Who will Bear the Cost?

It seems to me that much of the news in September has been "Bad News". It was reported last week, for example, that the U.S. Deficit for the year hit an all time record, well over $1.25 trillion dollars. Last week the dollar hit a new low. Many investors have been looking outside the United States to obtain better rates of return as the Federal Reserve has been targeting a key lending rate of 0% to keep interest rates very low. Earlier in the month it was also reported that the unemployment rate has hit 9.7%. We now have about 14.9 million individuals out of work, according to Christopher S. Rugaber in his September 4th Associated Press article. This does not include those who have taken reduced salaries or lower paying jobs and those who must take furloughs. For some of these individuals, who will bear the cost? For some of these individuals, the unemployment checks are about to end, leaving them in desperate situations. We are also hearing that the "rebound" of the economy may be a "jobless rebound". With all of these reports, it is no wonder that consumers who have jobs have cut back their spending, are saving more and are worried. We have to be thankful for the clunker and new homeowner's programs, as brief as they may be, in motivating consumers to spend. All of the above made me wonder how the Federal Debt will be repaid? It can't be repaid by those who are out of work. We are finding, on an international level, we are losing manufacturing jobs and not getting the new high tech manufacturing jobs because our corporate tax rates are too high (see Business Week Sept 21, 2009, "Can the Future Be Built in America?"). It therefore seems unlikely that increasing corporate taxes is the answer. The answer is that individuals will have to carry the burden of added taxes. For years, we have heard about the widening gap in earnings at the top end. Certainly this top group of earners is the group to go after. One of the problems with this is that the top earners are seeing their incomes declining. According to an article on page 1 of the September 10th issue of the Wall Street Journal, "Income Gap Shrinks in Slump at the Expense of the Wealthy", while the top 1% of tax returns in 2007 accounted for 23.5% of all personal income, it appears this will be reduced to about 15% in 2010. This top 1% of tax returns paid 40.42% of all the taxes collected in 2007 according to The Tax Foundation. To be in this rarified 1%, you had to have had an adjusted gross income of $410,096. The top 5% of tax return filers are also seeing their incomes declining, and in 2007 paid 60.63% of all Federal taxes. These were filers with $160,041 of adjusted earnings. If this group is seeing their earnings coming down, then the taxes collected from them will also come down. A combination of less government spending, higher income taxes and more jobs is likely to be in our future. The good news with all of the above is that there is an awareness of what is happening and a real opportunity to set Federal policy to go after the high tech manufacturing jobs, develop new jobs relating to the environment and move away from high reliance on the financial services sector in creating jobs. The United States has responded in the past and I am sure will do so again. Ed

What to do?

Many times it seems that “action” is better than no action. When we see things happening around us we want to “do” something. Recently the stock market has moved up quite nicely and you begin to wonder “did I miss the boat?” I do not have a crystal ball but I have been saying for several months that you need to have a game plan that makes sense rather than reacting to the stock market. The game plan I am pursuing is one based more on historical information than on what is happening with the stock market day-to-day. Historically the month of September is the worst month for the stock market. I think this occurs because investors realize that while gimmicks and onetime adjustments (such as lowering employees pay or not buying equipment now that you know you will need later)can work in the short-run you cannot build business profits using these methods. Ultimately, growing profits move stocks higher. The expectations in the first and second quarter for earnings is fairly small. By the time you get to third quarter earnings the expectation is much greater. Third quarter earnings are the last earnings we will see for the year since year-end earnings are not reported till the following year. It seems that the worry about what the third quarter results will show tends to drive the stock market down. Will that happen this year? I don’t know what will happen in the future but I don’t think you want to increase risk in your portfolio at this point in time. Ed Mallon

Stock Performance

Since the March 9 low in the stock market, the market has risen almost 50%. If you had invested $1,000 at the beginning of 2008 and that fell to $500 by March 9, between then and now you would have gained about $250 (50%) and be back to $750. That is still 25% below where you started, but it’s a lot better than where you were on March 9. This stock market is up 49% in five (5) months. To say that this is unprecedented is to put it mildly. You have to go back to the early 1930s market rally to find when it last happened. Of course, that rally was followed by a decline through 1932 that led to prices being down about 82%. I don’t want to burst anyone’s bubble but it appears to me the stock market is ahead of itself. Consumers account for about 67% of the spending in the economy. Currently, many consumers are out of work. It is unlikely that they will increase their spending. An article in today’s Wall Street Journal, “Debt Burden to Weigh on Stocks,” indicated that: “. . . household indebtedness peaked in 2007 at 132% of disposable income. That was the highest level since the end of WWII and quadruple the 36% of 1952. By the end of March, with families boosting savings, repaying debt and defaulting the ratio had fallen to 124%, a tad lower but still miles from the level of, say 69% in the middle of 1985.(WSJ,pg. C1,08-10-2009)” Consumers are not borrowing but are paying down debt and saving. If that is the case, how is the economy going to grow? How are corporations going to see profits increase? When will companies begin to create new jobs? I have to agree that we are better off now, than, say, last November when things looked bleak. But are we so much better off that the stock market should be up 49%? In a news story today on Bloomberg.com, the reporter indicated that Mark Mobius at Templeton is expecting a 20-30% correction in the market. They also report that Warren Buffett is shifting out of equities and into U.S. corporate bonds and foreign government bonds. These are two very astute investors who manage a lot of money. If the market declines 20 - 30%, it will not be down as much as it was on March 9, but it still would bring us close to that point. If we take the $750 that we now have from our original $1,000, a downturn of say 25% would leave us with $563. Of course, the future will tell all, but for now I would not get carried away buying equities. Ed Mallon

S & P 500 Up 7.5%

Good News! The S&P 500 is up 7.5% between July 8 and July 17! In a period of about a week and a half we saw the S&P 500 go from 875.07 to 940.31 on recent good news. It is being reported that various aspects of the economy seem to be showing signs of either nearing a bottom or possibly bottoming out. This, it would seem, has pushed the stock market up in a meaningful way in a short period of time. On the flip side of this is the fact that from January 2 of this year through July 17 the S&P 500 has gone from 931.80 to 940.31 or up about 0.9%! So, is the glass half empty or half full? I don’t really know. In looking back on the past month we saw the S&P 500 close at 944.89 on June 11 then go down to 875.07 by July 8 to return to 940.31 on July 17. In other words, the S&P 500 went down 7.4% then went up 7.5%. As this up and down process went on from mid June through this past Friday, the 30 day average volume on the NYSE has been going down. Lower volume is not the normal condition for the beginning of a new bull market. Whatever is going on, this sideways movement of stocks would appear to be containing the trading range with no dramatic current movement either up or down. My expectation for the market this summer has been either no substantial change or a gradual move downward until mid September. The positive surprise has been some of the good earnings reports and the fact that they seem to have had an impact on the market. Perhaps the lack of volume is due to the summer doldrums and investors waiting for the main event: earnings reports for the third quarter! Ed

President Obama's Report Card

Where's the money? Where are the jobs? Before President Obama's inauguration he seemed to understand that his most critical role as President was to retain and create 600,000 jobs by this summer. He also knew that he needed a stimulus package to help get the economy back in gear! Congress passed a stimulus package in the amount of $787 billion at his request! Well, how has he done? On the job front, it appears that about 150,000 jobs have either been retained or created. This is far short of the 600,000 that his administration had targeted for this summer. As far as the stimulus package is concerned, thus far about $43 billion has been given in temporary tax cuts and $158 billion has been committed for spending around the country, but only about $53 billion has been spent, according to The N.Y. Times! That means of the total of $787 billion available a little over $100 billion has been used. And now his administration is thinking about asking for more stimulus money. With this as a backdrop, according to the Congressional Budget Office, the deficit for this year will hit $1.7 trillion, which is about 12% of Gross Domestic Product and is a far higher deficit, by any measure, than any President since WWII. The President had indicated early in the year that his administration expected the unemployment rate to go as high as 8.5% by the year's end. Unemployment as measured by the Government is at 9.5% now. This only includes those individuals still receiving state benefits and does not include those receiving the added Federal unemployment benefits, or those whose benefits have run out entirely. President Obama now owns these problems. What is going on? It appears the advice he is getting is to grab for all you can during your first year as President. His eye is off the main event. Get the Health Insurance passed, no matter what! Get an environmental law passed. Spend time visiting other countries. Well, I ask, what has happened to the basic issues that needed to be addressed in January and still need to be addressed: jobs and the economy! I don't like being a taxpayer and owner of GM, Chrysler and AIG. Isn't this what President Bush was chastised for when he suggested we should put some of our Social Security Money into stocks? I am an optimist and am hopeful that Mr. Obama, who is a bright and politically savvy guy, will wake up and get back to the basics. If he doesn't, we may be in a real pickle. His ratings are declining and his personal charisma is waning with too much exposure in the media. His own party is starting to turn away from some of his ideas. If this continues, he will lose his ability to be a leader dealing with the real issues of the economy and may wind up looking more like Jimmy Carter than FDR! Those who are out of work, underemployed or scared of what will happen to them the next time there are layoffs want a leader who is working for them and taking care of the economy! To me President Obama's Report Card gets an "IC", incomplete! This is what a student gets when he drops out. Ed

New Values, New Prices!

It seems at times I'm headed in one direction and suddenly I find myself in a place I had not planned on being. This blog is such a case. As I was reviewing some historic information on the DJIA (started in 1896, the only original stock still in the Average is GE) I began looking at rates of return. I was surprised when I saw a quote from Warren Buffett, commenting on the 5.3% compounded average of the DJIA over the 20th Century, "a wonderful century." This got me wondering about the current compounding rate of the DJIA. It took me awhile to get together all the information I wanted to study but, in summary, the compound average growth rate seems about right. Back at the beginning of 1973, the DJIA was about 1,051.70. If you took that and compounded it at 5.3% you would have a current DJIA of 7,247.44. This seemed familiar and indeed, the DJIA closed on November 20, 2008 at 7,552 and on March 9, 2009 it closed at 6,547, both new lows at the time. At the close of business yesterday, June 23, 2009, the DJIA closed at 8,322 which, based on my starting point, was a 5.7% compounded average. Still in the ballpark. I then used a different benchmark, the closing DJIA for July 1, 1989, which was 2,661. I arrived at this date very scientifically; my computer will only go back 20 years on daily charts. Using my 5.3% compound rate of return, I arrived at 7,662. If I used a rate of 5.7%, I got 8,297, which is very close to yesterday's close. Seemed like 5.7% was a reasonable return overall and compared well with the 5.3% for 100 years. Once I start these things I tend to get hooked, and this was no exception. I took the 1973 starting point of 1,051.70 and the close in October 2007 of 14,165. To get from my starting point to the end point you would have needed a compounded return of about 7.5%. If I used July 1, 1989 as the starting point, I’d need about an 8.4% compound rate of return to get to the October 2007 close. Averages need to be used over long periods of time to be worthwhile, and I'd say 20 years and 36+ years would be a good sample. They show me that the average of 5.3% was greatly exceeded when the stock market hit its high of 14, 165. You may be wondering what all of this means and I have to wonder myself. What I do know is that on June 15th and again on June 22nd we had 90+% down days within the NYSE Operating Companies. This is a very bearish sign when you get two of these within 30 days of each other, let alone 6 days. Usually, after a 90% down day, we see the market go up for 2-7 days. That was not the case following June 15th. Taking this all together, I wonder if the market is about to retrace its steps to the low points noted above of November 20th and March 9th. I also wonder if during a period of excessive leveraging in the markets, prices were raised beyond what was reasonable and perhaps now that we are going through a deleveraging period, we will get a clearer picture of what companies are really worth. We shall see what we shall see. Ed

Bull or Bear?

When looking at the stock market, some individuals consider themselves to be either bullish or bearish about the market. Their perspective rarely changes, as this is their general sentiment. Putting it a different way, some people are optimistic and some are pessimistic. Many, like me, evaluate the current situation and try to determine if the long-term market trend is up, bullish, or down, bearish. Currently, I am bearish! On November 20th of last year, the market hit a bottom, and again on March 9th of this year, it hit a new bottom. From March 10th until the present, the stock market has moved upwards. It is not unusual to see the stock market have a rally within a bear market. The rallies generally last from two to three months. If the current situation is a rally, it will be three months old this Wednesday. We have had periods within bull markets when the rallies have lasted for five months. I don’t believe that will be the case with this rally. Bear markets tend to retrace their steps back to a bottom to test it before a bull market begins. Bull markets are generally found when prices are rising on increasing volume and where the vast majority of stocks are showing new highs in their prices compared to the previous 52 weeks. In addition, the up-volume of stocks is far greater than the down- volume. From March 10th until the early part of April, we saw some of these characteristics in the stock market. Volume had picked up, some stocks were seeing new 52-week highs and the up-volume was stronger than the down-volume. This period ended with a new period in which the market indices were trading within a band showing buying on the down side and selling on the up side (“buy the dips”). Bit by bit, the volume began to decrease. Last Monday, June 1st, General Motors filed for bankruptcy and the stock market made a major move up. While that move was impressive, it was on relatively low volume and seemed to be more of a lack of sellers than demand from buyers. This pattern continued last week. From technical analysis, what seems to be happening is that the rally is losing steam! If technical analysis is not enough, it is hard from fundamental analysis to figure out how the stock market can move forward with 6.7 million people on regular 26-week continuing unemployment claims, another 2.35 million claiming jobless benefits through an emergency program (up to an additional 33 weeks) for a total of over 9 million people out of work, and this does not count the people who have either given up looking for a job or who have settled on being “underemployed.” The economy is giving up more than 600,000 jobs a week! Will U.S. consumers, who are very important, as they represent over two-thirds of the economy, be able to spend or pay taxes if they are out of work? Business has reacted by retrenching and cutting costs as well as workers. In the fourth quarter of last year, the economy was down 6.3%, and for the first quarter of this year it sank 5.7%. Construction is down, capital spending is down and exports are down. Now the logic is that as bad as things are they are better than “before.” This may be the case, but generally stocks rise when the potential for earning is rising, and I find it hard to figure that in the next six months we are going to see a major turnaround in earnings. I could be wrong about looking at a bear market and thinking that, at best, it will be in mid- to late October before we see the real beginnings of a turnaround, but I don’t think so. Ed