August 28: The Week That Was

One should avoid the temptation to read too much into Market action so late in the Summer, but I think its safe to say that this monster "not the end of the world after all" rally is starting to show its age. Which, by the way, is not quite six months. Stocks in general were weaker than the indices would suggest. Not by a lot, but with very few exceptions things were looking pretty wilted as Friday wore on. They got a boost from that little bit of reassurance coming out of Boeing. (The 787 will fly, and Boeing will make a lot of money from it, but the well-situated suppliers will do even better. The serial reassurances out of the Technology supply chain kept coming, but did you notice that however scintillating the news from Dell and Intel (late Thursday and early Friday) was, a whole lot of stocks that opened up sharply on that news could not hold their gains for the day? The reals "news" in these "better than expected" announcements has been completely discounted, which is to say that a lot of companies that were priced as if they were going out of business are now priced as if back from the dead. 

It is going to get unpleasant in the weeks ahead, but not in the way that the Bears and other doom mongers want you to think. What I have mind are the agonizing choices investors sometimes have to make with stocks that have outstanding long term potential. In my case, most of my holdings are tied to what I believe are two super cycles affecting certain suppliers to Aerospace and Information Technology. The near doubling of my IRA account off since 2/28/09 suggests that some of these are probably ahead themselves and ripe for a bit of a pullback. The age old conundrum is this: Do I try to be right twice (sell some and then try to buy it back lower) or do I suffer through an inevitable rough patch on the way to the realization of much higher prices, which are based on premises which will probably, not necessarily prove to be correct? A lot of investors, particularly of the value school, are already starting to suffer this form of Agita. It will get worse in the weeks ahead.

This week also saw the passing of the senior Senator from Massachusetts. Long time Musings readers will not be surprised to know that there was not much about this man that I found admirable. Conventional wisdom, enamored as it is by the trappings of wealth and celebrity, would be that he was blessed with every possible advantage (except, perhaps, truly superior intellect). I would submit that life dealt him a very tough hand, the youngest son in a family so riddled with "issues", and that he could have played that hand a lot less creditably than he did. I also suspect, though, that talk of renaming H.R. 3200 as some kind of Kennedy memorial bill has probably already died at the hands of focus groups. This is Beltway hubris at its worst. (If it does go forward as such, it will be a testimony to the stark obduracy of said hubris.) Not many voters old enough to remember 1969, or 1987, when he famously slandered an eminently qualified Supreme Court nominee, are going to regard his memory as a reason to change their mind and trust the government on this issue. Like the rest of us, he has much to answer for as to what he did with his not inconsiderable talents. I pray that like his long time adversary who in the end became his friend, Robert Novak, he found it in his heart to make peace with his Maker.   

Level Playing Field? Dream On!

So regulators in Massachusetts are going after that big investment bank whose alumni association seems to have taken over the financial governance of the country? Shocking allegations that big-paying customers actually get a heads-up ahead of the rabble have kicked the wheels of justice into motion. How can small investors ever be confident of any kind of level playing field if the authorities don’t step up and right this alleged wrong?

What nonsense! What foolishness! The very notion of a level playing field is a damnable lie. There is, was, never will be, never could be such a thing in the world of investing. Nothing could be more detrimental to your financial health (even if, no, make that especially if, you are not just a retail small fry with no institutional clout whatsoever) than to imagine otherwise. 

I was able to wise up to this reality at the very dawn of my investing career, at a once venerable but now defunct brokerage firm. Not only did it go without saying that the trading desk got the heads up before the sales force, but there were the practical constraints around the very notion of more than one party getting the proverbial “first call”. This understanding was advanced when I moved to a buy-side gig. It didn’t make much of a draw on one’s reservoir of common sense to figure out that even if you were some sales rep’s first call, it was not much of an edge if he or she wasn’t the first to hear it. Moment to moment, sentiment at the margin is an exceedingly fragile thing, so forget about actually doing something about your precious new insight once a half a dozen or so others have been similarly enlightened. The operative lesson here is that unless you really are in some position of exquisite privilege, it is a sure path to ruin to have a game plan dependent on advantages that, it turns out, exist only in one’s imagination. 

The absurdity of a "first call" being valuable was further reinforced during my years as a sell-side analyst, which is not to say that somebody, somewhere especially in the days of "Y2K gonna put us away", didn't score large from getting in while the wave was still forming. In my world, though, to the extent that I ever had anything "earth shattering" to share with the world, it was a simple matter to let the sales force sort out who hears it first. In time, I would learn that almost anything with profit potential larded into it was going to be so against the grain of Price Reality as to be wasted on most of the client base. The trick was to figure out who out there had the capacity to "get it", and when its time to spread the news, start with them. Insofar as these occasional insights more often than not prove highly valuable, in a long term price appreciation sort of way, advantage did indeed accrue to a select group of investors. But it tended to be based not so much on what they had paid in commissions as much as what they had paid in dues to the Done-the-Work, Thought-it-Through Club.  

There are good reasons that there is more than a little to the old maxim that “the rich get  richer and the poor get poorer”. However, as much as this tends to be true, it is not a truism along the lines of an immutable law of Nature. Advantages accrue to those who have the means to pay for intellectual firepower, who have staying power when emotion-charged inflection points stretch out in time, but these advantages most certainly do not trump entropy and its mad crush on unsustainable complexity. The big guys need every advantage they can get. Those of us who are not Masters of the Universe need not be dismayed. It is far from impossible to develop a workable game plan that is not dependent on access to a “first call” or a “trading huddle” (consistent execution of said game plan being another matter). 

What’s probably going on here with this non-story of a “thus it ever was” scandal is a bit of a show trial. Public trust of government has taken a bit of a hit of late, especially as it relates to that revolving door of an interface between Administration officials and Wall Street. Nothing really new there, of course, but hubris seems to have rendered it a bit too “in your face”. Somebody probably got the bright idea that the way to douse the fires of suspicion before they rage totally out of control would be to manufacture a harmless scandal and then show how much the powers that be care about fairness and the “little guy” by riding in and cleaning things up. A nice hefty twenty-minutes-of-a-good-trading-days-profits fine, and maybe truncating the careers of a few factotums who were a year or two from out-to-pasture anyway, ought to do the trick. And the Keepers of the Casino won’t mind one bit if it help perpetrate the delusion that an even break for suckers can ever be anything but a delusion.

Sounding Retreat?

That dire message emanating out the back door of the Permanent Campaign while the Boss is away on vacation just might be signaling a retreat. The terrain has proven a bit more treacherous, and the natives certainly less compliant, than this conquering army had come to believe that it would be. So the masters of strategy have decided to back up and re-group. In order to have a reasonable shot at priority #1 (hold onto the seat of power for as long as possible) they need to extricate themselves from the doomed, budget busting, enterprise-enervating programs that were to be the centerpiece of their Transformation of America. But how to do so without looking like Napoleon on the steppes of Russia? Change the circumstances. Float the "revelation" that the budget outlook, the economy, etc. are trending much worse than we thought when we started down this road. In order to have a scintilla of a prayer of a chance at any kind of meaningful legislative advantage after November of next year, not to mention the perks of power, they are going to have to back off and govern non-controversially, more in line with the center-right that is the reality of America. So in light of "evolving circumstances", this once seemingly unstoppable juggernaut is going back to the shop for repairs. This announcement, this recasting of the data they have had all along, is cover to fail gracefully, with the hope of living to fight another day. The Market has been figuring this out all Summer long. Enjoy, at least a little while longer! 

The "Stimulus" is Working

This edition of Market Musing finds us recovering from something everyone ought to do at least once, but probably only once,  in their lives: a drive across West Texas in the summertime. A few weeks back, we had the good sense to exit this desiccated  patch of caliche and take refuge at a much higher elevation, i.e., hard by the Colorado/New Mexico border. It has been my distinct privilege over the course of a long working life to visit more than my fair share of the nooks and crannies of this vast, prolific and incredibly enterprising county. This trip enabled me to add a few more to the list. West Texas is as oppressively empty as advertised, though a fair number of its ridge lines are now festooned with sprawling arrays of wind turbines. (It’s going to take an awful lot of infrastructure and just plain space, of which believe you me there is still plenty out there, for wind energy to make any kind of dent.)  Parts of southeastern New Mexico present a whole different place, thanks to abundant groundwater, John Deere et. al.,  and a few tourist attractions like Carlsbad Caverns and the UFO “research center” in Roswell. Of course, the biggest economic fact of life for both appears to that oil & gas formation known as the Permian Basin. One can certainly see why the area encompassing Santa Fe and Taos started attracting artists and writers almost as soon as internal combustion locomotion made it accessible. That artistic influence has certainly defined Santa Fe, in ways that I think would have bemused the young men whose names and faces I saw in a museum billed as a “Bataan Memorial”. (Apparently, elements of the New Mexico National Guard were a part of the U.S. Army in the Philippines when it fell to the Japanese.) I saw a lot of hurt and broken dreams along the way, the sort of flotsam that washes up every time economic “good times” give way to recession, but I also saw a heartland still firmly rooted in a heritage worth occasionally fighting for. 

Fighting was very much in the air as R&R gave way to a very long day at the wheel and then reconnection with all the blather which drives share price fluctuation. (Truth be told, we did not achieve the total disconnect reminiscent of vacations past, owing to surprisingly ubiquitous Wi-fi connections, in our case at least fifteen miles removed from cell phone coverage. But if one is going to such trouble to get away, such a tether must be indulged sparingly.) It did not take much of a refresher course in current events to see that the People are some kind of fired up, animated by an intuitive sense that this time, the double-talk just might take us in chillingly unpleasant directions.  Real climate change is happening, but not the kind that gasbag from Tennessee wants us to believe in. The political climate has just seen the equivalent of one of those Blue Northers which bring a bit of Alberta air crashing into the Gulf Coast from time to time. The idea that the State should insinuate itself into as many facets of people’s lives and livelihoods as possible seems to have hit a tipping point in terms of wearing out its welcome. As I wrote on February 17, about the first legislative salvo fired by the new regime:

They call it a stimulus package, and what, how much and when exactly it is going to stimulate is already a well furrowed journalistic dirt patch. Again, my fair-minded nature informs me that despite the protestations of the economists I most respect, this is one highly stimulative piece of legislation. It will stimulate a resurgence of the Meddling Class that Clinton’s welfare reform had managed to tamp down at least a little. It is stimulating a lot of skilled workers and business owners with dim but visceral memories of when the overripe fruits of New Deal and Great Society programs were like so many banana peels on anyone’s path to prosperity to just say to Hell with it and downshift into a less materialistic but also less productive lifestyle. Others will migrate into that shadow economy that gets stimulated into existence whenever collectivism has been on the rise (see Italy, or the US circa 1979.) The creepy-crawlies who occupy the lower, actual-work-doing positions within that extortive enterprise we might call Tort USA, Inc. are certainly receiving memos stimulating them into action against newly minted “targets of opportunity” that our insurance premiums will be underwriting for the rest of our lives.

One also suspects that this “package” being doused with the lighter fluid of urgency and slipped onto our collective front porch is stimulating outrage among Republicans and dissonance among voters of an independent cast. Of the latter, you have to think there is a whole lot of “Is this what I voted for back in November?” going on. I strongly suspect that not a few registered Democrats, and not just the kind who might have preferred a Reagan to a Dukakis, have woken up in a cold sweat after a visit from that particular specter. If properly channeled, and if credible alternatives can be presented, reaction to this monstrosity will indeed stimulate the beginnings of a power shift in November 2010; especially if “We won” continues to be used as justification to “do as we damn well please”. Democracy based on mere plurality and unencumbered by the edifices of (note the lower case) republicanism has never been very effective or successful for very long. Indeed, it tends to piss people off to a degree that sometimes get messy in a sanguinary way (see ancient Greece, where the beta versions were tested). 

What we have seen over the last few weeks is the ground giving way underneath all kinds of political calculus. It would seem that this latest crop of “best and brightest” has achieved stimulation alright, but not in the manner intended. Their self-inflicted undoing is coming to pass sooner than I had dared to expect. It still nearly fifteen months away, but the specter of midterm elections just hove up into view. A specter is not the same as a Spector, but it is close enough to bring to mind a long list of names of despicable characters who unless the present mood somehow subsides will quite likely be out on their ears when we sit down to celebrate Thanksgiving in 2010.  (I like to say “Thank God for Jimmy Carter!” because it probably took the suffering under that exemplar of failed Progressive ideology to make President Ronald Reagan possible.) In the mean time, expect a heightened level of hate & discontent between the politicians who are in such safe seats that they can hold to their ideological bent and the others who will be redefining “pragmatism” back in the direction of “maximizing one’s own job security”. We are being treated to the spectacle of an Administration that was handed every possible advantage reduced to blaming the opposition. It’s like a little boy whose parents spared no expense on his education blaming his lousy grades on the fact that another little boy, much smaller and with none of his advantages, doesn’t seem to want him to succeed.  

I think that this indomitably robust summer rally has been the Market’s way of applauding the steady degradation of a threat to the freedoms which undergird prosperity. Markets care about regimes and their commitments to honest governance. With apologies to Mssr. Hope & Crosby, there seemed for a time a distinct possibility that we were on the road to Rio, an expressway to a junta controlled economy. It was never really highly probable, but possible enough in a season of high anxiety to seem that way. That nightmare is ending. That said, I look for some bumpy patches in road just ahead. One will likely revolve around how important “health care reform” is to all those unions who are on the hook for commitments they have made to their members. This would include the majority owner of Government Motors. One suspects that “reform” was going to find a way to foist that entity’s biggest liability onto the taxpayers, a real windfall for well-situated stakeholders. I am also concerned about what is already proving to be a new driver of short term volatility. Days and weeks at a time, its all about Price Reality, money flow as much as anything reacting to short term excesses in the opposite direction. It appears that this time around, China has grown to become a factor in setting day to day sentiment. That market has about doubled off of its November low and as such is vulnerable to increasingly robust bouts of profit taking. It appears that whatever mood du jour holds sway in that market on any given day follows the sunrise around the world until it reaches the U.S. It’s a lot of dumb flighty money to begin with, but apparently massive enough to convince many traders as to what the path of least resistance is going to be for the next few moments. Someday it will  boil up into something that lasts for more than few hours. The Chinese economy has too many long standing systemic weaknesses to keep track of. Far be it from me to handicap when General Tso’s chickens finally come home to roost, but I suspect that if anything derails the next couple of years being splendid time to own equities, it will have something to do with another heavy handed regime pushing its people beyond a breaking point. I have started to trim a few holdings (stuff inherited from my previous “situation”, but nothing on the List.), and the way forward will of course get trickier, but this upthrust which started not quite six months ago still has some strong legs under it.