Quasar - again thanks for the great post "Godilocks economy".
I'll answer your rebuttals(the ones I disagree with) to my points and see what you think:
I said:
What matter is what future earnings are going to be.
You said:
That hardly matters at all. What matters is the psychological state of the next marginal buyer/seller. Contrary to popular belief there is almost no correlation between perfect earnings forecasting ability and stock picking performance. This was detailed in a study by Robert Colby and Thomas Myers in The Encyclopedia of Technical Market Indicators.
I agree with you completely here. I primarily use technical analysis - charting to determine my investing and trading decisions. I only looks at fundamentals to confirm other decisions I am making. With our discussion on the economy I am not going to sell off or cease buying stocks because of the coming economic slowdown. However, I expect that the technical action of the market will give us its own warning signs and sell signals.
I said:
Sectors such as retail, construction which lead the broad market - dependent upon consumer spending - are dropping which isn't a good sign.
You replied:
Actually home-building stocks have done quite well through this downturn. Retail has been weak. The whole retail concept of brick and mortar distribution is in the preliminary stages of chaos. There will be some clear winners here (WalMart) but also some clear losers
I think the drop in retail stocks and their earnings is a serious sign and that the power of the Internet to steal consumers from traditional retails is hyped up in general. We can look at consumer spending economic data to settle the matter and it shows a flattening and weakening consumer spending curve.
I said:
Biotech strength is interesting and does seem to indicate that there is a lot of speculative money in the market and adds to the bull case.
You said:
I believe it takes away from the bull case. While biotechs do represent a VERY long term bullish case, these stocks seemed overvalued on balance. I don't think many investors realize the very long lead times for biotech drugs. A lot of this is pie in the sky (genomics). I agree that biotechs in some cases have assumed the hot money characteristics of the Internet stocks. At least there is more meat on the bones here.
The fundamental underpinnings of the bull case come from the torrent of money constantly pouring into the market . This is primarily due to the baby boomers dumping money into their IRA’s and 401K’s. The boomers are also the recipients of the greatest wealth transfer in US history. As their parents pass on they leave vast sums of real estate, cash and stock to their heirs. This generation, who have primarily grown up in a positive investment environment have no qualms about equity participation, unlike their parents who were reeling form stories of the last Great Depression and two world wars.
The other torrent comes from strong dollar inspired buying from foreign investors. While many decry the balance of payment problem I see it as a non issue. The excess money sent abroad comes right back into the US as investment. As long as the dollar remains relatively strong this will continue. It is dollar weakness which should be feared. A strong dollar is a sign of US economic strength not weakness.
Goods and services are presently deflating. This is due to falling global business costs through information technology and rising global competition. The only fly in the ointment has been rising oil prices. But this is a temporary phenomenon, the last gasp of the industrial age. Oil prices are not as intrinsically tied to corporate costs as they were during the shocks of the 70’s so this becomes much less of a sticking point. The commodity based inflation/deflation cycles described by the Kondratieff Agrarian/Industrial cycle are no longer relevant. This is an information age. The fear will become global deflation, not inflation. This is what the Fed fears most! This is where corporate margin pressure can come from. This is where the bear case resides.
Margins will be simultaneously squeezed by greater competition and bolstered by rising efficiencies. Unit shipments will rise. Demand growth will continue. Competition will increase. Trade barriers will become ineffective. This is why other currencies are falling. They are clinging to industrial age economic principals while the world has dramatically shifted in front of their eyes. What will happen is that many companies will fail not because of global recessions, but because they fail to grasp the competitive truth. This is the main reason Europe (Euro) is failing.
The smaller amount of companies that remain will be incredibly prosperous. They will in essence become world corporate states. They will rely on the small entrepreneurial firms to take the risk, while they aggregate the winners into their massive global enterprises. The small companies that succeed will be moon shots. The rest will be buried or absorbed into the matmos.
The real long term question is will the US be able to compete if/when the second and third world get their act together. This will only be answered in the fullness of time.
Quasar
My reply:
The Biotechs are interesting because like you said they are completely speculative, just like the Internets were. Typiclaly towards the end of bull markets the final sectors to move are speculative sectors will little or no instrinsic value. The fact that biotechs are still hot seems to indicate that parts of the bull market are intact. It's not dead yet.
One question that is never asked about the baby boomers is what is going to happen when they stop putting money into their retirement accounts and begin liquidating parts of them so that they can retire, live, vacation, and move to Florida? So far the continual pouring of money into the markets by people in there 40s and 50s has created a stable pool of money to support the market. This has also happened in the real estate markets. Once they reach their 60s, which will happen by the end of the decade and they begin to withdrawal money from the market and sell off some of their real estate there will be deflationary aspect to the markets. If there are any signs of a downturn, these people whose retirement depends upon a rising stock market, will be tempted to liquidate their portfolios in the face of a financial crash. This group which has been supporting the market will eventually become a horrible drag on it. I'm talking within 10 years, not tomorrow.
I think you are right to focus on the value of the dollar and this is the real crux of the discussion topic. The economy is going to slow down. This is a fact. It's just a matter of how much. Will we get a nice soft landing? It's possible. However, if the dollar drops in value because of economic imbalances in the world financial system, such as the current account deficit, continual collapse of Asian economies, fiscal mismanagement on the part of the next President, then we will have a real crisis at hand and the odds of an extended recession will increase.
You say that the fear will be deflation and not inflation. Again you are probably right here. But this is the fear of normal people like you and I. The Federal Reserve has always been more obsessed with inflation rather than deflation and it will be in the future. I'll say more about that in the future. |
