Posts filed under “Think Tank”
There are those who sweat over every decision, worrying about how it will affect their lives and investments. Then there is the school of thought that we should focus on the big decisions. I am of the latter school.
85% of investment returns are a result of asset class allocations and only 15% come from actually picking investment within the asset class. Getting the big picture right is critical. In this week’s Outside the Box we look at a very well written essay about the biggest of all question in front of us today. Do we face deflation or inflation?
This OTB is by my good friends and business partners in London, Niels Jensen and his team at Absolute Return Partners. I have worked closely with Niels for years and have found him to be one of the more savvy observers of the markets I know. You can see more of his work at www.arpllp.com and contact them at email@example.com.
John Mauldin, Editor
Outside the Box
Make Sure You Get This One Right
By Niels C. Jensen
“You can’t beat deflation in a credit-based system.”
As investors we are faced with the consequences of our decisions every single day; however, as my old mentor at Goldman Sachs frequently reminded me, in your life time, you won’t have to get more than a handful of key decisions correct – everything else is just noise. One of those defining moments came about in August 1979 when inflation was out of control and global stock markets were being punished. Paul Volcker was handed the keys to the executive office at the Fed. The rest is history.
Now, fast forward to July 2009 and we (and that includes you, dear reader!) are faced with another one of those ‘make or break’ decisions which will effectively determine returns over the next many years. The question is a very simple one:
Are we facing a deflationary spiral or will the monetary and fiscal stimulus ultimately create (hyper) inflation?
Unfortunately, the answer is less straightforward. There is no question that, in a cash based economy, printing money (or ‘quantitative easing’ as it is named these days) is inflationary. But what actually happens when credit is destroyed at a faster rate than our central banks can print money?
A Story within the Story
Following the collapse of the biggest credit bubble in history, there has been no shortage of finger pointing and the hedge fund industry, which has always had an uncanny ability to be at the wrong place at the wrong time, has yet again been at the centre of attention. And politicians, keen to divert attention away from themselves as the true culprits of the crisis through years of regulatory neglect, have been quick at picking up the baton. Admittedly, the hedge fund industry is guilty of many stupid things over the years, but blaming it for the credit crisis is beyond pathetic and the suggestion that increased regulation of the hedge fund industry is going to prevent future crises is outrageously naïve.
If you prohibit private investors from investing in hedge funds which on average use 1.5-2 times leverage but permit the same investors to invest in banks which use 25 times leverage and which are for all intents and purposes bankrupt, then you either don’t understand the world of finance or you don’t want to understand. Shame on those who fall for cheap tactics.
Let’s begin by setting the macro-economic frame for the discussion. I have been quite bearish for a while, suspecting that the growing optimism which has characterised the last few months would eventually fade again as reality began to sink in that this is no ordinary recession and that ‘less bad’ doesn’t necessarily translate into a quick recovery. I still believe there is a good chance of enjoying one, maybe two, positive quarters later this year or early next; however, a crisis of this magnitude doesn’t suddenly fade into obscurity, just because the economy no longer shrinks at an annual rate of 6-8%.
Going forward, not only will economic growth disappoint, but the economic cycles will become more volatile again (see chart 1) with several boom/bust cycles packed into the next couple of decades. This is a natural consequence of the Anglo-Saxon consumer-driven growth model having been bankrupted. Growing consumer spending over the past 30 years led to rapidly expanding service and financial sectors both of which will now contract for years to come as overcapacity forces players to downsize.
This will again lead to higher corporate earnings volatility which will almost certainly drive P/E ratios lower, making conditions even trickier for equity investors. At the bottom of every major bear market in the last 200 years, P/E ratios have been below 10. As you can see from chart 2 overleaf, few countries are there yet. The next decade is therefore not likely to be a ‘buy and hold’ market for equity investors. The combination of low economic growth and pressure on valuations will create severe headwinds. The most likely way to make money in equities will be through more active trading.
Category: Think Tank
Good Evening: After early losses in the wake of Thursday’s very poor unemployment report, the major U.S. stock market averages rallied back this afternoon to finish mixed. Shares of financial companies and traditionally defensive names made for odd bedfellows in leading today’s comeback, but economically sensitive sectors like materials were heavy for most of today’s…Read More
The euro is rallying to the highest level of the day vs the $ after a Canadian official, speaking anonymously, said that while the G8 will likely discuss the US$ and its reserve currency status, there will not be explicit US$ reserve currency comments in the official communique. With about 70% of China’s almost $2…Read More
The Treasury’s 10 yr TIPS auction was solid as the yield was about 1 basis point below expectations and the bid to cover of 2.51 is the highest since Jan ’00 and well above the average over the past year and a half of 2.13. The level of indirect buyers at 49.7% is no longer…Read More
The June ISM services number was one point more than expected at 47 and up from 44 in May and it’s at the highest since Sept ’08 when it was at 50, the cut off between contraction and expansion. Business Activity rose 7.4 points to just shy of 50 at 49.8. New Orders rose to…Read More
Kevin Lane is one of the founding partners of Fusion Analytics, and is the firm’s director of Quantitative Research. He is the main architect for developing their proprietary stock selection models and trading algorithms. Mr. Lane is a member of the Market Technicians Association. ~~~ As seen below in the S&P 500 has been capped…Read More
La Narco Sistema: My friend Lucy Komisar has just published a great scoop in The Miami Herald that reports on the role played by the State of Florida in enabling the Ponzi scheme of Allen Stanford and the now-defunct Stanford Group. Lucy reports: “Florida regulators — over objections by the state’s top banking lawyer —…Read More
The crux of the argument calling for a 2nd half recovery is predicated on an inventory replenishment cycle, led by the auto sector. The stabilization in the capital markets has also boosted the expectations components (and not current conditions) of many economic indicators. Thus, as we enter Q2 earnings season, forward looking guidance will be…Read More
“Words from the Wise” this week again comes to you in a shortened format as I am still on the road in Europe (also see my post “Gone A.W.O.L. – to Slovenia and Switzerland“) and do not have access to my normal research resources. Although only brief commentary is provided, a full dose of excerpts from interesting news items and quotes from market commentators is included.
The holiday-shortened week saw pundits pondering the depth of the economic rabbit hole as the curtain closed on the second quarter. As investors vacillated, most financial markets were characterized by a roller-coaster ride. Friday’s worse-than-expected US jobs data left no doubt that the economy was in recession.
Given the economic malaise, it is safe to say that there have probably been better fourth of July celebrations than this weekend’s …
Looking at the quarterly performance of the same asset classes, the picture is quite different from the chart above, with risky assets putting in a phenomenal performance to the detriment of the traditional safe havens such as the US dollar and government bonds.
A summary of the movements of major stock markets for the past week, as well as various other measurement periods, is given below. The weekly gains/losses camouflage the fact that many indices experienced a rather bumpy ride during the course of the week.
Click here or on the table below for a larger image.
Stock market returns for the week ranged from top performers Egypt (+8.9%), Uganda (+7.9%), Bangladesh (+6.3%), Pakistan (+6.1%) and China (+5.5%) to Slovakia (-9.3%), Croatia (-8.7%), Vietnam (-5.6%), Mauritius (-4.0%) and Hungary (-3.6%) at the other end of the scale. Emerging markets make up all ten of the best-performing stock indices so far in 2009, led by Peru, Sri Lanka and China. (Click here to access a complete list of global stock market movements, as supplied by Emerginvest.)
Category: Think Tank