Most of the news from Washington should be scary to investors. The federal government is expanding at about the same pace that it did during World War II and running huge deficits. Nobody has a credible story for how the debts being accumulated now are going to be repaid. Ridiculous promises are being made to public employee unions, pensioners, Social Security recipients, Medicare patients and providers, and, through health care reform, everyone else in the U.S. Yet the stock market is climbing. How is this possible? Let’s consider one result of the government promising things that it has no way to pay for: some percentage of people won’t believe the promise.
Looking at the numbers for Medicare and Social Security, for example, a citizen might believe that the age of eligibility for both programs will be increased and benefits reduced. He or she would act on that belief by saving more money now against the day when Congress reneges on all of the current promises. Where can he put those savings and get some protection against inflation, the collapse of the dollar against foreign currencies, as well as the promise of a bit of a return? The stock market. The more recklessly the U.S. government behaves, the more comforting will be an ownership stake in a multinational company such as Intel or GE.
This is a reformulation of the standard observation that people in countries with untrustworthy economies and/or governments tend to save more.
[Of course, I recognize that perceived recklessness by the U.S. government may have some negative consequences for the market as well, but this posting is to point out one positive factor. A reckless U.S. government would provide an even bigger boost to foreign stocks and bonds, which I believe have also been doing quite well lately.]
Disagree… the stock market is not a “safe haven” in this regard. Consider that GE or Intel, while currently on top might one day lose their edge. Those names may have been GM or PanAm decades ago, you’d sure be sorry owning X shares of them now ::pulls out worthless PanAm share certificate bought in the 70s:: You’re advocating stock picking, a risky endeavor. And elsewhere I believe I’ve read you shun buying the index and mutual funds for other reasons.
It’s hard for companies to stay on top of the fast moving pricing changes brought about by an unstable monetary unit (i.e. the USD), which makes missteps by even well established players more likely to impact their competitiveness. An unstable currency is extremely bad, and will be the result of unchecked “printing” by our government as we’ve been seeing.
I don’t think the money managers who move the markets are thinking on such a strategic, long term time frame as you’re arguing either. It’s more likely what we’re seeing is:
1. performance chasing by fund managers who lost a lot of business over the past year and have no other choice or they’ll lose their jobs
2. high frequency trading and algorithmic program trading passing back and forth shares and comprising most of the volume making money by scalping honest trades and inflating prices
3. big banks using low interest loans from the .gov to speculate with other peoples money (deposits etc) to help their balance sheets via trading desk profits
4. “moral hazard”
Your ideas sound interesting until you consider that Treasury bonds have outperformed both equities and bonds over the past decade.
OK, so Joe Investor is “saving more money[in the stock market] now against the day when Congress reneges on all of the current promises” If the Joe doesn’t believe the government’s promises, surely he’s thought about taxes and what role would taxes, specifically the potential for substantially higher taxes in the future have on putting money into the stock market instead of under the mattress or in another investment like gold, other commodities?
I think you can be pretty confident in the long-term capital gains tax going to 20% and dividends being taxed at ordinary income by 2011 at the latest. Oridnary income tax rate is probably going to increase as well.
besides personal taxes the government could raise taxes by increasing the effective corporate tax rate, or increasing the tax on earnings overseas repatriated to the US. All of these methods transfer corporate wealth from owners (shareholders like Joe Investor) to the state. These future taxes are highly likely to occur before a reduction in handouts and are thus highly likely to substantially reduce his return even if he invests carefully in profitable growing companies which do a lot of business overseas.
Also important is the fact that this rally is occurring during a period of near freefall — down 16% since March — in the value of the US dollar:
http://market-ticker.denninger.net/archives/1611-FedSpeak-Translation-There-Is-No-Recovery.html
Priced in March dollars, the S&P 500 rally is a much less impressive 11%.
I disagree that the stock market is a safe bet. Companies are continuously robbed of all their profits then left to sink by their CEOs and buddies. Who foots the bill? the shareholders.
The safe option would be to bribe your way to the position of CEO or similar, of the biggest company you can attack, then run away with the money. Repeat as necessary.
I don’t understand philk’s comment on the value of the dollar vs. stock market.
The graph on the reference page does not show what the falling value of the dollar is compared against. The dollar only “falls” and “rises” against other currencies. In absolute terms, the value of a dollar falls and rises with the rate of inflation.
According to http://www.usinflationcalculator.com/inflation/current-inflation-rates/ the inflation rate for 2009 is negative. That tells me that a dollar now is worth more, in absolute terms, than it was in January. I may be able to get fewer Euros for my dollars, but should be able to buy more American-made GM giant SUV for my money than 10 months ago.
I think it’s important that you put the phrase ‘some’ protection. Isn’t there an implicit assumption in this that multinational companies are beneficiaries of economies not being “coupled”? So the assumption is that Intel or GE isn’t inextricably linked to the US consumer, as the US economy is decoupled from other economies and hence GE is a safe haven. The assumption would be if the US government reneges, GE’s stock price will be fine as GE’s consumers in China, Europe etc will keep spending so GE will be fine (and will get extra benefit through currency translation as the dollar weakens). It also assumes that GE doesn’t rely much on any US government spending to generate its profits. Yet Time’s take on that seems to show that markets all move together (and being as GE has a beta of not too far off 1 (at least historically) that suggests an high correlation). http://www.time.com/time/business/article/0,8599,1705860,00.html
Though I’m not sure you are actually saying that you think the strategy would work, rather that it would feel ‘comforting’ which I assume is a feeling you can get from simply losing less money that anyone else you know, whilst still losing money. In which case it might work if everyone you know is American. So as only something like 20% of Americans own a passport that might work. http://www.gyford.com/phil/writing/2003/01/31/how_many_america.php