Wagging The Dog

[slipslidingaway]

April 2008

http://www.contraryinvestor.com/mo.htm
Full article at link, also the above link will always show the current month, links for previous monthly articles are displayed at the bottom of the page.


"Wagging The Dog...

Assessing what we know and what we don't know is the ever-present and ongoing psychological battle in investment management, now isn't it? Trying to make an assessment of the fundamental facts and then reconciling this view of life with the reality of very short term financial market outcomes can be quite the trying challenge psychologically, emotionally, and even physically, to be honest. If we accept the fact that the financial markets are theoretically always looking ahead (which we do) and discounting in current price what they are seeing in the future provides the perfect backdrop for of the moment personal tension in trying to "guess" what the markets may be seeing ahead that we cannot amidst the day-to-day of current reality that presents itself to us in economic stats, corporate earnings reports, etc. Nothing like starting the discussion with a bit of personal philosophical meandering, now is there? But in this very special current environment, we suggest we need to broaden our thinking and “field of vision”, if you will. Although traditional and time-tested financial market signposts are indeed quite important to monitor, we suggest that the financial market environment of the moment has the capability to perhaps blur or bend our vision in a manner unlike anything we have lived through in many a moon, if ever. This is what we want to briefly discuss.

Okay, at least from our perspective, here's what we think we "know" about the present. It's our view that until proven otherwise, we are in a macro bear market for equities. We detailed in a discussion on our subscriber site literally on the first day of this year that collectively all of our favorite long-term equity market indicators have turned bearish. Not a few, not a lot of them, ALL of them. Trying to keep it simple, we will not argue with unanimity in longer-term market message. In terms of the macro, it's a time for meaningful caution regarding equities. Secondly, we believe the US economy is in recession right now. Although we've detailed so many of the now current reasons why in discussions over the recent past, a standout anecdote is the fact that the LEI (leading economic indicators) report for February that hit the Street a few weeks back has now shown us a consistent five straight months of decline. We'll spare you an exhaustive look at historical precedent when we tell you that the LEI of the last half year is completely consistent with initial recessionary periods past. In essence, it's corroborating the fact that recession has already arrived, although "officially" that fact will be revealed some time in the future when its usefulness as a piece of factual investment information will be essentially useless. By the way, if the LEI deteriorates meaningfully further from here in the coming months ahead, it will be suggesting a severe or lengthy recession to come, as opposed to the mild recession we believe the consensus is expecting (if any recession at all) and the LEI suggests for now.

As we've bludgeoned you to death with far too many times now, the evolutionary character of the credit markets is THE issue to focus upon, an issue that is clearly driving both broader financial market and real economic outcomes of the moment. It's our belief that a credit cycle of really generational proportion has now given way under its own weight to an elongated process of systemic deleveraging. A process that has really just begun. In question ahead will be the sustainability of the very props that built this credit cycle, such as the entire concept and faith in securitization, the integrity of and trust in the credit rating agencies, the trustworthiness of the brokers/investments banks, and faith in the regulatory oversight of the US financial system itself. Against this backdrop we also do indeed know that literally ALL guns are being brought to bear upon the continually unfolding credit market issues of the day by the Fed/Treasury/Administration...


...

The Dream Team...Having said all of this, we have to say that the financial market events of the last month particularly paint quite the important and relatively large question mark. How about the largest one day drop in the gold price in over a quarter century? Did that catch your attention? Or was it the intra-week doubling (from low to high) in stock prices of some of the financial sectors finest such as Lehman, Fannie, Freddie, etc. that you might have seen out of the corner of your eye? Regular ho-hum everyday type of market events, no?.......The point of this discussion is to blatantly remind you that we need to think long and hard about what we are “seeing” as we monitor ongoing and short term financial market activity in our current circumstances. Again, at least in our minds, incredibly important in the current environment. Specifically, intermarket cause and effect, intended and unintended consequences, and even direct cross asset class pricing fallout has been and will continue to shape equity and bond market outcomes in what remains a very important forward macro environment of credit cycle reconciliation and broad investment constituency deleveraging..."

[slipslidingaway]

1. Going With The Flow?

August 2007

http://www.contraryinvestor.com/2007archives/moaug07.htm

"...Even we’ll be the first to admit that the next chart here is a bit graphically dramatic, but again very simple in terms of design. What this chart documents for each period is the relationship between growth in household liabilities and growth in disposable personal income. Without sounding outlandish, this ratio has simply collapsed over the last few quarters after reaching what were unprecedented heights. As with prior charts, we’ve marked with red dots the periods where we’ve experienced official US recessions. Each one of these recessionary periods is characterized as having happened with a decline in this ratio. Of course absolutely nothing over the last half century even comes close to what has occurred over the last five+ years in terms of the magnitude of expansion and contraction.


...Although we believe each individual chart tells its own story, our main point in this discussion is that collectively, these relationships represent multi-year or multi-decade trend breaks for now. They are now occurring in simultaneous fashion. Just a coincidence? We think not. Moreover, we suggest an important need for continual monitoring as these trends quite similarly hug trends in powerful demographic changes. Could it really be that as the boomers push near and into retirement, what has been their dramatic impact on asset inflation through continual expansion in household leverage is changing? We believe this is indeed the primary question and message to continue to monitor in these relationships. As we’ve suggested many a time, the credit cycle is the key. And this is a slice of the broader credit cycle as it applies to households. Households key to longer-term consumption trends important to both the US domestic and many a foreign exporting economy. You know we’ll be checking back in on a quarterly basis to monitor whether these initial trend changes remain intact, or are simply blips on the ever-growing leverage expansion screen."