good puplava tonight
financialsense.com
THE TWILIGHT ZONE
First, today’s economic news and then I will discuss the market’s reaction.
Financial Headlines
Consumer Confidence Index Drops to 62.5, Lowest since Oct. 1993.
Airlines to get aid from Congress as demand slumps.
Unum Provident settles with SEC over accounting dispute.
Heath South shares plunge: NYSE seeks delisting.
Mexico-US border delays lengthen as security tightening hampers trade
Bank of Japan increases stock purchases of troubled banks.
Outlook for travel industry worsens because of war.
Survey indicates foreclosure rate is climbing.
Home sales fell 4.3 percent last month.
More tech layoffs lie directly ahead.
Delta cuts capacity by 12 percent.
Leaseholders face major losses in AMR crisis.
Long military campaign threatens fragile US economy.
Political Headlines
Coalition forces take casualties; move on Baghdad through wind, rain, sand.
US & Russia clash over weapons sales to Iraq.
UN envoy: N. Korea preparing for war with US.
Senate votes to slash Bush tax cut by more than half.
Iraq prepares suicide bombers against US troops.
President and Pentagon won’t predict duration of war.
Rumsfeld: War’s dangers could grow.
U.S, Iraq set to use chemical and biological weapons on US troops.
France/Germany boycott American goods.
It is doubtful whether today’s headlines would have generated an impulse to go out and buy US stocks. In fact, most financial reporters seemed puzzled at today’s market reaction. I’m not. I believe what the Fed and government authorities are now doing is targeting the outcome of US markets in an effort to prevent a drawdown or stock market crash. We now know from Fed officials that the Fed is targeting the bond market. Today Fed Governor Ben S. Bernanke highlighted the benefits of Fed targeting inflation rates. The Fed governor mentions the benefits of many countries such as Thailand, Brazil, Mexico, and the Philippines of central bank efforts to target inflation rates. Every one of these countries have experienced currency crises and asset bubbles. Now where is it mentioned in the Fed governor’s speech that central bank efforts in expanding credit and money supply have fostered asset bubbles, which are another manifestation of inflation? In the Fed’s view if prices on goods remain stable and asset prices rise as a consequence, this is a good thing. In other words, asset bubbles are completely ignored as a direct consequence of credit expansion. It is only when asset bubbles collapse that the Fed becomes concerned. [Today's speech]
The Fed thinks that it can target the inflation rate when it only measures certain aspects of inflation. By the same token it now feels that it can target the outcome of the financial markets. Back in July of 1999, a Fed policy paper outlined the possibility of not only targeting interest rates by Fed purchases of Treasuries in order to drive rate down, but also the possibility of purchasing other private sector securities--either bonds or stocks. Last week we learned of an agreement between Japan and the Fed to intervene in the financial markets at all levels whether it is stocks, bonds, or currencies in order to maintain an orderly market throughout the war.
For this reason, as I wrote yesterday, after the markets fell sharply the US authorities couldn’t allow a drawdown to take place in the financial markets because if it did, inevitably a stock market crash would follow. Therefore, you will see another pattern that develops besides trying to avoid drawdowns. A drawdown is a series of consecutive down days that escalate as stock prices plunge, leading up to a stock market crash. This policy of preventing drawdowns has been obvious since last July when it appeared that the US stock market was headed for the abyss. Since then every time markets have approached key support levels and are in danger of breaching them, miracles take place in the markets. Stocks suddenly rally for no apparent reason. The most obvious explanation is that technically stock prices are bouncing back from oversold conditions. There is nothing wrong with that assumption. Nothing goes straight down or straight up without intermediate countertrends. What isn’t as apparent is why stock prices suddenly stop at key support levels and then bounce back immediately on worsening news.
Bullish or Bearish Depends on the WHAT
We have remained bearish on stocks at our firm since early 2000. We remain bearish to this day and feel that this year will mark the fourth consecutive year of losses for the major indexes since the Great Depression. While I remain bearish on paper, I remain bullish on “things,” despite the best efforts by Washington and Wall Street to discredit hard assets, especially gold. My reason for remaining bearish on equities is simple and is expressed in the table below. The table is based on trailing earnings as supplied by Bloomberg. Real net income figures could be much different if not lower because of the exclusion of certain expenses and charges from earnings.
Trailing Earnings of Major Indexes
Index P/E Div/Yield Price/Book P/Sales
Dow Industrials 28.7 2.45% 3.6x 1.0x
S & P 500 30.0 1.85% 2.7x 1.3x
NASDAQ Neg .43% 2.7x 1.8x
P = Price, E = Earnings, and Div = Dividend
In one word, my bearishness is based on valuation levels that tell me we are far from a bottom. In fact, it is not only valuation, but also sentiment. Sentiment is bullish on Wall Street; while Main Street remains in a state of denial. Many investors still refuse to look at monthly statements. Mutual fund cash positions are at the lowest level that I can remember in my entire career. Popular perceptions widely held on Wall Street are that the current war in Iraq is a simple distraction that will end quickly without any side effects. A deteriorating fiscal and monetary picture is dismissed or isn’t even discussed. The fact that all markets seem to be acting abnormally at the moment is also dismissed. Stocks have gone down despite the lowest interest rates in almost a half a century. Bond yields have fallen despite a plunging US dollar, rising gold and commodity prices. The bond market holds firm despite a rising and record trade deficit, a rising budget deficit, and a deteriorating fiscal crisis at the state and local levels of government. Now that the US is involved in a costly war, the fiscal and monetary situation will only get worse and not better. Add to this is the fact that the Fed is close to near zero on its interest rate options. We are now at negative interest rates in the US when you take into effect taxes and inflation. Another anomaly has been rising in commodity prices, especially metals and energy and declining precious metals shares and falling share prices for energy equities.
This is a period of extraordinary high risk unlike the 1991 recession and last Gulf War. Back then, the Fed had a wide range of options to fight economic weakness. In 1991 the Fed fund rates was in the high single digits. Today rates are at 1.25%. Does Wall Street think going to zero will rescue the economy and the markets? If they do, they should look at Japan today.
Another popular delusion held by the Street is that after the war, consumers and corporations will go on another spending spree. To think that a debt-burdened consumer, who is already overstretched, will once again rescue the economy with more debt and spending borders on the absurd. Even more absurd is to think how corporate profits, which have improved due to cost cutting and layoffs, will help generate consumer demand. An unemployed worker doesn’t have the same spending and borrowing capabilities as one who is gainfully employed. Under current assumptions companies cut costs by firing more workers. These fired workers then go deeper into debt to consume more goods and services. Because of this logic, we then get a recovery. Companies also start spending more money after the war because war, not business conditions, are keeping companies from spending more money on plant and equipment. If one out of four factories remains idle, and there is very little top line growth, why would a company build another plant or spend money on equipment when orders aren’t coming in and when profits remain dismal?
Most companies that are experiencing robust sales, (the defense industry is one of them) are doing so by cannibalizing business from competitors. Today Dell announced that it was going in the printer business against giant rival HP. Dell will sell ink jet and laser printers at prices that are 10 percent cheaper than HP. Tech businesses are locked into a vicious deflationary spiral due to productivity gains and foreign competition. If business was improving, they wouldn’t be laying off 14-20 percent of their workforce after last year’s major layoffs.
Despite nothing but dismal news coming from the tech sector, Wall Street, hedge fund managers, and mutual funds continue to buy tech stocks in the hopes of another rebound and recovery. The worse the news gets, the more I hear that you have to look beyond today’s bad news and buy because of the recovery, which has eluded us for four consecutive years. It is simply beyond most managers and investment firms to even consider that in the aftermath of a bubble, equity markets can perform dismally for decades or longer; 25 years after 1929, and 16 years after 1966.
In the meantime, it appears that the US trade, current account, and budget deficits are going to get larger. This should lead to a deteriorating position for the US dollar. It also appears that Wall Street’s assumption for a quick war in Iraq is wrong. A rising budget deficit, rising trade deficit and deteriorating fiscal and monetary indicates that a severe dollar crisis is on the horizon. It is this very same deteriorating fiscal and monetary condition that makes the prospects for investment in “things” that much more appealing. The government may try to manipulate the markets in the short-term, but in the long-term this leads to distortions that create reflexive reactions by market participants triggering corrective actions in the markets that become more severe. The more the government tinkers with the financial markets, and the more it encourages speculation by enforcing the moral hazard, the more likely a ten-sigma event is bound to occur. Markets are out of balance and on edge when almost anything can occur. It is the big unexpected event that I believe is coming that the markets are ill prepared for that should rid these markets of complacency.
On that note just as paper assets have become overvalued over these last two decades, the same conditions are opposite in the commodities markets. Commodity markets have just gone through a multi-decade bear market. Demand is increasing mainly as a result of the developing world. Demand is rising for food, energy, and most base metals. While demand increases, supplies have contracted. Lower prices have caused the industry to contract, businesses to go under, consolidation to sweep the industry and output to begin falling. Bull markets are built on these conditions. Add to this the extreme disbelief in the sector and widespread pessimism towards the industry. There is also the tendency to extrapolate conditions in the past well into the future. Wall Street and most investment analysts extrapolate forward the growth and bull market of the last two decades well into the future. At the same time they extrapolate forward the bear market conditions of these same two decades forward for the commodity sector. It is similar to a weather man giving a forecast that winters have now been eliminated and that nothing but sunny skies and warm pleasant weather can be expected from this point forward.
Man has never learned to conquer nature. In this same vein I don’t believe that governments have been able to conquer the business cycle for they are the biggest contributor to their genesis.
Today's Market
Looking at today’s casino results, all major indexes came in positive for the day. The markets, which turned negative at the opening bell on negative economic and corporate news, got a giant shot in the arm early this morning in the futures pit. Today’s explanation for the markets rally was a report out that residents of Basra are in revolt against the Iraqi regime and that the President is optimistic as to the outcome of the war. In the words of one money manager, “There were no new dead bodies, and prisoners shown on TV. Nothing bad happened.” Okay, I guess we then go and buy stocks. Airline stocks got a boost as it now looks like a government bail out package may shortly work its way through Congress. The US Senate also trimmed Bush’s tax stimulus package by more than half so you can eliminate significant tax cuts coming out of Washington as an economic stimulus. The only stimulus that looks reliable is more government spending and bailouts for troubled industries.
Volume levels rose to 1.33 billion on the NYSE and were about the same on the Nasdaq with 1.42 billion shares traded. Market breadth was 2-1. The VIX fell 2.54 to 32.66 and the VXN dropped 1.36 to 45. While stocks rose the dollar and the bond markets fell. The bond markets were rescued at the end of the day. Commodity prices rose and fell all day long as it appeared attempts were made to keep a lid on prices. Both gold and energy rose and were then hammered at the end of the day. The pattern is all too familiar to gold investors. You have rising overseas prices but falling prices at the end of the day in the US. The markets seemed to be ignoring the accounting scandals, the worsening economic and earnings news and chose instead to rise on hype and on promises of better times ahead. Watching today’s reaction to news after yesterday was similar to watching an episode of The Twilight Zone. Perhaps Rod Serling should be giving the financial reports for today’s market, which operated and reacted more like something out of fiction than reality.
Overseas Markets
European stocks advanced amid gains for consumer-product makers such as Unilever and oil companies such as Royal Dutch Petroleum Co., whose earnings may be least affected by the war in Iraq. The Dow Jones Stoxx 50 Index gained 1.5 percent to 2237.92. The Stoxx 600 Index rose 1.2 percent to 186.74; energy stocks accounted for a quarter of the advance, and food and beverage stocks also were among the best performers. Benchmark indexes rose in 12 of 16 Western European markets.
Asian stocks fell on concern resistance to the U.S.-led campaign to oust Iraq's Saddam Hussein will increase war costs for the world's biggest economy. Honda Motor Co. and Samsung Electronics Co. declined. Japan's Nikkei 225 Stock Average sank 2.3 percent to 8238.76. South Korea's Kospi index slid 2.6 percent. |
