Nobody Sees A Bear Market Ahead
My belly button is signaling a bear market is an even money bet. The Street and Federal Reserve Board believe they can manage through with Fed Funds put no higher than 4%. Corporate earnings won’t fall off the cliff and oil futures settle down under $100 a barrel.
Economic history suggests a much more turbulent setting. Forecasters get it more wrong than right so they project small changes at the margin. Federal Reserve Boards prove myopic along with European institutions like the World Bank that periodically inches its way towards a tightening phase.
The prime exception of note was Paul Volcker, early eighties, who saw rampant inflation in wages was making the country uncompetitive. Simply, but radically, Volcker bumped interest rates into the mid-teens. The country took its recession while the market collapsed to 10 times earnings and sold at book value. A comparable correction today would cut in half the S&P 500 Index.
Nobody today is committed to such a dire scenario. Institutional wealth management has evolved into a major profit center for major banks and brokerage houses. As yet, they yearn to believe their 60/40 equity to debt pie chart preserves their asset base. But, the bond market is enduring serious volatility with interest rates still historically on the low side. My bet is pie chart investing proves dysfunctional in this cycle as institutions react too sluggishly.
I see higher probability of a bear market in bonds, with rates on Treasuries more easily ticking at 6% than 4%, the so-called FRB solution as yet for this cycle. Inflation persists and oil futures churn past $100 a barrel. The Street is betting the FRB proves right this time and manages us through with minimal pain and upset.
But, this is a naïve conclusion. Federal reserve boards and economists sport terrible forecasting. Thus, pronouncements can change quarterly to get them in sync with the real world. Nobody ever gets it right even in forecasts for GDP growth. You rarely see the norm of 3%, often 2% or 4%.
I’ve endured bear market cycles dating back into the 1960s. I was almost buried in the 1973 – ‘74 collapse. My hostile tender offer for Caesar’s World needed a credit line of billions that was pegged at 9% interest for 12 months, not 2% monthly and then variable. Legal bills were running into monthly millions. It was hard to keep gaming regulators happy in New Jersey.
Mortgage on my home was written at 7.5% and J.P. Morgan proved reluctant to finance my one-of-a-kind property. In short, past 60 years the country and its borrowers contended with an unforgiving setting of high interest rates. Markets did reset from their high price-earnings ratio to low teens or worse. A correction of 25% is easy to construe currently just based on a steep escalation in interest rates. Nobody’s talking this way.
The Personal Consumption Index (PCX) employed by the Fed today is too rosy in its assumptions. Present projection is 2.4% by early 2024. If grains and oil prices don’t ease off, a higher PCX won’t justify a price-earnings ratio of high teens.
Delving into past decades’ cycles, I was amazed at the penalty for being wrong-footed, how bloody markets do turn, doling out destruction. The art of speculation mainly is now lost, replaced by professional money management which isn’t close to being an art form. Nobody, today, is known as a professional speculator because its meaning has been buried under decades of undisciplined trading by money managers. Some honchos turn over trillion-dollar portfolios quarter-after-quarter with negative results.
Excesses of growthmanship during the sixties were ushered out by conglomerate operators who set the stage for the bear market of 1969 - ‘70. The chart that follows dramatizes the tremendous burden of staying married to the stock market from 1962 to 1975. The averages returned zilch when compared with wholesale prices of commodities. Compared with holding gold, the market depreciated more than 50%. I remember the gold bugs parading around town, eyes gleaming with self-satisfaction. All this suggests the decision to play or not to play rather than the details on stock selection is the pivotal performance variable, decade-over-decade.
Dow Jones Industrial Average 1962 – ‘73
How improbable it was then for any professional operator in 1965 construing that the Dow Jones Industrials then trading at 17 times earnings was headed to 7 times earnings by 1975? Cycles then were still governed by inventory swings and big variances in capital goods spending, what went on decade after decade. We had then an industrial economy where blue chips covered General Electric, U.S. Steel, General Motors, et. al.
Industrial production peaked then at 30% of the economy. But, we got so low as 15% in 2015. The market capitalization of Exxon Mobil now rests comfortably over $650 billion, but Apple peaked past year at $2.8 trillion. The concept of a blue chip is dead and buried.
Viscerally, the market’s setting seems too optimistic, too pricey. I’m 40% long, a very conservative construct, historically speaking. I can be 150% long at times so hope I’m wrong being so edgy.