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Don’t Think Like an Economist on Europe Anymore

July 13, 2012 Leave a comment

One of my largest recurring gripes is the way economic and financial theory hems folks in to narrow modes of thinking. Every single day for the last two years there have been oodles and oodles of economic analyses on the Europe situation in attempt to figure out how capital markets will react. Stop thinking like an economist—this is a political issue now.

It’s a common debate, as old as economics itself, to ask: Which trumps the other—economics or politics? This is a world where many unfathomable things take place regularly. Virtually no one could envision the LTRO, the EFSF, or any of the other creative “solutions” of the last couple years. And even if you could predict what the next jury-rigged mechanism will be, there’s no telling who or how or when it’ll happen. That’s because, yes, economics are forcing the hands of Europe ’s politicians, but in the end decisions are being made in the political forum.

There is no model or theory that guides here.

Tail Risk Is Not What You Think It Is

July 12, 2012 Leave a comment

“Tail risk” is all the rage today. There are products and prophesies galore on this supposed new topic.

To my mind, most don’t understand what tail risk is. The point of tail risk is that you can’t predict it, and so you then hedge nebulously to guard against the seemingly improbable. So let’s be clear: euro dissolution is not tail risk, though many believe it is. If you, and the rest of the civilized earth believe the euro will die, and that’s widely discussed in all corners of the galaxy, then that’s not a tail risk. Tail risk has an ineffable/unpredictable feature to it. Otherwise, it’s just fear-sodden doom and gloom that you can buy insurance against, often chopping expected returns and raising portfolio costs.

I guess you could sort of define Lehman Brothers as a tail risk. Except that banks fail pretty darn often through history—investment bank failures are not “8 standard deviation events.”  Sorry. I’ve seen a lot of banks fail and I’m relatively young.

Folks are chasing their tails all over the place tied to risk these days. Even if you do recognize tail risk as a real category, no event in the modern era has kept equity markets down for very long. Even 2008. Perpetually hedging against the ineffable has never been a great pathway to wealth, and still isn’t.

Credit Rating Agencies Forget Markets Look Forward

June 26, 2012 Leave a comment

Many of Friday’s headlines read like this:

Bank Downgrades in U.S. Prove Mistaken as Credit Risks Wane

It’s not so much (or perhaps, not only) that Moody’s, Fitch, and S&P are “mistaken” about the banks—it’s that they’re pretty much always the last to recognize reality and reflect it. That’s because, by and large, credit rating agencies pretty much do as human brains are wont: take the recent past and extrapolate it into the future.

This is one of the foremost and ultimate investing mistakes. Capital markets look forward and price in the expected future. Credit ratings agencies are reflecting today in their ratings what’s already done and past about the banks. They, like most folks, are not able to see clearly the future, and therefore use the recent past and assume trend continuation.

Oh, they’ll have their fancy models, special analysts with their special techniques, and other secret sauces to confirm and give authority to their prognostication. But in the end, credit ratings tell you more about the past than the future—making them awful forecasting tools.

“Ro-ro”? Uh-Oh.

June 21, 2012 Leave a comment

The notion of risk-on/risk-off is so tempting to believe in. But it’s rote nonsense and always has been. There is no lever traders and fund managers pull each day where they all decide today is a “risk on” or “risk off” day.

There are millions of separate interests and views affecting the markets, all days, always. That correlations sometimes go up, and sometimes go down tells you nothing about how anything is likely to behave moving forward. Non-serial auto-correlation has been a fact of investing life basically forever no matter how volatility and correlation spikes or quells.

Also, what’s risky changes! What’s risk today is different than perceived risk a few years ago. Remember when the euro was the safest place to be? Now it’s a risk asset!

Don’t be fooled by this stuff—market cycles see changes in leadership and periodic corrections. Volatility and correlation will do the same.

The US GDP Revision is Good News

June 1, 2012 Leave a comment

Yes, Q1 GDP growth was revised down to 1.9% from 2.2%. But look at a basic breakout:

Personal Consumption: +2.7%

Private Domestic Investment: +6.3%

Exports: +7.2%

Imports: +6.1%

(Note: the traditional GDP calculation nets these two out, which then becomes a negative. But this blog has long held that savvy investors like to see big, heavy export and import growth.)

Government: -3.9%

Government -3.9%! Essentially, the US economy is thundering along like a classic Detroit muscle car, while—and supply siders and fiscal hawks alike will love this—the government contracts big time.

Most folks will look only at the top line GDP number and perceive tepidness—looking just one level further reveals a very healthy US economic picture.

(Source: www.bea.gov)

Facebook’s IPO Is More Interesting Than Just Debacle

May 30, 2012 Leave a comment

Forget about this part for a moment:

Wall Street Hubris Caused Facebook Mess – Zachary Karabell, Daily Beast

Unless you actually bought shares on day one (and didn’t heed Ken Fisher’s classic advice: “IPO means It’s Probably Overpriced”), there are more interesting things to note about the FB offering.

It’s the first ever (that I can find, that also isn’t something exceptional like coming out from under government ownership) IPO debuting bigger than the weighted average market cap of global markets. This is truly amazing—a big cap growth company IPO! It beats Google, it even beats zingers like EDS back in the go-go days.

This speaks volumes about the likely shift in market leadership from small value to big growth and quality, which in my view probably goes on for some time as the bull market enters later phases.

The Age of Robots and Unemployment

February 24, 2012 Leave a comment

One of the new, and more amusing, fears about the modern economy is that productivity gains in robotics and other technological marvels will make humans obsolete and the structural level of unemployment is headed higher. My fine friends at MarketMinder recently put out a nice piece on the subject:

A Web of Misperceptions

By Fisher Investments Editorial Staff, 02/01/2012

 

As unemployment numbers have remained (predictably, as we’ve said) elevated in the recession’s wake, some have sought scapegoats. Seemingly popular is some version of “it’s technology’s fault,” which goes something like: Because of improved technology in [fill-in-the-blank] field, fewer workers are necessary to produce the same output, thereby displacing workers and actually contributing to an unemployment dilemma.” The other common strain is to blame cheap, foreign labor that can perform similar tasks to US laborers for significantly lower wages.

Both views, though, express a similar basic fear of societal progress and ignore the widespread benefits such progress redounds on all Americans regardless of income or profession. After all, consider just a few short years ago, only the very wealthy could afford computers at all, let alone tablets, smart phones, etc. with Internet connections. Now, they’re ubiquitous. Over time, productivity is a powerful force pushing prices down.

In our view, there’s little to fear from American manufacturing (and other industries) becoming increasingly productive over time. Making technology more broadly available at cheaper prices benefits not only Americans but the world. Hardly seems something to bemoan—rather, something to cheer amid continuing efforts to fight the scourge of global poverty.

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