The World is Ending and Stocks are Plunging (Again)
The World is Ending and Stocks are Plunging (Again): Ho-Hum
Gary Alexander on 8/4/2011 3:46:00 PM
The major news magazines want you to know that "The Debt Crisis Is Even Worse than You Think" (last week's cover of BusinessWeek, printed in RED ink), or that Europe and the United States are now "Turning Japanese" in a "New Politics of Paralysis" (the cover of The Economist). Their implication, of course, is that this has never happened before. We are in "uncharted waters," so your "wealth is at risk."
On the surface, this scary story is an easy sell. On Tuesday, stocks fell for the seventh day in a row. The Dow fell 266 points, its worst day since August 11, 2010. On the same day, gold soared to $1660 per ounce, an all-time high, even though oil fell 1.2% to $93.79. Then, on Wednesday, the mood worsened. The Dow fell another 150 points on the opening and gold gained $12 to $1672 (while oil sank to $92).
Wednesday closed slightly up, breaking the string of eight-straight negative days, but Thursday was much worse, with the Dow down over 512 points, while NASDAQ and the S&P fell nearly 5% on average. Even gold took a tumble, falling $15 to $1650, and oil fell over $5 to $86. Meanwhile, 90-day T-bills offer just 0.01%, while two-year Treasuries sank to a record-low 0.27%. The yield curve is orderly but deflationary: Five-year Treasury yields fell to 1.09%, 10-years to 2.42% and the 30-year fell to 3.68%.
All of a sudden, it looks like the bull market of nearly 30 months is over and hurricane season has begun.
The Good News Percolating under the Radar
Let's seek some balance on today's news. Let's look at both sides of the story. True, the government doesn't know how to balance its budget, but U.S. corporations have stockpiled trillions of dollars in excess cash. We have high jobless rates, but the flip side of that fact is that companies are getting more done with fewer people. True, the U.S. economy is growing slowly, but corporate earnings are soaring.
While the big headlines say that the U.S. GDP rose only 1.3% last quarter, the revenues and earnings of the 393 (78.6%) reporting S&P 500 companies are both up by an astonishing 13% over the second quarter last year. That's 10-fold faster than GDP growth! And if you exclude the sick financial sector, revenues are up 15.6% and earnings are up 22.2%! So far, the S&P earnings are 6.4% above analysts' estimates!
These stellar earnings show no sign of slowing. Analysts now expect to see even stronger double-digit earnings growth in the third and fourth quarters, in all categories. According to economist Ed Yardeni, Large-Cap forward earnings have risen in 42 of the past 44 weeks, while Mid-Cap forward earnings have risen in 20 of the past 21 weeks and Small-Cap forward earnings have risen in 42 of the past 47 weeks.
How can corporations keep growing while the domestic economy is anemic and government is clueless? Most major U.S. businesses are multi-national, so they can profit from the double-whammy of a rapidly-growing global economy and a weak U.S. dollar. Companies can cut costs; governments apparently can't.
Bottom line, the market is not likely to keep falling sharply while earnings keep rising. In the last double-dip recession (1979-82), corporate earnings were falling. That's not happening now, and it's not likely to happen for the next few quarters at least. In addition, the stock market always rises in the third year of the four-year Presidential cycle. With the S&P now under water for the year so far, this election cycle history implies a late-year 2011 recovery - like what began last August, after the Fed announced its QE-2 plans.
Now for our regular trip down memory lane, in order to gain greater perspective on today's news:
History Says "We've been through Worse….and Recovered"
The headline writers in The Economist and BusinessWeek have a point: The budget deficit is a serious and seemingly insoluble challenge. The numbers are excruciatingly high and the political hurdles seem insurmountable. We've never been through this particular slice of history before. But we've been through similar situations - many of them far worse than today - and the world kept growing and prospering.
Throughout history, the press usually saw the bad news clearly, while ignoring the positive data that fueled the inevitable recovery. The situation was, in fact, a lot worse if you look at some time capsules from August in previous decades, like 1931, 1941, 1951, 1961, 1971, 1981, 1991, or September 11, 2001.
For the time being, I am going to assume that you know that things were worse in 1931 (in the depths of the Great Depression), 1941 (Pearl Harbor and World War II) and 1951 (the Korean War and McCarthy era), so let me concentrate in more detail on some time capsules from this month 20 to 50 years ago:
- 50 years ago, we were losing both the Space Race and the Cold War. On August 6, 1961, Soviet cosmonaut Gherman S. Titov became the second Russian to orbit the earth, aboard Vostok 2, circling the globe 17 times. Meanwhile, U.S. astronaut Alan Shepard only lasted 15 minutes in a Caribbean sub-orbital flight. A week later, on August 13, 1961, the Communists began to build the Berlin Wall, finishing it in five days. (Who says Communists can't work fast?) However, this news was misleading: The U.S. won the Space Race, and the Berlin Wall eventually collapsed.
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40 years ago, on Sunday night, August 15, 1971, President Nixon announced the closing of the gold window, the devaluation of the dollar, a wage and price freeze, increased tariffs and a tax surcharge - all pretty scary stuff, it would seem, but the press and public applauded his moves. The stock market soared 33 Dow points (+3.8%) on Monday. Nixon's controls were politically popular, with 75% approval rates, but Nixon's moves proved disastrous. Since then, the dollar has lost 98% of its value in gold terms, as gold rose 4,671%, from $35 per ounce to $1670 this week.
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30 years ago, on August 3, 1981, Reaganomics hit America with a double-barreled shotgun blast. First, over 13,000 Air Traffic Controllers went on strike, so Reagan fired them. Then, in the face of double-digit inflation and unemployment - in the only real "double-dip recession" in the postwar era - President Reagan cut taxes and fired up a major economic and market recovery the next year. The press was highly critical of the tax cut and strike-busting moves, but they worked.
- 20 years ago, on August 19, 1991, we saw the last gasp of the 45-year Cold War, as eight senior "hard-liners" in the Soviet government staged a coup against Mikhail Gorbachev, whom they detained under house arrest. They sent troops to take over Moscow, Leningrad, and the Baltics, but they forgot to arrest Russian President Boris Yeltsin, who began to rally opposition at the Parliament Building. The Dow fell sharply on the near-coup, but it turned out to be a non-event.
Most importantly, the market just kept rising through all of these previous crises. Since the Berlin Wall was built 50 years ago, the market is up 1781% (through August 3, 2010). Since Nixon closed the gold window in 1971, the S&P is up 1227%. Since the worst recession since 1938, the market is up 869%.
In markets like these, it helps to gain a little historical perspective. As always we learn that "this, too, shall pass," even though today's market feels like perhaps we're passing a kidney stone!
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