Market Commentary for the week of December 19, 2011

Blame game.
The Federal Reserve, liberally praised and/or criticized for its policies regarding expansion of the money supply is now falling victim to whispers about its virility to deal with a stagnant economy for the long term.  Some have jumped upon the Board, and its Chairman, as being the enemy of a market torn between austerity and growth.  While it is fair to lay blame upon them for an overly zealous monetary policy, the fault with the global markets must also be borne by politicians, business, and consumers.

The deterioration of the market, in a quest for equilibrium by our policy-makers, raises geopolitical interconnectedness to a new bar.  The “on-the-ground” reality is that it’s not working for the average consumer, who feels that the allocation of hope and opportunity is unfairly distributed.

Given this scenario, the prospect for earnings acceleration patterns in the next quarter are quite low.

After years of being pounded upon, many investors/consumers have just withdrawn.  It is naïve to suggest that market fundamentals are not impacted when a significant portion of the consumer base doesn’t even play the game.

As valuations go, P/E ratios might show some semblance of expansion, but that’s because the denominator is getting smaller, or traders are speculating with prices, driving them artificially higher.

Profitability is being squeezed by a decline in top-line revenues and higher overhead.  Forecasts continue to project a less-than-robust jobs market for the next few months at least.

We are still dealing, then, with the immutable laws of quantification, statistics, and physics.  Those “laws” indicate a static (lateral) movement in stocks as a surrogate for upside momentum, and an even higher probability that as stocks congest within their short-term attempts to rally, they set in motion the potential for a decline (sell-off).  The most positive thing one might say about their stock portfolio today is that it has “done them no harm.”

Dismay.

Quantitative analysts get headaches over markets like this because data doesn’t always appear as “black” or “white.”  Instead, we review “degrees” of magnitude, a frame of reference that deals mostly in integers, not point of view.  There are no absolute responses to data, only absolute data.

For example, the deceleration in earnings about which I just wrote, creates clusters of equities in various phases of growth cycles.  Rather than focusing upon those securities whose prices are low, I would prefer to find companies whose earnings/profits are accelerating.  Of course, who wouldn’t?  Well, you would be surprised how difficult it is to match sector, cycle, inflection point and time to one another.

Fundamentals, which play a significant role in this analysis, are typically expressed as integers but also interpreted upon a value scale.  If the numbers seem “flawed,” or suspicious, one might ignore them altogether.  This, in turn, evokes a “happy” or “sad” response to a company.  Grudgingly, as a result, the markets take on a psychological mania that can affect prices.  Fundamentals get ignored, opportunity wasted.

I expect that the year-end will be rife with psychological mania of this kind, yielding to an extremely volatile attention span.  Despite the numbers, a new landscape is emerging which trades upon “hype,” “happiness,” and “expectation.”  It could cost us the opportunity to tune in to dormant themes that might be next year’s capital gains winners, or, possibly, to overlook them altogether while wallowing in excess negativity.

Market Commentary for the week of December 12, 2011

Trap.
Mammoth European fiscal support packages are an attempt to “close the barn door after the horses have left the stable.”  Economic dynamics, that were spiraling out of control, are contained, euphemistically, for the time being, but the test of the effectiveness of these measures is mostly psychological, particularly in the U.S. where investors clamor for any news, from anywhere, that is positive.  Since it’s all about “confidence,” the global markets were in a hurry last week to show recoverability.

More importantly, the focus was shifted from U.S. banking and economic problems to a wider aperture, globally. 

Whether or not these attunement policies work is up for debate and not likely to auger a turning point in any secular bear market expectations.  Any willingness even to address fiscal austerity amongst the EU partners does show a level of concern and cooperation that the financial markets, particularly the bond markets, needed to see.  Partners have stopped bickering and are now responding.  Although these plans don’t “solve” the crisis, they do, as noted, address the notion that they might not be addressed at all, risking reverberation and failure within the global markets.

Straining the banking system, however, is too desperate a response despite the immediacy of the problem.  In a world of tight money and limited personal savings there are few avenues, but for taxation, that can be taken.  Boosting lending capabilities is not the same as boosting lending.  Banking markets require growth, liquidity, and production to come out ahead.  Any global recovery must ultimately rely upon improving the quality of life, products, and the consumer psyche in order to flourish.  Job creation and personal savings are a good place to start.  We don’t want to rely solely on filling a government treasury with cash.

So bad.

The global markets are powering forward on all this good news, forging ever deeper into a labyrinth of trouble.  Psychological contagion in a bear market is as dangerous as poor portfolio performance.  The two feed off of each other, making for excessive betting and creating a general “momentum to nowhere.”  Just because seasonal, or short-term, numbers turn up is not necessarily a secular response worthy of excessive betting against the trend.  It will be important to see if relative strength integers in today’s hyper-performers can sustain to the upside.  I doubt it, and look for profit-taking as valuations swell.

While these price increases put the composites back in positive territory, bear in mind that most of the last decade has been negative for equities, and that today’s positive return is well below the declining peaks of valuation since the bear began.

The investment picture is mixed, at best.  We yearn for improvement, yet do not wish to lower our standards of evaluation.  Year-over-year uptrends are indeed showing some progress, but don’t factor in the bigger issues of jobs loss, savings depletion, home and portfolio devaluation and most importantly the loss of innocence/confidence that our institutions know how to do it better and can help us to sustain enthusiasm for something better ahead.

Market Commentary for the week of December 5, 2011

Turnaround?

Any euphoria about last week’s intermittent triple-digit rallies has to be couched in a context of longer-term developing downtrends and a desire to see any positive news as “bear-busting.”  Alas, the ongoing downcycle persists and is likely to be the primary determinant to market performance for the foreseeable future.

As junctures go, last week represented a few days of post-holiday welcome relief, but hardly the initiation of a change in secular direction.

The headwinds are too daunting when analyzing market and sector relative strength quotients.  Despite some decent numbers on Friday, it is more likely that unemployment, capacity under-utilization, deficit reduction, commodities depletion, and social unrest occupy investor’s mindset and political discourse to the exclusion of nascent indications of a turnaround.

The markets are emerging from a deficit cocoon and turning into a sterile, cash-only butterfly.

That is why I feel the story gets more difficult before it gets much easier.  Mature global markets need to upend themselves and begin to provide fiscal leadership for the rest of the globe.  Simple GDP expansion could help, but it is not the panacea that returns confidence to the system.  Bear in mind that consumption and savings are elements for growth.  In today’s climate savings are lagging and consumption (the holiday season notwithstanding) is abysmal.

Or worse.

Further complicating any enthusiasm to short term rallies is the timeline of one’s perception.  For obvious reasons, short-term oriented investors are salivating at the opportunity to “make-back,” or “make-up,” portfolio valuation with quick strike efficiency.  Nothing soothes the soul like a 400 point Dow rally.  However, those who study secular cycles and demographic themes understand that sucker rallies sometimes draw you in at the top with hope of different outcomes.  Ideally, in my universe, the optimal entry point is an enduring “bottom left to top right” configuration with an inflection opportunity yielding a greatest probability of upside return.

We are today operating on the “other side” of a bull market, however.  The trend in global securities trading is “top left to bottom right.”  Along with any concomitant short upside rallies within the downtrend, the markets are generally comprised of stocks leaking oil and sputtering.

Short upside rallies offer relief but they do not change the secular condition or offer a reversal of trend probability.

My best expectation is that we will continue to see some sectors lead (utilities, consumer non-cyclicals), some lag (financials, cyclicals), and others simply meander laterally, failing to pick up steam (industrials, basic materials).

Linkage.

Markets are more synchronized today globally, as well.  Those regions which are high in natural resources and agricultural plentitude are likely to lead economic, social, and portfolio metrics.  The emerging markets are a different challenge altogether. Their growth will be measured in relative terms, and only their resilience might be enough to generate valuation changes in the long run.

The key to the next few quarters lies in ameliorating the impediments created by social inequality, fiscal austerity, and a kind-of institutional lack of respect we have developed for all centers of power, from government to Wall Street.

Until the confidence crisis is substantially addressed, all markets will suffer from the fallout of engaging on an uneven playing field.