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Portfolio strategy update The Double Edged Sword David Gottstein
Editor’s note: The following column was compiled in early May. David Gottstein is with Dynamic Research Group in Anchorage. Earnings are in a slump, unemployment is on the rise and there is no real visibility on where the next growth cycle is going to come from. And, all of this is happening in an environment where the bubble has already burst.
However, the market has been showing signs of strength as of late. What is going on here?
We think you have to go back to the election of George Bush as president. Not on G.W.’s watch It appears to us that G.W. and A.G.(Alan Greenspan) have romanced each other. Alan is blamed for ruining his father’s re-election with tight monetary policies and has promised that he will be a member of the team and not repeat his previous mistakes. This means not allowing the country to fall into a recession on G.W.’s watch.
So, Greenspan has turned on the faucet with lowered interest rates, and a big build-up in money supply, the fuel of the economy.
The problem is, that the Fed and the country have already created a problem with loose monetary policies helping to fuel the bubble in the stock market and other excesses in the first place.
So, we are starting to add fuel to the fire, by throwing more money at the problem. And you know, it will probably work.
By this, I mean it will potentially minimize the impact and size of job losses. However, that means lower profits and personal income, along with stable to slow economic growth ahead of us at best. We have too many otherwise heightened expectations and excesses to work off.
Europe isn’t helping, and neither is Latin America. Japan is now just changing leadership that could start to turn things around, in a year or two, and then there is China.
So, we have an uphill battle to overcome in terms of any meaningful profit growth. Even working past this slowdown over a five-year horizon, we see a below average 7-8 percent profit growth in S&P earnings as being more, rather than less, likely as compared to higher growth targets.
UPS recently announced it is posturing for a sustained slowdown. It is positioned as one of the direct pulses on the economy. There’s the “E” side of the pricing equation. Fed can’t keep rates down We think the multiple side of the equation is where there is more cause for concern. Sure, the Fed can bring short-term rates down a notch or two more, but it isn’t obvious that they will be as successful in the long run.
Therefore, the Fed’s influence directly on raising price earnings multiples from this point forward will likely be limited.
In addition, expectations have changed so dramatically that the ratio of growth rates to PE ratios has abated as well. The real bear is that we are creating a bubble of money, and even though people have talked about it for years, with no impact yet felt, we believe the environment for inflation is higher now than has been the case for a long time.
With OPEC able to keep oil prices high, we also have that going against us as well.
We simply won’t have the economic and productivity growth to save us this time. The good news The good news, however, is that America continues to be productive and continues to grow more so. We have an amazing capacity to move forward in economic terms, in spite of the many obstacles.
Once we work past these other problems, we should be able to sustain a healthy growth track again. We won’t get back to the high flying days we saw in the ‘90s any time soon, but there is the prospect for profit growth, however limited, even moving forward from here.
We are just not through the down cycle yet.
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