by Jeffrey Sachs, a 'reformed' or 'transformed' economist
We live in a time of high anxiety. Despite the world’s unprecedented total wealth, there is vast insecurity, unrest, and dissatisfaction. In the United States, a large majority of Americans believe that the country is “on the wrong track.” Pessimism has soared. The same is true in many other places.
Against this backdrop, the time has come to reconsider the basic sources of happiness in our economic life. The relentless pursuit of higher income is leading to unprecedented inequality and anxiety, rather than to greater happiness and life satisfaction. Economic progress is important and can greatly improve the quality of life, but only if it is pursued in line with other goals.
In this respect, the Kingdom of Bhutan made a remarkable choice: Bhutan should pursue “gross national happiness” rather than gross national product. Since then, the country has been experimenting with an alternative, holistic approach to development that emphasizes not only economic growth, but also culture, mental health, compassion, and community.
The question we examined is how to achieve happiness in a world that is characterized by rapid urbanization, mass media, global capitalism, and environmental degradation. How can our economic life be re-ordered to recreate a sense of community, trust, and environmental sustainability?
Here are some of the initial conclusions. First, we should not denigrate the value of economic progress. When people are hungry, deprived of basic needs such as clean water, health care, and education, and without meaningful employment, they suffer. Economic development that alleviates poverty is a vital step in boosting happiness.
Second, relentless pursuit of GNP to the exclusion of other goals is also no path to happiness. In the US, GNP has risen sharply in the past 40 years, but happiness has not. Instead, single-minded pursuit of GNP has led to great inequalities of wealth and power, fueled the growth of a vast underclass and caused serious environmental degradation.
Third, happiness is achieved through a balanced approach to life by both individuals and societies. As individuals, we are unhappy if we are denied our basic material needs, but we are also unhappy if the pursuit of higher incomes replaces our focus on family, friends, community, compassion, and maintaining internal balance. As a society, it is one thing to organize economic policies to keep living standards on the rise, but quite another to subordinate all of society’s values to the pursuit of profit.
Yet politics in the US has increasingly allowed corporate profits to dominate all other aspirations: fairness, justice, trust, physical and mental health, and environmental sustainability. Corporate campaign contributions increasingly undermine the democratic process, with the blessing of the US Supreme Court.
Fourth, global capitalism presents many direct threats to happiness. It is destroying the natural environment through climate change and other kinds of pollution, while a relentless stream of oil-industry propaganda keeps many people ignorant of this. It is weakening social trust and mental stability, with the prevalence of clinical depression apparently on the rise. The mass media have become outlets for corporate “messaging,” much of it overtly anti-scientific, and Americans suffer from an increasing range of consumer addictions.
Consider how the fast-food industry uses oils, fats, sugar, and other addictive ingredients to create unhealthy dependency on foods that contribute to obesity. One-third of all Americans are now obese. Mass advertising is contributing to many other consumer addictions that imply large public-health costs, including excessive TV watching, gambling, drug use, cigarette smoking, and alcoholism.
Fifth, to promote happiness, we must identify the many factors other than GNP that can raise or lower society’s well-being. Most countries invest to measure GNP, but spend little to identify the sources of poor health (like fast foods and excessive TV watching), declining social trust, and environmental degradation. Once we understand these factors, we can act.
The mad pursuit of corporate profits is threatening us all. To be sure, we should support economic growth and development, but only in a broader context: one that promotes environmental sustainability and the values of compassion and honesty that are required for social trust.
Tuesday, August 30, 2011
Building a new sustainable capitalism model before it is too late
by John Perkins
From the book "Hoodwinked",
'Only about 3% of people are sociopaths of which about 1% has a college education and a tinier fraction understands how business works. Thus, there is a shortage of such talents who can run modern monopolistic, destructive companies that shareholders have to pay them millions in salaries. And being sociopaths, they gladly take the money without any thoughts of its social consequences.'
Examples he quotes include Jack Welch, the Fortune 500 magazine celebrity who happened to get to the top of General Electric in mid-70s because he negotiated a mere $3m in liability for GE who polluted the Hudson River with toxic PCB where it cost the government $460m to clean up. Also known as Neutron Jack for the way he ruthlessly reduce his staff from 410,000 to 299,000, while his own income and bonus soared.
Is this current form of capitalism sustainable [where the top management get paid millions while the workers get laid]? Let's study a bit of history before we answer this question.
The roots of capitalism started when the British & Dutch trading companies were granted monopolistic powers to go global to buy cheap goods to sell to Europe at high profits. This form of capitalism is called mercantilism. Then Adam Smith during the Industrial Revolution expounded the benefits of a free market as the most efficient method of maximising benefits. However, in reality, exploitation of workers with long hours, low pay & sometimes dangerous work were the norm. Such abuses prompted Ka rl Ma rx to advocate a classless socioeconomic structure based on common state ownership of property and production. The struggle between Ma rx ideas as practised by Sovi et Unnion and capitalism as practised by USA followed and ended with Reagan trumping with the Union colapse. Today's form of capitalism came from Milton Friedman who favored deregulations and privatisation of government assets as he believed that the private sector serve the public interests better than government. Reagan and Magaret Thatcher in UK and some Asian countries practise Friedman ideas to the letter and there were large transfer of public to private ownership, dissolution of laws that protect consumers and investors. Looking back at the 1990s to the great recession of 2008, this era was characterised by greed, obsession with materialism, excessive debts, large conglomerates, and the type of corruptions as symbolised by Enron and Wall Street banks and rating agencies and the housing bubbles and collaterlised debt obligation (CDO), which Warren Buffet called weapons of mass destruction. In this form of capitalism, just 5% of the global people consume 25% of the globe resources, and half the people are still starving......billionaires run corporations whose sales are larger than the GDP of most countries.
This mutated form of capitalism is clearly not sustainable. For example, big American agribusiness use lots of fertilisers in Nicaragua, maximising profits for themselves at the expense of the country's environment. The soil becomes infertile and water polluted. This form of farming were not allowed in USA. After decades of abuse by American businesses through the help of their allies like the CIA and powerful locals, South Americans have awoken with a new form of wisdom. They have elected governments who now recognise the value of their resources and now seek responsible ways to save them for future generations. These leaders encourage companies to change their profit maximising goals and change to something that is more sustainable for future generations and the environment. Some NGOs have sprung up to encourage companies to mend their destructive ways. For example, Rainforest Action Network has convinced companies like Bank of America, Home Depot, Staples to change their policies to save from over-cutting trees.
Hopefully, a sustainable form of capitalism can eventually evolve and this will require enlighten citizens to lobby local businesses and politicians to wake up before it is too late. More work needs to be done. Already, human being have put record amounts of CO2 into the atmosphere and global warming is now widely accepted and the trend is that we humans might be the ones to go extinct due to our own actions.
From the book "Hoodwinked",
'Only about 3% of people are sociopaths of which about 1% has a college education and a tinier fraction understands how business works. Thus, there is a shortage of such talents who can run modern monopolistic, destructive companies that shareholders have to pay them millions in salaries. And being sociopaths, they gladly take the money without any thoughts of its social consequences.'
Examples he quotes include Jack Welch, the Fortune 500 magazine celebrity who happened to get to the top of General Electric in mid-70s because he negotiated a mere $3m in liability for GE who polluted the Hudson River with toxic PCB where it cost the government $460m to clean up. Also known as Neutron Jack for the way he ruthlessly reduce his staff from 410,000 to 299,000, while his own income and bonus soared.
Is this current form of capitalism sustainable [where the top management get paid millions while the workers get laid]? Let's study a bit of history before we answer this question.
The roots of capitalism started when the British & Dutch trading companies were granted monopolistic powers to go global to buy cheap goods to sell to Europe at high profits. This form of capitalism is called mercantilism. Then Adam Smith during the Industrial Revolution expounded the benefits of a free market as the most efficient method of maximising benefits. However, in reality, exploitation of workers with long hours, low pay & sometimes dangerous work were the norm. Such abuses prompted Ka rl Ma rx to advocate a classless socioeconomic structure based on common state ownership of property and production. The struggle between Ma rx ideas as practised by Sovi et Unnion and capitalism as practised by USA followed and ended with Reagan trumping with the Union colapse. Today's form of capitalism came from Milton Friedman who favored deregulations and privatisation of government assets as he believed that the private sector serve the public interests better than government. Reagan and Magaret Thatcher in UK and some Asian countries practise Friedman ideas to the letter and there were large transfer of public to private ownership, dissolution of laws that protect consumers and investors. Looking back at the 1990s to the great recession of 2008, this era was characterised by greed, obsession with materialism, excessive debts, large conglomerates, and the type of corruptions as symbolised by Enron and Wall Street banks and rating agencies and the housing bubbles and collaterlised debt obligation (CDO), which Warren Buffet called weapons of mass destruction. In this form of capitalism, just 5% of the global people consume 25% of the globe resources, and half the people are still starving......billionaires run corporations whose sales are larger than the GDP of most countries.
This mutated form of capitalism is clearly not sustainable. For example, big American agribusiness use lots of fertilisers in Nicaragua, maximising profits for themselves at the expense of the country's environment. The soil becomes infertile and water polluted. This form of farming were not allowed in USA. After decades of abuse by American businesses through the help of their allies like the CIA and powerful locals, South Americans have awoken with a new form of wisdom. They have elected governments who now recognise the value of their resources and now seek responsible ways to save them for future generations. These leaders encourage companies to change their profit maximising goals and change to something that is more sustainable for future generations and the environment. Some NGOs have sprung up to encourage companies to mend their destructive ways. For example, Rainforest Action Network has convinced companies like Bank of America, Home Depot, Staples to change their policies to save from over-cutting trees.
Hopefully, a sustainable form of capitalism can eventually evolve and this will require enlighten citizens to lobby local businesses and politicians to wake up before it is too late. More work needs to be done. Already, human being have put record amounts of CO2 into the atmosphere and global warming is now widely accepted and the trend is that we humans might be the ones to go extinct due to our own actions.
Tuesday, August 16, 2011
The Return of Political Economy
Same crisis, three years older, just more political The 2008/09 financial crisis unleashed three fundamental shocks that still reverberate, and are likely to continue to do so for a while. First, it wrecked the financial stability and order that had previously prevailed, leaving us with a mountain of private and public debt to be reduced and restructured, aka the Great De-leveraging. Second, it blew up the economic model based on housing, credit expansion and financial services, not least depriving our governments of substantial tax revenues, and leaving us looking for new output and employment growth drivers.
These financial and economic shocks have produced widespread insecurity, and revealed critical weaknesses in our capacity to re-create sustainable growth. It looked a bit simpler in late 2009 and 2010, when the full range of stimulus measures and QE were in full flight, but as these have been withdrawn or terminated, the language of 'recovery, mid cycle, and double dip' seems rather inappropriate and misleading. The levels of economic and employment activity look worryingly depressed, and remind us that the Great De-leveraging is something totally different from anything we have
experienced in the West in the last 60 years from an analytical and a policy standpoint. We demand answers and solutions from politicians, who either
haven’t grasped the implications of the change in the economic environment, or are wrestling with appropriate responses.
The interaction between political and economic decision-making would come to play
an increasingly significant role in the determination of economic, and market outcomes. Looking at the time at the complicated legacy of de-leveraging
in developed markets, the embryo of the sovereign debt crisis, especially in Europe, and growing social and economic contradictions in China, it was possible to imagine, if not predict precisely, pretty much what we see playing out today.
Input: Convulsions of the Political Economy In his latest piece “Convulsions of the Political Economy” (Economic Insights, 16 August 2011), Senior Economic Advisor George Magnus re-visits the “Political Economy” theme and considers the existential crisis in the Eurozone, ‘deficit attention disorder’ in the US and other advanced economies, and China’s current political economy, for which the recent high-speed rail accident serves as an interesting metaphor.
Output: Implications for Asset Markets As we have highlighted over the past year, most prominently in our “Outlook 2011” work (29 November 2010), the timing of such shocks is difficult to predict, but the implications lead to episodic volatility and occasional market setbacks. From an asset allocation perspective, political risk is very hard to price across capital markets accurately, but at the very least we believe should be reflected in higher risk-premiums and lower risk-asset valuations.
These financial and economic shocks have produced widespread insecurity, and revealed critical weaknesses in our capacity to re-create sustainable growth. It looked a bit simpler in late 2009 and 2010, when the full range of stimulus measures and QE were in full flight, but as these have been withdrawn or terminated, the language of 'recovery, mid cycle, and double dip' seems rather inappropriate and misleading. The levels of economic and employment activity look worryingly depressed, and remind us that the Great De-leveraging is something totally different from anything we have
experienced in the West in the last 60 years from an analytical and a policy standpoint. We demand answers and solutions from politicians, who either
haven’t grasped the implications of the change in the economic environment, or are wrestling with appropriate responses.
The interaction between political and economic decision-making would come to play
an increasingly significant role in the determination of economic, and market outcomes. Looking at the time at the complicated legacy of de-leveraging
in developed markets, the embryo of the sovereign debt crisis, especially in Europe, and growing social and economic contradictions in China, it was possible to imagine, if not predict precisely, pretty much what we see playing out today.
Input: Convulsions of the Political Economy In his latest piece “Convulsions of the Political Economy” (Economic Insights, 16 August 2011), Senior Economic Advisor George Magnus re-visits the “Political Economy” theme and considers the existential crisis in the Eurozone, ‘deficit attention disorder’ in the US and other advanced economies, and China’s current political economy, for which the recent high-speed rail accident serves as an interesting metaphor.
Output: Implications for Asset Markets As we have highlighted over the past year, most prominently in our “Outlook 2011” work (29 November 2010), the timing of such shocks is difficult to predict, but the implications lead to episodic volatility and occasional market setbacks. From an asset allocation perspective, political risk is very hard to price across capital markets accurately, but at the very least we believe should be reflected in higher risk-premiums and lower risk-asset valuations.
Another forecast
by Merriman
On top of that, we still have the downside of the Jupiter transit through the signs ahead of us for the next three years. As noted before, Jupiter in Aries was the basis for the “Asset Inflation Express” we went through from mid-2010 through early June 2011. Historically this coincides with a top in U.S. stocks when Jupiter is between 23° Aries and 7° of Taurus, a condition that was present May 2-July 22. If you look at a chart of the Dow Jones Industrial Average, you will see the market topped out May 2 at 12,876, with a triple top on July7 and 21 at 12,754 and 12,751 respectively. The top was not in the middle, but in the beginning and end of that sector. Then it dropped 1600+ points from July 21 into this week. The “Asset Inflation Express” had derailed as Jupiter moved into Taurus in the first week of June. But then after posting a double bottom June 15 and 23, it appeared to have righted itself into July 21. But not so. It really derailed again these past two weeks.
Now we wait to see what happens when Jupiter retrogrades back to 0° Taurus later this year. In fact it is back between 0-7° of Taurus from October 7, 2011 through March 7, 2012. Will it make a new high then? A secondary high? I don’t know the answer to that yet, but the study of Financial Astrology allows for the possibility. So far this market plunge is just a “normal” corrective decline for the 15.5-month cycle in U.S. stocks, and we are in the time frame when that cycle low is due (July 2011 through February 2012). But if we start breaking the critical support area of a normal corrective decline into the 15.5-month cycle trough, it will mean the 4-year cycle has topped out, and the bear market suggested by Jupiter’s transit into 2013-2014 is well underway.
How far could the DJIA fall in that case? Well, unlike most 72- and 90-year cycles, this one has not fallen 77-93% off its all-time highs yet. The decline from October 2007 through early March 2009 was only 54%. So, to a cycle’s analyst and a student of the history of Financial Astrology, the economic danger that was felt this week (as Uranus and Pluto came within just one degree of their exact square) is very real. We are on a path of financial self-destruction unless our economic direction changes. That’s the frightening message of Uranus square Pluto, 2012-2015, which will form a grand square to the USA natal Sun-Saturn square (2013-2014). The positive message is that it will change. But will it change before, during, or after 2012-2015? If after, it will change only because there are no choices left.
What we are all going through in 2008-2015 is not just an economic crisis brought on by well-intentioned but disastrous political and economic decisions, but an evolutionary crisis. The evolution of humanity is a never-ending quest to connect with one other, not to be destroyed by one another because we refuse to connect and wish only to control and force others to follow our ideological but disconnected agenda.
On top of that, we still have the downside of the Jupiter transit through the signs ahead of us for the next three years. As noted before, Jupiter in Aries was the basis for the “Asset Inflation Express” we went through from mid-2010 through early June 2011. Historically this coincides with a top in U.S. stocks when Jupiter is between 23° Aries and 7° of Taurus, a condition that was present May 2-July 22. If you look at a chart of the Dow Jones Industrial Average, you will see the market topped out May 2 at 12,876, with a triple top on July7 and 21 at 12,754 and 12,751 respectively. The top was not in the middle, but in the beginning and end of that sector. Then it dropped 1600+ points from July 21 into this week. The “Asset Inflation Express” had derailed as Jupiter moved into Taurus in the first week of June. But then after posting a double bottom June 15 and 23, it appeared to have righted itself into July 21. But not so. It really derailed again these past two weeks.
Now we wait to see what happens when Jupiter retrogrades back to 0° Taurus later this year. In fact it is back between 0-7° of Taurus from October 7, 2011 through March 7, 2012. Will it make a new high then? A secondary high? I don’t know the answer to that yet, but the study of Financial Astrology allows for the possibility. So far this market plunge is just a “normal” corrective decline for the 15.5-month cycle in U.S. stocks, and we are in the time frame when that cycle low is due (July 2011 through February 2012). But if we start breaking the critical support area of a normal corrective decline into the 15.5-month cycle trough, it will mean the 4-year cycle has topped out, and the bear market suggested by Jupiter’s transit into 2013-2014 is well underway.
How far could the DJIA fall in that case? Well, unlike most 72- and 90-year cycles, this one has not fallen 77-93% off its all-time highs yet. The decline from October 2007 through early March 2009 was only 54%. So, to a cycle’s analyst and a student of the history of Financial Astrology, the economic danger that was felt this week (as Uranus and Pluto came within just one degree of their exact square) is very real. We are on a path of financial self-destruction unless our economic direction changes. That’s the frightening message of Uranus square Pluto, 2012-2015, which will form a grand square to the USA natal Sun-Saturn square (2013-2014). The positive message is that it will change. But will it change before, during, or after 2012-2015? If after, it will change only because there are no choices left.
What we are all going through in 2008-2015 is not just an economic crisis brought on by well-intentioned but disastrous political and economic decisions, but an evolutionary crisis. The evolution of humanity is a never-ending quest to connect with one other, not to be destroyed by one another because we refuse to connect and wish only to control and force others to follow our ideological but disconnected agenda.
Monday, August 15, 2011
The coming bear markets in stocks
Unlike bull markets, which require time for investors to climb walls of worry on each up-leg, bear markets typically play out faster to the downside. The bear market of 2010-2011 should be no different. We feel this way for the following ten reasons.
The underlying thesis for our bearishness is quite simple: with debt issues metastasizing in Europe, discontent with Washington’s ineffectiveness growing by the day, and consumer confidence plunging to 30-year lows, the valuations that investors are willing to place on risky assets, i.e. stocks, have moved lower. While certainly the cheapest in years, the market’s current P/E of 12 is not cheap enough to mark an ultimate bear market bottom. Eventually the market’s P/E will trend down into the single digits just as they do at the end of every secular bear market for equities. This process will require a few years, resulting in many fits and starts as investors fight this trend.
While it is true that we are oversold and extended to the downside (the S&P 500 could very easily bounce back above 1,200 and move toward 1,225-1,250 in the next few weeks), this bounce will fail. Even with the recent slide in stocks, professional investor sentiment remains overly bullish. Doug Kass, Laszlo Birinyi, and Abby Joseph Cohen (check out her revised 1,400 year-end target for the S&P 500 in this weekend’s edition of Barrons!) remain ardent bulls. With these pros and others buying into the “current correction”, in time, these investors will help fuel another down-leg when they change their bullish tune and recognize that they are wrong.
This is a global bear market. Brazil, China, and the European bourses are leading the U.S. lower. We expect this trend to continue. In the very near-term, Europe’s markets rallied after short-selling was banned in a number of countries. When the buying dries up and with no shorts to provide buying power on the way down, we feel that this removal of the shorts will backfire for Europe just as it did in the U.S. a few years ago. Here is what Jim Chanos had to say on this matter late last week: “EU policy makers don’t seem to understand the law of unintended consequences. The vast majority of short-selling financial shares is by other financial institutions, hedging their counterparty risks, not speculators. The interbank lending market froze up completely in October to December 2008 – after the short-selling bans.”
Do not expect a quick fix from Tuesday’s summit between Germany and France. This weekend, Germany rejected calls by Italian Finance Minister Tremonti for the creation of Euro-bonds which would effectively make individual governments’ debt a common burden. Germany’s Finance Minister Wolfgang Schaueble quickly rejected this plan in Der Spiegel: “I rule out euro bonds for as long as member states conduct their own financial policies, and we need differing interest rates so that there are possibilities of incentive and sanctions to force fiscal solidity.” Ultimately, Germany will have to make a choice to either backstop Italy and Spain or let them default on their debt. With many in Merkel’s inner circle recommending that she steer away from eventually rescuing Italy because such actions could put Germany’s own banking system in peril, we feel that Germany will ultimately let Italy go. Perhaps this is why interbank lending has begun to materially slow down in Europe and why Bridgewater Associates released the following short note on Thursday: “There is an uncomfortably high probability that there will be an unmanaged banking and sovereign-debt crisis in Europe.”
Listen to Bert Dohmen, the editor of The Wellington Letter. Bert has had a tremendous track record of forecasting recessions and bear markets. According to Bert, we entered a recession in May and profit forecasts for the second half of this year are too high and will be revised lower. In a recent interview on CNBC, Bert gave his market thoughts.
If one noted technician’s bearish call was not enough, take note of another’s: Stan Weinstein, who many consider one of the all-time greats of technical analysis, gave a bear market alert to his subscribers when all of the major indexes broke below their 200-day Simple Moving Averages in early August. According to Stan, there has been inordinate damage done to the market’s underlying technical structure. Having just moved into what Stan labels as stage 4, or the declining phase, this bear market has just begun and will need time to run its course.
China’s economy is slowing down rapidly. At some point, investors will turn their attention here. When they do, they will not like what they see. Just look at some recent stats on China’s economy: China’s bank lending slowed down rather sharply in July to a 7-month low; China’s money supply growth recently fell to a 6-year low; China’s July auto sales were extremely weak. While they rose 6.7 percent in July, the rise was well below expectations and the growth seen last year. Could these economic numbers explain why Brazil’s stock market is one of the worst in the world this year and why the materials ETF, Materials Select Sector SPDR ETF (XLB), plunged 16% from its early August highs?
Small-caps are leading the way lower in the U.S. While so many market pundits continue to try to buy the dip and call a bottom for stocks in various interviews the past 72 hours, not one of them has made mention of how small-caps have already moved into bear-market territory. Just as small-caps lead the bull market on the way up, they are leading on the way down. This is a very bearish sign.
The consumer is about to retrench in a meaningful way. Those bullish surely looked at July’s retail sales as a cause for celebration. However, these shoppers were gleefully shopping before their stock accounts plunged this month. Perhaps we should therefore give more attention to Friday’s plunge in consumer confidence to 30-year lows! With the consumer 70% of our economy, a move upwards in the savings rate to 7-8% will ultimately translate into much slower growth for the economy. Slower growth means lowered earnings expectations for Q3 and Q4 and for 2012. Lowered numbers leads to lower valuations and ultimately to lower prices for stocks.
The individual investor is done with stocks. Ordinarily, this would be a positive contrarian sign. Considering that mutual funds remain fully invested and at historical lows for cash levels, however, the fact that individual investors pulled $11 billion from stock mutual funds last week is quite troubling.
This trend seems destined to accelerate in the coming months, forcing mutual fund managers to sell more stocks to meet the calls for cash from their investors. Considering that tax-selling is just around the corner for professional and individual investors, this dearth of buying power will eventually force stock prices lower.
When we objectively take note of the aforementioned considerations, we remain quite bearish of stocks for at least the next 3-6 months. Because bear market rallies are sharp, vicious, and short-lived, we plan on patiently selling into this rally by going long the ProShares UltraShort Russell 2000 ETF (TWM), for the accounts we oversee. We remain buyers of the SPDR Gold Trust ETF (GLD) on pullbacks and have begun to slowly deploy money into select gold mining stocks with an eye toward their eventual break outs later this year/early next.
We also remain long two inflection point plays that most investors have never heard of before: Dynatronics (DYNT) and eGain Communicatiosn (EGAN.OB). With various catalysts approaching for both companies, including a potentially forthcoming lucrative and game-changing G.P.O. contract win for Dynatronics later this fall, we feel that both stocks will be much higher a year from now.
In conclusion, bear markets should not be feared as they will ultimately reward patient investors with bargain buys. Instead of being feared, bear markets should rather be respected. For us, that means understanding that now is the time for patience and discipline and not for aggressively buying into a bear market that is only three weeks old.
The underlying thesis for our bearishness is quite simple: with debt issues metastasizing in Europe, discontent with Washington’s ineffectiveness growing by the day, and consumer confidence plunging to 30-year lows, the valuations that investors are willing to place on risky assets, i.e. stocks, have moved lower. While certainly the cheapest in years, the market’s current P/E of 12 is not cheap enough to mark an ultimate bear market bottom. Eventually the market’s P/E will trend down into the single digits just as they do at the end of every secular bear market for equities. This process will require a few years, resulting in many fits and starts as investors fight this trend.
While it is true that we are oversold and extended to the downside (the S&P 500 could very easily bounce back above 1,200 and move toward 1,225-1,250 in the next few weeks), this bounce will fail. Even with the recent slide in stocks, professional investor sentiment remains overly bullish. Doug Kass, Laszlo Birinyi, and Abby Joseph Cohen (check out her revised 1,400 year-end target for the S&P 500 in this weekend’s edition of Barrons!) remain ardent bulls. With these pros and others buying into the “current correction”, in time, these investors will help fuel another down-leg when they change their bullish tune and recognize that they are wrong.
This is a global bear market. Brazil, China, and the European bourses are leading the U.S. lower. We expect this trend to continue. In the very near-term, Europe’s markets rallied after short-selling was banned in a number of countries. When the buying dries up and with no shorts to provide buying power on the way down, we feel that this removal of the shorts will backfire for Europe just as it did in the U.S. a few years ago. Here is what Jim Chanos had to say on this matter late last week: “EU policy makers don’t seem to understand the law of unintended consequences. The vast majority of short-selling financial shares is by other financial institutions, hedging their counterparty risks, not speculators. The interbank lending market froze up completely in October to December 2008 – after the short-selling bans.”
Do not expect a quick fix from Tuesday’s summit between Germany and France. This weekend, Germany rejected calls by Italian Finance Minister Tremonti for the creation of Euro-bonds which would effectively make individual governments’ debt a common burden. Germany’s Finance Minister Wolfgang Schaueble quickly rejected this plan in Der Spiegel: “I rule out euro bonds for as long as member states conduct their own financial policies, and we need differing interest rates so that there are possibilities of incentive and sanctions to force fiscal solidity.” Ultimately, Germany will have to make a choice to either backstop Italy and Spain or let them default on their debt. With many in Merkel’s inner circle recommending that she steer away from eventually rescuing Italy because such actions could put Germany’s own banking system in peril, we feel that Germany will ultimately let Italy go. Perhaps this is why interbank lending has begun to materially slow down in Europe and why Bridgewater Associates released the following short note on Thursday: “There is an uncomfortably high probability that there will be an unmanaged banking and sovereign-debt crisis in Europe.”
Listen to Bert Dohmen, the editor of The Wellington Letter. Bert has had a tremendous track record of forecasting recessions and bear markets. According to Bert, we entered a recession in May and profit forecasts for the second half of this year are too high and will be revised lower. In a recent interview on CNBC, Bert gave his market thoughts.
If one noted technician’s bearish call was not enough, take note of another’s: Stan Weinstein, who many consider one of the all-time greats of technical analysis, gave a bear market alert to his subscribers when all of the major indexes broke below their 200-day Simple Moving Averages in early August. According to Stan, there has been inordinate damage done to the market’s underlying technical structure. Having just moved into what Stan labels as stage 4, or the declining phase, this bear market has just begun and will need time to run its course.
China’s economy is slowing down rapidly. At some point, investors will turn their attention here. When they do, they will not like what they see. Just look at some recent stats on China’s economy: China’s bank lending slowed down rather sharply in July to a 7-month low; China’s money supply growth recently fell to a 6-year low; China’s July auto sales were extremely weak. While they rose 6.7 percent in July, the rise was well below expectations and the growth seen last year. Could these economic numbers explain why Brazil’s stock market is one of the worst in the world this year and why the materials ETF, Materials Select Sector SPDR ETF (XLB), plunged 16% from its early August highs?
Small-caps are leading the way lower in the U.S. While so many market pundits continue to try to buy the dip and call a bottom for stocks in various interviews the past 72 hours, not one of them has made mention of how small-caps have already moved into bear-market territory. Just as small-caps lead the bull market on the way up, they are leading on the way down. This is a very bearish sign.
The consumer is about to retrench in a meaningful way. Those bullish surely looked at July’s retail sales as a cause for celebration. However, these shoppers were gleefully shopping before their stock accounts plunged this month. Perhaps we should therefore give more attention to Friday’s plunge in consumer confidence to 30-year lows! With the consumer 70% of our economy, a move upwards in the savings rate to 7-8% will ultimately translate into much slower growth for the economy. Slower growth means lowered earnings expectations for Q3 and Q4 and for 2012. Lowered numbers leads to lower valuations and ultimately to lower prices for stocks.
The individual investor is done with stocks. Ordinarily, this would be a positive contrarian sign. Considering that mutual funds remain fully invested and at historical lows for cash levels, however, the fact that individual investors pulled $11 billion from stock mutual funds last week is quite troubling.
This trend seems destined to accelerate in the coming months, forcing mutual fund managers to sell more stocks to meet the calls for cash from their investors. Considering that tax-selling is just around the corner for professional and individual investors, this dearth of buying power will eventually force stock prices lower.
When we objectively take note of the aforementioned considerations, we remain quite bearish of stocks for at least the next 3-6 months. Because bear market rallies are sharp, vicious, and short-lived, we plan on patiently selling into this rally by going long the ProShares UltraShort Russell 2000 ETF (TWM), for the accounts we oversee. We remain buyers of the SPDR Gold Trust ETF (GLD) on pullbacks and have begun to slowly deploy money into select gold mining stocks with an eye toward their eventual break outs later this year/early next.
We also remain long two inflection point plays that most investors have never heard of before: Dynatronics (DYNT) and eGain Communicatiosn (EGAN.OB). With various catalysts approaching for both companies, including a potentially forthcoming lucrative and game-changing G.P.O. contract win for Dynatronics later this fall, we feel that both stocks will be much higher a year from now.
In conclusion, bear markets should not be feared as they will ultimately reward patient investors with bargain buys. Instead of being feared, bear markets should rather be respected. For us, that means understanding that now is the time for patience and discipline and not for aggressively buying into a bear market that is only three weeks old.
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