News & Insights
So Low it Feels Like Up
The market staged a 9% rally in traditionally dismal September. On first blush it seems that unjustified optimism is holding sway. Consider the following reasons to dismiss the current bounce as an empty echo of better times. After two years we are still dealing with the fallout of the financial crisis, the government’s fiscal deficit is exploding, the dollar is melting, home foreclosures are accelerating, higher taxes are looming and unemployment is persistently high. The expiration of federal stimulus measures over the next few months will likely have the effect of creating a 1% headwind to our GDP. This can’t be good news for an economy currently growing at less than 2%.
What could explain the current demand for stocks under these tough economic conditions? Consider homebuilding, one of the most intractably stagnant parts of our economy. Since 2008, money has all but disappeared to finance new housing. As a result, the number of new houses under construction has fallen below the number of new households being formed. This process has gone on long enough that it is not unreasonable to look ahead to a tighter supply and better prices. Similar conditions exist in the auto industry. The rate of new cars sold is below the number of older cars that are being scrapped. This can only go on so long before demand for new cars picks up.
After 2008, the household savings rate went from near zero to about 6% today. This newfound thrift took money directly out of the consumer economy. Households having made the adjustment to a more normal savings rate are likely to increase spending in line with growth in their personal income. Given enough time, imbalances, even extraordinary bubbles like that which burst in 2008 can be reconciled and the economy can recover.
If an investor were to conclude that improvements in housing, manufacturing and spending were just around the corner, then it is logical to add to stocks in anticipation of better times ahead. In other words the economy can be judged to be depressed for so long that the only logical direction is up.
Our position is that investment conditions still warrant a defensive posture, but that the economic healing process is well advanced. We still believe the way to navigate this environment is to emphasize the highest quality U.S. stocks while maintaining a cushion in cash and short term bonds. However, we will likely find more reasons to deploy reserves into the market in the next few months.
The Altavista Investment Team- Autumn 2010