Rosenberg On Reality Vs Propaganda, A Realistic Outlook, And Capital Allocation

Some terrific insight from Rosie on the future:


  • Deflation: own income-generating securities, which include dividend yield and dividend growth.
  • Corporate balance sheet strength and liquidity: own corporate bonds with liquidity, marginal refinancing needs and stable cash flows.
  • Intense volatility: invest in classic hedge funds — true long-short strategies that preserve capital and minimize fluctuations in the portfolio.
  • Ongoing sovereign credit concerns and recurring rounds of currency depreciation: ensure the portfolio has a core holding in precious metals (gold and silver). These are effective hedges against lingering concerns over the stability of the global monetary system.

I realize that I am viewed as a perma-bear, but it’s my forecast that is bearish, not my personality. I’m bullish on my kids. I'm bullish on my friends — the few I have. I'm bullish on the New York Yankees — please don’t hold it against me. And I'm bullish on my firm. Look — if I really believed that cash was where investors should be, I’d be working at a bank, not a wealth management firm.

... On the present:

Double-dip risks in the U.S. have risen substantially in the past two months. While the “back end” of the economy is still performing well, as we saw in the May industrial production report, this lags the cycle. The “front end” leads the cycle and by that we mean the key guts of final sales — the consumer and housing.

We have already endured two soft retail sales reports in a row and now the weekly chain-store data for June are pointing to subpar activity. The housing sector is going back into the tank — there is no question about it. Bank credit is back in freefall. The recovery in consumer sentiment leaves it at levels that in the past were consistent with outright recessions. By our estimates, the diffusion index on the Conference Board’s leading economic indicator (LEI) in May came in at a disconcerting 40% for the second month in a row. Jobless claims are one of the 10 components of the LEI and last year’s improvement not only stalled out completely, but at around 460k is consistent with stagnant to negative jobs growth. And exports, which had been a lynchpin in the past year, will feel the double-whammy from the strength in the U.S. dollar and the spreading problems overseas.

Spanish banks cannot get funding and another Chinese bank regulator has warned in the past 24 hours of the growing risks from the country’s credit excesses. A disorderly unwinding of China's credit and property bubble may well be the principal global macro risk for the remainder of the year.

Another key source of uncertainty over the economic, financial and indeed the political outlook is this uncontrollable oil spill. Geopolitical risks are extremely high -- and it’s more about Turkey and its eastward move that is now most unsettling. What was interesting yesterday was to hear BoC Governor Carney strike a more balanced tone — all of a sudden, more rate hikes in Canada aren’t such a sure thing (see more below).

That the equity market has been able to digest this news seems impressive on the surface. But remember, it’s the same stock market that was hitting new highs well into the fall of 2008, even after the onset of home price deflation, the shutdown of New Century Financial, and the collapse of two Bear Stearns hedge funds. Just because George Chuvalo lasted 10 rounds against Ali and his punishing left hook did not mean he won the fight (or avoided a stint at the hospital).

And on capital allocation:

As we said yesterday, 2009 was the anomaly in that junk low-quality surge off the lows. This is the year of SIRP — safety and income at a reasonable price. Long bonds have generated an annualized 20% return and corporate credit has generated high single digit returns (U.S. figures). Equities are flat with a tremendous amount of volatility to boot. Moreover, while portfolio managers, flash traders, prop desks and hedge fund types have been buying and selling (ostensibly to each other — do we have to dust off the Pig Farmer story again?), the general investing public (you know — the ones with the savings that ultimately determine where funds will be allocated) is still focussed squarely on the fixed-income market. This deserves a dissertation from the school of behavioural economics.

The median age of the 78 million boomers is 54 going on 55 and even after two bubbles bursting less than a decade apart, this cohort still have 55% of the asset base in equities and real estate and a mere 6% in bonds. And, it is the latter piece of the pie that is expanding the most and will be expanding the most in the future as demographic, deflation and deflationary realities — investing in 3D — make it imperative for the wide swath of aging boomers to focus less on capital appreciation strategies and focus more on capital preservation stories. Income is king and the proletariat have already figured it out despite Wall Street research houses still advocating the equity market even though the S&P 500 has generated no return but plenty of heartburn for 12 years now; the hallmark of a secular or primary bear market: rent the rallies, don’t own them.

Indeed, this seems to be the strategy among those whose savings inevitably set the market price for assets and securities. As a microcosm for what has gone on now for a good 15 months, the Investment Company Institute (ICI) data for last week showed net mutual fund inflows of $2.1 billion — great news for our industry! But guess what? All the inflows and then some — $4.7 billion — were in fixed-income of some sort. Equity funds posted net outflow of over $2.9 billion — in just one week. Another $220 million were put into hybrids — what we call “bonds in drag.”

Bonds may be boring, but they do pay interest, are more capital secure, and they mature! In a deleveraging cycle, boring can be rather sexy!

As a sign for how the elite still cannot wrap it around their head that we are still in the throes of a secular bull market in “income”, have a look at Treasury Bonds Defy Expectations in the FT (our expectations certainly have not been defied, that much we assure you).

All from the usual source, Gluskin Sheff