It’s a One Decision Market
By the Curmudgeon with Victor Sperandeo
The Nifty Fifty and One Decision Stocks Revisited:
In the early 1970s (before most Wall Street asset managers and "investors" were born), there were "one decision stocks," sometimes referred to as "The Nifty Fifty." They were called one-decision stocks because their prospects were so bright, many analysts claimed that the only direction they could go was up. Buy and hold forever stocks included: Xerox, IBM, Kodak, Polaroid, Avon Products and Coca-Cola.
In late 1972, the Curmudgeon wondered why he didn't own any "one decision stocks," but was instead invested in "aggressive growth" mutual funds that only advanced ~2% that year.
After the 1973–74 bear market slashed the value of most of the “Nifty Fifty/ One Decision stocks,” many investors vowed never again to pay over 30 times earnings for a stock or to believe in "fools gold" stories that stock prices would rise indefinitely. Of course that changed during the stock market mania of the late 1990s and is still the case today (as of June 20th, the P/E of the Russell 2000 was 85.47).
Currently, the only decision to invest in domestic equities is whether or not the Fed will continue its ultra-easy money policy. As long as it does, Wall Street ignores all economic reports--good or bad--and continues to grind higher, independent of everything else.
Economic Growth Downgrades and the Housing Market:
The CURMUDGEON has previously listed numerous disappointing economic reports in recent posts. The last week was more of the same. The IMF and Fed sharply revised DOWN their forecasts for U.S. GDP this year- to the below trend range of 2%, which has been the norm since the recession "ended" in June 2009. The Fed cut its 2014 U.S. growth forecast to 2.1 - 2.3%--down from 2.8 - 3% just 2 months ago. The IMF cut its US growth forecast to 2.0%- down from 2.7%. The housing market--a leading indicator for the economy--is in worse shape than overall GDP.
New housing starts fell 6.5% in May. Permits for future starts fell 6.4%, to a four month low. The Housing Market Index, measuring the confidence of home-builders, showed the majority remains pessimistic in June (reading below 50). And applications for mortgages fell 9.2% last week. So, even as spring weather improves, the housing reports have become ever more negative.
Here's an eye popping long term chart of U.S. housing starts to illustrate the problem. It looks like we are only now emerging from a steep recession, rather than five plus years into an economic recovery.
Owens Corning lowered its expectations for 2014 sales and earnings this week, due to weakness in its roofing division. The company said the winter decline in roofing sales volumes continued in April and May. It expects those declines for the first half of 2014 to be as much as 20% below the first half of last year! For sure, this will not be the only company issuing an earnings warning due to the lackluster home construction market.
Based on many months of trading, the stock market doesn't seem to care about all the warning signs, which include: disappointing economic reports, inflation accelerating above the Fed's 2% target, decreasing corporate profits, high market valuations (especially for small caps), record margin debt, investor complacency, insider selling, etc. Bells are ringing, but no one is paying any attention!
The one decision today for the stock market is if the Fed maintains it's easy money policy and is willing to pull out all stops to prevent a major market decline (see Victor's comments below). The Fed's "forward guidance" has eliminated uncertainty in its future monetary policy, which has spread complacency among the financial community and helped inflate huge bubbles in stocks and bonds.
We predict this one decision fixation on the Fed will come back to haunt asset managers and "investors" once a serious market decline begins. The "oceans of liquidity" will quickly disappear and there will be few if any bids for stocks in a fast falling market--one that the Fed will be unable to stop (despite attempts at manipulation via its dealer banks/owners).
Other Opinions from the FInancial Times (FT):
In this weekend's FT, Tracy Alloway wrote: "For all the talk of the desperate search for returns undertaken by investors, low volatility, complacency and possibly overheated markets, the U.S. central bank seems blissfully blasé when it comes to financial stability risks – at least in public."
"The (Fed's) message to the markets was clear: keep doing what you’re doing. Stocks dutifully rose, with the S&P 500 climbing to yet another record close and major credit indices tightening significantly as investors priced in lower default risk..... The danger, of course, is that the rhythm that has overtaken markets eventually comes to an abrupt stop in an unexpected way. Crowded dance floors may be fun while the music plays, but not so much when everyone stampedes for the exit. In the meantime, though, the beat goes on and its dance, markets dance."
Also in this weekend's FT, John Dizard wrote that the larger investing public is apparently not worried about liquidity in the financial markets. "....after all, they have always been able to cash in their mutual fund or exchange traded fund shares, and always will . . . right? Right?"
"My own view is that there is a lot of liquidity in the equity markets, except when it is really needed. I also believe the mismatch between what most investors think is just like cash in the bank and what is cash in the bank is larger than ever."
Victor: Credit Spreads, The Fed, Politics and its Effects on the Economy:
The political landscape is distorting all economic and financial outcomes. An incredible example of this is the credit spread between Moody’s Baa and AAA bonds, which are at a miniscule 0.54%. The last time it was this low was the late 1990’s. It was as small as 0.52% in January 2000 and hasn’t breached 0.6% since, until this week.
The FT's Tracy Alloway wrote: "Average yields on junk-rated corporate debt sank this week to a record low, according to one index. The spread, or difference, between high-yield bonds and 10-year US Treasuries also reached a record low of 278 basis points – below the 288bp reported in June of 2007. This means investors may well be mispricing risk as they increasingly fail to differentiate between the two."
I'm sure this complacency points to the market's perception of a Fed that won't let the economy decline into a recession of any consequence (hence, there’s no default risk). It matches the equity markets disconnect from the real economy -as The CURMUDGEON has pointed out for the last 2+ years.
The Fed, as we have repeatedly opined, is trying to be the economic savior of the nation. It's attempting to cancel all the problems created by a shift in U.S. economic policy from Capitalism to Keynesianism - no matter how extreme that change actually is. The Fed believes that the answer is ZIRP and "printing money." Works great for financial markets, but has failed dismally to stimulate the real economy.
The idea of a political desire magically becoming reality is of course not possible, unless you do so through financial asset inflation via the Fed's "printing press." This begets distortions and misallocations of capital that cannot be sustained. It ends as all economic/financial cycles do, but this time with even more excesses to correct on the downside.
Meanwhile, the traditional press is giving Obama a great deal of grace on any mistakes he makes. This was "not" the case under the effective impeachment of President Nixon, whose use of the IRS was one of the articles of impeachment.
In my opinion, the recent push to a higher minimum wage would result in much higher unemployment, but that is not trumping the ideological mandate of "higher pay no matter what the market can accept." The mandated $15.00 minimum wage in Washington State requires a $31,200 normal cash salary payment, but with employee benefits it's about $36,000. As a consequence, someone with no skills or experience has to produce $36k to break-even to the producer to justify the higher minimum wage.
Where does the difference from $31,200 per year vs. the current pay of $15,080 (based on $7.25/hour current federal minimum wage) come from? If prices of goods or services could be increased to justify a minimum wage of $15 per hour that would have been done so already! Clearly, that's not the case in the weak U.S. economy of the last six years!
The political movements are going to more extreme and lawless...When the Constitution has been ignored the country has suffered. Since WWII, the U.S. has invaded and fought in over 80 conflicts without the required declaration of War by congress. Has it been worth it for Vietnam, Iraq, and Afghanistan? I think not. Overall a horrible waste of life and treasure for very little measured gain.
What about "The Balance of Power" (AKA Checks and Balances on government)? Supreme Court Chief Justice Roberts changed a health insurance non- compliance fee/penalty to a tax to make the ACA (Obamacare) legal. That caused many distortions to the people and business that are nowhere near resolved and continues to create havoc in the health care and insurance industries. Business has no idea what the costs of ACA will ultimately be.
In energy, the EPA controls power beyond anything ever imagined by President Nixon who created it. The original law of the land has been turned into a "subjective living constitution" with the intended law forgotten or ignored.
I'm sad to say that the U.S. has lost its way. Each side of the political spectrum wants power, based on what they believe in without concern of the law that our Congressional Representatives have sworn to uphold.
I believe this will become a cost affecting us all beyond our wildest dreams. The problem in essence is described by former N.J. Senator (and basketball all-star) Bill Bradley:
"THE POLITICAL DEBATE HAS SETTLED INTO TWO FAMILIAR RUTS," he said. "THE REPUBLICANS ARE INFATUATED WITH THE MAGIC OF THE PRIVATE SECTOR AND REFLEXIVELY CRITICIZE GOVERNMENT AS THE ENEMY OF FREEDOM, AND THE DEMOCRATS DISTRUST THE MARKET, PREACH GOVERNMENT AS THE ANSWER TO OUR PROBLEMS AND PREFER THE BUREAUCRAT THEY KNOW TO THE CONSUMER THEY CAN'T CONTROL."
Till next time........................
Curmudgeon is a retired investment professional. He has been involved in financial markets since 1968 (yes, he cut his teeth on the 1968-1974 bear market), became an SEC Registered Investment Advisor in 1995, and received the Chartered Financial Analyst designation from AIMR (now CFA Institute) in 1996. He managed hedged equity and alternative (non-correlated) investment accounts for clients from 1992-2005.
Victor Sperandeo is a historian, economist and financial innovator who has re-invented himself and the companies he's owned (since 1971) to profit in the ever changing and arcane world of markets, economies and government policies. Victor started his Wall Street career in 1966 and began trading for a living in 1968. As President and CEO of Alpha Financial Technologies LLC, Sperandeo oversees the firm's research and development platform, which is used to create innovative solutions for different futures markets, risk parameters and other factors.
Copyright © 2014 by The Curmudgeon and Marc Sexton. All rights reserved.
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