Market Outlook | June 13, 2011

“No sensible decision can be made any longer without taking into account not only the world as it is, but the world as it will be.” (Isaac Asimov 1920-1992)

The puzzling market inflection point offers a touch for the hopeful, the skeptic, the bold, and the balanced. As a start, we can attempt to elaborate at each participant’s perspective. The merit of this exercise is to ask who is closer to the truth ? This serves as the intriguing global question for investors, regulators, business owners, and other stakeholders. Most likely, decision makers must understand the varying views to navigate in this landscape.

The Hopeful

Hopeful buyers will cling and claim that recent down moves are merely a sign of under pricing (oversold) and that we’re nearing bargain points. Usually, "it’s cheap" is the age-old, but simple, argument to reenter this market. After all, many banks have year-end targets higher than today’s levels. For example, the strategists of big banks have an average target of 1402 for the S&P 500 Index (Goldman Sachs 1450 and JP Morgan 1475). In some cases, much of the buy impulse is driven through eagerness to capture previously missed ideas, such as jackpots in some tech IPOs, partaking in potential M&A deals, and accumulating well-recognized larger cap companies. The danger here is to assume that markets continue to climb in the long term while underestimating the risk of complacency.

The Skeptic

Skeptics have said and written plenty in regards to questioning the effectiveness of stimulus efforts, even as markets hit multi-year highs just few months ago. Thus, the scare in municipal bond default, weakening European economies, high unemployment rate, and weak real estate data all fail to be categorized as breaking news.

After all, daily market trading is sensitive and responsive to headlines. However, bureaucratic decisions are known to drag. During that deliberation period, the skeptic was dumfounded on how long it takes facts to significantly seep into market performance. For now, the VIX (Volatility Index) remains relatively calm, despite recent pullbacks with the growing list of bad news—a fuzzy picture that has short-sellers wondering if “fear” is in full effect. In this case, confirmation of worrisome trends is required.

The Bold

The daring seek extremes of neglected ideas, while examining the consensus view. On one end, you can wait to observe the magnitude of recent correction and look to buy smaller cap (higher volatility stocks). On the other hand, a bolder move is to create exposure to new growing markets, such as Turkey, Eastern Europe, and select parts of Africa. The idea here is to look beyond the BRICs while adjusting to differing rules of engagement.

Perhaps, the least imaginable and bold bet is to ignore inflation worries and not assume of rising rates, while accumulating cheap (toxic) US real estate related investments. Similarly, betting big on a recovering US Dollar strongly qualifies as contrarian when compared to consensus.

The Balanced

Calmer minds are focused on specific opportunities and look to grasp the fragmented parts of the market. A balanced view is reached by not neglecting the available facts and not dismissing a wide range of outcomes for years to come. The residue from the credit crisis takes up tons of pages to explain and numerous hours to digest. Opportunity, however, is found in niche areas within a limited timeframe—a cliché, but valuable, concept in a period of increased competition. Pragmatic observers will note that debt-structuring issues plague government lawmakers in Europe and the US. The mess of the last two decades is unresolved in credit markets, and recent regulation mostly adds layers of complexity. Thus, innovators will have to model a plan of staying compliant and profitable in this globally competitive climate. Identifying that handful of public companies can generate a fruitful, long-term return.

Looking Ahead

A verdict is equally needed in interest rates, which occupies central bankers’ daily tasks as members continue to feel pressure with increasing scrutiny in the mission of crisis avoidance. Both management of crisis and interest rate are interrelated issues, yet the actual impact is not fully assessable or reflected in the recent six-week decline.

Article Quotes:

“As I see it, the two [political] sides in the current disputes have each got hold of one half of the truth, which they proclaim to be the whole truth. It was the hard right that took the initiative by arguing that the government is the cause of all our difficulties, and the so-called left, in so far as it exists, has been forced to defend the need for regulating the private sector and providing government services…. I readily recognize that the other side is half right in claiming that the government is wasteful and inefficient and ought to function better. But I also continue to cling to the other half of the truth, namely that financial markets are inherently unstable and need to be regulated. Above all, I am profoundly worried that those who proclaim half truths as the whole truth, whether they are from the left or the right, are endangering our open society.” (George Soros, April 28, 2011 The Cato Institute event)

“The fact that private banks own considerable shares in European government bonds and risk a major share of their equity in this market makes a restructuring more difficult than otherwise. We understand why, under current conditions, banks have an interest in investing their assets in government bonds. Under current regulation, they need less equity to finance such investments than if they hand out loans to medium-size enterprises. This clearly is like a subsidy by which the governments distort banking decisions, making banks more inclined to finance government debt than engage in their core business.... But from the perspective of economy-wide efficiency, we do not see a convincing reason why banks should use (or should even be stimulated to use) their own funds to invest it in government bonds. They should leave this business to insurance companies, pension funds and small private investors and should turn to their core business as it is outlined in the textbooks about banking business.” (VOX Centre for Economic Policy Research, June 10, 2011)

Levels:

S&P 500 Index [1270.98] – Breaking 1300 (a minor milestone) and approaching 1253, which is the 200-day moving average.

Crude [$99.29] – Trading narrowly and very near the $100. Further clues needed to declare a trend.

Gold [$1540] – Slightly retracing from all-time highs. The ability to hold above $1500 should challenge and attract near-term traders.

DXY – US Dollar Index [74.79] – Showing very early signs of a recovery after a six-month erosion in the value of the Dollar.

US 10-Year Treasury Yields [2.96%] – Staying below 3.00% for another week. Approaching the lower end of a multi-year trend as the 2.80% is the next noteworthy point.


http://markettakers.blogspot.com


Dear Readers:

The positions and strategies discussed on MarketTakers are offered for entertainment purposes only, and they are in no way intended to serve as personal investing advice. Readers should not make any investment decisions without first conducting their own, thorough due diligence. Readers should assume that the editor holds a position in any securities discussed, recommended, or panned. While the information provided is obtained from sources believed to be reliable, its accuracy or completeness cannot be guaranteed, nor can this publication be, in any Publish Post, considered liable for the future investment performance of any securities or strategies discussed.