Whoa!

Today gave us a new piece of economic data in the revised GDP numbers to 1.3%.  That matches the poor job creation we've seen lately.  Stocks have opened lower largely based on the debt issue in Washington but this is a new issue thrown into the mix and it is likely to weigh in on markets now even after there is some resolution in Washington.  I'm going to have to think about this.....

Debt Crisis: A follow-up

Here's a follow up to my thoughts on the debt crisis, a response to a client after I sent him my special report:

I think that the market for the first time {Wednesday} is starting to take in a serious consideration that there might not be a compromise before time runs out on August 2nd. This is why most major averages were down one to two percentage points. This is just part of the external pressure that will begin to build on Washington's political class the closer we get to this date next week. While this may lead to a short term decline and there may be some volatility in the next few weeks regarding this issue, I think that currently markets have priced in some sort of resolution {likely initially leading to a short term raise of the debt ceiling as negotiations continue}.......

I think the real question people could be asking is will the episode surrounding debt lead to a market crash. Frankly that is an unknowable event, although I would suggest that is a lower probability event. While low probability does not mean "cannot occur", I think that given what we know right now this is not how this will likely play out.

Here is what I think is the most likely scenario that will occur on the debt issue. Again remember this is a scenario and not fact: For the reasons that I have outlined in my special report I think that both political parties will wait until the absolute last minute to either compromise or pass a temporary extension in order to give politicians more time to craft a deal. What's going to happen is that the longer this goes on, the more pressure that will be put to bear on these guys to come up with a deal. Markets, businesses, special interests and individuals frightened about social security etc are going to start to become increasingly vocal. I DO think that markets could be at risk until some sort of resolution {temporary or permanent} is designed but I think at some point we should actually look to be buying if that occurs. The reason for my thoughts this way is that away from this issue corporate earnings have been pretty good and the economy seems to be muddling along in the same manner it has for the past year or so. If they come to a solution between now and August 2nd I think the bigger risk is that markets might melt up and not down. Irrespective of anything right now I see stocks simply locked in that trading range that I've been discussing most of this year.

.....I can tell you my reasoning for what I think will happened but I cannot of course guarantee that it will occur. I will also tell you that I can't discount the possibility that stocks won't have a few bad days here until this is resolved and I have to be frank in saying that we should not discount the fact that a very bad day could occur next week if against all expectations the Government goes into a technical default.

Funny Cartoon!

Behind Hard Economic Times

Washington Post Editorial by Robert J. Samuelson that I think does a pretty good job explaining some of the structural problems we face regarding the current exonomic situation from a structural basis.  {Excerpt with my highlights}

We are witnessing “the crisis of the old order.” The phrase, coined by the late historian Arthur Schlesinger Jr. to describe the failure of unfettered capitalism in the late 1920s, also applies to the present, despite different circumstances. Everywhere, advanced nations face similar problems: overcommitted welfare states, aging populations, flagging economic expansion. These conditions define the global crisis and explain why it struck the United States, Europe and Japan simultaneously.....

The old order....rested on three pillars. One was the welfare state. Government would protect the unemployed, aged, disabled and poor. Capitalism would be tamed. A second was faith in economic growth; this would raise everyone’s living standards while permitting income redistribution. Growth was ordained, because economists had learned enough from the 1930s to cure periodic recessions. Finally, global trade and finance served countries’ mutual interests......All three pillars are now wobbling......

Start with the welfare state. A blessing to many, it’s also a common burden. Its expansion was huge. In 1950, government spending as a share of a nation’s economy (gross domestic product) was 28 percent in France, 30 percent in Germany and 21 percent in the United States. By 1999, figures were 52 percent of GDP in France, 48 percent in Germany and 30 percent in the United States, according to figures compiled by the late economics historian Angus Maddison.....

....{E}ven countries without immediate crises are embracing austerity measures. All face a ruinous choice: The higher taxes or deficits needed to finance more welfare spending might further damage the economy, but cutting benefits stirs popular backlash. Still, benefits are now vulnerable....

...On paper, faster economic growth could rescue governments from this trap. Unfortunately, this seems a mirage. Indeed, the old order’s second prop — faith in routine economic expansion — is suspect. Economists exaggerated their understanding and control. They seem to have exhausted conventional policy approaches. Central banks such as the Federal Reserve have held interest rates low. Budget deficits are high.

Some American economists argue the United States should temporarily run even bigger deficits. Perhaps that would work, but Europe’s experience counsels otherwise. Big deficits there led to higher interest rates, reflecting investors’ greater fears of default. Default anxieties in turn weaken banks — large holders of government bonds — and, through them, the broader economy.....

Austerity practiced by one or two overcommitted nations may succeed; their economies can grow by increasing exports to replace lost domestic spending. But prolonged austerity practiced by most advanced countries could be a huge drag on the world economy. To whom can they export? The obvious answer is China and other “emerging markets.” But China frustrates this possibility by maintaining an artificially low currency that subsidizes its exports and sustains large trade surpluses. China sees trade as a jobs creator. It shuns the notion of trading for mutual advantage — the old order’s third pillar. The political foundation of the global trading system is at risk.

We have left our collective comfort zone. Ideas and institutions that, on the whole, served well since World War II are under a cloud.....Amid today’s unrelenting political uproar, something similar is happening. Economic weakness in advanced countries stems partly from the residual trauma on consumers and companies following the ferocious 2008-09 financial crisis. But the effect is complicated by a backward-looking mentality. Governments everywhere are striving to protect the old order because they do not understand and fear the new.

Link:  Behind Economic Hard Times Fear of the New

Thoughts on the Deficit Crisis

I thought I would send something out regarding the current debt standoff in Washington as I seem to have as many people asking about my thoughts as I did during the banking crisis in 2008.

First, a few caveats. This is my current thinking on the issue and it could be obsolete before you even read this. I reserve the right to change my mind as events on the ground dictate. The other disclaimer is that political discussions regarding money and its distribution throughout the economy should be discussed using scenarios dealing with what is likely to happen versus what anybody might prefer to see implemented from above. Many of you have heard me over the years me introduce a discussion about politics as it relates to money by saying the end result usually is similar to what will happen if I drop a pencil from my hand to the ground. Whatever I’d prefer to see happen, the pencil is going to fall to the floor. That’s just the way it is. Now with that out of the way here’s what I see happening. We’ll briefly separate this discussion into three parts: a political event, an economic event and the market’s likely reaction to both.

Politically, I believe that neither political party will compromise until 11:59 of the crisis. Think of it this way. You could be the most ardent Tea Party Congressman from a deeply conservative district. You could have many constituents similar to a former client of mine {a farmer from central Illinois} who once told me that “he didn’t read the Wall Street Journal because it was nothing but a liberal rag”. Your district might be filled of people like this. They sent you to Congress to straighten things out. But as a Congressmen, you know this fact {or your advisors do if they have any experience}. Your most vocal and ardent conservative constituents, the ones that are shouting “Atta boy!” on the phone lines all the way to Washington are going to be the first ones to call you when either they or some family member doesn’t receive a social security check. This same thinking works in the most deeply liberal districts. Yet the only way for each side to get re-elected next year is to be seen as the guy that stood up for their districts until the bitter end. This means voting at the last minute for some compromise and being able to go home and tell the folks they cut the best deal they could.

A best guess is that we’ll see soon a short term extension of the debt ceiling {maybe two months} or a deal cut by early August to avoid a default. Default by the August 2nd deadline is an arbitrary date anyway. It is likely that Treasury can pay its bills on that day if it wants to. But politicians need a drop dead date so that one works as well as any.

On an economic basis it is likely that if for some crazy reason the US government passes that August 2nd date and has incredibly done nothing, here’s what will happen: The sun will come up in the east, people will still have jobs, babies will be born and the Cubs will continue to lose baseball games. Whatever economic disruptions that might occur from this event will likely be short-every television station in the country can’t wait to feature the story about the person/couple denied benefit X because of the deficit impasse. Should both parties push for economic Armageddon, look to the party that is suffering the most political pain {most likely the Republicans} to cry “Uncle” first.

What most of us are concerned with is the market’s reaction to a default and what steps should they take with their portfolios. A few thoughts: As this is being written {late July 25, 2011} the markets do not believe the US Government will default on its obligations. The gyrations of the stock market are less important in this regard than the bond market and bond yields are not currently pricing in a default. If they were then interest rates all along the yield curve {bonds maturing between next month and 30 years from now} would have seen a substantial decline in price. This would have been necessary for the yields to rise to the point where investors would be willing to take on the additional default risk. Whatever the television gurus and the political pundits want to tell you, the United States is financially not in the same fiscal situation as Greece. Bonds are so far telling you that the chance of a real default-that is a situation where creditors never get paid- is very low.

For most of us though with investments in 401k’s or stock investment portfolios and with painful memories of the 2008 decline, the unanswered question is what is the likelihood that against all expectations on August 2nd there is no deal. Both political parties are willing to engage in an American equivalent of Gotterdammerung-taking the whole economic system down with them? That probability while low is not zero in our opinion. So given that, what do you do from an investment perspective?

For our client portfolios, we turn back to our playbook. The playbook is situational analysis based on historical market results. We study money flows along with the disciplines of fundamental and valuation analysis to see how markets have responded to similar historical events. It gives us different scenarios regarding market activity. We use it to formulate our game plan. The game plan is a tactical and a strategic allocation of assets based on what the playbook tells us has historically occurred. It is then further refined to the specific risk/reward parameters of our clients.

Given what we currently know, the playbook is telling us is to treat the debt debate as a situation that has been priced into stocks.  Probability suggests that a default {if it’s temporary} and any market dislocations resulting from it are likely to be short lived.  Neither party will likely be able to withstand the political pain associated with its disruptive effects for more than a brief period.  That being said, markets may become more volatile in the days ahead, particularly the longer this event drags on without some resolution. In that event we would view any short term decline in stock prices as an opportunity to review markets and to potentially add to positions that we find of interest. 

First you must have some sort of understanding of your own risk/reward perspective regarding the total composition of your portfolio. Again we feel that the understanding of our playbook and our knowledge of our client’s own personal situations helps us with the asset allocation of their portfolios. Right now as an example and for reasons totally unrelated to the debt issue we have been carrying for most of this year higher than normal cash positions for most of our investment styles. Absent a significant decline in economic activity it is likely that we would view any decline in stock prices resulting from such an event as an opportunity to add to positions that we view as favorable, particularly securities with higher than average dividend yields. Away from Washington the current corporate earnings season so far is making it clear that American companies are in pretty good shape. However, should the unthinkable happen and the crisis morph into a more serious event than we will bring out the defensive pages of the playbook. As we mentioned recently,  we have them close by right now just in case.

an tSionna {07.25.11-Earnings}

An earnings update from Chart of the Day comparing the rise in corporate earnings to gold.  Nice illustration to show you how we've devalued our currencey over the past decade.  This devaluation is why your grocery bill is 10-15% higher now than it was a year or so ago!

"One positive for the stock market has been the dramatic rise in earnings following the financial crisis. One reason for this earnings spike has been the fact that the US dollar has effectively been devalued. Slash the yardstick by which financial performance is measured (e.g. dollars to dollarettes) and relative performance will appear more positive. For example, when corporate earnings are measured in dollars, an investor will find that earnings are currently greater than what was achieved during the dot-com bubble and fast approaching the record levels that were achieved at the tail-end of the credit bubble. However, when measured in another world currency such as gold (see today’s chart), the earnings picture isn’t quite so rosy. Today’s chart illustrates how S&P 500 earnings measured in ounces of gold actually peaked back in 2001 and has moved within the confines of a dramatic downtrend ever since. In fact, the historic spike in earnings that began in the summer of 2009 doesn’t look all that historic with current earnings coming in at a level that is significantly lower than what occurred at the conclusion of the dot-com and credit bubbles."

Link:  Earnings vs. gold.

*Long ETFs related to the S&P 500 in client and personal accounts.

PreMarks: Europe

Markets too open higher on news out of Europe that the framework for a debt deal for Greece and a long term plan to handle the structural debt problems in other parts of the continent has been reached.

an tSionna {07.21.11} Market Cycles

Chart  and link courtesy of The Big Picture.  Shows how stocks cycle over different time frames between bullish and bearish phases.  As you may know we have three different time frames in which we measure stocks via our key metrics of fundamentals, valuation and money flows.

Our longest period is a secular time frame {years}.  We are bullish or NET MARKET POSITIVE in that time frame.  Our second period of measurement is an intermediate indicator which essentially looks out into the future three to 18 months.  We are bullish or NET MARET POSITIVE in that time frame.  Our shortest period we measure is less defined by time but is more heavily weighted towards money flow analysis.  In that period we are currently NET MARKET NEUTRAL.  You can go here for a definition of these terms.

Link:  Market Capitalization

an tSionna {07.20.11}

Market had a good day yesterday.  Three reasons listed for the rally were 1) good earnings reports, 2) Anticipation of Apple's results {They were great, the stock flew in after hours trading and will likely be higher this morning} and 3) a sense of movement on the budget ceiling debate.  I would also add that on a very short term basis the market was oversold going into yesterday.

What this has done is basically take us back to the higher end of that trading range we seem to discuss all of the time here on this blog.  Corporate earnings are likely to at least provide some level of support for stocks at least in the short term, but very little seems to indicate that the market at this juncture is setting itself up for a major break out or break down.  Anything of course can happen and we have our gameplan for most market eventualities but probability indicates that stocks will continue to be volatile and in our opinion likely to be range bound till later this summer or early in the fall.

*Long ETFs related to the S&P 500 in client and personal accounts.  Long AAPL in certain client accounts.  AAPL is also a major component in certain ETFs that we own for both clients and personal accounts.

And one final thought on APPL courtesy of the The Big Picture:  "{APPL} now sits on over $76 Billion of cash and long-term securities, which equates to around $83 per share. We read somewhere that Apple could almost purchase RIMM with just the increase in its cash position this quarter."

**No positions in RIMM but it is also a component of ETFs we own in both clients and personal accounts.

an tSionna {07.19.11}

Courtesy of The Big Picture.  Barry Ritholtz is a must read by me everyday!  You can double click on the chart to make it larger.

PreMarks: 7.14.11

Market to open higher on better than expected corporate earnings this morning.  Well  that's the excuse the commentators are giving on CNBC.  We're short term oversold enough that this makes some sense.  We'll have to see if the market can hold it's gains today. 

And yes the fact that we're back up online today means we have power finally!!!

Happy Bastille Day!

Happy Bastille Day for our compadres in Division 6 at the Hotel California and to Lt. English over in Division 1.

Below is our latest gift to our French brothers from the World Cup!!!

And here's our annual tribute to France.  Say what you want about the country but they have a great national anthem!  Le Marseillaise

Power's Gone!!

If you don't live in the Chicago area then you need to know that we had a massive storm here Monday morning that left over 800,000 of us without power. Lumen Capital is one of those 800,000.

The magic of modern technology is such that I can work from almost anywhere and that's what I've been doing. However, the nuts and bolts of a mobile office makes updating the blog a low priority event right now. I also have some traveling scheduled for the end of this week and early next. It is unlikely that you will see anything here until next Wednesday unless we get power back soon. Since the estimate right now is for that to occur sometime around the 14th, I think it is safe to assume that you can catch up with me sometime next week here on the blog.

I'll try to have something new and exciting to bring to the table by then.

an tSionna {07.08.11}

Holiday shortened week of posting, part vacation and part blogging issues. Market has had quite a move in these past two holiday shortened trading weeks. It's up about 7% during that time. All things considered that's a pretty good move. There are all sorts of reasons suggested for the advance {Greece, better economic data etc.} From our perch market seasonality and the fact that we were oversold enough that a market rally was a distinct possibility led us to upgrade our short term market rating up to Net Market Positive back on June 10.

This is a pretty good move all things considered. Valuations are a bit more iffy at this level as well. While this move might be the start of something bigger, those seasonal variations we've previously discussed suggest the possibility that we could stall out somewhere in this area. As such we're going to move our shortest term rating down a notch to Net Market Neutral. We leave our intermediate and longer term ratings unchanged. You can go here for a definition of these terms.

On a side note business is going to make posting somewhat spotty for the next week or so. The next post here will be on Tuesday.

*Long ETFs related to the S&P 500 in client and personal accounts.

Happy 4th of July

Gettysburg Battlefield

That's me standing next to the memorial marker to the 19th Indiana Infantry Regiment, part of the Iron Brigade which fought from this point on the first day of the battle.  My Great-Great-Grandfather, William Murray was attached to this unit and was wounded here on this first day of battle.

Gettysburg at dusk looking from the top of Little Round Top over the battlefield.

Gettysburg was fought July 1-3, 1863. On the 4th the armies rested, treated their wounded and buried their dead.