For whatever it's worth, I thought I would share my rather unsophisticated opinion of today's January 2002 stock market. Having purchased my first share of AT&T stock in 1965 I've had the benefit of almost 37 years of ups and downs in the market. Bottom line my opinion is that we will likely be in for a secular bear market for the next 10 years or so and these are the reasons why. I welcome your perspective.
BEAR MARKET RATIONALE
1/ Demographics: Baby Boomers are aging. Historically increasing age correlates with increasing financial conservatism. The boomers drove this market up and will drive it down. The leading edge boomers are beginning to retire now.
2/ Need for Income: Retired boomers will first start looking for stocks with dividends and not growth. Then they will look for more fixed income returns such as CDs and bonds. There will be a secular trend to reallocate out of the equities market. It will weigh heavily on stock prices. At first stock prices will just stagnate and then subsequently fall as non-performance will force investors to look elsewhere. Rallies will occur from short term over sold conditions but think it will inevitably be a series of lower highs and lower lows.
3/ Hunt for Yield: Although treasury bond yields are historically low at about 5.4% for 30 yr bonds they could go lower due to demand for safety and returns. There may come a time when a 5.4% guaranteed yield would be considered very desirable. Inflation protected treasuries may offer the best overall protection. Rates will probably climb later this year during what will probably be a modest economic recovery. It will be a good buying opportunity.
4/ Market Valuations: While the economy will probably improve on a cyclical basis this year, the earnings will not support the valuations (PE levels) that have been artificially pushed up by the massive equity investments of boomers during the late 80s and 90s. In other words a 15% earnings growth will not support a 25 PE once the reality hits that the 10-15% is as good as it gets. Overall enthusiasm for stocks is waning and overall PEs will fall and probably overcompensate on the down side..
5/ Market Cycles: Longest economic expansion in history is now history along with the longest bull market. The economy and markets are cyclical and averages always regress to the mean. We've got a long way to go to get stock market returns back down to the long term average. By bet is that could mean 10 years or so of flat returns or maybe very negative returns for a lesser time.
6/ Investor Confidence: There is a reduction in overall investor confidence. Accounting irregularities such as Enron's are probably only the tip of the iceberg. Financial publications in recent years have been carrying articles about funny earnings and potential financial indiscretions at many firms. If investors start to lose confidence in the financial reports of public companies the exit doors of the stock market will not be wide enough to let the stampede out.
7/ Reduced Appetite for Risk: Reduced appetite for risk as a result of Enron and others will reduce the availability of capital and will slow expansion.
8/ Increased External Risk: The market has now discovered the perils of external risk on 9-11-02. These unforeseen events (terrorism, war, major natural disasters, etc) are unfortunately, to some extent, more probable. They must be factored in as the result can be devastating. This is something airline stocks have always faced. This risk factor is just another overhang to the market.
9/ Gold: I think there is a case to be made for gold stocks as insurance and a potentially good investment.. Gold has been out of favor for over a generation. Yet it was one of the best performers in 2001. It is not taken seriously by any financial analyst of note and is in fact down played by most. They scoff at it. Gold production is a tight market as there are not that many mining companies. If demand starts to pick up and gold prices climb, the return on these stocks will make the internets look tame.
One of the major problems that has depressed gold prices in the 90s has been the forward selling of gold by most major gold companies. They sell what's in the ground before they get it out. There is now consolidation between companies that have gone on record that this hedging will stop. While hedging helped earnings while gold was falling, ending the policy will put a floor under the POG (price of gold).
Gold to some extent is correlated to inflation, and political or financial instability, although more so in the past. If the economy recovers then there could be inflationary pressures. If the Middle East blows up or other instability develops, gold could come into further demand. If the economy slows further and stocks get hit harder, gold may become a safe haven. So I ask what will push down gold prices?
One big overhang that has depressed gold mining stock prices in the mid-late 90s, was the Bre-X gold scandal (the Enron of gold stocks), although penny gold stocks have always had a touch of scandal associated them. This is now ancient history for many investors.
I think the biggest drawing card for gold stocks (as a contrarian) is the fact that gold has been out of favor for so long and is for large numbers of investors an undiscovered asset class. I'd never go overboard with it but would think that 5-10% of portfolio would provide some level of diversification and nice insurance.
10/ The Bubble: Technology factors that drove the market to irrational exuberance in 1999-2000 are history. It should have been obvious at the time that technical and financial developments that reached a perfect storm about the time of the new millennium would be not be ongoing. It was as good as it gets. These factor were:
a. Personal computer market sales matured and growth peaked about late 1999. The windows operating system was maturing which diminished the need to get the latest version and constant PC upgrades to support it. Almost everyone that wants a PC now has one.
b. Maturing of PC growth will slow growth of the internet and its associated infrastructure. PCs are the driver of the internet just as the number of cars is a driver for highways.
c. Over-optimism for internet growth sparked over-building of computing, bandwidth and storage by carriers and hosting companies. Capital which was readily available for these speculative companies in the 90s is no longer out there.
d. Cell phone growth rates have peaked. Everyone has a cell phone (or almost). That wasn't the case in 1995.
e. The federal reserve pumped massive amounts of money into the economy to compensate for YTK risk. This only expanded an already inflated bubble.
11/ On the positive tech side: These are some technology developments on the horizon which will stimulate tech demand at some point, although still not enough to overcome overhead resistance of retiring boomers.
a. Generation 3 cell phones with internet access and other enhanced wireless features.
b. HDTV will at some point cause a massive replacement of existing analog TVs and
broadcasting equipment..
c. Implementation of more broad band internet access by phone and cable companies will use up existing backbone internet bandwidth.
d. Internet will merge with TV as an entertainment medium as broadband becomes more widely implemented.
e. Voice over IP (packet voice) will at some point be implemented by the Bells and major carriers so they can consolidate their Voice and IP networks.
Thomas Varner 1-24-02 |
