12/21/2011 7:18 PM ET|
Investing for a year of chaos
Stagnant growth and harsh austerity will result in social disorder and turbulent markets in 2012. Yet for nimble investors with patience and iron nerves, there's money to be made. Here's where you need to be.
This is no ordinary economy. Here we are, about to enter the fourth calendar year of recovery, technically speaking. Yet for most people, not much has changed. Home prices are flat-lining. Job growth remains inadequate. Wages are stagnant. Hopes for the holiday shopping season, so high on Black Friday, are starting to fade on news that November retail sales disappointed.
Such are the consequences of debt-fueled hedonism. According to Richard Koo at Nomura Research Institute in Tokyo, we're in the midst of our own Japanese-style malaise. It will be our own lost decade as businesses, banks and consumers pay down debt and boost savings despite ultralow interest rates. In Europe alone, Morgan Stanley is looking for bank deleveraging of 2.5 trillion euros -- almost $3.3 trillion -- over the next 18 months.
And instead of acting as a borrower of last resort, most of Washington, like most of Europe, is obsessed with austerity and tight money. This recipe for a debt-deflation spiral is the same as the one followed in 1937, which delayed recovery from the Great Depression for years.
Last week, in "Why all signs point to chaos," I warned that all of this sets the stage for more social unrest -- overseas, and here at home -- of the kind that has already birthed Occupy Wall Street and the Tea Party movement. I also warned that the eurozone, as it stands now, is probably doomed.
But there's hope for investors here, because trouble spells opportunity. And chaos, from protests, revolutions, bank failures and debt defaults, means there will be plenty of trouble in the year to come.
The investing outlook
With the economic outlook dominating, and swaths of the stock market rising and falling based on things like European sovereign debt yields and currency cross rates, investing fundamentals like earnings growth and profit margins seem almost quaint. Right now, with all the volatility and with tight correlations, sector allocation trumps stock picking. Asset allocation trumps everything. It's a black-or-white, all-or-nothing market.
That doesn't mean there is no way out or that there are no profits to be made. But simply running and hiding won't work. Cash deposits and Treasury bonds, while good places to stash your money for the short term, don't offer enough return to be long-term solutions. I don't know about you, but I need my money to work and grow to reach my financial goals.
Other traditional safe havens, such as gold, are increasingly exposed to the vagaries of currency fluctuations and the economic outlook. Witness the dramatic 8%-plus decline in the SPDR Gold Shares (GLD, news) exchange-traded fund this month on lower inflation expectations and a strengthening U.S. dollar.
Instead, a new strategy is needed. Something to cope with a range-bound market resembling, of all things, the churning, go-nowhere action of the 1960s and 1970s -- a period that was also rife with chaos, unrest and harsh political divisions.
The death of the debt supercycle
The single most important factor for investors to keep in mind, according to Morgan Stanley's Graham Secker, is that the framework that helped investors build and protect wealth for the last three decades has been broken. That framework was based on the debt supercycle, a vast expansion of credit and borrowing, and the idea that policymakers could iron out the ups and down of the business cycle. Before the housing crash, economists and central bankers indulged in self-congratulations over their "great moderation" of inflation and gross domestic product.
It was a lie.
They merely postponed and magnified the volatility by flooding the system with cheap cash and allowing credit creation to run out of control. Politicians were complicit in this. After all, what elected official wants to pressure the Fed to pull the punch bowl and raise interest rates just when the party's getting started (aside from Ron Paul)?
All of this credit creation -- shown as the blue line in the chart above -- helped moderate the swings in GDP between the early 1980s and 2007. It also helped fuel a long, powerful, secular bull market in stocks, particularly small and midsize stocks. (Large-company stocks petered out over the last decade, but that's another story).
Between 1982 and the summer of 2007, the S&P 400 Mid-Cap Index gained nearly 2,360%; the U.S. economy grew by a mere 344% over the same period.
This is all ending now; in fact, the debt supercycle is working in reverse as households and businesses deleverage, cutting debt through repayment and default. Policymakers are bungling their response. The emphasis has been on the Federal Reserve and other central banks not only cutting interest rates but printing money with which to purchase bonds in the open market -- effectively force-feeding cheap cash into the system.
While the negative inflation-adjusted interest rates that result -- something I've dubbed the "stealth stimulus" -- helps slowly cut debt burdens by transferring wealth from creditors to borrowers, they're also very dangerous. The process is sowing the seeds of massive inflation, as it did in the 1960s and 1970s before 19% short-term interest rates were needed to get price pressures back under control.
It also won't, on its own, repair the credit channel. Thus, on its own, the Fed can't restore growth.
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Economists obsess about rationalizing phenomena that are not bound by the laws of logic and much less by the rigor of mathematics. We are going through a depression but since the semantics of depression are ill-defined no one wants to make that call. Yet, that’s what we have.
This depression will last till we have worked out the excesses of the last decade. These excesses were financial, social and political. We could accelerate the return to normal growth by sending all Congressmen home (better, to jail) but unfortunately that won’t happen.We are going to re-elect a great deal of incumbents.
Keep an eye on competitiveness, demand, wages and employment and you will know exactly when things are getting better. If they don’t, we will go to war with someone. That’s how we have solved intractable problems in the last fifty thousand years.
Havasu46, is on to some basic concepts that make SENSE.
First off TAX all income, and be rid of deductions. The deductions are nothing more than attempts to foster certain social goals through rewards/punishment. These should all be removed from the tax code.
Second, becoming more isolationist has its own rewards. We should not be the world's policeman, UNLESS we are paid to do so. Right now we have the job, but recieve nothing for it.
Third, Religion should play no part in our government, other than everyone is FREE to worship whatever deities they choose. And yes, some will choose gods that may offend you.
Fourth, Taxes are confiscation of wealth by the government. They are meant to be painful so we think twice about the expenditure. When we follow socialist dogma, and the poor don't pay, they will always favor the expenditures. This trend MUST END. Everyone must pay their fair share.
Fifth, this democrat consept that fair, means UNEQUAL must also end. Let us set the following rates and live with them:
Under 20K, 5%
Over 500K, 20%
These rates are not ideal, but EVERYONE would then pay, and feel the pain. This would restore some control over SPENDING/BORROWING which are the main problem.
5th, In short we need a Balanced Budget. When you lose you job, do you go out on a spending binge? Thats what our government does. When revenue declines, they max out their credit cards. We have reached that point. Now we have to pay them off. 15 Trillion is 192,000 per family of 4 (assuming 308 million Americans). Have YOU developed a plan to pay this off?
Late on the consumer staples Anthony. Everyone is already there. They've been going there since August. Which is the entire move you see there in the XLP. I doubt the break out does much. In fact, hard to call it a break out without more evidence.
Spiking higher above the ceiling in and of itself, is not an all clear. It depends on what happens in the following days. The S&P spiked huge above it's ceiling in October, but was dragged back down.
Article is kind of lame. No interesting suggestions at all really.
with all of the uproar (go get 'em hava) over outrageous and superfluous military spending, this guy then poses more of it as a solution? what a complete and utter nincompoop!
our country needs $trillions of infrastructure improvements and mass transit systems to benefit Americans and not the one-percent crony-capitalist military industrialist complex that has us in total disarray and decay. re-write and re-submit anthony.
This is just personal opinion and my memory of economics isn’t perfect but this is pretty basic stuff. I think it’s become apparent we are facing permanent deflation of values in commercial and residential development properties. Banks will likely take at least two more annual writedowns before disposing of nonperforming loans and related assets whether it’s a loan workout or disposal of OREO.
Key indicators are the two trillion Bernanke put into the economy didn’t cause inflation and a monetary policy that’s pumping in trillions into the economy, while causing rates to be low is not causing prices to rise. 26 week unemployment statistics and debt levels of 375% of the GDP will continue put tremendous pressure on prices and wages, a death spiral that would result in a monetary policy need the FED can’t sustain.
The worst case is a deflationary crash that could be horrific compared to the great depression. Best case is hyper inflation due to a rebound from an extended monetary policy.
by and large MG, quality post there. my two cents (you would want no less : ) ...
1. agree - go to a fair-tax or a flat tax and put an end to this madness and have the irs go south and augment the mexico/USA border patrol or retire ...
2. agree - no foreign military action unless attacked OR UNLESS we are called upon by the UN or NATO in a multi-national effort
3. disagree - in God we trust, one nation under God, swear-ins on the Bible, and on and on ... if you want to be an atheist - fine, but we are a Christian nation and always will be - and as Christians we do not discriminate, we love those of other faiths as there are indeed many paths up the mountain. do not fear a nation guided by the hand of God ... He makes great things possible!
4. the poor are not the problem. the one-percent (and growing) is. the poor have zero discretionary spending as they spend everything on FICA tax, sales tax, gas tax, excise tax, local income tax and then the remainder on goods and services. to take money out of their hands and turn it over to the government to mismanage is ludicrous and smacks of a planned economy ala China. bad idea. unless you like both riots and reduced demand/consumption and more recession with no jobs...
5. this concept that a progressive tax system is somehow only a "democrat" idea is simply false. the concept that zero discretionary income (after tax) is somehow "equal" to hundreds of thousands in discretionary income for the wealthy is a mathematical impossibility. new calculator?
6. hey hey hey, we agree wholeheartedly on a balanced budget amendment in the future after recovery is ensured! and yes there is a balanced plan called "bowles-simpson bi-partisan debt reduction committee plan" that took over a year to develop and that we spent millions to get. read it. understand it. adopt it. implement it.
so hey, 3 out 3 ... progress!
nice post ...
First he says we are like Japan during the last twenty years then he says we are going to get a lot of inflation, which did not happen in Japan, instead, they got deflation. Frankly, our problems are easily solvable, there is just no will to do it by the masses. We have tons of resources and people who like to work.
Sadly, American corporate leaders are still extremely busy betraying our country by sending more job overseas, as we speak, and American small business owners are also working diligently to hire illegal immigrants. The problem is simply that American business owners are fundamentally anti-American. They don't like us or our country and the principals it is founded on. They only want to hire groveling, weak people who cannot fight back.
Until we start focusing on corporate leaders and the harm they do to us by exporting our jobs, there will be no progress.
Why the Fed Can''t Save us. As anyone carrying an "End the Fed" sign will tell you, these Fed efforts are ineffective at best.The FED has already saved US. Now it's up to the US Congress to balance spending in proportion to what we paying them to spend it on. No more Christian Crusades in the Middle East. No more BS about entitlements while the defense complex flies there tool drones and rockets around at a several million a copy. Tax all income at the same rate regardless of source. Cap all deductions based on national averages.
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