Sunday, January 24, 2010

Political Markets

On the one hand, the drop in stocks and commodities- with platinum off 6% in 3 days--associated with a rise in the VIX volatility index to above 25 (and therefore contrarianly somewhat bullish) appears to be a buying opportunity. After all, the various pronouncements and "sort of" plans by the administration coincided with the upcoming (bank tax proposal) and actual (Volcker Plan) Senate loss in Massachusetts and were therefore political more than serious proposals for which the President would fight.

On the other hand, the President's defenders are saying silly things, witness the first paragraph of Frank Rich's column in today's NYT, After the Massachusetts Massacre:

It was not a referendum on Barack Obama, who in every poll remains one of the most popular politicians in America. It was not a rejection of universal health care, which Massachusetts mandated (with Scott Brown’s State Senate vote) in 2006. It was not a harbinger of a resurgent G.O.P., whose numbers remain in the toilet.

Wrong on all 3 counts. Clearly, polls and focus groups show that voters were consciously treating the election as a nationalized vote. Second, and a more subtle issue, polls show that healthcare "reform" was front and center in the vote, and that Mass. voters are similar to the rest of the country's in opposing "Obamacare". Of course, their opposition includes double-payment because Mass. gets the stick but no carrot unlike Neb. or La.; and Mass. has a huge biotech and medical tech industry that stand to suffer from Obamacare. Third, only a few people can deny that the GOP has surged more than the economy. If a devastating win in Virginia despite real efforts from the President in that race, and then decisive wins in the deep blue states of NJ and Mass. are not persuasive, then the finding from Rasmussen Reports might be a shocker: Republicans Post Eight-Point Lead in Generic Ballot (from Jan. 19).

On the other side of the political spectrum, the points are more fact-based and the point of view of the writer has clearly gained ground since one-party rule began one year ago. You may consider Rich Lowry's The New Catechism.

In other words, the administration is on defense and the quarterback is scrambling. Meanwhile bulls such as David Kotok of Cumberland Advisors point to zero interest rates as cause for a further rise in the stock averages (but Dr. Kotok believes we are in a secular bear market and his bullish call is tactical); but the obvious paradox is that zero interest rates only can be sustained at a time of gigantic Federal deficits and horrible state and local finances by a combination of a weak underlying economy and gigantic unrealized bank losses. The mortgage market is a phony, caused by Fed money-printing.

To paraphrase Yeats, the center is not holding. A resurgence of an unreformed Republican party is unappealing. A liberal majority that can hold Frank Rich's view is insane, expects us to be idiots, or is otherwise playing some strange PR game.

Given the unprecedented times, fundamental come into play. Please consider two more resources, one a simply chart and one an analysis of Treasury's funding needs. The first demonstrates on 2 measures that the stock market is fundamentally overvalued; see: For the Zero Hedge article, see:

Meanwhile, Citi's Tobias Lefkovich points out that bond buying by the public is in a bubble.

And continues to show no hiring going on, consistent with the Govt's JOLTS survey and the recent stagnation of new unemployment claims at an unsatisfactory level.

If the best argument for stocks is gridlock due to an administration that is debating a mid-course adjustment and aggressive money-printing by the Fed, it's a weak argument. Please remember that as late as Oct. 1, 2008 Bank of America traded at $38 per share. By early March, it was at $3. This occurred with the Fed already in easing mode for quite some time. Why had it been at $38? In large part, the SEC had eliminated short selling in the stock.

When the Government can borrow for one year at 0.27% and at 3 months for essentially nothing, something is very wrong. One cannot look at a stock with a 1% dividend and say it's a bargain. If you buy the S&P 500 for a 5-year planned period, you can expect to receive at most $15 in dividends, about as much as for a 5-year Treasury. If you agree with the current bull Dr. Kotok that this is a secular bear market in stocks, then you do not want to own stocks: not enough return.

This is the opposite of the early 1980s and much more like Japan, which coddled its banks until it finally let some fail. And re Japan, Mr. Smithers' site points out that it turned bearish on fundamental grounds on Japan at Nikkei about 12,000 about 2years ago, well before the Great Financial Crisis drove it back into recession. This was almost 20 years after the peak of the Japanese bubble and Nikkei 39,000. So anyone who thinks that the S&P 500 being about where it was a decade ago means that it is cheap or undervalued has another think coming.

The screenwriter William Goldman famously said about Hollywood that no one knows anything. This is now true about Wall Street, given the politicization of markets. What you think you know may be what you do not know (think of the geniuses at LTCM circa summer 1998). Since everybody who knows anything knows the above, buying surges and selling surges of any security can occur based on fear that the unknown trend is changing.

Direct ownership of a diversified portfolio of high-quality securities for those who can afford such a thing thus makes sense. Those with fewer financial assets may be best off simply keeping money in the bank or a bank-like equivalent and focus on job, friend and family.

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