Blog

Equity markets continue to cool as investors consider whether the meteoric rally starting in March was overly optimistic. The S&P 500 run-up of nearly 40% from March 9th to June 12th is now 6.8% below its high point. The MSCI Emerging market index is 8.75% off its high, also reached on June 12th, but that index rose 72% from its depths in March on signs of greater economic strength in developing economies. It is becoming clear that the world is emerging from the worst economic slump since WWII, but just how fast remains in question.

Stocks posted their best quarter since 2003 as the second quarter came to an end. Stocks held on to the majority of their increase as the S&P 500-stock index finished the quarter up 15% and the year up 1.8%. As investors who missed the rally buy on dips, the vast majority feel the best is behind until the economy can prove it is up to expectations. The next big test is corporate profits for the second quarter which will be released in the coming weeks. They must match or beat analysts’ projections to sustain stock prices at current levels.

In the days of sailing ships one of a captain’s greatest fears was being becalmed in the Doldrums. Ships could be trapped for weeks without sign or hope of a breeze powerful or consistent enough to propel them safely out of the morass. These regions exist at the earth’s equator and are characterized by extreme low pressures, where the prevailing winds are calm and variable.

After trading in a narrow range from the beginning of June, stocks took a 3.7% dive on Monday and Tuesday as investors focused more on the disappointing economic news than on positive. However, the down days were on relatively light volume and there was little selling conviction evident.

Markets largely tracked sideways this week as investors weighed improving economic signs against concerns of rising interest rates, inflation, and a falling dollar. The Treasury successfully completed a record offering of debt including the reintroduction of the 30-year bond. Earlier this week Treasury announced that they would allow nine banks to repay their TARP money. The move reveals improved internal and regulator confidence in their stability. The money is also freed for other uses. Jobless claims, retail sales, and other economic reports continued trending more positive.

It can be argued that since September of 2008 the stock market has experienced two distinct bear markets; one starting in September 2008 and one starting February 10th 2009. It could also be argued that three-month 40% rally we now enjoy eliminates the second bear market leaving only the first to battle.  

As the world recession eases there is much talk of a “new normal,” in the global economy, characterized by heightened government regulation, slower growth, and a shrinking role for the US. Anyone familiar with the history of booms and busts hardly disagrees with the premise, especially given the extensive damage wrought on the worlds’ credit infrastructure, the breakdown of fundamental investor trusts by regulators who increasingly blur the lines between public and private rights, and a consumer who is too tapped-out, over-leveraged, and over-taxed to consume us out of this one.

Mounting concerns over unemployment, country-debt quality, and housing helped send the S&P 500 down 2.4% from Monday’s close, but the index remains .7% above last Friday’s close and more than 31% ahead of its low reached March 9th. A bit of cooling is inevitable as investors are perhaps a bit too far in front of the economic data; data which largely expresses ‘less bad’ news than truly good news on the recovery.

How investor outlook has improved since those dark days of early March. The S&P 500 remains 32% above its March 9th low despite recent announcements that Chrysler and GM are closing 789 and 1,000 of their dealerships, respectively. All signs suggest this is a confidence rally. The huge liquidity pumped into the global economies is driving short-term interest rates to levels that no longer hold any appeal for investors. They are fleeing the relative safety of short government bonds in pursuit of higher returns of higher risk instruments. With real estate down for the count, stocks and commodities represent the only game in town at the moment. Still some argue that the current rally is a trap, a bear market rally that will eventually falter. Our opinion is that the rally is a bit overdone, but it is for real.

Since the exaggerated stock market lows of early March, investors have been overjoyed by recent Good news that the trends in earnings, housing, jobs, and the economy may be slowing in their descent. They are glimmers of light in an otherwise dark reality. But this is a Bad Recession, the worst since the Great Depression, and it is unique in numerous ways. Finding remedies that don’t make matters worse poses hugely daunting challenges for government officials. And the Ugly truth is they have bent and even broken good faith promises, contracts, and even the Constitution in the name of remedy. The effects of these broken trusts, the exponential explosion of federal debt, and unprecedented spending on social programs that will not end after recovery will have major and unintended consequences on our future economy.