These last few workdays before the Market goes holiday-somnolent find us puzzling over what seems like a departure from normal year-end Market action, and, not surprisingly, wondering about what the New Year will bring for investors. As is fitting for such a way-too-interesting year, the home stretch of 2009 seems to be disregarding the normal, seasonal cue cards. That would be a wave of abnormal selling pressure as yearend approaches, attributable in the main to the need or desire of many investors to generate losses for tax purposes. The eventual abatement of this tends to be followed by a decent rally in the indices, which has been called the “Santa Claus Rally” or more prosaically, the January effect. This has gone on for many decades, though in recent years the “January-ness” of it has diminished. As more investors, no doubt trying to get a jump on others, have done their tax loss selling in November if not October, the rally which follows has shifted into December.
Last year, the Panic which started in earnest in September marked out a bottom of sorts on November 21 and pretty much did away with the need for anyone to deliberately generate a tax loss for the purpose of offsetting gains (not that 2008 had been rife with opportunities to book gains in the first place). The unpleasantness that dominated the early months of 2009 has blotted out the memory of a DJIA that rose some 24% from its 11/21 nadir to its intraday high on 1/6/09. This time around, the effect of tax loss selling seems hardly to have registered. Most of us can find the answer to why this is by reviewing our accounts. If there is not a lot of tax loss selling going on, it is because most investors have enough of those cussed things already, booked early in the year if not carried over from last year. To the extent they also have gains, they are probably still of a short-term variety, and probably only a few months before they go long term. This dearth of what is normally seasonal selling pressure is in my estimation being met with unusually strong demand from money managers who underestimated the power of the post 3/9/09 recovery (We all underestimated it, but some of us at least recognized the turn in the tide and found the courage to act). This “better late than never” buying is no doubt motivated by the fear of being taken to task for missing out on what has come to feel like the rally of a lifetime. We should not be surprised if once 2009 is passed, this upward pressure abates, and so allows the Market to sell off to a degree that would be considered a meaningful correction.
In reviewing the tape, so to speak, of that way too interesting time that was the last leg of that historic Bear Market, I could not help but notice that for many stocks, 11/21 really was the Bottom. There were lots of stocks you could have bought 100+ days ahead of what we all hope is the Generational Low of 3/9/09 and you did alright, certainly better than if you had waited until March and then been so balled up full of dread that you did nothing (a real possibility considering just how scary it was as we stumbled along what felt like the edge of an abyss). November was the bottom for many of the stocks that had fallen from favor clear back when the Market got its first whiff of impending recession. That last leg down after 1/6/09 was much tougher on the stuff that investors thought was somehow immune, as if the Market was making a point about “no place to hide”. There might have been more bargains on 3/9 than on 11/21, and there were no doubt some even more extreme bargains, but my point is that while an investor who went “all in” 100 days too early would have paid a great price in terms of visceral wear and tear over the next three months (unless they had the good sense to go on a sabbatical in Patagonia or something like that), a year later he still would been sitting pretty indeed. It’s not about timing the Market, but it is a lot about being there when it hurts.
So what should we expect in 2010? Viewed through the lens of that bag of tools that is securities analysis, the Market is by any measure ahead of itself and poised for some kind of meaningful correction. In terms of what I call Commercial reality, I get a very bifurcated view. If the business is based on truly global demand (e.g., components for electronic devices that facilitate connectedness on one’s own terms, aviation equipment) growth and/or cyclical improvement if not downright excitement is clearly in the picture for 2010. If it is strictly domestic and at all discretionary (e.g., housing related), the road ahead looks steep and slippery for as far as the eye can see. It is going to be trickier to make money in the Market in 2010 than most of 2009 turned out to be. I would expect to be a net seller over the course of the year until a convincing correction (15% decline in major indices) manages to take place. My sense is that while there will certainly be numerous days when the Market swoons, such a meaningful and sustained pullback is far from inevitable. Absent the sort of development that registers in the history books, we are looking at a Price Reality that probably keeps the Market on an upward skew for most of the year ahead. This is because equities, especially US equities, seem to be setting up to become the proverbial, albeit short-lived, “only game in town”.
Such momentary madness (where residential real estate was just a few years ago) generally happens by default. Money is restless, and sometimes flocks to the least ugliest candidate in the beauty contest. The world is awash with capital looking to earn a return. Where can it go? As I survey the options, and consider the degree to which so many investors cannot or will not accept mere nominal returns, it is hard not to see a net flow into equities. Money rates are practically nil. Bonds (a.k.a., certificates of confiscation) have just done the seemingly impossible, outperforming equities over the course of a full decade. A year ago, there were once in a generation opportunities in corporate and municipal bonds, but that cow has since been milked. Look for a regression to normal and then some. Commodities, especially gold, have just gone through that classic, 10 +/- years procession from dead money to a near-mandatory category of asset allocation. As with any other asset whose price has gone hyperbolic over the course of a decade, gold could easily double again, or already have started a multi-decade slump back into sterile oblivion. (You pay’s your money, you take your chances.) Real estate abounds with opportunity, distressed priced assets in the hands of those who did not intend to be owners, but only for the truly astute who can afford to be patient. (The demise of the popular notion that it is the rule rather than the exception that home ownership will be a primary generator of, as opposed to a mere store of, personal net worth, will be the subject of a Musings in the not too distant future.) And however important it is to have a global orientation to one’s investments (i.e., exposure to companies that are not strictly domestic), Dubai World and now the sovereign state of Greece are reminding us that there are risks and uncertainties of a whole different order when one ventures beyond our shores. Indeed, investors are likely taking heart from the recent political developments here in the U.S., where the system has proven remarkably resilient against what earlier this year looked like an unstoppable takeover of productive assets by the non-productive. Damage is indeed being done, but nowhere near as badly as we were tempted to expect only six months ago, and the ugliness of the struggle seems to be setting the stage for a vintage 1980-like revival.
The debate among analysts as to what stocks are worth can (and does) go on ad nauseum. The reason Bull Markets of every sort last longer than those of us who “know better” can make sense of is that a big popular market is one place where wishing really can make it so, if only for a season. The data of valuation is inherently debatable and ambiguous at best. What seems to tip the balance in a direction accommodative to price appreciation most of the time (i.e., except during periodic Bear Markets, when all this accrued unreality gets flushed out and then some) is a heartfelt need on the part of investors at the margin to be able to earn “acceptable” returns. “Acceptable” got up around 20% during the late Nineties. It is not that high now, but it is a lot higher than fixed income can presently deliver. Marginal investors and their enablers will see the data in a light that will continue to bid up stock prices. A resumption of M&A activity will produce “metrics” which confirm bullish valuations.
This will to believe in the “everything’s going to be alright” that comes with plump 401ks that don’t need a lot in the way of cash contributions is why the Bull can be durable and powerful beyond all we can make sense of. So as we approach 2010, I remain “constructively fully invested”, which is to say with a modest amount of “dry powder” in the event we hit an air pocket early on in the New Year. Barring a downturn at least as spirited and durable as what marked June of this past year, though, I would look to be much more a seller than a buyer as the year goes by, making sure I have the flexibility to take advantage of any kind of “bump in the road” as well as whatever other needs for cash might come along. If you can’t afford (i.e., are yield dependent) to keep upwards of 20% of your investable net worth “at the ready” (in cash) a good deal of the time, you will be operating at a significant disadvantage to those who can.
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