How to remain bearish in a resurgent market
Paul Kedrosky National Post
How does a well-intentioned bear stay bearish? Even yours truly, a tireless skeptic about the stock market for the past two years, has turned irritatingly upbeat of late. But as a thought experiment -- what Germans call a gedanken -- let's imagine how things could get worse from here. Good gedanken fun.
With markets rocketing upward, there are two ways upbeat investors could be wrong. First, the current economic weakness could become even deeper, with economies in Canada, the United States and Europe shrinking rather than merely teetering around the zero-growth market. Second, the downturn could turn out to be longer than investors expect, with the recovery ever-receding into some hazy future, sliding from late 2001 into early 2002, and then further out from there.
Why might either or all of the above happen? There is a laundry list of reasons.
Consider: The United States has sneezed, and the rest of the world quickly caught a cold. Singapore, Germany, France and Taiwan are head-feinting an economic downturn; and Japan, always eager to please (and the United States' second-largest trading partner), looks like it will score a 10 from the Russian judge by diving into recession without a splash.
The concern, of course, is that with so many of the United States' major trading partners all falling into deep economic water at once, the United States' brawny economy can't play lifeguard and save them.
And as they sink, these economies threaten to drag the United States down with them. After all, about 30% of the demand for the products and services of S&P 500 firms in the United States comes from outside the United States, with energy and technology leading the way. Among the companies most exposed to current weakness in Europe and Asia are Exxon, Intel, IBM and Hewlett-Packard. These companies generate more than 50% of their sales in those regions.
Given how quickly non-U.S. economies are faltering, and given the extent to which they bolster some of the largest companies in the S&P 500, the implications of a tumble are fairly obvious. If Europe and
Asia enter recession and stay there, as now seems likely, the chances of a U.S. downturn being more prolonged than currently expected go up dramatically.
Hopes for the beleaguered telecommunications sector already hinge on the two faltering regions. Most analysts have given up on Corning and JDS Uniphase, as well as on the major backbone network vendors like Nortel, Cisco and Lucent, now that core long-haul networks are largely built in North America. But eyes have already turned to Europe and Asia, where those same long-haul networks are largely nascent. Ah-ha! say analysts and equipment vendors. The same gung-ho construction can
happen there, and that will turn telecommunications around. It may, but continued economic weakness in those regions will push that sort of glad-handing network-building further into the future. Resting
many near-term hopes on the flick Long-haul Build-out II: Nortel Goes to Europe is a bet more appropriate for Ladsbroke than Laos.
But you don't have to turn so far afield to see how things could get worse, rather than better. So far, hot-pocket U.S. consumers have defied the wealth effect, retirement savings and common sense by
continuing to spend freely on pretty much all the same things they spent on before the economy went south. It is a kind of unconscious, grassroots Keynesianism: consumer-led (as opposed to government-led) deficit spending keeping the economy afloat. But what happens if they're wrong, if their jobs disappear, or if the downturn is longer-steeper-deeper than they expect? Answer: That deficit spending will disappear in a heartbeat, and the chances of a quick domestic turnaround will disappear right alongside.
The above is most likely in a kind of double-dip scenario -- where the economy begins to rebound, but not nearly as strongly as investors expected. The economy falters, then falls back into recession, and
consumers say, "Thanks, but no thanks. I already bailed this thing out once before. This time it's someone else's turn."
But last week's market resurgence has investors upbeat. Bears, on the other hand, are holding firm. Money manager Bill Fleckenstein, of Seattle-based Fleckenstein Capital, is representative of many. The
enfant terrible of New Economy stocks, the man that CNBC shrugs off as "that long-haired guy from Seattle," thinks that the Nasdaq still has a long way to fall -- perhaps by half. The short-seller cheerfully
calls this week's market-moving Microsoft revenue pre-announcement "hype and bull----"; he thinks that the current optimism oscillation is just another example of how many investors, Rip Van Winkle-like, woke up in the late 1990s in a bull market, and are childishly impatient for its return: "Investors know no history," he says.
Mr. Fleckenstein has been right for the last 18 months, but is his skepticism still warranted?
Sort of. Investors don't know history. They don't know that many economic downturns, especially post-bubble, don't end so neatly. The last 18 months are nothing compared to some of the market's longer blue periods. But that is, in part, what makes betting against the current market so difficult. If investors are willing to play amateur Keynesians and goad the economy back onto its feet -- even if only temporarily -- who are the bears to ruin the party?
(Paul Kedrosky is a professor of business at the University of British Columbia.) |
