Market Commentary for the week of May 3, 2010

Tumult.

The global credit crisis erupted more deeply last week, sending an inevitable wave of up, then down, then up again mix in equity activity.  And yet despite our consternation over these events the market’s surprising overall sustained upswing is consistent with my cyclically bullish stance on equities.  But I must add that its current duration and excessive magnitude are troublesome in the short-term.  Quantitatively we have “peaked” well above nominal valuations, while other metrics such as amplitude (time) and relative strength are stretched to their maximum.  Most indicators are leaning towards a “sell” rather than a “buy,” and are fairly uniform in their negative bias.  However, the market still goes up.  This is either a win/win or a lose/lose depending on your point of view.

What concerns me most is that indicators are in “excessive” territory, a measure which typically results in contrary performance afterwards.  These data suggest that while the numbers might be positive, the sentiment is otherwise.  It could be that the markets are reaching our upwards targets too quickly.

Fundamentals.

Valuation becomes the problem.  Depending upon underlying fundamentals, equities might be racing well ahead of their underpinnings.  Earnings are not as supportive of this bull leg as one might expect.  Until I see confirmation of a better synchronicity between earnings acceleration and price performance I will be hesitant to commit “all in.”

And still, optimism lags valuation.  Any weakness in the next few months will not only represent a correction in prices, but a recalibration of conviction about risk-taking and equity ownership.

The bull market is not dead, but we must respect the bear cycles that allow for accumulation of capital and patience to wait out the inevitable capitulations.

Hope.

It is too early to pick out the catalysts for the next bull upleg, but I have postulated that global demographics will provide the impetus for capital investment in Healthcare, Infrastructure, Technology and Energy.  These sectors are poised, in my metrics, for long-term outperformance.  Look, if you’re confused about what to do next, look at the faces of our legislators as they verbally joust with executives of Goldman Sachs.  The cultural and moral chasm is wide between Main Street and Wall Street.  Goldman’s contention that their investors were “big boys who understood the risk” rings hollow.  On a daily basis, I have to step over the litter of their deals gone bad, and feel ashamed that, indirectly, I am in the same profession.

Beyond the carnage, though, are significant secular trends that need to be recognized.

 

Today’s bear trend is a warning about the future of interest rates, and the potential for a new ignition in inflation.  Recent economic releases foretell of a rise in commodity costs, but not necessarily of their effect upon capital investments, consumer savings, or corporate profits.

As the pieces fall into place we will more accurately be able to forecast the timing, duration, and magnitude of a recovery in equities and economic development worldwide.  Until then, the markets still look vulnerable to a selloff.  We will not know these things next week or next month, but rather over the life of the next few cycles to unfold.

Patience.

A financial crisis broke out two years ago.  Its scope was far-reaching and persists even today.  It was emblematic not only of fundamental instability, but also of a moral vacuum.  Some ignored its origins then, some still do today.

The bottom line for me is that irrespective of performance at the periphery, we must respect core life cycles and the evolution of trends.  As the market grows tired fighting the prevailing trends, we cannot resort simply to “hope” or hyperbole to rescue an otherwise lackluster season for profits.