Our editor and The Sage of Toukley (‘the Sot’) have frequent conversations about the direction and pace of market expansion and contraction, always in a jocular and constructive context, but with occasional differences in emphasis and sometimes, significant disagreement. In fact, it sometimes is disturbing to each of us when we reach a point of unequivocal agreement. It is reasonable to say that we have discussed ‘turning points’ on many occasions over the past few years, obviously against the background of four years of excess returns. One only falls from dizzy heights. If ‘it’s too good to be true’, it often is, as investors in Westpoint and Fincorp have recently discovered.
We, Sot and editor, do agree that the world has dramatically changed in an economic sense over the past two decades, and more especially over the last decade. A lot of this, Sot and editor put down to growth in education (especially in the emerging nations), and communications, plus the end of the natural and historical advantages enjoyed by the United States of America during the bulk of the post World War ll period. Knowledge, ability and achievement of results are more widely dispersed than ever.
Our caveat though is that Sot and editor are never complacent and the debates will continue. At a fundamental level we grew up as realists and optimists and this endemic condition remains unchanged.
Ecinya’s ‘When Rooster Sot begins to crow, be careful’ issue published on the E*Trade web-site on 13/4/2007.
THE MARKETS’ ENDLESS DANCE: Economic recoveries are a waltz, and the market since the March lows has been doing the tango, the cha cha cha, and in some cases, rock and roll. Our models are suggesting that most stocks are at or near fair value and that forward earnings forecasts do not suggest a significant advance from here. Once forecasts are boosted by a more robust macro-economic picture of enduring quality, the market will have good reason to continue its advance.
Ecinya Insight 25/8/2009.
THIS is a ‘made in America’ global recession. IT IS NOT POSSIBLE for the Obama administration to have so quickly solved the problems that have caused the ‘global financial crisis’….. the GFC. All that the Keynesian response has done is to have ‘plugged the holes’. The ship is still full of water, and making its way towards the safe-haven of the shore where coconuts and fresh water are in abundance. The G20 account for 80% of world GDP and Australia accounts for 1% of world GDP. It seems that the US markets are already pricing in 4% GDP for calendar 2010 according to some economic and market commentators. America is about 20% of global GDP and for the world economy to function at, or near, a ‘normal’ level, America has to be functioning at or near its potential. ‘Potential’ is about 3% GDP growth per annum. America has not yet faced up to its systemic and structural problems, though they have begun to be addressed.
Ecinya Insight 15/9/2009
Straws and camels, questions searching for answers: Sometimes analysis is simply a question searching for an answer. Sometimes we are just looking for the straw that might break the camel’s back. After a day off to celebrate Labour Day in New South Wales, the ACT and South Australia, we began the day with a high level of uncertainty and had moved to our number 5 tactical position of ‘ambivalent, uncertain, relatively clueless’. (The other four tactical positions are outlined under the Strategy tab.) What brought this on?
Anyway, to clear his head our editor went for a walk to the bank and to buy some lunch. This caused him to think about the up-coming Myer float, which he considered to be considerably over-priced. Tactically, up until recent weeks, we stayed on the bus. We have just hopped off and decided to wait for the next bus. For us, the straw that has broken the camel’s back has been the pricing of the up-coming Myer float at between 14.3 and 17.3 times earnings when we think a reasonable multiple might be around 12 times. Based on median earnings per share of 27.8 cents, the vendors are targeting a share price/ value of $3.90 to $4.90. Our rough calculation puts us at about $3.35. But perhaps yesterday has arrived again today and perhaps the old Jewish proverb "Ecinya, you are my friend. I would not advise you to buy what I am selling" does not apply today.
Ecinya Insight 6/10/2009
JUMPING OFF THE BUS, BUT STILL AT THE BUS STOP WAITING FOR THE NEXT BUS TO COME ALONG: We have just moved to 25% cash across our portfolios including our published portfolio ‘Cactus’ where our cash balance stands at 32%. Good trading and investment is a peculiar balance between the conviction to follow your ideas and the flexibility to recognise when you have made a mistake. The problem with today’s markets, vis those of the nostalgic past, is that markets have many more participants, are more globalised, often driven by computer programs, entry and exit costs are cheaper than ever, there is an excess of bad behaviour including rampant spin from gifted professional pundits and the companies themselves. Additionally, the ASX, once it became a public company became less robust in policing bad behaviour and ASIC is always behind the curve as it is under-funded and its personnel under-trained and lacking in experience. This all adds up to one word …..’volatility’. We have long believed that a trading mentality must accompany an investment mentality if you wish to out-perform the general indices.
Ecinya Insight 20/10/2009.
IS RECOVERY CALLING?
In short, we believe the answer is ‘yes’. But the caveat is ‘what sort of a recovery?’ Our guess/ extrapolation/ forecast is that the recovery express will be somewhat volatile and uneven this side of Christmas with Christmas itself likely to be relatively subdued for most retailers and this naturally flows back into the banking, production and distribution sectors. The strength of the $A will assist profitability for local retailers as most of the stuff they sell is imported, but discounted sales will be rife. The question that we need to address is momentum (the rate of advance) of the recovery and sustainability of the recovery.
In looking at the recovery through the prism of the market our position for some time has been that the market had got ahead of the fundamentals, that speculation had returned, and that earnings uncertainty was high. None of this has changed.
Post Christmas our guess/ extrapolation/ forecast is that the question of sustainability will become clearer. To assist with the analysis, a re-visit to George Soros’ "The New Paradigm for Financial Markets: The Credit Crisis of 2008 and what it means" might assist.
GEORGE SOROS
……..said : "Firm predictions are out of the question. The future depends on the policy responses the financial crisis will provoke. But we can identify the problems and analyse the policy options. We can also make some firm predictions about what the next era will NOT look like. The post-World War II period of credit expansion will not be followed by an equally long period of credit contraction. Boom-bust processes are asymmetric (not identical) in shape: a long, gradually accelerating boom is followed by a short and sharp bust. Consequently, most of the credit contraction can be expected to occur in the near term."
"The Bush administration shows no understanding of the predicament in which it finds itself. Eventually, the US government will have to use taxpayer’s money to arrest the decline in house prices. Until it does, the decline will be self-reinforcing, with people walking away from homes in which they have negative equity and more and more financial institutions becoming insolvent. The Bush administration resists using taxpayer’s money because of its market fundamentalist ideology and its reluctance to yield power to Congress. It has left the conduct of policy largely to the Federal Reserve. This has put too much of a burden on an institution designed to deal with liquidity, not solvency, problems."
LEADERSHIP
Sot reminded editor just this morning that "leadership should not be under-estimated when coming out of an economic crisis". Sot reminded editor of the basket case economy inherited by Geoff Kennett when he became Premier of Victoria in October 1992, following 8 years of Labor government under John Cain and 2 years under Joan Kirner.
There is little doubt that America has swung to the left under the Obama-Reid-Pelosi led Democrats with an expressed belief that more government is better than less. Harking back to March 2005 following our editor’s visit to China, the following recollection was published as part of his series "The China Diaries":
"As our editor walked back down the steps of the Hall of Central Harmony in The Forbidden City, he noticed an immaculately dressed and handsome African American reading the information board he himself had read some minutes before. Editor addressed the man: ‘Do you think George Bush would understand that?’ He replied in a wonderfully resonant voice : ‘No way man, that boy wouldn’t even come close.’ We both chuckled and moved on to the next palace. The board read:
"The Way of Heaven is profound and mysterious and the way of mankind is difficult. Only if we make a profound and unified plan to follow the doctrines of the centre, can we rule the country well."
This was a proclamation of Emperor Qianlong of the Qing Dynasty made in 1645."
Australia’s fortunes depend principally on the strength of the world economy, though we can make things better or worse by inappropriate policy. America is about 20% of the global economy and this has a flow-on impact to Asia in particular, and the world in general. Will the Obama administration return to the centre? That is the question. We are hopeful, but not yet confident and that fits neatly into the theme enunciated by Soros above.
America is not yet united behind Obama. Significant sections of the Republican party still cling to the myth that Ronald Reagan (1981 to 1989) was a competent economic manager. His administration was saved by Paul Volcker in an economic sense and America endured significant pain as hyper-inflation was brought under control. Also, Ronald’s devotees believe that he won the cold war and discount the role played by Gorbachev. It was the Reagan administration that spawned Cheney and Rumsfeld, regarded by many as substantially incompetent across a wide range of geo-political and economic landscapes. It has always been a point of some interest that both of the George Bush presidencies, father and son, inherited an economy in very sound shape and managed to exit their presidencies leaving behind a recession of some significance.
Obama has a to-do list that is awesome and covers: Iraq, Afghanistan, Pakistan, peak oil and climate change, Wall Street villains, an unprecedented budget deficit, healthcare and an aging population, a malaise in manufacturing and an intractable current account deficit, tax reform, protectionism and free trade debates. Resolution of all or some of these questions also fits neatly into the Soros theme above.
It is about the 1 year anniversary of Obama’s election win and next January will be the first anniversary of his Presidential reign. Ecinya will be looking for changes that will begin to properly address the systemic and structural problems that accelerated under Reagan more than 28 years ago. Unity will be important.
SO WHERE TO NOW IN MARKET TERMS?
Fundamantally the market is generally fairly fully priced. Technically we expect that 1012 and 4400 in S&P and All Ordinaries index terms should hold our market. If the S&P bounces from the evolving current 7 day down-wave and bounces above 1061 then the down-wave is questionable, and may be over. If 1012 is broken on the S&P then 992, 972, and 952 comes into focus and levels in the All Ordinaries below 4300 are possible. But at this stage we are not expecting such downside. The markets are still being manipulated and dominated by hedge funds and Wall Street villians that have migrated to the developed and emerging world. Transparency is not transparent as yet, but it will need much more than regulation to achieve properly functioning markets. Exercise caution in your affairs.