Market Commentary for the week of December 7, 2009

What we see.
While the stock market continues to surge, economic news has concurrently been surprisingly good. An increase of corporate expenditures in recent months has been a hopeful sign that investor psychology might have changed and that employment might reverse its current downtrend. Few think we have definitively turned a corner, but many are curious about what positives might lie ahead.

One potential source of good news is a series of reports that currencies are stabilizing and that interest rates are finally catching up to economic assessments. In other words, the age of expansive borrowing and speculation is being replaced by fundamental valuations and a “cash is king” mindset.

Of course, subtle changes become amplified over time by momentum shifts, and the hope here is that secular growth patterns emerge that might lead the way to better portfolio balance. For a time, stock-picking was a better tool than market analysis, but that time might be coming to an end.

What we think.
The bears need not be humbled, however. With the near-linear explosion in equities since last March, the market could be subject to a correction, one for which many have been already waiting months.

The good news is that there is enough money on the sidelines that any meltdown might only be temporary, and certainly a new buying opportunity.

There is also a growing appetite for non-U.S. equities. Emerging markets, commodities-driven regions, and fresh intellectual capital are all hot spots for money seeking new opportunity. As well, returns are likely to be compound-multiples of those obtained in traditional Western markets.

Obviously the only factors that could change the global appetite are war, and political instability. Although those are unlikely, investor skittishness is not something we can predict at this time.

Nevertheless, the coming year holds more promise than last year when the general consensus was quite poor. Despite that, the year turned out quite nicely.

What we hope.
Another factor influencing my attitude about stocks is the dearth of quality bond purchases available. Last year at this time the credit crisis pulled the rug out from under any credit certificates and caused prices to drop precipitously. Despite, or perhaps because of, the recovery in price and credit this year, there just aren’t enough good issuers at sufficient yield to make the trade worthwhile.

Therefore the equity markets become, de-facto, the only game in town.

This double-edged sword takes the alternative investment scenario out of play and limits the flexibility of portfolio managers to diversify adequately in the event of a turnaround in sentiment. While I am loathe to be a one-trick-pony, the market is shaping up as my only source of asset balance. I will carefully monitor our equity sector allocation as well as our cash reserves so as not to be too overexposed to risk next year.

The last time money was this cheap a speculative crisis emerged. We can only wait to see whether responsible fundamentalists or trader-savvy speculators define the next market cycle.