up since the crash since they fired everybody, they’ve also knocked out a lot of competitors. The classic example is Best Buy, which is showing some terrible numbers right now, because nobody has any money now to buy consumer electronics, the fact that they looked very good last year was simply because Circuit City was out of the picture and went bankrupt. So the answer is that people who just look at corporate numbers and don’t look through the actual fundamentals of the business are missing the point.