Archive for June, 2009

The Efficient Market Hypothesis is a topic getting ripped apart these days…I thought I’d share the archive of readings I’ve saved over the past year to add to the fun.

and of course,

  • The Black Swan: The Impact of the Highly Improbable (Nassim Nicholas Taleb)

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Here’s a chart of the economy’s flow of funds, from Option ARMageddon: (This chart was also stolen here and here)


Mortgage payments are still responsible for a substantial portion of the US Debt, but Government borrowing has grown YoY(and will grow more in 2010). This is the phenomenon of crowding out, whereby government spending increases interest rates for the private sector, resulting in a decrease in borrowing (in today’s case, the treasury is competing with the private sector for buyers). Meanwhile, the FED’s statistics likely understate the Treasury’s liabilites:

The Fed only includes publicly held debt when calculating total federal government borrowings, $6.7 trillion at the end of Q1.  This excludes over $4 trillion owed to the Social Security “trust fund.”  More importantly, it excludes $60 trillion of unfunded future liabilities for Medicare and Social Security.

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David Rosenberg, the former chief economist at Merrill Lynch (who recently jumped ship) had a follow up interview on CNBC about his bearish observations of the past month. Here are some points from Zero Hedge‘s thorough summary:

On the technicals, Rosie sees a possible break through all the way to 1,200: “That is an observation, not a forecast, by the way. Back when we hit that level last fall, it was a glass-half-empty feeling of being down 20% from the highs; this time around it is a cause for celebrating an 80% move off the lows!”

In the fund flow camp, he points out that after the sideways action for the past three weeks, the break out was precipitated by only the second net 2009 inflow in mutual funds of $12 billion. “The initial source of buying power in March was the dramatic short-covering and pension fund rebalancing.” Now, it is the retail investor keeping the rally alive, as he is transfixed by the cheerleading puppets on CNBC. The vicious cycle would pressure the predominantly bearish fund managers (60% seeing the move off the lows as a bear market rally, and 5% buying into the V-shaped recovery concept) to chase performance, implying high “odds of a further melt-up.”

Indeed, the market technicals make this chart of the S&P 500 look unstoppable:

S&P 500 6-2

The upswings since March have been on high volume (with the declines on relatively lower volume), and the index recently broke through the 200-day moving average, which has been a source of resistance since December 2007.

The market’s valuation on the other hand, is very overbought:

In a nutshell, David doesn’t see the S&P $75 earnings, based on a bond implied 12.5x multiple, as achievable until 2013 at the earliest. And he concludes “Look at this way — we are going to be hard-pressed to see operating EPS much better than $43 this year. A ‘normal’ first-year earnings bounce is 20%, and again this is being generous, but that would leave us with $52 EPS for 2010. We give that prospect very little chance of occurring, and we have some difficulty with the stock market going ahead and pricing in an earnings profile that is likely four or more years away from occurring.

Rationalizing the move upward is almost impossible, since this rally is founded on sentiment derived from the fear of being left behind…By institutional investors! From Minyanville:

Portfolio managers are evaluated based on their performance relative to their benchmark. Most institutional managers are still overweight cash and underweight equities…Perhaps even more importantly, virtually everybody that has cash right now is underperforming on a year-to-date basis. Remember that the S&P 500 started the year at 903…Most of these managers aren’t bullish on the market, but at this point, it doesn’t matter what they think. Getting long equities is a matter of job preservation.

That’s very well put…if they cashed out near the bottom, they have no choice but to chase the rally up. He goes on to point out that institutional fund managers (mutual funds, hedge funds, or general financial advisors) handle a great deal of money, and therefore cannot simply buy or sell all at once – it takes much longer to establish/unwind positions, making their operation less liquid. In essence, the shift in allocation from bonds to equities is moving the market due to the magnitude of the cash flow.

Finally, the long-term fundamentals illustrate a more precarious conviction, since the broader economy doesn’t point to the “green shoots” sprouting too quickly:

The much more ominous questions of unemployment and consumer savings are still on the table, and painting a much bleaker economic bleaker picture. In Rosie’s words: “The really big story is that the fiscal stimulus is assisting in the household balance sheet repair process, but is not really doing much to spur consumer spending — highlighted by the rise in the personal savings rate to a 15-year high of 5.7% from 4.5% in March and zero a year ago — never before has the savings rate risen so far over a 12-month span. Note that the post-WWII high in the savings rate is 14.6% and that is where I believe we are heading. Despite the conventional wisdom, this is highly deflationary.” As for unemployment: “Nothing is as important to the inflation backdrop as the labor market — wages/salaries/benefits are seven times more powerful in determining the corporate pricing structure.” And the labor market, at least until the latest batch of however adjusted data, is not showing any relief whatsoever.

A tug of war between market barometers indeed…

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