Asian and other global benchmarks moved up modestly last week, in part because short-term valuations became extremely cheap and also because a macro assessment of the globe’s economies looks stronger than the individual credit crises which threaten them.
However, for a near-record consecutive months, output and profitability remain subdued.
The markets by my calculation are not about to slip into a long-term bear phase, but we are nevertheless well into a consolidation from the record high bull which just preceded. Going forward, it will be much more difficult to generate equity gains if interest rates, leverage, and liquidity keep moving in a restrictive direction.
Short-term disconnect.
What seems to be at play here is the divide between what some might perceive during a two week span, and what others can truly quantify over the long-term. Traders get excited easily, whereas the longer term looks less uncertain. Volatility, by itself, is not necessarily bad, but panic is certainly not an investment methodology, the last time I looked.
As an earnings driven investor, I follow the profit trail. As discretionary funds diminish, so too does the potential for traditional consumer-led equities or fundamental supply/demand economics. Instead, the models are supplanted by a tangible asset, price-driven alternative, with inflation as the driver. Hence, energy (not just fossil fuels), raw materials, agriculture and technology are leading today, and have been leading for several quarters.
The problem with earnings, though, is that there are both organic and exogenous reasons for success. In today’s market, liquidity is important in order to create demand. Tighter money, on the other hand, can stifle home-building, capital investment and Christmas toy sales.
But equally as punitive is the psychological landscape of global terror, joblessness, political inertia, and old age.
The factors that impact the psychological landscape depend less upon economic modeling and more upon confidence. Deficits matter. By all objective measures investors are less willing to finance someone else’s deficiencies without first addressing themselves.
One of my clients called me last week to state, in essence, that it doesn’t matter if we outperform the indices on a relative or absolute basis. It matters that she achieve a benchmark consistent with her risk/reward tolerances and her need for capital at retirement.
In other words, theory is fine when the markets are going up. Today, however, “I can’t afford to sacrifice any gains”.
Method trumps panic.
As I’ve said before, investing is risky and not anything like a bank statement. The key is to select prudent methodology and asset allocation modeling so as best to mitigate against the effects of volatility and inevitable changes in pulse and direction.
How ironic that the factors which move markets are so capricious.
Reflecting upon the rest of the year, I am confident that we will find an equilibrium within this consolidation. It might shallow-out the current, and unsustainable, rate of ascent we have previously experienced and come to expect, but I do not believe the secular trend will go negative.
Today, interest rates are trending higher and have not yet achieved the level toward which they are charging. Tighter money might have the potential to kill speculation, but also to build a more solid base for growth in the next intermediate upleg. Considering the difficulty speculation has created thus far, the contrast could be a good thing.
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