OT - Demographics
Briefing.com has a section on demographics in today's editorial...
Updated: 16-Apr-00
The End of An Era?
[BRIEFING.COM - Robert V. Green] The turmoil in the stock market over the last month has many people confused and puzzled. For many, the market decline has blind-sided them. This is particularly true of new investors, who thought that they had learned the rules quickly, because stock they bought had risen quickly. But it is far more likely that everyone is going to have to learn a whole new set of rules, now. We are on the verge of a new era.
Here is a collection of thoughts on the transition to the next era of the market.
Economy Still Strong
The great bull market of the last 18 years was built on three core trends:
Solid, but not excessive growth
Lower interest rates
Lower inflation
Despite the unexpected CPI report released on Friday, all of these parameters are still in place. The single data point on CPI, while generating fear in many, can't be viewed as a trend. Yet.
We are still in a long term secular decline with interest rates, although in the short term rates may rise. Fear of a drastic change in the inflation and interest rate future is overblown. The real rate of return, the difference between interest rates, and the rate of inflation is the important number. So far, we are still at very high real rates of return, which bodes well for the future.
It is far too early to call the bull market over because the pillars of growth, inflation, and rate declines have fallen. In fact, it is more likely that Friday's CPI report was an excuse for the sell off, rather than the real reason.
Demographics Still Good
For believers in the demographics argument, best expressed by author Harry Dent, (The Roaring 2000's), the future for the economy, and the stock market, is still very good.
In a sentence, the demographic argument is: "there are more people at their peak buying years of their life, than there were before, therefore the economy grows." The peak spending years are ages 45-55, and the baby boom is still in the middle of that timeframe.
If you believe this argument, and it has much merit, the demographic projection is for continued economic growth for at least five more years.
This also means that companies will continue to grow, and business will thrive.
The only real question is what valuation the market will put on those growing businesses.
Valuations Likely To Be Reset
As the rules of the next era get written over the next six months, extreme valuations are not as likely to occur.
We are not likely to see companies with no earnings and little revenues get Price/Sales ratios of 500 any time again soon.
The conditions which created those valuations often had more to do with "hot stock" chasing than an actual appraisal of a company's prospects.
But many "hot stock chasers" who used leverage for higher returns, are getting burned badly now. Some will continue on, but a huge number of them will step aside for a while, or be much more cautious. And with a lot fewer traders, particularly "fresh blood" traders, the market will change drastically.
The New Era, In One Sentence
The new valuation standards will be based more on what long term investors are willing to pay for a stock, than on what short term traders were willing to pay.
No one knows exactly where that level is yet, including us.
Lower Margin Appetite: Lower Volatility
Margin, which may be responsible for much of the market's rise in 1999, and most of its fall in 2000, is a dangerous tool.
Anyone who received a call two weeks ago and sold enough to completely pay off the margin has been very relieved lately. Anyone who sold only enough to meet the call, has almost certainly received another call.
There is no question that margin buying got excessive in recent months. Those that have lost real money are likely to back off of margin in the future.
It is simply a shame that so many people had to learn this lesson the hard way. But once the margin excess is wrung out, lower volatility is likely.
Disconnected Stocks Less Likely
As part of this transition, "disconnected" stocks will be less likely.
A "disconnected stock" is a term we coined at Briefing.com as far back as April 1999.. A disconnected stock is one whose trading loses all relationship to the underlying business prospects of the company.
The remarkable thing is that disconnection, which has long been common in bulletin board stocks, happened to prominent, solid companies in the past year. Now they are being "reconnected," painfully.
Buying on The Dip is Gone
Buying on the dip used to payoff, all the time.
Anyone who bought on the dip over the past two weeks is now licking their wounds. They aren't likely to step up to the plate anytime soon.
This means that the market will not bottom until everyone who needs to sell, is done selling.
Uncertainty Ahead
What lies ahead?
First, the market will bottom out, at some point.
Are we there yet?
If you believe that forced margin selling is a driving force behind the recent declines, then only data on margin levels will help answer the question.
We may not be done, if heavily margined investors have only been selling enough to meet margin calls, not erase the margin. If a reluctance to pay off the margin is prevalent, the market might continue to decline until all of the excess has been wrung out.
If the latter scenario is true, any one with cash, and bravado, will have their pick of some real bargains in the weeks to come.
For the most part, we think we are pretty close to the bottom. But you will only see a "bottom" in the general market indexes. "Bad" stocks probably have a lot further to fall.
Very Stock Dependent
While the market indexes may "bottom" out, stocks with weak business models may find themselves on a continual downhill slide for the next couple of quarters.
The "Great Sifting," as we have been calling it since the Stock Brief of January 3, is likely to continue. And like all any good thrashing, the wheat will remain, while the chaff gets thrown away.
Particularly vulnerable are stocks which had strong disconnected runups, with little proof of concept in their business model.
What To Focus On In The Coming Weeks
First you must decide if you are investing, or trading.
If investing, it is very important now to determine which of your stocks are chaff, and which are wheat.
First of all, forget about analyzing any stock based on how far it has fallen.
Thinking such as "It is 80% off its high! It must be a bargain!" is almost certain to be misleading.
Some stocks currently 80% of their highs, are more likely to disappear altogether than ever reach their highs again. In this category are stocks without earnings, without a predictable break-even point, without enough cash to reach the break-even point, and without a sustaining competitive advantage. There are literally hundreds of stocks that meet this definition. Most IPO'd in the last two years.
It will be far better to find solid companies, with growing revenues, in growing industries. The best investments may well be large-cap, "dull" stocks, with solid earnings and in a position to benefit from the continued boom of the internet, like Bell Atlantic, General Motors, or General Electric.
If trading, it is going to be especially important to understand your own system. Every trader must have a system. If your system was simply "buy stocks that are going up," it probably won't be good enough any more.
The best traders will be aware that the rules have changed, and figure them out as quickly as possible. Unfortunately, no one, including us, knows what the new trading rules are, in advance. You will have to walk nimbly in the next few weeks, and be open to new approaches, to figure out the new mindset.
The new era isn't quite here yet. The old one has to stop kicking first. But that's coming soon.
Comments may be emailed to the author, Robert V. Green, at rvgreen@briefing.com
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