Kass: Bearish Arguments Are Roaring
There is always the need for rigor in the analysis of the economy and profits. We know history rhymes and that we must rely on past relationships, even after adjusting for the new reality/reset to frame our views. But, to some degree, the same set of economic series and charts (used by strategists) that failed to appreciate the historically unique and shaky foundation of credit-driven economic growth in 2002-06 might be underestimating the economic consequences of the Great Unwind of Credit, the ramifications of the massive policy decisions that were necessary to counteract the building recessionary conditions in 2008 and the unfolding of numerous nontraditional headwinds.
Jim "El Capitan" Cramer says the bears are "ignoring the good news at their own peril". I would argue that the bulls are ignoring the emergence of a number of secular headwinds. Here are 10 of them:
- Deep cost cuts have been mainstay of corporations over the last few years. Cost cuts are a corporate lifeline (like fiscal stimulus), but both have a defined and limited life. Ultimately, top-line growth is needed.
- Cost cuts (exacerbated by wage deflation) pose an enduring threat to the labor force. The consumer remains the most significant contributor to domestic growth. Unemployment should remain high, exacerbated by many retiring later in life because their nest eggs have been reduced.
- The consumer entered the current downcycle exposed and levered to the hilt, and net worth (and confidence) has been damaged and will need to be repaired through time and by higher savings and lower consumption. (The consumer is hurting. Last week I met with a midsized bank's lending team. The bank is seeing a big mix change toward rising use of their debit cards (where money is in the bank) at the expense of credit cards (where money is then owed).)
- The credit aftershock will continue to haunt the economy. The unregulated shadow banking industry is dead, as is the securitization market. All signs indicate that banks will likely remain reluctant to lend to individuals and small businesses. Just try to get a jumbo mortgage today.
- The effect of the Fed's monetarist experiment and its impact on investing and spending still remain uncertain.
- While the housing market has stabilized, its recovery will be probably remain muted. More important, there are few growth drivers to replace the important role taken by the real estate markets in the prior upturn.
- Commercial real estate has only begun to enter a cyclical downturn. It might not be as deep as many expect, but it won't provide much of a contribution to growth.
- While the public-works component of public policy is a stimulant, the impact might be more muted than is generally recognized. There may be less than meets the eye -- most of the current fiscal policy initiatives represent transfer payments that have a negative multiplier and create work disincentives.
- Municipalities have historically provided economic stability during times of economic weakness -- no more. They are broadly in disrepair. State sales taxes are being raised all over the country, and so are sin taxes (to shore up municipal finances) on cigarettes, booze and maybe even sugar products.
- The most important nontraditional headwind is the inevitability of higher marginal tax rates. How will higher individual tax rates affect an already deflated consumer? How will corporations react to higher tax rates? Will rising taxes be P/E multiple benders?
How Now, Dow Jones?The liquidity that grew out of the massive government stimulation and the growth in the monetary base is reaching the equity market and our economy. It has been greeted by cheers and almost unnoticeable, brief and shallow pullbacks in stocks, producing a degree of price momentum that is almost reminiscent of the "good old days" in 1999/early 2000. Market participants appear now to have embraced the notion that we are in an economic "sweet spot" and that a below-average but self-sustaining domestic recovery is being endorsed. With the perspective of the large market rise and dramatic change in sentiment (from dire to positive), there is now little room for disappointment.
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