Archive - May 5, 2012 - Story

While most will be following what appears to be an almost certain Hollande victory in the French presidential runoff elections tomorrow (InTrade odds around 10%), it is very likely that the Greek election will have a greater acute impact on the political and financial facade of Europe, especially in the short term. As we noted in what we dubbed our first (of many) Greek election previews, the biggest problem facing the new political regime will be its near certain inability to form a coalition government (with just 32.6% of the vote going to PASOK and New Democracy)  that does not undo most of what has been achieved through popular sweat and tears over the past 2 years to assist Europe's bankers in transferring what little Greek wealth remains to fund the insolvent European bank balance sheets. This in turn could begin the latest cascading contagion waterfall, which coupled with an anti-austerity drive emanating from a newly socialist France will threaten to topple Angela Merkel's carefully constructed European hegemony.

Stocks are currently priced for a 10% growth rate which makes bonds a safer investment in the current environment which cannot deliver 10% rates of returns. We are no longer in the era of capital appreciation and growth. The “baby boomers” are driving the demand for income which will keep pressure on finding yield which in turn reduces buying pressure on stocks. This is why even with the current stock market rally since the 2009 lows - equity funds have seen continual outflows. The “Capital Preservation” crowd will continue to grow relative to the “Capital Appreciation” crowd.... According to the recent McKinsey study the debt deleveraging cycles, in normal historical recessionary cycles, lasted on average six to seven years, with total debt as a percentage of GDP declining by roughly 25 percent. More importantly, while GDP contracted in the initial years of the deleveraging cycle it rebounded in the later years.

The trouble is that war is a great excuse for weapons contractors to make lots of money, and weapons contractors happily fund war-mongering politicians into power. That’s the self-perpetuating military industrial complex. So the problem then lies in differentiating the necessary actions from the unnecessary. I propose a simple heuristic for this purpose, one that if introduced would also render the war-mongering politician — the Congressman who votes to authorise, or the President who signs the authorisation into law — personally responsible:

If you start a war, you have to fight. If you cannot fight, then your nearest fit relative has to fight.

Charlie Munger: "gold is a great thing to sew onto your garments if you're a Jewish family in Vienna in 1939 but civilized people don't buy gold"

...and yet:

David Einhorn: "I will keep a substantial long exposure to gold -- which serves as a Jelly Donut antidote for my portfolio. While I'd love for our leaders to adopt sensible policies that would reduce the tail risks so that I could sell our gold, one nice thing about gold is that it doesn't even have quarterly conference calls

Kyle Bass: "Buying Gold Is Just Buying A Put Against The Idiocy Of The Political Cycle. It's That Simple!"

The uncivilized people have spoken, and the winner is...

While Charlie Munger has so far to comment on the 24K content of made in the basement tribalware, he and his partner have made quite a few other statements on items ranging far and wide, during the annual Berkshire Omaha convention, which year after year represents the annual pilgrimage for thousands to a crony capitalist Mecca, and which with the passage of time, has become increasingly more irrelevant. Why? Because with a $58 billion bet (on $37.8 billion in cash and equivalents) that asset prices will go higher, it is rather clear on what side of the 'bail out' argument, and its 'all in' fallback: central planning, Warren Buffett sits. 

If history has taught one certain lesson, it is that the less fettered an economy, the better humankind is able to do what it does best: run from trouble and run toward opportunity. In this way mistakes are quickly resolved and progress assured. Conversely, the deeper the muck of regulation, mandates, taxes, subsidies and other bureaucratic meddling, the slower we humans are in following our natural instincts until the point that progress is slowed or even stopped. It is said that history doesn't repeat itself, but it often rhymes. In the current circumstances, it appears that enough time has passed that current generations have completely forgotten the critical connection between the ability of humans to freely pursue their aspirations and economic progress. You can see this ignorance in the popular demand for even more, not less, meddling in the affairs of humankind. Should this trend continue – and for reasons I will touch on momentarily, I firmly believe it will – then the aspirations of the productive minority will soon be dampened by ever higher taxes and other attempts to "level the playing field" and the global economy, already in tatters, will fall off the edge. There is no more timely nor acute example of this growing trend than what is currently going on in France. I refer, of course, to the first round of the presidential election process, scheduled for this weekend.

Europe is about to begin its "Audacity of Hope" moment.  I'm not sure how markets will react on Monday to the various results.  My best guess is that after an initial sell-off we see a rebound.  European politicians will start to say the "right" things about working with the new governments.  "Growth" will be the most commonly used word.  Equities “LOVE” growth. If there is one thing equity markets love, it is the talk of growth, stimulus, of more money being spent. .. Why is everyone so willing to believe Europe can achieve growth?  Let's assume that no one ever tried for growth before (though seriously, most policies implement in past 15 years had growth as at least part of the rationale).  What experience does Hollande have in creating growth?  If growth opportunities are so easy to spot and identity why do we pay 2 and 20 to hedge funds and private equity?... That is the harsh reality.  Identifying opportunities just isn't that easy.  Figuring out what projects will generate returns that pay for themselves is difficult.  A political body with many competing agendas is hardly likely to do better than companies whose whole goal is to find growth opportunities.  Corporations have no shortage of cash right now, they have a shortage of growth ideas. .. "Growth" which is really just code for spending, will be a failure.  The credit markets will see it sooner than equities, but equities will eventually see it too.  Saying you are going to become an actress is really easy.  Moving to L.A. in an effort to become an actress is a bit more difficult but still relatively easy.  Becoming an actress is really hard!  Growth won't buy years.  It might not even buy months. Like so much else through the entire crisis, the markets are willing to suspend their disbelief on the back of attractive headlines.  In the end, the actual plans disappoint.  Not because the politicians aren't good at making plans, but because the original announcements never had a chance of being implement and the suspension of disbelief (or critical thinking) was the market's real mistake.

With earnings season now virtually over, it is time to ask why, despite a majority of the companies beating expectations, is the S&P inline with where it was when earnings season started. There are two main reasons why the market has not been impressed: the percentage of "beaters" is nothing spectacular on a historical basis as was shown previously, especially in the aftermath of aggressive cuts to Q1 top and bottom line forecasts heading into earnings reports; more importantly, even with Q1 earning coming out as they did, the bulk of the legwork still remains in the "hockeystick" boost to the bottom line that is completely Q4 2012 loaded, as bottom up consensus revisions to the rest of 2012 are negative despite Q1 beats. As Goldman summarizes: "1Q 2012 will establish a new earnings peak of $98 on a trailing-four-quarter basis. With 88% of S&P 500 market cap reported, 1Q EPS is tracking at $24.10, 1% above consensus estimates at the start of reporting season and reflecting 7% year/year growth." So far, so good. And yet, "Despite the positive surprises, full-year 2012 EPS estimates are unchanged relative to the start of earnings season, and currently stand at $105 vs. our top-down forecast of $100. Over half of consensus 2012 earnings growth is attributed to 4Q. Margins at 8.8% have hovered near peak levels for a year, but consensus expects a sudden jump in 4Q to a new peak of 9.1%. We forecast a further decline to 8.7%."