Rosenberg On Government Sponsored Volatility

In his piece today, Rosenberg analyzes the increasing lumpiness of volatility in the secular market, observing an increasing performance variation as the duration of major market moves is reduced, while the delta from the flatline keeps growing. Ironically this is happening even as implied correlation drifts lower over time. And even as all eagerly await to see just what the financial regulation overhaul will look like, Rosie observes that the market is now experiencing "intense volatility that has been and continues to be nurtured by government policy." As we shift to a market which is backstopped by taxpayers holdings of assets on which even the FASB encouraged informational opacity, one wonders just what is the real value of information that prices now convey?

From Gluskin Sheff's Breakfast with Dave:


We invoked the Shiller normalized P/E ratio yesterday as a great historical benchmark to use in terms of valuation purposes. Using this metric, we found that the S&P 500 enjoyed above-average multiples each month from November 1988 right through to November 2008. Imagine as we mean-revert how long the market will have to trade below historical multiples.

When we go to the bear market, what we see is that the S&P 500 did not move into fair-value until November 2008 — think about that for a minute. The first 13 months and 40% of the bear market merely eliminated the overvalued condition in the stock market. And for the next five months, the S&P 500 was undervalued, having hit a 20% breach at the March lows. By May 2009, however, when the S&P 500 crossed the 900 mark to the upside, the index had managed to move back above the fair-value line where it has stayed ever since — and now a breach of 25% in terms of overvalued terrain. Further to this thought process, have a look at Andy Kessler’s op-ed column on page A23 of the WSJ (Lessons of a Dow Decade).

When we look at the past 12 years, dating back to LTCM and the bailout that ensued, we have endured a 60% rally, followed by a 50% selloff, followed by a 100% rally, followed by a 60% selloff, followed by a 70% rally. The whole way along, the equity market is basically flat for a buy and hold investor.

The point in all this is the intense volatility that has been and continues to be nurtured by government policy. The lesson is that investors will now lose out by going long after a 50% selloff from the high and are unlikely to feel much pain from selling into a 70% rally from the low. All the while, the name of game is to minimize the volatility in the portfolio and embark on strategies that have low correlations to the equity market.

Finally, what is amazing is that equity market bulls are looking for the next leg up to come via improvement in the U.S. labour market. The USA Today runs with an article (page 4B) concluding that “investors need to see a Labor Department report that says employers are creating more jobs than they’re cutting. Until then, investors are going to stay cautious.” This is a truly unbelievable comment considering the S&P 500 has surged 70% in the past year — 10 years of price appreciation lumped into one — even though 3.3 million jobs were lost. Since when has Mr. Market shown that it really has an eye on the labour market? It’s all about a chase for relative yield in a low rate environment — a highly speculative environment, which is why U.S. companies have managed to float a huge $12 billion of new bond supply in each of the past two days; the hunger for yield.