Saturday, July 18, 2009

The Market is from Missouri

In February I wrote that markets can go up a lot after the inauguration of a new US President, in the midst of a recession. In May I wrote that Hope and Worry would engage in a classic conflict resulting in market volatility with a possible “correction” after hitting a peak. From the March 9 “bottom” the S&P500 rose 40% until falling 7% in June, and rising back 7% to 940 on July 17. So, far, we have witnessed an almost classic panic followed by a euphoric, “the worst must be over” and “we don’t want to miss out” 40% relief rally followed by normal profit taking and uncertainty.

Now, we are in the middle of “earning season” and markets are moved by reported profits; how those profits compare to previous estimates by analysts, and “guidance” from the reporting companies. If companies report good earnings but the CEO is pessimistic about the future, the stock probably goes down. If companies report bad earnings, but beat “expectations” the stock may go up. What in essence is happening is that buyers are waiting for what they believe is evidence of profits in the future—“show me the money”.

There is no doubt that the economy is still a mess. Harley Davidson reported a 30% year over year decline in shipments. GE reported revenues were down 17%. The Fed reports they are concerned about labor markets and increased their unemployment estimates. They indicated that banks could foresee substantial losses in loan portfolios. They described the recovery and current situation as “fragile”. Commercial real estate is in the process of being revalued and recapitalized. Many fear that the pending recovery will be ”jobless” with growing GDP but high unemployment. Citizens are becoming impatient and the new President’s approval rating is falling.

So why does all this bad economic news not result in another leg down for the market, beyond the 7% we recently experienced? Remember that market prices for stocks are driven by expected future profits as well as the willingness of buyers to move out of cash and cash equivalents. As of May 31, 2009, cash/cash equivalents held by individuals and institutions totaled around $7.9 TRILLION—almost enough to buy the entire market value of all 500 companies in the S&P500. If we return to historical norms, nearly $4 TRILLION of cash is waiting to go back into the market. Much of this cash is what I refer to as “anxious” because short term interest rates are so low and people are afraid that markets will “take off” and leave them behind. For most investors, especially mutual fund and pension fund managers, the only thing worse than suffering a decline is not making it up--missing out on the recovery.

So if people from Missouri are skeptical and want to be shown real facts before they believe, the market now has the same attitude. Investors need to be “shown” that the companies are making profits and that future profits will be higher before they will believe that markets will go up. But, when the majority do believe, the tsunami of cash coming into the market may result in impressive gains. The difficult part will be figuring out just how much “proof” the majority will need to make them “believe” that future profits will be higher. This proof will come in the midst of continuing bad news about the present and near future state of the economy. What do they need to be “shown” for them to support their beliefs? One key may be related to improving productivity. There is growing evidence that productivity is increasing dramatically and will show up in corporate profits significantly before the employment picture improves.

Hope and Worry are likely to continue their battle. The Worry crowd will probably drive the market down periodically because of bad news. But investors are generally an optimistic group and those with a cautious but hopeful long term view are likely to be rewarded. We believe the current situation is “yellow” for the near to medium term, but “green” for the long term. Solid companies that have “staying power” with little debt, growing productivity, good products, and reasonable present earnings represent good opportunity and value.

This commentary and information is provided for the benefit of clients and should not be considered a sales presentation.

See for more complete info: Investment advisory services are offered by WS Wealth Managers, Inc., an investment adviser registered with the Commonwealth of Pennsylvania and the State of Maryland. Wayne Strout is an Investment Adviser Representative with WS Wealth Managers Inc. in addition to serving as Chief Investment Officer of the firm. Scott Sebring is an Investment Adviser Representative and Vice President. Wayne Strout and Scott Sebring, dba WS Wealth Managers. Securities offered thru Glen Eagle Advisors LLC, Member of FINRA And SIPC, with clearing thru Pershing LLC, Division of Bank of New York Mellon Corporation, also Member of FINRA and SIPC. FOLIO Advisor program is available through FOLIOfn Investments Inc. a Member of FINRA and SIPC. WS Wealth Managers Inc. is not affiliated with Glen Eagle Advisors LLC, Pershing LLC or FOLIOfn Investments Inc..