For People Who Think

November 18, 2009

Is it time to jump back into the Stock Market

Filed under: Uncategorized — 4peoplewhothink @ 5:42 pm

“Have you given any thought to getting back into the market?” My financial adviser was asking me the other day. “Do you feel confident enough?”

“Not at the moment,” I told her. “I just don’t trust things yet.”

“I know what you mean,” she said. “I have the same concerns.”
After hitting bottom with a resounding thump back in March, the stock market is now soaring like an eagle over the Rockies. It has broken the five-figure mark for the first time in 13 months. But is this rebound real? Are we witnessing the return of financial health to the equity markets, or are we merely watching the growth of a new bubble?

By the calculations of some people who know far more about these matters than I do, the Dow’s current value is only three-quarters of that 10,000-plus figure because of the ground the U.S. dollar has lost against other currencies. Also, the sheer, breathtaking speed of this recovery should invite doubts. Sure, the recession’s is officially over with a 3.5 per cent annualized rate of growth in the third quarter, but does that justify what’s a roughly 60 per cent jump in stock market values since March?

Yes, the corporations are showing profits, but most of that has come from aggressive cost-cutting rather than increased sales or market share. How long can they get away with that? The same with productivity. The corporations realized gains there by lopping off heads with gleeful abandon. The result is that unemployment and foreclosure rates are still rising, consumer and commercial borrowing remain only a rumor, and small businesses, which don’t register on the Dow, never had a tougher time in securing financing. Small businesses own half the country’s jobs. New businesses have been pretty much the sole contributors to job growth in this country for 20 years. And now they can’t get credit, we have nearly 16 million people out of work and the Fed chairman is predicting even higher unemployment?

What we seem to be seeing, then, is another balloon. What’s keeping this balloon in the air? Part of it has to be investor giddiness at the realization that this awful recession hasn’t sunk into a repeat of the 1930s. Thank the $787 billion stimulus for that, even though it hasn’t created that many jobs. Part of it seems to be the Federal Reserve System’s continued embrace of low interest rates. With rates at rock bottom, institutional investors who otherwise would exhibit more caution are venturing into the stock market just to show returns. The result? Stock market inflation.

Low interest rates also explain in part why many of the stocks that have led the recent rebound are financial stocks. The financial firms reap immense benefits from their current ability to borrow money at rock-bottom-low rates. Note that just four stocks — Bank of America, Citigroup, Fannie Mae and Freddie Mac, all beneficiaries of the Fed’s largesse – make up 20 percent of all trades. Half this year’s profits for banks come from the group dubbed “too big to fail.” Those profits are a lavish gift represented by the government’s enabling through lower-cost borrowing. Moreover, much of the buying is being done by high-frequency traders – speculators, if you will — as opposed to long-term, buy-and-hold investors. High-frequency trades make up 70 percent of the market by trading volume. If 70 percent of the market’s volume is driven by speculators who don’t much care about business basics then danger looms large for 401(k) mutual funds managed by long-term investors whose primary clients live on Main Street, not Wall Street.

The bottom line would seem to be that public companies squeezing profits out of anemic balance sheets can’t expect to get away with that forever. Until real people feel secure enough about their jobs to begin spending again, and creating more jobs in the process, there’s a real danger that this stock market bubble, like the housing bubble before it, faces the threat of a gigantic, deafening POP!

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