Weekend Market Commentary: Black Swans, Fried Eggs And Bacon
UPDATED: 0900 EST 2014-08-23
The All-American financial breakfast for the inner-investor in each and every one of us. Every morning I turn on my computer and eagerly look for the latest batch of World news and potential Black Swans.
I haven't found any Black Swans, but found something else that can be just as bad.
Lately all I have been seeing are a bunch of geopolitical issues I call Grey Swans. Not as dangerous as a Black Swan, but if you get enough of them at one time it never turns out well for Wall Street. Well, we have a family of them right now and that causes me to worry.
But before you chow down and digest these critters, I recommend y'all have a tall bottle of Petmo Bismol handy as some meals can upset your tummy. Black Swans come in all sizes and colors, including the more prevalent 'Grey Swan' that causes stomach upset, but not the depression tendencies of Black Swans which side effects include jumping out of windows in very tall buildings. Be careful you do not digest too many swans of any color at one time. Read slowly and plan your actions methodically.
You might be interested to know that a collection of Grey Swans and their chicks can produce a 'Black Swan Effect' which we all know as VERY detrimental to a bull market, like the one we are in now.
It is important that investors keep track of all the Grey Swans as religiously as changing ones underwear on a daily basis. New ones pop up every day, but not all survive as you know. It is useful to keep track of the surviving family members and stay ahead of the game.
The primary way to reduce the ill effects of an enlarging Grey Swan Family is to lighten ones portfolio of poor performers and 'dogs'. Cash is always good; cash is king during these times. If you don't have cash, you can't buy the dips and that game has been the big winner the past several years.
Here are some of the Grey Swans currently swimming in the market waters and could be the signs of an approaching bear market.
-Syrian civil war
-Ebola outbreak in West Africa
All of these above turmoils were each expected to cause a market correction of 10% to 20%. The last one only created a 4.3% correction and we have since pushed the SP500 to a new historic high.
Here are just some of the Grey Swans chicks that will eventually grow up into adults and collectively add to the turmoil mix.
-Fed (blind leading the blind)
-corporate stock buybacks
-corporate refinance of debt
-debt to fund buybacks
-products sold with low to 0% financing
-corporate dividends initiated or increased to "lure" investors
Note that many analysts are now starting to speculate that another massive rally is on the way because the SP500 only went down a small amount. This could very well add to the mix of 'chicks' as being overly exuberant when a dose of caution is being called for.
In my opinion, all it would take now is to have a big Black Swan to pop up, poop on your portfolio and you might have the start of something even bigger than seeing averages depreciate; a US recession and the inevitable continued decline of the stock market to something greater than 20%.
Recessions occur about every 5 to 10 years and the last one was 7 years ago, so according to statistics, we are due for another. But the Fed is controlling this recession aspect so it will be interesting to see how much further in debt the Fed's can take the US economy and stave off a recession, if it can.
This recession talk is not just idle chatter as a large part of the Eurozone is now in recession, Russia is in recession, Japan is suffering strong negative growth and China is not on firm ground. With the second, third and fourth largest economies in the world looking financially unstable it is only a matter of time before those financial gremlin's slither upon the US's shores. As I have written before, the World's financial woes collectively will soon creep into our portfolios and have the potential to wreak havoc.
The U.S. economy, without a doubt, has a lot of room for improvement and growth, however, I doubt the market will increase proportionately in the months ahead.
The 'End' may be nearer than you thought says John Hussman. John is the brunt of many economists who claim that John and others (Robert Shiller) are seemingly always preaching doom and gloom. As they say, "This time may be different". The message here should not fall on deaf ears.
"While we're already observing cracks in market internals in the form of breakdowns in small cap stocks, high yield bond prices, market breadth, and other areas, it's not clear yet whether the risk preferences of investors have shifted durably.
As we saw in multiple early selloffs and recoveries near the 2007, 2000, and 1929 bull market peaks (the only peaks that rival the present one), the 'buy the dip' mentality can introduce periodic recovery attempts even in markets that are quite precarious from a full cycle perspective. Still, it's helpful to be aware of how compressed risk premiums unwind. They rarely do so in one fell swoop, but they also rarely do so gradually and diagonally. Compressed risk premiums normalize in spikes."
Those spikes will make it quite difficult to exit in the nice, orderly manner that speculators seem to imagine will be possible. Nor are readily observable warnings (beyond those we already observe) likely to provide a clear exit signal. Galbraith reminds us that the 1929 market crash did not have observable catalysts.
Rather, his description is very much in line with the view that the market crashed first, and the underlying economic strains emerged later: "the crash did not come - as some have suggested - because the market suddenly became aware that a serious depression was in the offing.
A depression, serious or otherwise, could not be foreseen when the market fell. There is still the possibility that the downturn in the indexes frightened the speculators, led them to unload their stocks, and so punctured a bubble that had in any case to be punctured one day. This is more plausible.
How many Grey Swans and their chicks is it going to take to puncture the 'bubble' that will be punctured anyway? I don't know either, but there are sure a lot of them right now and I don't know how many more this market can take. The following article clarifies and defines the issues.
. . . investors in the United States have been shrugging off most of the bad news - so far at least.
A big reason is that five years after the Great Recession officially ended, the U.S. economy is showing a strength and durability that other major nations can only envy. Thanks in part to the Federal Reserve's ultra-low interest rates, employers have ramped up hiring, factories have boosted production and businesses have been making money.
All of this has cushioned the U.S. economy from the economic damage being suffered abroad. And investors have responded by keeping U.S. stocks near all-time highs.
"We're in a much better place psychologically," says Mark Zandi, chief economist at Moody's Analytics. "And it's allowing us to weather the geopolitical threats much more gracefully."
Still, the global turmoil comes at a delicate time. Though the U.S. economy has managed so far to withstand the economic and geopolitical turmoil abroad, it isn't immune to it.
Black Swans leave a very bad taste in anyone's portfolio and I suggest avoiding them if possible, unfortunately it is next to impossible to see them coming, navigate accordingly.
Personally, I like my breakfast with orange juice, but I hear that commodity will be in short supply too if we have a bad winter. Drop me an email, what do you think?
"The stock market has recovered so sharply for so long, you have to assume somewhere along the line we will get a significant correction. Where that is, I do not know." - Alan Greenspan, July 30, 2014
(Follow Closing Market Averages at end of this article)
WTI oil closed Friday at 97.03 (down -0.36 (-0.39%) )
Brent oil closed Friday at 103.14 (down -0.14 (-0.14%) )
Gold closed Friday at 1305.40 (up +4.20 (+0.33%) )
Copper closed Friday at 3.107 (up +0.021 (+0.65%) )
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Written by Gary