What a Mess

A lot has happened since the last Market Watch article, none of which is capable of providing any meaningful indication of where this market is headed. There are many technical reasons for the market to rise from here, and there are many reasons for the market to remain at these levels, or deteriorate below current levels.

It’s wise to discard all technical analysis at this point and simply remember these things:

1.	Harvard professor Henry Dunn, in 1939, claimed that all charts, economic data, investment services, etc., that claim short term trading is the way to make money in the market, were 100% wrong. His advice then is good today. The best information available for short term trading belongs to Wall Street firms, who are themselves now insolvent because of short term trading. With this “terrific information” available to them, how could we expect mere mortals west of the Hudson River to do better than the Wall Street boys?
2.	Long-term views of stock investments are the only way to reduce your risk and increase the potential of making money.
3.	Stocks are cheaper now than they have been in more than 30 years. The yield on the S & P 500 stocks is 4%. Most bonds now yield less than 4%. Because of the government’s increasing commitments to “save” our economy with additional debt, we can expect the Fed to do all in its power to keep interest rates low. High dividend paying, A-rated stocks, therefore, may now represent a better long-term investment, as compared to bonds. Indeed, the Fed just lowered interest rates to virtually 0% for borrowing between banks.
4.	We’re unable to research the government’s new obligations. Guesses range from an additional $2.4 trillion added to our national debt (currently $9.4 trillion) to as much as $7.4 trillion. Bloomberg has filed suit against the Treasury Department and the Fed to pry the truth out of our government, but the results are yet unknown.
5.	Deflation is the straw that will break the back of our economy. When an economy’s values are deflated, debt obligations remain the same. If debt must continue to be serviced in an economy whose reduced values are producing less cash flow, debt will create outsized defaults and bankruptcy.
6.	U. N. economists in December urged the world’s member countries to consider a new world currency as an alternative to the U. S. dollar. A world currency, secured by batches of currency from Free World Economies, that would replace the dollar, would clearly hurt the United States. Currently the U. S. is simply printing money out of nowhere to make good on obligations that would otherwise fail. Loss of that option, which has been available to us since the 1940s, would severely harm our economy.
7.	U. S. assets are estimated to have been reduced by $7 trillion: stocks are easily measured, and off $2.7 trillion; residential real estate is off $3.0 trillion from a $20 trillion estimate as of December 2007; commodities and commercial real estate comprise the rest. These numbers cannot be considered anything but "maybe close". The real issue is that virtually any asset we own has been reduced in value by 15% or more. While this is staggering, it does bring prices closer to historical averages. Further, we still own the same percent of everything we owned 6 months ago. Our assets have simply been assigned a new value, and over time, those values will return.
8.	An indication of scary times is the price and availability of gold. Call any gold dealers’ (800) number and you’ll find no gold available, in quantity. What gold is available, in small amounts, is priced 30% over the market of roughly $825 an ounce. This means the true value of gold is really closer to $1050 an ounce. Scarcity of “real money” is an indication of investor fear and uncertainty, as well as mistrust of government. A great economist named Grisham, who has long since passed on, coined “ Grisham’s Law”. Grisham’s Law states that “bad money drives out good money”. Simply stated that means in rough times paper currency will be discarded in favor of gold, thereby making gold scarce, as it is today.
9.	In 1930 federal spending represented 3.4% of GDP, and it is now 7 times that level. With the federal government accounting for 23% of our GDP, and state and local governments absorbing another 13%, government is 36% of the cost of our producing products. When our products are priced to include the cost of government, they are not competitive in world markets. That’s one reason why foreign tax abatements to U. S. companies have made manufacturing overseas the only way many of our products remain competitive in world markets.
10.	The Fed is “saving” Wall Street because Wall Street finances U. S. government deficits. Without Wall Street, the U. S. government would fold. U. S. government securities have been sold by Wall Street all over the world to cover our government’s deficits. The rest of the world is currently angry because the value of those securities that they hold has gone way down.

Conclusion:

Our huge government has created debts of such magnitude that the annual interest payments remain a huge drag on the progress of the economy. Because debt payment requires cash, the government must continue to keep interest rates unrealistically low for as long as possible. The economic effect of low interest rates is to make high dividend paying stocks more attractive than bonds. Low interest rates will fuel the desire for people to own stocks. That desire will materialize in the demand for stocks radically pushing up the price of those stocks over the next several years.

With such an unstable and uncertain mess as set forth above, however, there is no reason to do anything as an investor but sit on the sidelines. Yields on A-rated stocks that exceed 4% make stock investments tempting to the investor that has time and patience to hold securities for three or more years. Otherwise, sitting on the sidelines, and enjoying what we already have, is the road to peaceful sleeping.

The comfortable investment position is to hold good stocks that one now owns and remain on the sidelines with cash until the bear market disappears and the bull market returns. At that time, continued investments in high grade stocks will probably be both wise and profitable.

Carpe Diem.
George Rauch
December 18, 2008

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