Here’s the problem—while Vice Presidential hopeful Sarah “Barracuda” Palin spoke on Wednesday night, none of us knew that in fact, the speech was a red herring. The barracuda we should have been thinking about was the one in the 1977 Heart song:
You lying so low in the weedsI bet you gonna’ ambush meYou’d have me down, down, down, down on my kneesNow wouldn’t you, barracuda?
On Thursday, the barracuda had the market down on its knees. The Dow Jones Industrial Average plunged 344.65 points, or 3%, to 11,188.23, its lowest close since July 28. The Dow returned to bear-market territory, off 21% from its record close of 14,164.53 hit on October 9, 2007. The S&P 500 dropped for a fourth consecutive day, falling 3% to 1236.83 and the Nasdaq Composite Index tumbled 3.2% to 2259.04. All of this occurred on heavy volume, indicating that it was not some sort of “summer fluke”. There was no one piece of information that caused the slide in stocks. Rather, it was as if investors decided that selling stocks was the new black this season.
The worrying issues that triggered the selling included: the Labor Department reported new claims for unemployment benefits rose by 15,000 last week, capping a multi-week trend that could portend bad news later today when the government's monthly data on nonfarm payrolls are due for release. We also saw evidence that the “back-to-school” period was pretty dismal for retailers. All of this on top of the fear that hedge funds would be unable to meet September 30 redemption requests was too much for the market to bear. The barracuda was indeed dangerous and venomous.
The theme yesterday can be summed up as follows: “what if all H-E-double-hockey sticks breaks loose and the worst case scenario really does occur?” This view was voiced by none other than perma-Cassandra Bill Gross, managing director of Pacific Investment Management. Gross begged the government to "open up the balance sheet of the US Treasury" in order to prevent a continuing asset and debt liquidation of "near historic proportions." Gross noted that we are looking at a burgeoning ``financial tsunami,'' which demands immediate government action. Those kinds of comments underscored the fear that a worldwide recession was upon us and as a result, well, you know the numbers.
Here is how the “worst-case” economic scenario, that is, a full-fledged global recession, could unfold. It would likely start with the US consumer, who under a bit more inflationary pressure might fully capitulate and retrench, leading to a massive corporate profit margin squeeze and then stocks continue to fall, confidence is shattered and we are in a horrible negative feedback loop. I think that the “worst-case” is an outlier in the range of possibilities, but you would have to be nuts not to factor it in to your asset allocation. In other words, there’s a barracuda in our midst—we don’t know whether she will swim out to sea or attack again, so the best advice is to guard against her.
Friday, September 5, 2008
Thursday, September 4, 2008
“Sam’s Club Republicans”
What a bummer—you get passed over for VP, but then the party co-opts one of your very own phrases! Minnesota Governor Tim Pawlenty, who last week was seen as one of the top-two contenders for Republican VP, coined the term “Sam’s Club Republicans many years ago to describe working-class GOP voters. You can almost hear one of McCain’s people saying, “Ditch the guy, but keep his slogan!”
As we now know, Sarah Paling got the VP nod, not Mr. Pawlenty. Still, they were both considered because it was essential that the Republican VP nominee be able to appeal to working middle class voters, the so-called “Sam’s Club Republicans”. With the US experiencing a downturn and the political campaign heating up, you are going to hear a lot about the economy -- who has benefited and who has not, the reasons behind the current malaise and how we can get back to a more robust time. While each candidate or pundit will trot out numbers, they may not explain the whole story.
Here is what I can tell you: some people have made a lot of money over the past eight years, while others have not. There are a variety of reasons as to why that occurred and in fact, a “perfect storm” of events have conspired to create a new period of prosperity for some and a period of losing ground for many. This trend’s roots were formed as globalization took hold. From the time the Berlin Wall fell, the dynamics of the world’s economy entered a new phase. The mix of political transformation, technology and economic integration transformed the world and created unparalleled prosperity --- growth from 2002-2007 was the fastest since any time since the early 1970s.
Experts promised that everyone would win with worldwide economic progress. And in the end, it may be that on balance, the average citizen of the world will win. But averages are only averages and growth can be asymmetrical. The first beneficiaries of the process were low-wage workers in developing economies who entered the global economy initially through their involvement in export productions. By joining the global labor force, hundreds of millions in developing countries have escaped poverty. But if the masses in developing nations are gaining economic ground, it makes sense that some group is losing ground ---that group is the middle class in developed nations, like the US.
Sure consumers in developed nations enjoyed the fruits of globalization, like the decline in prices for many goods at Sam’s Club and the like. But as the world’s economy matures and emerging nations are less able to export dis-inflation, many Americans are finding that they are not in such great shape. Compounding this problem was the availability of easy credit during the housing boom, which allowed many to maintain a lifestyle that their incomes could not support. In a strange twist, at a time when the globe was growing and corporate profits soared, the middle-class lost ground, while those who already owned capital made great strides. The squeezed US middle feels isolated as never before, threatened by a rapidly changing dynamic and feeling left behind by the owners of capital. Their one option may be to turn to their elected officials for relief. The candidate that taps into this group will likely win the election in November.
As we now know, Sarah Paling got the VP nod, not Mr. Pawlenty. Still, they were both considered because it was essential that the Republican VP nominee be able to appeal to working middle class voters, the so-called “Sam’s Club Republicans”. With the US experiencing a downturn and the political campaign heating up, you are going to hear a lot about the economy -- who has benefited and who has not, the reasons behind the current malaise and how we can get back to a more robust time. While each candidate or pundit will trot out numbers, they may not explain the whole story.
Here is what I can tell you: some people have made a lot of money over the past eight years, while others have not. There are a variety of reasons as to why that occurred and in fact, a “perfect storm” of events have conspired to create a new period of prosperity for some and a period of losing ground for many. This trend’s roots were formed as globalization took hold. From the time the Berlin Wall fell, the dynamics of the world’s economy entered a new phase. The mix of political transformation, technology and economic integration transformed the world and created unparalleled prosperity --- growth from 2002-2007 was the fastest since any time since the early 1970s.
Experts promised that everyone would win with worldwide economic progress. And in the end, it may be that on balance, the average citizen of the world will win. But averages are only averages and growth can be asymmetrical. The first beneficiaries of the process were low-wage workers in developing economies who entered the global economy initially through their involvement in export productions. By joining the global labor force, hundreds of millions in developing countries have escaped poverty. But if the masses in developing nations are gaining economic ground, it makes sense that some group is losing ground ---that group is the middle class in developed nations, like the US.
Sure consumers in developed nations enjoyed the fruits of globalization, like the decline in prices for many goods at Sam’s Club and the like. But as the world’s economy matures and emerging nations are less able to export dis-inflation, many Americans are finding that they are not in such great shape. Compounding this problem was the availability of easy credit during the housing boom, which allowed many to maintain a lifestyle that their incomes could not support. In a strange twist, at a time when the globe was growing and corporate profits soared, the middle-class lost ground, while those who already owned capital made great strides. The squeezed US middle feels isolated as never before, threatened by a rapidly changing dynamic and feeling left behind by the owners of capital. Their one option may be to turn to their elected officials for relief. The candidate that taps into this group will likely win the election in November.
Wednesday, September 3, 2008
Oil’s down…why isn’t the market up more?
If someone told you in mid-July that crude oil would drop from nearly $147 per barrel to $105 in less than two months, you would probably expect that the US stock market would soar. Of course, stocks have rallied from those summertime lows, but to quote my friend, “if oil is down by over 20%, then why isn’t the market up more than 3-4%?”
This is an excellent question -- especially in light of the fact that it appeared that the stock market was moving tick for tick with oil, only in the wrong direction, and that news outlets like CNBC were blazing graphics like “America’s oil crisis,” which seemed to link the rotten stock market directly to the price of crude oil. While it is clear that consumers and businesses alike were under pressure from ever-escalating prices at the pumps, to some extent, the rise in energy was a complete head fake for many investors.
Consider that on Friday July 11th, crude oil closed at $145.08, the S&P 500 settled at 1239 down 15.59% for the year and the Dow Jones Industrial Average was at 11,100, down 16.32% for the year. Flash forward to yesterday…we started the day with crude oil down big on the “disaster averted” news of Hurricane Gustav. Stocks came barreling out of the gates sporting nifty gains, but the rally fizzled and stocks actually fell on the day. That means that with crude down approximately 25% from the highs, large US stocks have only added 3-4%.
Although there is great relief that oil has staged a major retreat, the oil story may have taken investors’ eyes off of the larger issue that is still driving the economy and markets: the two-headed monster called the housing and credit crisis. Unfortunately, the beast continues to wreak havoc and we have yet to see any real signs of significant improvement. Oh sure, the housing numbers were a touch better last month, but we need more than one month of data to be convinced that we have turned a corner. Until that occurs, tight credit conditions persist, as evidenced by widening spreads last week.
Some had hoped that a Fed/Treasury intervention into Fannie Mae and Freddie Mac would help ease the credit system. To that point, I ask the following: if Fannie and Freddie were to get bailed out by Uncle Sam (which is to say, you and me) and the Fed were to assume trillions of dollars on to the national balance sheet, who would be stepping up to the plate to lend in that environment?
Many past financial crises were catalyzed by a boom and bust in real estate, which then led to a loss in the value of the country’s currency and culminated with the nationalization/socialization of bad debt. While our current process may have been exacerbated by rising commodity prices, without an end to the housing contraction, the monster is still out there and falling oil prices will not be able to conquer it single-handedly. What will eventually do the job is an unwinding of the excesses of the previous period. Until that time, my guess is that the rise in stocks is an emotional bear market rally that may ultimately disappoint investors.
This is an excellent question -- especially in light of the fact that it appeared that the stock market was moving tick for tick with oil, only in the wrong direction, and that news outlets like CNBC were blazing graphics like “America’s oil crisis,” which seemed to link the rotten stock market directly to the price of crude oil. While it is clear that consumers and businesses alike were under pressure from ever-escalating prices at the pumps, to some extent, the rise in energy was a complete head fake for many investors.
Consider that on Friday July 11th, crude oil closed at $145.08, the S&P 500 settled at 1239 down 15.59% for the year and the Dow Jones Industrial Average was at 11,100, down 16.32% for the year. Flash forward to yesterday…we started the day with crude oil down big on the “disaster averted” news of Hurricane Gustav. Stocks came barreling out of the gates sporting nifty gains, but the rally fizzled and stocks actually fell on the day. That means that with crude down approximately 25% from the highs, large US stocks have only added 3-4%.
Although there is great relief that oil has staged a major retreat, the oil story may have taken investors’ eyes off of the larger issue that is still driving the economy and markets: the two-headed monster called the housing and credit crisis. Unfortunately, the beast continues to wreak havoc and we have yet to see any real signs of significant improvement. Oh sure, the housing numbers were a touch better last month, but we need more than one month of data to be convinced that we have turned a corner. Until that occurs, tight credit conditions persist, as evidenced by widening spreads last week.
Some had hoped that a Fed/Treasury intervention into Fannie Mae and Freddie Mac would help ease the credit system. To that point, I ask the following: if Fannie and Freddie were to get bailed out by Uncle Sam (which is to say, you and me) and the Fed were to assume trillions of dollars on to the national balance sheet, who would be stepping up to the plate to lend in that environment?
Many past financial crises were catalyzed by a boom and bust in real estate, which then led to a loss in the value of the country’s currency and culminated with the nationalization/socialization of bad debt. While our current process may have been exacerbated by rising commodity prices, without an end to the housing contraction, the monster is still out there and falling oil prices will not be able to conquer it single-handedly. What will eventually do the job is an unwinding of the excesses of the previous period. Until that time, my guess is that the rise in stocks is an emotional bear market rally that may ultimately disappoint investors.
Tuesday, September 2, 2008
The Wooden Anniversary
Evidently, the proper gift for a fifth anniversary is something made of wood. Given that we are celebrating the fifth anniversary of the mutual fund scandal of 2003, wood seems particularly apt: it’s sort of boring and a little stale. That said, now that we are in the midst of a bear market, I thought it might be interesting to revisit the mutual fund world five years after the scandals made headlines on September 3, 2003.
The first thing that strikes me as ironic is that the dragon-slayer who was at the center of the scandal was then-New York Attorney general Eliot Spitzer. (Yes, the Eliot Spitzer who is now the former-NY Governor after become ensnarled in a headline-grabbing sex scandal.) The mutual fund cases were Spitzer’s second act after blackmailing the nation’s top investment banks in the analyst settlement.
Initially, Spitzer announced the probe into four mutual funds that were thought to have engaged in “market timing,” which is somewhat of a misplaced name, since timing the market is obviously not illegal. The basic premise of the case was that certain large institutions and/or hedge funds were allowed privileges that regular old shareholders like us could not get. That was the catalyst that brought the mutual fund business under the microscope.
Five years hence, it is amazing to consider that a couple dozen funds or their executives were formally charged by the SEC or state regulators and millions of dollars of fines and penalties were paid. At the time, it was a slap on the wrist, but the exposure of mutual fund excesses helped small investors in significant ways.
The scandal exposed an industry filled with excess. For the first time in twenty years, investors started to pay more attention to the fees inside funds and forced the most egregious fund families (Putnam, Janus) to change their ways. It was as if the curtain was lifted and out came a little (albeit rich) man, not a wizard. Suddenly, the mutual fund business was naked, with its fat, hidden fee structure apparent for all to see. Only when investors dared to look, were they able to see the truth. The mutual fund industry lost its way during the bull market and until investors demanded a more transparent fee structure, they were doomed to be on the short end of the stick.
As the fund scandal celebrates its fifth anniversary, there have been some terrific changes that investors should celebrate. The 2003 mutual fund scandal ushered in an era of exchange-traded funds and savvier investors, forcing mutual fund families to lower their fees and become more transparent. To celebrate, investors may find that they finally are on the longer stick…a piece of wood, after all!
The first thing that strikes me as ironic is that the dragon-slayer who was at the center of the scandal was then-New York Attorney general Eliot Spitzer. (Yes, the Eliot Spitzer who is now the former-NY Governor after become ensnarled in a headline-grabbing sex scandal.) The mutual fund cases were Spitzer’s second act after blackmailing the nation’s top investment banks in the analyst settlement.
Initially, Spitzer announced the probe into four mutual funds that were thought to have engaged in “market timing,” which is somewhat of a misplaced name, since timing the market is obviously not illegal. The basic premise of the case was that certain large institutions and/or hedge funds were allowed privileges that regular old shareholders like us could not get. That was the catalyst that brought the mutual fund business under the microscope.
Five years hence, it is amazing to consider that a couple dozen funds or their executives were formally charged by the SEC or state regulators and millions of dollars of fines and penalties were paid. At the time, it was a slap on the wrist, but the exposure of mutual fund excesses helped small investors in significant ways.
The scandal exposed an industry filled with excess. For the first time in twenty years, investors started to pay more attention to the fees inside funds and forced the most egregious fund families (Putnam, Janus) to change their ways. It was as if the curtain was lifted and out came a little (albeit rich) man, not a wizard. Suddenly, the mutual fund business was naked, with its fat, hidden fee structure apparent for all to see. Only when investors dared to look, were they able to see the truth. The mutual fund industry lost its way during the bull market and until investors demanded a more transparent fee structure, they were doomed to be on the short end of the stick.
As the fund scandal celebrates its fifth anniversary, there have been some terrific changes that investors should celebrate. The 2003 mutual fund scandal ushered in an era of exchange-traded funds and savvier investors, forcing mutual fund families to lower their fees and become more transparent. To celebrate, investors may find that they finally are on the longer stick…a piece of wood, after all!
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