Facts or Opinions what Moves Markets?
07/15/10
Mood's Economy.Com said in an article on July 15: "More U.S. metro areas are joining the recovery. As of May, the number of local areas either recovering or expanding had grown to 292 out of a total 384 across the country, compared with 257 a month earlier. Largest to join the list in May were Tampa, Seattle and Orlando. Florida boasted the largest number of metro areas moving to the growth list during the month with eight. Florida's steepest house price declines are in the past, and the residential construction drag has abated, allowing the state's expanding healthcare sector to power growth." While this may be reassuring news to some, the tenor of media reports is as downbeat as ever. If you are a bull or a bear, you read the same stuff like everybody else and have access to the same facts like everybody else. So how is it possible that your interpretation may be so vastly different from others? The Financial Times in a brief article said: "Behavioral finance has long since discarded the idea that investors are rational, and tries instead to judge exactly how irrational they are. The answer is simple to explain, if hard to implement: two standard deviations of moves in its measures of emotion is a strong trading signal. When people are deeply gloomy about a stock, it is time to buy; when they are raving about its brilliance, sell." Sounds logical and in my personal experience works often, but would have gotten you killed, if you had shorted Apple based on irrational exuberance in 2009 or 2010. Efficient market theory or behavioral finance, fundamental analysis or technical analysis, today's traders subscribe to everything but commit to neither and just like shapeshifters change their posture without feeling guilty. A mix of all investment techniques may be useful at times, but often increases rather than diminishes the confusion. Traders in 2009 needed economic analysis to provide them with the conviction to stay bullish even when the charts counseled caution. In 2010 traders needed to emphasize technical analysis to act swiftly even when fundamental parameters stayed positive or altered course too late for profiting from violent downdrafts. So now at the halfway mark of the year, we are probably at the point of maximum confusion. Talk of double-dip runs rampant yet most bears were at the point of maximum confusion on just this past Thursday night. The snap back rally had carried the indices further up than anybody with a bearish persuasion had predicted. 24 hours later, however, the bulls are at their point of maximum confusion. Economic data continued their downbeat drum and the indices lost 3% in one single day. Chart technicians are predicting further losses, whereas (fundamentally inclined) value investors' perceived bargains become ever cheaper. How to obtain clarity in a confused environment like this? Let's look at some charts:
The indicator most commented on over the past two weeks remains the ECRI Weekly Leading Indicator (above). David Rosenberg calculated that a minus 10% reading of the growth rate (red) implies an 80% chance of a double dip. The ECRI itself is not prepared to go that far, but the double dippers are out in full force this weekend. The internet is full of crisscrossing references about economic Armageddon and how to make money from it. Being an optimist by nature, I am looking for more concrete proof before I call this expansion off. The second chart above shows you the Anxious Index. It gives us the probability of a decline in real GDP, as reported in the Survey of Professional Forecasters. The survey asks panelists to estimate the probability that real GDP will decline in the quarter in which the survey is taken and in each of the following four quarters. The index often goes up just before recessions begin. If that were the case this time, the next survey to be taken in August should register a huge jump. So far it does not look like there is any danger of that happening, but who knows. Let us look at the timeliest economic indicator from last week. The Philadelphia Federal Index is a regional federal-reserve-bank index measuring changes in business growth. The index is constructed from a survey of participants who voluntarily answer questions regarding the direction of change in their overall business activities. The survey is a measure of regional manufacturing growth. When the index is above 0 it indicates factory-sector growth, and when below 0 indicates contraction. The index was published last week for the month of July.
The Philly Fed's Future Unfilled Orders component contracted for the first time in a year. The survey exhibits a clear slowing of the manufacturing sector in that region. All too many indicators are telling us recently that the economy is quickly reaching the "stall speed". The last chart shows us another survey. The Investors Intelligence Advisor sentiment polling is conducted by Investors Intelligence. Cutoff for the poll is Friday, and the results are released to the media the following Wednesday. I have been waiting for this weekly survey to show us too few bulls and finally, this week it happened. The reading showed that only 32.6% of professional investors counted themselves to be bulls. To put that in perspective, the low in March 2009 was 26.4% (the trough reading was 22.2% in October 2008). The green area of the bulls shows a little green line at the 35% mark. Anything below this line is a bullish "all clear" sign. Do I trust it in this current environment? No, I am not suicidal. Do I believe that the double dip madness is exaggerated? Yes. I was around when the same "mid-cycle-slowdown" happened in 2002/2003. The media were besides themselves, professionals were super-cautious and at the end of it all, in November 2002, Bernanke finally gave (with Greenspan's blessing I am sure) his famous helicopter speech to dispense with all the fear mongering about deflation taking hold of our country. Back then, people lost faith in the recovery, too. It came eventually, but it took a while with a few setbacks along the way. So now you have some facts (last newsletter) and many people's opinions (this newsletter) as guideposts - no more. The recent Investors Intelligence numbers give me confidence that we will hold the July bottom. If 2/3 of the professional investors are bearish or think that a correction is likely, then I have the utmost confidence that these people have already sold. They did not take a bearish (or cautious) stance last week because they planned on selling this week. No - they took a cautious stance because they had already sold. If 2/3 of professionals have already sold, how many are left to sell this week? Not too many. I therefore think that the coming week will provide good buying opportunities unless we are headed into a 2008 crash-like scenario. While we can never discard that ugly possibility, I don't think that we are that close to Armageddon again. I actually think that this is a perfect time to be contrarian and buy when there seems no hope in this valley of tears and despair.
Hermann Vohs
"In all matters of opinion, our adversaries are insane."
Oscar Wilde
Hermann Vohs is president of Cales Investments, Inc., a registered Broker-Dealer. All material presented herein is believed to be reliable but we cannot attest to its accuracy. Investment recommendations may change and readers are urged to check with their investment counselors before making any investment decisions. Opinions expressed in these reports may change without prior notice. Hermann Vohs and/or the staff at Cales Investments, inc. may or may not have investments in any of the markets cited above. Hermann Vohs can be reached at 303-765-5600.
This information is not to be construed as an offer to sell or the solicitation of an offer to buy any securities.
