Author Topic: JANUARY MARKET OUTLOOK by Dale Robinson  (Read 1281 times)

Offline Reginald Hudlin

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« on: February 09, 2010, 05:58:07 pm »
There is an old stock market adage: “As goes January, so goes the year.” And it is always true, except when it isn’t - like last year when the markets lost almost 9% in January but gained 23% for the year. Just like 2009, the markets have turned in a brutal January, so I thought it might be a good time to share my thoughts about where we are now and how we might use this opportunity for gain.

The Macro Picture

The recovery of the United States economy is linked to, and arguably dependent upon, the rapidly expanding Chinese economy. The robust growth of the Chinese economy has been widely attributed to effective stimulus policies of the Chinese government. It is worth taking a deeper look at the Chinese stimulus package to see how it differs from our own stimulus policies.

The United States economic stimulus package was a combination of government spending and bail outs of economically failing (read: high tax and high spend) states like California, New York and New Jersey. In China, the stimulus was targeted to lend money, through banks, for real estate and business endeavors.

In the words of the great economist, Yogi Berra, “It’s like de’ja’ vu, all over again.”

That history repeats itself is hardly newsworthy. That it may be repeating itself with 3G-like speed is a little unsettling. Think of the results of our own policies of encouraging marginally qualified borrowers to borrow low cost money to buy homes that they otherwise could not afford.  Now overlay those results onto the recent Chinese stimulus policies. Thanks to generous, low cost, lending by Chinese banks (funded by government stimulus), real estate prices have been soaring. Many homes in China have been bought, but never lived in, as they are being held for speculation only. When you consider that mortgage delinquencies are rising in China, it is pretty easy to connect the dots and make the case for a real estate bubble with a burst in its future.

The other lending from the Chinese stimulus was targeted at manufactures so that they could ramp up capacity and in turn sell more, relatively low cost, stuff to high debt economies like the United States and the countries in the Euro Zone.

If you buy into the case for the Chinese economy being pumped up on steroids of cheap borrowed money, then you may also be concerned about some of buyers of low cost Chinese products. Namely the economic PIGS (Portugal, Ireland, Greece, and Spain). You could throw in Italy too, but then the PIGS acronym becomes PIIGS and that doesn’t flow as well. Oh, and does anyone remember Dubai defaulting on their debt? These otherwise great countries are on the verge of economic collapse as the burden of their national debt tips past unmanageable.

Recently, because of uncertainty surrounding the economies of the debt laden PIGS, the Euro has been in freefall which has made the US dollar look relatively strong. This hurts the case for US exports. But this could all change quickly and the Euro could find support if the PIGS get bailed out by the other Euro Zone countries.  This could happen as early as this week.

When we sit around our well lit living rooms throwing stones at the nearly defaulting economies in Europe, we should remember the thousand pound elephant sitting in the room: the biggest high debt economy of them all – the United States.

Our national debt has surpassed 98% of our GDP. We owe more than $40,000.000 for each man, woman, and child living in the United States. That number is projected to double over the next 10 years. Moody’s has warned of a downgrade of US debt from the coveted AAA rating. US policy makers have become openly hostile toward US banks and other businesses which has a chilling effect on business development, expansion, and job creation - the very same jobs needed for a sustainable recovery.

In the United States roughly 40% of our economy is tied to housing so it stands to reason that we will not see inflation without stable/rising housing prices and wages. Because wages are not likely to increase until unemployment drops significantly and housing prices are not likely to increase until excess supply has been absorbed, the greater risk to the US economy is deflation.

Last week, we saw a $100 billion drop in M-3 and the Euro Zone money supply is also contracting, adding to the risk of deflation. However, we should not be worried because top policy officials assure us that they have everything under control. I would argue that listening to the top officials who have presided over the greatest expansion of debt in US history, talk about fiscal responsibility is a bit like getting marriage advice from Tiger Woods.

The Micro Picture

After that chipper look at the macroeconomic picture above, you probably can’t wait to read about the micro picture, but it’s not as bleak as you might think.

A couple months ago, an investment advisor friend of mine was making the case for continued increases in gold prices. Even though his argument sounded pretty cogent, I couldn’t get past the “barista indicator”.

Precisely 9 hours before the absolute peak in the real estate market, I overheard the barista at my local Starbuck’s explaining how to make a killing in the real estate market by using teaser rate, adjustable rate mortgages to tie up numerous properties, then just sit back and allow them to appreciate, refinance and do it again.

As my friend was making the case for unstoppable rising gold prices, I couldn’t help but think that every third radio commercial I heard during the previous month was also telling me that gold prices were going through the roof. And that made me think of the barista. In the markets, when everyone agrees on a direction, they are almost always wrong. When baristas and radio commercials are giving away free advice, be skeptical.

This brings me to the current state of our equity markets. Virtually every financial news story I hear has an expert talking about the bear market, or deep correction, we are entering into. The put to call ratio is at a multi month high, indicating overall pessimism. Historically, these extremely pessimistic conditions often identify a short term bottom in the markets.

Because of this near universal pessimism and the generally oversold condition of the market, I would not be surprised to see a solid bounce from the markets’ current levels. This, in spite of the macro challenges faced by the US and world economies.

Longer term, markets will be influenced by how effectively we deal with issues like deflation, deficits, and national debt. But in the short run, I think we may be set to see some nice gains in the markets. In fact, I would not be surprised if 2010 is similar to 2009 in terms of a decidedly negative January followed by an otherwise positive year for equity markets. This may prove to be a good time to commit new money to the markets.

Even with the historic macroeconomic problems we face, don’t get too discouraged. Politicians may do many things wrong but the one thing they have continually proven they can do right is count votes. When the vote count is against them, I would not be surprised to see even the most inept politicians develop an uncanny understanding of which economic policies work and which ones don’t.

As always, I welcome comments and questions.
Dale Robinson
Managing Director
Beverly Highland Capital LLC
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Beverly Hills, CA  90212
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