The Long and Winding Road
The long and winding road that leads to your door,
Will never disappear,
I've seen that road before it always leads me here,
Leads me to your door.
A common truism about bear markets -- that they can only be resolved via time and price -- is widely misunderstood. While predicting future prices is a dangerous affair, it’s even more difficult to grasp the other element of resolution - time, or how long it will take to reach bottom.
But when earnings estimates are nearly impossible to guess, we must revert to other, more tangible measures: price/tangible book value (note that I use tangible book value, which excludes nearly worthless assets like goodwill), price/Tobin’s Q Ratio (Tobin’s Q is the “replacement value” of a particular company), and price/free cash flow.
My price targets over the past few years were for an initial stop of the S&P 500 at 750, then 600-650, then 500, then the eventual 450 level. Despite my expectations of miserable earnings and global deleveraging, I’m sad to say that my ultimate targets may have actually been a bit too optimistic. My price target now for the S&P 500
is in the 350-400 range, which is still a decline of 40-50% from current levels.
My target in terms of time for the ultimate S&P low has been early to mid-October 2010, which coincided with the typical low seen in October of the second year of a presidential term.
As longtime readers may recall, I find the presidential cycle to be the strongest and most predictable cycle. A report out of Pepperdine University suggested that, since 1952, if you had been invested in the S&P 500
from Day 1 of a presidential cycle until mid-October of the term’s second year, a $1,000 investment would have turned into roughly $650, without even adjusting for inflation.
If, on the other hand, you had invested from mid-October of the term’s second year and sold on the last day of the term, your $1,000 would now be worth $71,000. Without a doubt, this is due to stock prices, economic circumstances, and Gallup approval ratings, all of which are amazingly synched.
Even if we’re lucky enough to estimate the ultimate bear-market bottom, this is only part of the equation. Making it through a bear market with the bulk of one’s capital intact is obviously the first priority. Buying at depressed levels, even within the confines of a secular or super-bear market, can be highly profitable.
Assuming we get the estimate even close to correct, we must then again guess just how long it will take before we start the next secular bull market. My guess is it will be at least 10 to 15 years from the secular bear market low, which I guess will be in 2010.
But this decline hasn’t been your garden-variety bear market. Instead, it’s been a nasty, sometimes frightening, relentless move lower in equities, one that will be remembered for generations to come. Investing habits for many people will change for the remainder of their lives. Many will be forced to work well beyond their planned retirement age, sometimes at jobs they wouldn’t generally desire. The rebuilding of the banking, insurance, auto and other industries may take well over a decade as well.
There may be many cyclical markets lasting anywhere between 6 to 24 months along the way, market moves I fully intend to participate in. But my expectation as it regards the time required to repair the economic problem is that it will be a “Long and Winding Road” - or for me, “When I’m Sixty Four” (I’m currently 49).
Dear Prudence, won't you come out to play
Dear Prudence, greet the brand new day
The sun is up, the sky is blue
It's beautiful and so are you
Prudence—the state, quality, or fact of being prudent. Careful management; economy.—American Heritage Dictionary.
If ever there were a song whose lyrics should have been sent to the bankers that cooked up esoteric instruments and the institutional investors that happily bought that overpriced, illiquid, hard-to-digest garbage, this is the one.
We all know that markets and the world’s economies operate fully within the confines of those 2 hideous emotions: fear and greed. Unfortunately, I don’t come across the word “prudence” on Wall Street as much as I’d like. What I do hear is how poorly they’re doing, how much capital they need, how their company’s balance sheet has imploded, and how much pity I should feel for them. The only pity I feel is for their customers.
So where has Prudence gone? Out the window. I recall being told by a senior executive at a brokerage firm I worked for in the early 1990s: Be sure that every investment you helped place in an investor’s portfolio passes the New York Times
Test -- that is, would it look good on Page 1 of the New York Times
Imagine, dear Prudence, if any of the securities and loans cooked up over the past several years would look good there. Hardly; indeed, I’d look for them in the obituary section. And the counterparty that got you into this mess in the first place can be found on Death Row - but with their hands out for more of our money. Penny Lane
In Penny Lane there is a barber showing photographs
of every head he's had the pleasure to know.
And all the people that come and go
Stop and say hello.
There were many bears growling long before the bear market in stocks, credit and derivatives began in 2007, present company included. While highly negative on financial-company shares, even the grizzliest of bears would have had trouble believing how many large corporations would eventually become penny stocks - those that trade below $1 per share.
Penny stocks usually trade on the Pink Sheets, where no self-respecting institutional investor will venture. But alas! Some of the companies now making up the list of penny stocks (after horrible bets in derivatives and too much leverage), once maintained market capitalizations that rivaled the cream of the crop. They include: Citigroup
(AIG); Fannie Mae
(FNM); Freddie Mac
(FRE), Lehman; Genworth Financial
(GNW); Office Depot
(ODP); and E*Trade
There are many other companies that I expect to end up on Penny Lane soon. They include: GM
(F); Fifth Third
(FITB); Bank of America
(BAC); and Huntington Bancshares
These stocks residing on Penny Lane will likely be joined by many more before all is said and done in this bear market. Of note, the New York Stock Exchange has made exceptions for these companies that would normally be de-listed and left them alone to trade at embarrassingly low levels. I suspect this is as a result of the NYSE’s hope that someday some of them will re-enter the world of the living at some later date.
If there’s a silver lining to these stocks maintaining such low market caps, it’s that they can no longer have a direct impact on the overall market (whether a market-capitalized index like the S&P or a price-weighted one like the Dow Jones Industrial Average).
Since I doubt these companies will be de-listed anytime soon, they’ll remain a mere distraction to portfolio managers, and will likely become playthings for retail speculators trying to scalp a few pennies here and there.
One last thing about Penny Lane: The companies that live there seem to have one thing in common: They’re part of our portfolio as taxpayers.
Not quite what the Beatles had in mind. You Never Give Me Your Money
You never give me your money
you only give me your funny paper
and in the middle of negotiations
you break down.
Where have I heard “you never give me your money”? Banks and brokers with their hands out after annihilating themselves, their clients, and anything that stood in their way.
Why didn’t banks, automakers, investment banks, mortgage companies, insurance companies do what so many knew they should: Cut dividends, suspend stock buybacks, cut workforce and expenses, and acknowledge they were in trouble? Instead, the very same institutions that helped create this crisis were the first in line for taxpayer money to help pay for their sins.
Only now are nearly all of the sinners cutting their dividends. The list includes GE, JPMorgan
(JPM), US Bancorp
(USB), Wells Fargo
(ALL), Bank of America, Citi, PNC
(PNC) and many, many others.
But let me tell you what makes me really ill. The reason they say they’re cutting dividends: To conserve capital and repay TARP funds.
So let me get this straight: The Finance Committee (led by Barney Frank), the Treasury Department (then headed by Hank Paulsen) and the Federal Reserve (led by Chairman Ben Bernanke) handed over our hard-earned cash to a bunch of cowboys who were taking on risk and creating esoteric securities that could possibly take the whole system down. Now, after paying dividends, writing off hundreds of billions of dollars of ill-placed bets, paying themselves huge salaries and bonuses, they’re going to pay back TARP? Am I the only one confused here?
They take money from me, pay dividends they shouldn’t pay, then finally cut the dividends only when forced to the brink of bankruptcy - and then give the money back? Even if the TARP funds are repaid, do you expect to ever see your stock prices rise again, your TARP funds repaid, and your dividends restored? Hardly. Instead, the TARP funds will likely go to some other poorly conceived plan.
No wonder consumer confidence is so low. Back in the USSR (USSA)
I'm back in the U.S.S.R.
You don't know how lucky you are boy
Back in the U.S.S.R.
There’s been much debate about whether the practices of our politicians and senior officials have steered us toward socialism, or even communism. One thing I know for sure: What’s now occurring seems anything but democratic, and I can’t argue with those who say we now live in the United Socialist States of America, rather than the USA I was so fond of in the past.
Like others, I’m sickened by what I see every day. What scares me most is that many of those trying to fix the system are hopelessly ill-equipped to solve a once-in-a lifetime global economic depression. This goes for all branches of Government and both sides of the aisle.
Welcome to the USSA - the United Socialist States of America. The Fool(s) on the Hill
Day after day alone on the hill,
The man with the foolish grin is keeping perfectly still,
But nobody wants to know him,
They can see that he's just a fool,
And he never gives an answer.
Far be it from me to call politicians fools - at least with regard to lawmaking. But when I see a bunch of lawyers try to solve the most complex economic failure in history, without a shred of economic experience, I shudder.
We all know that hope is a poor roadmap to success, but I still hope our leaders will stumble upon the right solution - the one that can:
Make housing inventory disappear 2.
Reverse the trends in unemployment.3.
Magically de-toxify toxic assets.4.
Bring back the walrus. (Just checking to see if you’re still awake.)
All kidding aside, I don’t care who’s in charge, provided they take the bull by the horns and work to understand the issues we face and how deep they run. I hope the fools on the hill know the American people are on to their tricks - or lack thereof. Lucy in the Sky with Diamonds
Look for the girl with the sun in her eyes,
and she's gone.
Lucy in the sky with diamonds
When Sergeant Pepper’s Lonely Hearts Club Band was released, It was and still is one of the most critically acclaimed albums of all time. Lucy in the Sky with Diamonds was either a) a song about the drug LSD or b) a song that fit beautifully within this gargantuan piece of music.
In any case, it may also be a case study for how we should feel about the ruins of our markets. Are they a) an LSD-induced acid trip down Esoteric Security Lane, or are they b) just a bunch of really cool securities that turned out to glow in the dark - that is, the stuff we call nuclear waste? The End
And in the end
the love you take
is equal to the love you make.
I recall as a teenager listening to ‘The End’ as if were actually the end. What I take from this song is this: We should expect those who receive to also give.
All of us on Wall Street should be in the business of helping our clients reach their goals. But somewhere along the way, that end has been lost to money and greed.
Perhaps we (and I mean both the sell-side and the buy-side) should be sure that the client’s goals are always the focus. This way we won’t need a revolution in the good old USSA: You say you want a revolution
Well you know
we all want to change the world
You tell me that it's evolution
Well you know
We all want to change the world
But when you talk about destruction
Don't you know you can count me out
Don't you know it's gonna be