Saturday, March 14, 2009

No Good Reasons to Buy Stocks Now

This image of the Dow Jones Industrial Average, dating from 1929, may be most usefully analyzed by mentally or physically turning it upside down. (Click on it to enlarge.) Turning the graph upside down will put the downtrend that is now on the top right pointing down, instead on the bottom right pointing up. The Great Crash of 1929-32 will still be on the left but will point upwards and thus look like a "Good Thing". The smaller crash of 1973-4 will look like a small bull market.
Now, let's perform a thought experiment. Assume that there was a company that had been in existence as a publicly-owned entity all this time, and that it had kept its identity, but that business had in general been difficult. Perhaps there was incessant foreign competition, perhaps it mined a material was superseded by a cheaper material, or perhaps management was just not so hot. Now, the fundamentals had changed over the past 2 years as follows:

1. Rapidly rising sales and earnings;
2. Rapidly rising dividends;
3. Stock priced well below tangible book value;
4. Senior management owns large stakes in the company;
5. Senior management has no "heads-I win but tails-I-don't-lose" options in the stock;
6. Senior management has been so underpaid and so used to difficult business conditions that it has sold stock after price surges in the past year;
7. Rapidly becoming free of government ownership and suddenly not needing subsidies;
8. Rapidly rising profit margins from the long-depressed levels;
9. Similar companies in similar business all over the world were suddenly experiencing booming business with similar early-stage stock breakouts to the upside.
All these points are of course the opposite of today's situation regarding general business conditions.
Obviously, professionals would buy this stock hand over fist, or with both hands and both fists.
If they wanted to buy it enough, they would remind the public that this stock had been a dog for a long time and they should be very skeptical about buying this rally.

To use another analogy, the plain and simple fact is that not only does the economy stink, but the two best forward-looking predictors of the economy and the stock market in this cycle have been the credit markets, which do not confirm the recent stock pop, and the ECRI's Weekly Leading Indicator of the economy, which yesterday dropped to a new cycle low, and is now at 1995 levels- not adjusted for inflation.
Also, for those who missed EBR's mention, the Commerce Department's advance report of business in the US of A was that $1 Trillion worth of business (pretty much the whole economy) was done in January. This was down 14-15% from January 2008. Considering all the inflation in the first half of 2008, this number should properly be adjusted to reflect the inflation, and thus would be more like a 17% decline in physical business year on year. It is said that adjusted for the deflation of the time, business in the 32 months or so of the Great Depression dropped 25% peak to trough. One therefore wonders if this about 17% real drop year on year even has a precedent in the Great Depression.
Conspiracy theorists amongst us would even wonder why no one seems to have heard of this report, though the mere 9% year on year drop in retail sales was cheered as "better than expected" (it was still a horrible double digit drop adjusted for inflation).
In any case, back to the Dow: it's a screaming buy only in a looking-glass or Bizarro world.
Copyright (C) Long Lake LLC 2009

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