If you've been monitoring the performance of your heavily stock-weighted 401K and/or IRA plan at all this year then it should be of no surprise to you that the Stock Market is currently mired in a cruel and unusual DownTREND. Below are some 'Random Thoughts of BLOGiance' (RTOB) on why this occurred and, more importantly, what Variables/Indicators (Credit...Jobs...Housing) we need to see Flash 'GREEN' before we can be confident of seeing a fundamental REVERSAL of the DownTREND:* WHAT?
Today's stock market is tied to Housing. Make no mistake about it, the United States' Stock Market Bull Run of 2003-2007 was fueled by an ARTIFICIALLY inflated domestic housing market (a Housing BUBBLE). FYI + If you're not a regular reader of this blog then please click on keyword 'recession' in the 'ETB Archive Keyword REF' on the right to find some posts related to the topic.
* What caused the housing market to be ARTIFICIALLY inflated?
The 'demand' side of the housing price equation (Economics 101 - prices are determined by both supply and demand). Demand for housing was artificially pumped up during the bubble primarily because of the UNPRECEDENTED, Loose lending standards of banks. Exotic loan types including Subprime, Interest Only, Option ARMs, Alt A mortgages, etc. were created by institutional lenders at an UNPRECEDENTED rate and deemed affordable even though their terms were incredibly MISUNDERSTOOD. Many banks approved mortgages for customers without accepting down payments and also without even VERIFYING the INCOMES of homebuyers. Would you ever give $100,000+ to someone whose income you cannot verify?? Would you ever give $100,000+ to someone whose JOB you cannot verify?? STUPIDITY at its finest and most greediest degree.
* Why were banks irresponsibly creating risky mortgage products?
In a hands-OFF Regulatory Environment (thank you good for nothing SEC...thank you ignorant Federal Reserve...thank you incompetent WHITE HOUSE), banks were allowed the room to give into GREED via engaging in absolutely reckless risk (mis)management. From 2003 to 2007, financial institutions were making ridiculous amounts of money from this less than honest practice. Not only were banks making money off of selling the suspect mortgage to a homebuyer, they were also passionately involved in a now nefarious process of 'repackaging' these same mortgages into complex assets/derivatives commonly referred to as 'mortgage-backed assets' (FYI - It is these types of shoddy assets that the U.S. Treasury is now scrambling around to purchase from the country's biggest banks with the recently approved $700 Billion TARP deal). During the boom, 'mortgage backed assets' were produced in UNPRECEDENTED numbers for both residential and commercial loans and became a phenomenal investment for banks and brokers as long as housing prices kept going UP. While the risk is now readily apparent, before the collapse in U.S. real estate prices, these once incorrectly perceived low risk assets were a favorite of banks, hedge funds and institutions of all types as they were yielding as much as 8-12% a year. Banks and brokers alike (including Countrywide Financial, Bear Sterns, Lehman Brothers, Wachovia, Bank of America, Citigroup, etc.) were loading up on these now crippling assets because it provided them a 'sure-fire' way to prop up/inflate their company earnings (profits). Hedge funds loaded up on these assets because their delicious double-digit yields provided them a 'sure-fire' way to outperform the annual returns of their stock market 'benchmarks' (i.e: indices like the S+P 500, Nasdaq, Dow Jones 30, etc.). Enough with the background..
* What needs to happen for the stock market to REVERSE?
TIME
CREDIT needs to stabilize.
TIME
JOBS need to stabilize.
TIME
HOUSING prices need to stabilize.
As mentioned above, the HOUSING boom from 2003-2007 was fueled by incredibly LAX (and sometimes fraudulent) lending standards resulting from the illegitimate, greedy, reckless decision-making of virtually unsupervised banks. During the boom, Joe 'six pack' could get a mortgage without having his income verified and without paying any money down. Those days are OVER. As a result of this subprime-induced mess, the easy credit days are gone. For emphasis' sake, please humor me and allow me to say this again (let it resonAte) - the easy credit days are GONE.
Besides just affecting the ability of Joe to get a mortgage, the now 'polluted' CREDIT markets (polluted because they're clogged with 'bad' assets including the aforementioned mortgage-backed assets) have become FROZEN and are adversely impacting the ability of even LARGE businesses to borrow from banks. Forget the consumer (because that's what banks now appear to be doing re consumer loans for autos, mortgages, tuitions, etc.), banks are also FRIGHTENED to lend these days to other banks and businesses due to the very real fear of 'counter-party risk'. We are still in a perilous time and today's 'Here Today, Gone Tomorrow' business environment (witness the rapid dissolution of former business GIANTS including AIG, Merrill Lynch, Bear Sterns, Lehman Brothers, Wachovia, Fannie Mae, Freddie Mac, etc.), are 'forcing' banks to keep their money to themselves. The White House and Federal Reserve need to do all that they can to diminish counter-party risk and restore confidence back to the financial system and more specifically, the practice of lending.
Once the credit markets are repaired and business activity has at least the CHANCE to resume, we should hopefully see some stability in the jobs market. Why are jobs and job losses CRUCIAL for our stock market ? It's quite simple really...as previously stated in this post, the stock market is currently tied to the performance of the housing market. Unless you're rich, if you want to buy a home then besides needing good credit you also need to have a stable JOB in order to afford the monthly mortgage payments. If the economy keeps losing jobs each month (according to the U.S. Labor Department, the economy has lost over 760,000 jobs thus far in 2008...including a loss of 135,000 in September alone), then the pool of potential homebuyers will continue to shrink. If the homebuyer pool shrinks then so does DEMAND for housing. If Demand for housing continues to fall then so will housing prices. If housing prices continue to fall then so will the STOCK MARKET.
---------------------------------------------------------------------
Lastly, I know I'm omitting some significant details re the ongoing recession (I, much like many others, could write a full blown-out THESIS on this subject including a bunch of great colorful statistics PROVING how dire the situation really is)...but the main purpose of this post is to simplify the explanation and catch people up to speed on the FACT that there are REAL factors driving down the stock market. Most stocks are down dramatically from their highs at the beginning of 2008 but that fact alone IS NOT A REASON TO BUY. The mentality of an opportunistic long term investor during this time should be to allow the downtrend to run its course while waiting patiently with some cash (at least 20-50% CASH makes sense) on the sidelines until the fragile situation with Credit, Jobs and Housing stabilizes.
Without a backdrop of all 3 occurring, stocks will NOT be able to act rationally and more importantly, the market will NOT be able to Reverse its DownTREND.
Be patient as these issues could take months and even YEARS (yes, YEARS) to resolve, depending basically on both 1.) LUCK and 2.) the Effectiveness of our country's Leadership (The President, The Federal Reserve, The dopes at the SEC, Congress, etc). The stock market will ultimately become investible again but the $60 TRILLION question is, how LONG will that take ? ?
While NO ONE including yours truly can tell you with confidence HOW LONG it'll take for the stock market to bottom, the purpose of this post is to inform you about WHAT INDICATORS you need to look out for (CREDIT...JOBS...HOUSING) so that you can identify when the fundamental bottom has occurred + invest accordingly/opportunistically.
Posts
