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NEW YORK (
Over the course of my investment career, I have found that the best investment decisions are often the hardest and least obvious. Two vivid examples were when I was selling/shorting in late 2007 and buying in early 2009. Now might be a similar, though obviously less extreme, turning point.
My inbox of emails this weekend consisted of nothing short of sheer panic -- whether it was with regard to the perception that domestic growth was slowing hard, the continued divisiveness in Washington, D.C., that is inhibiting pro-growth fiscal solutions and/or the
that limit its ability to stop the escalating sovereign and banking crisis.
In emails, my hedge fund cabal was universally comfortable having de-risked. Some even gloated as few saw any sunshine.
My stockbroker friends who serve the high-net-worth market were almost all underinvested, in gold or they were buying low-yielding guaranteed financial products for their clients. They felt comfortable in money market funds and fixed income, and "the trend is your friend" was their constant refrain.
And my technically inspired friends couldn't have been gloomier, as they grieved about a besieged market (bearish flags and several down 90% days last week) as we enter a seasonally weak period without any technical moorings or foundation whatsoever.
No one -- and I mean no one! -- wanted to talk about individual stocks. Buying stocks seemed to be totally off the table. The movie,
, was a far more common topic.
Then on Sunday I received 20 emails within 30 seconds that the lynx-eyed
Ed Hyman slashed his real GDP forecast to +1.0% for the next three quarters, reduced his monthly employment increases to only 25,000 per month, lowered his 2012 S&P 500 profit forecast to $95 a share (consensus is at around $110/share), raised the odds of a recession to 45% (up from 40%) and dropped global real GDP to only +1.5% (from previous expectation of +2.0%) in the face of:
- the free fall in eurozone bank stocks;
- a likely divided body politic in the U.S., unable to agree on an aggressive, pro-growth fiscal policy; and
- the plunge in the world's stock markets are seen as both a catalyst and signal for worse times ahead.
As for me (a contrarian), this is precisely the time I like to increase my invested positions, as mainstream investors, strategists and others finally recognize that expectations for growth and profits have simply been too optimistic, and most have also
accepted the notion that this economic recovery is anything but average, smooth and self-sustaining.
Investment opportunities are born out of low expectations and even pain (and, yes, technical breakdowns).
Nearly every class of investor is now underinvested (and more heavily skewed to low-earning fixed income than at any time in history). As I have previously mentioned, retail investors have redeemed over $400 billion out of domestic equity funds since 2007, while over $800 billion has been taken into fixed-income products. At the same time,
reports that hedge fund net exposure is at the lowest level since April 2009.
Market participants have finally taken off their rose-colored glasses, as investor expectations have flattened out and have become more realistic. And, on the pages of
and in other investment commentary in the business media, "the death of equities" concept is once again becoming popular -- a typical tell0tale sentiment sign that the end of the market decline may be near.
Mr. Market usually inflicts the greatest hurt on the most investors. Who would have thought in March 2000 that the S&P 500 (at around 1535) would make no progress over the next seven and a half years and that the November 2007 high of about 1555 would drop all the way down to 666 in March 2009 (and then nearly double in the next two years!)?
To me, stocks today are increasingly cheap relative to fixed income and relative to private market values. The market has finally begun to discount the uneven and inconsistent economic climate that I (and others) have anticipated over the last year and a half.
We should never be handcuffed by statistics, but it is interesting to note that over the last 50 years, the S&P 500 has averaged 15x while the average yield on the U.S. Treasury bond was at 6.70%. Now the 10-year U.S. note is at 1.80%, and the market's P/E is 12x.
Or, consider that at the height of the financial crisis in late 2008, the yield on the
high-yield index was over 25% -- the S&P 500 sold at almost 14x then. Today the yield on junk bonds is 8.25%, and the S&P 500 sells at 12x.
To be sure, I fully recognize (and have consistently written) that the U.S. economy has matured over the last 50 years and is now plagued with structural challenges that are as unique in context as they are difficult to counteract and that our financial hegemony has been challenged and, in recent years, has been ceded to China. But these factors, though limiting the market's upside, are now universally recognized and might possibly have begun to be discounted by not only the recent market weakness but by the extended decade-long drop that dates to the S&P 500's high of 1525 all the way back in March 2000!
on my Thursday night appearance on
"Fast Money" and on
Larry Kudlow's ABC radio program
on Saturday morning, I have slowly been raising my net long exposure into the recent market weakness.
On "Fast Money," I
that I believe the lows of the year are in and will not be breached over the balance of 2011. I posited that the S&P 500 could be making a similar configuration (without the final swoosh down in early March 2009) to that which it was making in February 2009 (when it tested the November 2008 low at around 740 in the S&P), right before the
History could be rhyming not only with regard to the technicals but with regard to the financial conditions. In many ways, the U.S financial crisis in 2008 holds some similarity to the crisis in Europe. Back three years ago, the U.S. and our banking system was trying to find a secure place in the financial world. We came back from the brink, recapitalized our financial institutions and our markets and economy moved forward. Today Europe's sovereigns and banks are having their own
La Dolce Vita
moment. In that 1960 movie Marcello Mastroianni was conflicted between the café life in Rome and living a quiet life with his girlfriend. My guess is that, in the fullness of time, Europe (out of necessity) becomes domesticated.
There are already signs over the weekend that eurozone leaders are ring-fencing the problems in Greece, as they recognize their responsibility to speedily address the sovereign debt contagion. European stocks, in general, and financial equities, in particular, are responding violently to the upside this morning.
I said more of the same on Sir Larry's radio show over the weekend, as I underscored that the sharp turndown in sentiment in August has yet to impact the real economy. The hard macroeconomic data, such as Friday's +0.3% rise in the leading economic indicators, continued stability in home prices (four consecutive month-over-month price gains) and other economic releases are not in a pre-recession mode. Most indicators remain consistent with 2% to 2.5% real GDP growth. Moreover, the recent drop in commodity prices is a potentially important economic and market positive. Specifically, the sharp decline in the price of oil serves as a consumer tax cut and inversely correlates to aggregate GDP growth.
In summary, it is my view that the S&P 500, at around 1130, is discounting a near 50% chance of recession and has discounted (according to my estimates) 2012 S&P earnings of around $76 a share. I expect a lower probability of recession and substantially higher corporate profits (which are annualizing at around $100 a share in third quarter 2011).
One week ago, I viewed the 12-month investment outlook as uninspiring, with basically a flat forecast for the senior averages. After last week's market schmeissing, however, the market's upside has improved to a range of between +5% and +10% over the next nine to 12 months.
Doug Kass writes daily for
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Doug Kass is the president of Seabreeze Partners Management Inc. Under no circumstances does this information represent a recommendation to buy, sell or hold any security.