The Long View
I have written several posts the past several months talking about the long term. As most of these posts talked about problems in the economy, outlooks of future weakness, and the serious issues with our nation's monetary policy, I have a decidedly bearish forecast on most asset classes for the next several years. And since many of these observations have taken place in a fairly spectacular bear market rally, I have been labeled a perma-bear and been somewhat ignored. No worries, that is not new territory for me :)
But as we start closing in on the end of the bear market rally (Primary Wave 2), I want to rehash some of these issues. Undoubtedly I will be labeled by even more people as a perma-bear, because every government economist is declaring "end of the recession" and analysts are all declaring "new bull market".
But I assure you I am not, in fact I would rather be long. I went long big time at 700 on the SPX. I did cash out of them far to early, and went short far too early, but that is because when I look at the economy I do not see strength. Not now, and certainly not for the future. I try to be honest with myself with my analysis, both fundamentally and technically. I am not a bear for the sake of being a bear. I try to be as realistic as I can be. Sometimes that means I get things wrong (and yes, being too early is wrong in my book), and that's fine. Just part of the game. But these are my honest opinions.
There are still so many long term issues that have not been dealt with. The economy is still structurally the same (70% consumer spending) and besides a lot of optimistic rhetoric, none of the problems that got us into this mess have been fixed. There have been a lot of band-aids applied. And even to an open festering wound a band-aid will apply some "relative" amount of relief (vs. doing nothing) in the *very short term*. But if you have a severed carotid artery and you put on a band-aid, it will soak up excess blood for a couple of seconds, before that band-aid becomes saturated and is no longer effective. The stimulus has stopped the free fall in a number of economics indicator "bleed-outs", but have they "fixed" anything? And the "it can't get any worse" defense is not valid. Because it can, and I believe it will.
A slight improvement, and yet so much garbage. Earnings estimates all through 2007 to the beginning of 2009 we overly optimistic and always revised downward after the fact. So around March/April we had earnings estimates from reputable analysts such as Mauldin at $40 of S&P. Now everything is better, the economists say so, and all of a sudden 2009 estimates from Wall Street are back to $60.!! LOL! Whew, thank goodness! Crisis averted! Raise all estimates by 50%. .... nice. So Wall Street has shown repeatedly in the past it's bias in using a "success-oriented" estimates (and for anyone who works in the Aerospace industry, that phrase, particularly when used in conjunction with schedules, should send up some big red flags).
PEs using the "optimistic" $60 for 2009
March @ 666 = P/E of 11.1
Today @ 1023 = P/E of 17.1
PEs using the "average" $50 for 2009
March @666 = P/E of 13.3
Today @1023 = P/E of 20.5
PEs using the "realistic" $40 for 2009
March @666 = P/E of 16.7
Today @1023 = P/E of 25.6
Few salient points to remember: $60 is an estimate!!! 12 months trailing earnings are still around $40.
And absolutely none of these hit bear market territory bottoms for valuation. Rule of 20 is BS. Average P/E for the last 10 years of 17 is BS. We are in a bear market, and you have to do P/E comparisons with historic bear market bottoms (P/E between 6 and 10). Inflation arguments for P/E are also invalid. Because P/E is "inflation neutral" (Prices are inflated and Earnings are inflated, so P divided by E removes inflation effects).
P/E is as much a sentiment tool as it is an objective valuation tool. And it is too high currently (as it was back in March) for a meaningful bottom
Option-ARMs and Rising Mortgage Delinquency Rates
Here is a 60-minutes piece (exceptionally informational and well done) on the upcoming Option ARM wave. If you have not watched this, please do so here . Actually, even if you have watched it, watch it again. This is a BIG DEAL.
The jist is, that the second wave of the mortgage meltdown has not yet hit, and we are just at the very beginning of the second wave. Check out the chart at 3:48 of the video above. Now couple this with the unemployment observations I have made above. When these mortgages all reset to higher rates, do you think that the economy will escape from the huge number of default rates, especially from the newly unemployed? Do you have any clue what this will do to consumer spending for people that can now just barely afford their mortgage? Do you honestly believe that we can refinance our way out of this mess (which would just further push the problem out instead of fixing it, despite that fact that this won’t work to begin with).
Then after option ARMs, people are starting to default on regular mortgages. Not subprimes, not teasers, but good old 30 year fixed delinquency rates are going up. And very few people are talking about that too. It is a small trend now, but growing. And in a society where there is a lot of home ownership and rising unemployment, mortgage exposure is a liability. Financials still have **huge** mortgage exposures and the consumer outlook is not good. Which makes mortgage exposure even more risky in the future.
The original post can be found here
..... continued in Comments Section ....