by Marketanthropology
In
the kingdom of the blind, the one-eyed man is king - Desiderius
Erasmus
For many things in life, perception is nine tenths of
reality. In business, it's one of the great maxims that can separate success
from failure. As
someone who thinks a great deal about how the markets are functioning and
expressing themselves - perception is paramount in determining where you sit
with your respective positions and where they are likely headed next. With this
in mind, and considering most fail spectacularly to outperform the market over
the long term - many are looking with the wrong methodology at a market reality
that simply does not exist.
You would think that this open failure would foster
humility on the part of most participants, and yet so many of these market
forecasters and traders are highlighted in the financial media as so called
experts on a subject they often get wrong far more than they get right. This is
the increasingly popular and darker side of - perception is nine tenths of
reality. You can create a rather average product, but if you keep telling
the consumer that it performs - well, research shows they will respond to the
marketing and buy the product (insert personal anecdote here in relation to
politics, religion or monetary policy).
A
good place to start is by separating what is happening on Main Street from what
is happening on Wall Street. And while the anecdotes and interviews are
certainly compelling from a econo-humanistic perspective, if you swim in the
market on a day to day basis - they can and will give a false perception of
the current market environment. On any given day you will find the financial
media blurring this division with a focus placed squarely on what happened on
Main Street last month, as if it will give you insight towards where the markets
will likely trade next week. Much of this reporting is simply looking in the
rear view mirror with tangentially related and often misleading content. A good
example of this is in extrapolating the findings of the monthly consumer
confidence reports which primarily correlates with how the stock market was
behaving during the study. This kind of self-recursive study may move the markets
for a few moments as the headlines cross, but it will certainly take a back seat
to price structure and the ebbs and flow of momentum.
(writer steps and falls off
soap-box)
With that said, I do like to challenge the conventional
wisdom - just without an overtly dogmatic world and market view. For the most
part it has served me well when it comes to investments and trading, because it
has allowed me the objectivity to see across the psychological continuum, or in
trading - both sides of the market. These character traits are certainly not
without fail and I too have found myself on the wrong side of the tracks from
time to time.
Those six (6) 1950's dinette sets seemed like an awfully
good investment at the time...
In
any case, we often hear from critics of the Fed on both sides of the fence that
quantitative easing accomplished very little. They will confidently declare in
some shade of, "There have been little to no positive effects from QE(x) to the
underlying economy - as evidenced in the latest jobs, housing and wage growth
data."
In
the court of public and political opinion they easily win the point. The only
problem is I see their criticism as a straw man argument - because although I am
sure the Fed would have liked to materially affect change in the housing and job
markets first - the real immediate concern was the stock market. Once they lost
control after Lehman and the market was cascading lower, Bernanke knew it would
only be a matter of time before the systemic risks of the crash became magnified
in places such as the public and private pension funds. To make a very long
story short - many of these public funds were already underfunded coming into
the crisis. If the market continued on a prolonged path lower or even languished
at the bottom of the range - as many of the best and brightest suspected - these
funds would have run out of capital in no time at all and reinforce the negative
feedback loop that was starting to work its way through the
system.
I
remember reading this post in Mike Shedlock's Global Economic Trend Analysis in
November of 2008 and thinking that most of John and Jane Q. Public were
completely unaware of how serious the situation was becoming and where it would
grab them next.
What Happens Now?
New Jersey is burning $5.2 billion a year. If the market is flat over the next 5 years, New Jersey will have a minimum of $118 billion in obligations and will be sitting on $31.8 billion. But what happens if the S&P falls to 450 or 600?
S&P 500 at 600 would be a drop of 24% from here. Assuming the pension plan assets dropped the same, plan assets would fall to $44 billion. On a drop to 450 on the S&P, plan assets would fall 43% from here to approximately $33 billion.
At $5.2 billion a year, New Jersey's pension plan would be completely out of cash in about 6 years in my worst-case scenario of a drop to 450 on the S&P.
However, even on a drop to 600 or 700 on the S&P (highly likely in my estimation), New Jersey, would run out of cash rather quickly putting in $1 billion a year and taking out $5.2 billion a year while assuming growth rates of 8.5% that are totally unrealistic.
Wherever the market bottoms, be it here, or S&P 600, or S&P 450 (some are calling for even lower than that), the recovery will be weak, just as in Japan. There is every reason to assume a chart of the S&P will look something like this." State of New Jersey is Insolvent
Nikkei Monthly Chart
Certainly if you polled most market participants and
pundits in late winter of 2009, they would have come to the very same conclusion
that the often astute Mr. Shedlock came to - that the market was likely on a
long term glide path lower - i.e. Japan circa 1990's or the U.S circa 1930's.
And even though ZIRP and quantitative easing was already introduced in the Fall
of 2008, they failed to believe it would have any material effect towards
supporting the stock market. On almost a daily basis traders would hear the
phrase, "the Fed is merely pushing on a string when it comes to monetary policy"
and "it's a giant liquidity trap."
And yet a mere ten months and 60% higher - the market
stood firmly above 1100 and through the down-trend trading range it had been in
for over two years.
Act II - to follow.
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