Tuesday, October 28, 2008

But Wait, There's Still a Rally Coming...

The long term outlook for the US economy and US markets will continue to suffer from the effects of deleveraging. This process will take some quarters more to clear up, with the prospect of slow, debt starved growth ahead. However, there's always an opportunity for good technical trades. Moreover, we always have to listen when Buffet, Grantham and other wise, successful long term investors say it's time to take a look on the buy side. And they are saying values look good now (yesterday, 10% ago...).

I haven't the time or inclination to do much bottoms up research and my own perspective continues to be negative for stocks in the next 12 months - lower lows are coming. Schiller and other academics that produce solid long term models suggest we are finally back to fair value and bear market lows bottom between 40% and 60% below fair value. We have not reached this longer term level of capitulation, but maybe we have reached a short term technical bottom. Often derided but always followed technical measures such as Dow Theory and Lowry's suggest an improving outlook for the first time in a long while.

With the final unwind of the carry trade, the uncertainty of trade addling, business ruining credit limits, and massive near term redemptions, trades are happening on time not price. "Get me out!! at what price?? Now!!". This panic selling will surely end, bond/equity re balancing will happen quickly and shorts will cover. Credit flows are slowly beginning to resume, CDS spreads and money market spreads are shrinking modestly and the US fed investments are rolling out. The bad asset purchases will begin in the coming weeks and housing inventory will continue to accelerate the great closeout sale.

How far will we bounce? Surely beyond the last top in October, maybe 10500 on the Dow and 1150 on the S&P. The job at hand is to look for positives in the markets that suggest reasons for optimism. I continue to think they could include a solid bounce off of the historic lows in consumer confidence, the election, a bounce in retail, a fiscal stimulus and lower oil prices. These last two could equal over $400b in benefits, or 2-3% in GDP growth alone. We could even benefit from the temporary suspension of Mark to Market accounting for banks, suspending the nasty write off announcements.

Maybe of greatest interest is the potential for a bigger Asia bounce. China, India and friends are not saddled with the rotting corpse of poorly originated credit in their economic systems. They will suffer greatly from the worldwide slowdown, with corporate profits decimated by the coming massive overcapacity of their industries. But then these markets are down 40, 50, 60%, have the best growth prospects coming out of this global deleveraging cycle (no decouple on the way in, maybe on the way out...), and balance sheets all around are sound. This could be the superball bounce compared to the kickball bounce of the developed markets. Again, just a trade.


Post a Comment

<< Home