Current Market Psyche Creates A Good Buying Opportunity
One of the most debilitating forms of human emotion isn’t anger, fear or sadness, it is apathy. Apathy can be defined by an “I don’t care” attitude, an indifference to events and the world around them. Helen Keller once said: “We may have found a cure for most evils; but we have found no remedy for the worst of them all, the apathy of human beings.”
Over the past few years, an onslaught of onerous regulations, market volatility and a lack of political leadership has pushed investor apathy to new highs.
Many of the new, “one size fits all” regulations are poorly thought out and haven’t received sufficient cost-benefit analysis. I’ve been discussing this theme for several years and now it’s on the cover of The Economist magazine this week. From the Patriot Act to Sarbanes-Oxley to Dodd-Frank, it appears we have wrapped a suffocating amount of red tape around American business over the past decade, according to the magazine.
Even with good intentions—we need checks in place to prevent the next Enron or Bernie Madoff—the faulty design of some regulations has resulted in several unintended consequences. Money is the lifeblood of the American economy. A healthy economy is dependent on money flowing freely. Business, like life, needs to cycle and circulate, or it declines. However, the cost of compliance, in terms of dollars, time and resources, has clogged the arteries of American enterprise. Excessive regulation is an injection of cholesterol when the economy needs a dose of Lipitor to heal and grow stronger.
The Economist uses the Volcker Rule as an example of unhealthy regulation. The rule, which is intended to limit proprietary trading by banks, includes more than 1,400 questions banks must answer in order to verify compliance. This means that it would take one full year to assure compliance if a firm answered 27 of these questions (four a day) each week. Instead of beefing up business, finance and research & development (R&D) departments, business leaders are hesitant to commit capital because of uncertainty about how much they’ll need to allocate toward compliance.
If burdensome regulations are the bad cholesterol in the system, then tax breaks have acted as a stent, keeping the economy alive. Removing these stents and raising taxes could spell cardiac arrest for the recovery.
Business owners aren’t the only ones feeling out of sorts; uncertainty surrounding economic policy has dispirited the general public. According to a recent Barron’s article, an index measuring economic-policy uncertainty from Stanford and the University of Chicago jumped to an all-time high toward the end of last year.
Investors need hope and a vision of cooperation and building together. This is what we experienced during the 1990s when President Clinton streamlined and deregulated industries such as telecommunications and financial services. Add in the Internet, a public gateway to the world, and you had an economy that boomed.
Today, a lack of faith and trust has driven investors to the sidelines and halted the flow of capital in the U.S. According to the Investment Company Institute (ICI), investors pulled more than $130 billion from equity mutual funds during 2011. This represents the second-largest withdrawal of funds in the past 25 years and is four times the amount withdrawn in 2010. The Barron’s article cites an Investment News survey that found just 43.6 percent of financial advisors planned to increase their stock allocations in 2012.
The article offers a solution: The Economist says “rules need to be much simpler” because “all-purpose instruction manuals” get lost in an “ocean of verbiage.” I agree. What makes the U.S. special is our entrepreneurial spirit, and we must adopt policies that promote prosperity and efficiency in order to empower the world’s most innovative companies.
This discussion is not intended to condemn either political party or claim that all regulation is bad. Business, just like sports, needs rational refereeing in order to ensure a fair game is played. However, we need to be careful that we don’t put more referees on the court than players.
Just like you wouldn’t spend a day on the golf course without sunblock, investors need to protect themselves. Think of these observations as your sunblock and don’t step foot into global markets without it.
Now that you’ve got some sunblock on, it’s time to go searching for rays of sunshine in the marketplace. All great bull markets climb a wall of worry and one of today’s brightest spots is the “American Dream Trade,” which can be found in emerging economies. Designed to inject liquidity into the system and stimulate economic growth, a global liquidity boom that began in December has initiated the resurgence of markets around the globe. In total, 77 countries have instituted stimulative measures since late last year. With per capita GDP increasing and local markets rising, it is shaping up to look like a strong year for natural resources.
A second driver could be the recent improvement in investor attitudes, which can have a significant effect on market performance. Back in early October, we discussed how Citigroup’s Panic/Euphoria model, which measures a combination of nine facets of investor beliefs and fund managers’ actions, had been stuck in panic mode for months.
This was a signal to us that market sentiment was destined to improve and lift share prices with it. Since then, the S&P 500 has jumped 18 percent and is currently at levels not seen since before the credit crisis. Small caps have felt an even greater lift, rising 26 percent over the same time period.
One of the reasons money has found its way back to the market is that low interest rates and a bubble in bonds have upped the attractiveness of equities relative to other asset classes. In fact, many large-cap equities come with a higher yield. Currently, 222 companies (roughly 44 percent) of the S&P 500 are paying dividends at an annualized rate of at least 2 percent. This is greater than the yield on a 10-year government note. This means that investors can wait for the growth, while receiving the income.
Overall, it looks like the market’s dark clouds are lifting and we could be in for a period of sunny skies in the months ahead.