Monday, July 7, 2008

Secular Bear

This time it's always different. Mark Twain has been credited with the oft used quote, "History does not repeat itself, but it rhymes," and I find the rhymes are often elegantly penned in technical charts of market behavior.

Each market has its own traits and causes. Each bear market has its unique seeds whether external forces such as soaring energy prices, irrational exuberance or misguided monetary policy. What rhymes however, are the human behavioral responses to stress and uncertainty.

The relatively new academic pursuit of behavioral economics has focused on the individual's reaction to economic and financial stimulus, why we make the decisions, and often mistakes, that we do. The collective decisions made by the many create the results of the whole. The stock market is no different and is a macro version of the actions of the millions of individuals.


The current trend is as of yet very short lived. Markets act much like Newtonian physics and the law of inertia. The tendency of a body in motion to remain in motion applies to market behavior as well. Until we see a more prolonged bottoming process there is little prospect of a V shaped recovery. The stresses that have created the rush out of the market need to be absorbed and repriced.

The remarkable bear market of 2000 to 2002 was the result of excess capital investment and speculative equity valuations. In July of 2002 corporate earnings were flat on their back, price/earnings ratios were infinite and valuations to balance sheets reached very attractive levels. I recall many companies that summer valued at less than their cash because there was fear of collapsing business models. It took two years to squeeze out the greed and hope of the 1990's. Today we are barely one year into the current correction of excesses.


The consumer sector is by far the largest driving force in the U.S. economy and clearly back on its heels. Consumer sentiment is falling steadily, unemployment rising slowly but steadily, wealth perception has taken a hit with falling home and investment values and the cost of necessities is inflating at a rate unseen in a generation. Until housing values stabilize and credit conditions loosen once again the investment markets will remain discomforting. I expect that will not occur until 2009.

In a period of change the dangers become evident long before the opportunities. For now, it remains a market of obvious danger and less apparent opportunity.

John F. Barnyak