Blog

Three of us met at the dock, one hot summer morning, ready for the day’s adventure. Pete, Reid and I had been intrigued by news in town of the discovery of a sunken German U-Boat, completely intact and sitting upright on the bottom. Details of her location were closely guarded because of her salvage value.

The week’s economic data continues to point to recovery, but investors worry whether it will be strong enough to support the stock rally since March 9th. The S&P fell 2.6% this week as of yesterday’s close. September is historically the worst month for the stock market. In fact as Ed Yardeni notes, since 1926, September is the only month with a negative average return. Investors lose an average of 1% during September compared to a 1% return for the other 11 months. So the market may be in a holding pattern for a while. This is a good time to forego analysis of the various economic and market wiggles to take a broader and longer perspective on investing.

On Wednesday our nation was saddened by the death of Senator Edward Moore “Ted” Kennedy who succumbed to brain cancer in Hyannis Port, Massachusetts. With 47 years of service in the US Senate he was one of the most influential and accomplished lawmakers of our time. Ted Kennedy was the only one of four distinguished brothers to die of natural causes; President John F. Kennedy, and Senator Robert Kennedy were assonated and Joseph Kennedy Jr., a naval aviator, was killed in action during World War II. The service and sacrifice of this remarkable family to our country is gratefully acknowledged and deeply appreciated.

The persistent rise in stock prices rolled on this week as investors continue to believe the economy is rising from recession, despite ever-present news of bank failures, sluggish consumer participation, and huge looming federal deficits. In spite of it, the Dow Jones Industrial Average advanced yesterday for the eighth straight day, each to new highs for the year, and representing the longest winning streak since April 2007. The MSCI World Index of 23 developed nations added 0.9% yesterday extending its seventh weekly gain. Copper, among the very best indicators of global growth, jumped to the highest intraday price since Oct. 1st on the London Metal Exchange, while oil climbed 0.9%. The early re-appointment of Ben Bernanke to a second term also gave markets a boost.

Our government was designed with great care by the Founding Fathers to protect “We the people” from the tyranny of majorities or loud and powerful minorities. Our system of “checks and balances” is not perfect, but it has served an ethnically diverse nation well these 230 plus years. However, one glaring omission threatens to ruin it all. Fundamentally understood and respected by the Fathers, but nearly lost on today’s leaders is the idea of fiscal discipline, or spending no more than is received. Indeed today’s Senators and Congressmen are richly rewarded by “we the people” through longevity of office and growth of power, to take from one class and give it to another. Our leaders write larger ‘checks’ against ever-decreasing asset and ever-increasing liability ‘balances’ with no end in sight. Perhaps “we the people” are finally rising up to say enough is enough? 

During the lifetime of the “Greatest Generation” the market has fallen an average of 40% fourteen times, or once every 5.7 years. In fact the odds of an investor experiencing a loss in any one year are 1 in 3.9. The latest drop from May 19, 2008 to March 9, 2009 took us down nearly 53%. It’s easy to see why so many former investors have been driven to the sidelines. Yet why do others remain steadfastly invested? In short they seek the 11.5% average annual return the market has provided for the past 40 years, along with the added benefit of ready liquidity. They understand the market, while seductively steady much of the time is prone to major emotional swings which require patience and fortitude to endure. Perhaps knowing that the average return a year after a market trough is 46% helps assuage the pain of declines, while understanding that ‘irrational exuberance’ will eventually lead to a hangover helps them remain on course while others fall prey to their emotions.

The best news of the week comes today as the Labor Department says that job losses are slowing. Payrolls fell by 247,000 workers, after a 443,000 loss in June. The jobless rate dropped to 9.4% from 9.5% last month. It is the clearest sign yet that the worst recession since the Great Depression is coming to an end if it has not already ended. Stocks jumped on the news taking the S&P 500 to a new high since the March 9th low. The index is now up more than 50% since that watershed day when Citigroup CEO Vikram Pandit told employees in an internal memo that the bank was having its best quarter since 2007 as well as comments from regulators suggesting that they might reinstate rules to limit short selling. Nearly $4 trillion in value has been returned to investors during this timeframe.

Maybe just maybe Mr. Market has it right and all the economists have it wrong. Stocks are on a tear and investors seem to be betting on a more robust economy than almost any economist or market strategist. The widely touted date for the market’s low was March 9, 2009 when the S&P 500 closed at 676.53. But the actual flush-out of sellers occurred three days earlier when the index reached a devilish 666 on 3/6/9. Eerie numbers, right you “Code” fans? Today it trades at 989, just 10 points from 999. Hmmm?

It’s all too easy to project our current circumstances into the future and assume that things will remain the same forever. We find this phenomenon particularly true the longer a current trend, good or bad, persists. Remember how the “Internet changed everything?” In the late nineties stock valuations were at all-time highs, ‘twenty-somethings’ became overnight billionaires with dot.com ideas that required an ever increasing suspension of reality (and gravity). Even seasoned CEO’s who remain heads today of companies like Cisco, Intel, Apple, and Broadcom said then, that they could barely believe what was happening themselves; the orders were there – the growth was real. Then, all of a sudden the orders went away. The Y2K bug had not bitten. Information companies were indeed subject to the same business cycle as the rest of the economy. And the silliness of most new dot coms was exposed. It all came crashing down. Wall Street analysts who had months earlier championed the record high stock multiples as the new reality were summarily fired. The few who were too deeply involved with large investment banking customers stayed on, but quickly changed their tune. The reality changed overnight.

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.