There is a great deal of very negative sentiment in the market. Even on positive stock market day like today you see articles and interviews like this one from Aaron Task on why we shouldn’t buy into bear market rallies like the one we had today, and in fact why we should stay away from the market all together.
The point of Aaron’s article, is summed-up nicely in the title Don't Buy the 'Stocks Are Cheap' Hype: Weak Earnings May Mean a 'Washout' in '09, is that if next years earnings disappoint investors, the "cheap" P/Es we see today will “prove to be a sucker's bet”.
Don't Buy the 'Stocks Are Cheap' Hype: Weak
Earnings May Mean a 'Washout' in '09
Let me start by saying that I agree that *if* company earnings disappoint investors next year their stock prices may likely see further declines… but, I would also ask… Isn't the opposite also true? If earnings for some of the better companies come in better than the (extremely low) market expectations, isn’t there room for an explosion to the up-side too?
Even in a horrific economic cycle like this one, there are well run companies, with little or no debt, that are also sitting on mountains of cash. For those companies, if they have done a good job of setting market expectations appropriately, there is a tremendous opportunity for an upside surprise come earnings time. Additionally, companies that are utilizing their cash wisely through R&D spending or accessions have the added opportunity to take market share from their less well run competitors.
The 1929 stock market crash signaled the start of the Great Depression. What made the stock market crash?
In the 1920s a long bull market took stock prices higher than ever before. Stocks more than quadrupled in value from 1920 to 1929, and many investors started to believe that stocks were guaranteed growth. As a result those investors borrowed heavily (leveraged themselves) to invest more and more money in the market.
In 1929, the bubble burst and stocks plummeted down a sharp cliff, the stock market crash signaling the start of the Great Depression. In 1932 / 1933, stocks hit rock bottom, a drop of about 80% from the highs of the 1920s. Stock market investor holdings were now worth little (or nothing) so banks were largely unable to collect on loans and to make matters worse the banks themselves had invested depositor money in the stock market. When word go out that the banks' assets contained huge uncollectable loans, there was a run on bank deposits and banks began failing by the hundreds.
Unable to raise capital from the failed banking system companies began to lay-off (fire) workers. The unemployment rate reached well over 10%. There was a massive impact on the economy as demand for goods declined sharply. The US economy spiraled downward.
Starting to sound familiar?..
US Stock Market Posted the Biggest Two-Day Rally Since 1987 on President Elect Obama's announcement of his Economic Team which included the appointment of Timothy Geithner as US Treasury secretary, and on the announcement that the government would guarantee $306 billion in troubled Citigroup assets.
Building confidence back into the market
Obama reiterated the need to move quickly, when introducing his administration's top economic advisers.
"work starts today, because the truth is, we don't have a minute to waste" - Obama
Additionally, he signaled that he may be willing to stave off the taxes increases for the wealthiest 5% of Americans until the economy starts to recover, and urged the creation of another stimulus plan.
"It is my hope that the new Congress will begin work on an aggressive economic recovery plan when they convene in early January so that our administration can hit the ground running" - Obama
Obama's announcement couldn't have been more well received by the Market, and yet some in the media are complaining the President Elect didn't go into enough detail… Give it a rest already! First, he will not even *be* the President until Jan 20, 2009. As he has noted (repeatedly) the US can have "one president at a time" and at *this time* that president is George W. Bush. Second, he is moving *very* quickly in naming his Cabinet and Economic Teams. And Third, the REASON he selected Timothy Geithner (and the rest of his economic team) to be his advisors is so that they could help him flesh out his economic plan, and now that they have been selected they will need some time to do that… But I digress.
With that said, I believe that today's announcements and talk of another stimulus plan are among the first steps in building confidence back into the market. I expect to hear more from the Obama team (and Geithner in particular) in coming weeks further outlining their plans for the economic recovery, and continuing to build that much needed confidence into this beaten down US Stock Market.
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