Unpopular Wisdom

May 4, 2009

The recent market rally continues, but the faster stocks climb, the more our skepticism grows – not that we didn’t want stocks to rise following our trade at the end of February. If this momentum continues, we plan to cut back on stocks, particularly if mutual fund investors keep buying stock funds the way they have in recent weeks. 

So far, fund investors are just investing a few billion a week, nothing like the tens of billions they were unloading while the market was plunging in February and early March. 

On this contrarian note, some popular themes, including some oldies but baddies, are now enjoying quite a resurgence in the investment world . Here are some recent market wisdoms, accompanied by a brief MAXadvisor (unpopular) opinion:

Popular Theme #1: Gold is your best bet against current economic and political problems.

At its best, gold is only a decent gamble when inflation and global economic and political fears are mounting. Today, these fears are either flat or falling, which is bad news for gold – a commodity with no real long-term investment merits other than its ability to “keep up” with inflation – a trait easily found in any number of hard assets (and surpassed by investing in TIPS). 

Once  you remove the mysterious and magical properties gold purportedly holds, it’s no better than most other commodities that have plunged over the past year. You’d be better served by hoarding aluminum in your basement .

Popular Theme #2: Inflation is going to take off any day now.

This idea sounds reasonable, especially given the government’s recent pattern of wild spending, bailouts, and Fed money creation. But we've seen this play before, and we know that ultimately, the falling economy trumps all government games. Besides, ballooning inflation is only one of four potential outcomes we might expect following the sudden collapse of a massive asset bubble:

  1.  If the government does nothing to help banks recover, it risks entering another Great Depression. 
  2.  If the government takes steps to save the world, the end result is a slow economy and rising government debt that lasts for years. Japan experienced the same phenomenon following its bubble peak nearly two decades ago.
  3.  In the best case scenario, we won’t get another bubble to save us from the last, and the economy will grow like gangbusters.
  4. There's a slim chance that reckless government policies will result in massive inflation, but this is the least likely outcome. Frankly, we'll be lucky to get a bit of inflation to support home prices and make debt easier to pay off. But wild double digit inflation? Fat chance.

Popular Theme #3: Interest rates are going to skyrocket any day now.

Right. Just as soon as the economy picks up and people stop buying Treasuries, start piling back into higher risk assets, demand even more money to borrow, and find little of it to go around. The call for dramatically higher rates has been going on for most of this decade. You can expect higher interest rates, alright — on credit card debt.

Just because safer bonds are a mediocre investment at current interest rates doesn’t mean that rates are going to double anytime soon, either. If rates climb much from these levels we will increase our stake in bonds.

Popular Theme #4: We’re entering another Great Depression.

A low probability event. It's much more likely we'll witness a massive wave of bank failures without experiencing an actual Great Depression. We may not even see double digit unemployment, and even that would be a far cry from the last depression, when unemployment rose to the 25% range.

Following decades of prosperity in America, there's also more wealth built up in the system than there was in 1929. Social Security payments, pensions, unemployment, and massive government spending may be an economic drag in the long run, but they’ll keep us out of deep trouble this time.

Popular Theme #5: Oil is going back over $100 soon.

If by "soon," you mean 2020, why, then yes, it is. That's because we're eventually going to run out of oil. So its price will significantly increase over time. But the slow economy is only part of the reason why that won't happen right now. Commodity gambling was a big part of the recent commodity bubble, as was an unsustainable, debt-fueled global economic boom. It’s not going to just come back overnight. The only positive thing we can say about oil is that it will perform better than gold.

Popular Theme #6: The housing market has hit bottom.

Not in places where prices are down less than 25% from their peak and still up over 100% from the last decade.

Popular Theme #7: This is the start of a big new bull market.

The bear market may have ended in early March, but most of the recent euphoria is based on short-covering and relief that most of the panic has left the market and financial system. Waves of minor panic and overall sluggish economic and profit growth should keep the lid on any major multi-year upswings. 

Popular Theme #8: The U.S. Dollar will collapse soon.

The U.S dollar is done collapsing. We’re not perfect, but we’re still better than just about everybody else, and that’s all it takes to keep our currency propped up.

Popular Theme #9: The consumer economy is gone forever.

We overdid the credit thing. We noted here years ago that financial services have had too great a role in the stock market and the economy. Home lending was completely out of control. But if you think Americans are going to pay down all of their debt and live by cash alone for the next generation, you don’t know much about diets, financial or otherwise.

This country was built on debt, and will continue to use debt to achieve its goals, even if those goals include buying a TV you can’t afford. A little debt keeps people working hard, and on a philosophical level, it doesn't really matter whether someone buys a couple of TVs for $1,000 cash, or one TV for $500 in principal and $500 in interest over a few years.

In fact, if they buy two TVs, much of the money goes abroad, and the results will end up in a landfill someday, but if they buy one TV, much of the financing profits stay in America. This practice is only bad when you buy two TVs with borrowed money from your phantom home appreciation and can’t afford the payments…