Blog

Today, there is a strongly held belief that financial markets are efficient. The efficient market hypothesis maintains that prices of traded assets such as stocks, bonds, or property adequately reflect the sum of all known information at any given point in time. With today’s rapid flow of information, we see prices adjusting ever more quickly and with greater volatility. The hypothesis also asserts that it is impossible to consistently outperform the market by using any information the market already knows, except through luck. There are strong and passionate opinions on both sides of this hypothesis and it is not our goal to defend or to debunk them today. Rather we aim to point out that because of the widely held belief in market efficiency there are some exciting opportunities that have strong potential if we lengthen our timeframe beyond nest week or next year. We want you to know about them.

This afternoon we find the S&P 500 advancing for the fourth day, up nearly 12% for the week. News on Tuesday that Citigroup CEO Vikram Pandit’s remarks in an internal memo saying the bank is having its best quarter since 2007 and comments from regulators in Washington suggesting they may reinstate rules that limit short selling sparked the rally. By Wednesday it looked like it would run out of steam when Thursday’s Retail Sales report demonstrated there was still life in the consumer. The possibility that consumer, the largest part of the US economy combined with the picture Bernie Madoff swiftly and justly being escorted off to jail in handcuffs gave the market it’s second powerful boost upward. This week’s move dramatically demonstrates how fast markets can move on relatively little information.

The free enterprise system that made this country second to none on earth is in the cross-hairs of an increasingly out-of-touch Washington, D.C.  Frank, Dodd, Pelosi, Reich, Schrum, and others boldly, arrogantly, and endlessly flog the whole of in particular Wall Street and free-enterprise in general. As they continue, they risk dousing the spirit of risk-taking which drives our economy. If Mr. Obama places himself in the company of Abraham Lincoln he must better understand that the 16th President was a champion for the protection and nurture of the free enterprise energy of this country. In a famous speech in February of 1859, Mr. Lincoln the patent system “secured to the inventor, for a limited time, the exclusive use of his invention; and thereby added the fuel of interest to the fire of genius, in the discovery and production of new and useful things.” Mr. Lincoln observed that the government was not the inventor, the creator, or the risk taker, but rather the protector of the free citizen; protected by this government to take risk in hopes of profit, not vice versa.

Mr. Obama’s budget is out and the message for investors is as clear as any missive from Washington in a long time. Get the defense on the field and keep ‘em all well watered. . . they may be out there for a while!

"Those who cannot remember the past are condemned to repeat it."George Santayana, in The Life of Reason 

“Common sense is very uncommon.” Horace Greeley

There seems to be a sense in Washington in this time of crisis that the rules of ordinary behavior of most any kind simply don’t apply. Whether observing economic behavior, spending behavior, fiscal behavior, monetary behavior, political behavior, or what used to be generally acceptable and responsible behavior, it’s all up for grabs these days. Didn’t we get into this mess by abandoning the ordinary rules of lending and of borrowing and regulating?

In uncertain times we look for some bedrock to anchor into. While history cannot predict the future, it can provide a useful frame of reference. Some say we are in completely uncharted waters. Others argue there are eerie similarities to the Great Depression, and still others argue that this will be no more than a deep recession not unlike those of the 1970’s.

There’s an old market axiom that says as goes January, so goes the market. As this one draws to a close we find the S&P 500 down 7.5% as the economy’s descent continues. According to Commerce this morning, the economy contracted at a 3.8% annualized rate in the fourth quarter. If the inventory buildup which occurred in the fourth quarter is excluded, the economy actually contracted 5.1%, the worst in 28 years. As reported, it is the worst since 1982. The economy shrank at a 0.5% annual rate from July through September. The back-to-back contraction is the first since 1991. For all of 2008, the economy expanded 1.3% helped by exports and government tax rebates in the first half of the year. The GDP report is the first for the quarter and will be revised in February and March as more information becomes available.

Good news on the economic front is rarer these days than moments of grace from our new Vice President. The lofty and idealistic words of President Obama, so well spoken seem a distant whisper among the barrage of history-making declines in housing, employment, prices, and confidence. Republicans and Democrats are already at loggerheads over the stimulus package. Corporate earnings are more dismal than expected and equities markets have given up almost two-thirds of their gains from lows reached in November.

New revelations about the weakness of America’s banks have kept the pressure on stocks. The S&P 500 is down 5.2% at the moment but remains 14% above the market’s low reached November 20, 2008. A major reason stocks are holding up in the face of relentless economic news is their yield. Dividends paid on S&P 500 stocks are roughly 3.5%, which compare very favorably to the 10-year Treasury yield of 2.4%. Stocks are also up on investors’ high hopes for Obama’s economic team and their ultimate stimulus package.

High hopes for a fresh new year, a new Administration, and a massive new stimulus plan gave the markets new life for a few weeks. We wonder though whether investors’ expectations will withstand the continuing drone of bad economic reports, surely to come for the next several months. The early read suggests yes, expectations for recovery late this year are holding.