The Developing Bull Market in Complacency - 07/28/09

July 28, 2009

The Developing Bull Market in Complacency
By Doug Kass, The Edge

We have heard and seen this all before.


You've got to accentuate the positive
Eliminate the negative
And latch on to the affirmative
Don't mess with Mister In-Between
You've got to spread joy up to the maximum
Bring gloom down to the minimum
Have faith or pandemonium's
Liable to walk upon the scene.
-- Johnny Mercer, "Accentuate the Positive"
From my perch, the bull market is lulling investors into a false sense of security, as slowly but surely the collective guard of many market participants is being pulled down in the face of the remarkably strong price momentum to the upside for most of the world's stock markets.
The majority of the talking heads are now espousing that ever-familiar glib philosophy popularized by Johnny Mercer of accentuating the positives and eliminating the negatives.
We have heard and seen this all before.
Of course, unlike sentiment (positive and negative), complacency is hard to define and even harder to get our hands around. Complacency is not a "state" identified in surveys, rather it is a condition that, through years of investment experience, we have learned to identify in the actions and mind-set of individual and institutional investors.
As expressed in yesterday's opening missive, the second derivative recovery ("the positive") has now been well-discounted, but the foundation for solid, self-sustaining growth is on a more shaky foundation ("the negative"). Here's why:
1. Cost cuts are a corporate lifeline and so is fiscal stimulus, but both have a defined and limited life.
2. Cost cuts (exacerbated by wage deflation) pose an enduring threat to the consumer, which is still the most significant contributor to domestic growth.
3. The consumer entered the current downcycle exposed and levered to the hilt, and net worths have been damaged and will need to be repaired through higher savings and lower consumption.
4. The credit aftershock will continue to haunt the economy.
5. The effect of the Fed's monetarist experiment and its impact on investing and spending still remain uncertain.
6. While the housing market has stabilized, its recovery will be muted, and there are few growth drivers to replace the important role taken by the real estate markets in the prior upturn.
7. Commercial real estate has only begun to enter a cyclical downturn.
8. While the public works component of public policy is a stimulant, the impact might be more muted than is generally recognized. There may be less than meets the eye as most of the current fiscal policy initiatives represent transfer payments that have a negative multiplier and create work disincentives.
9. Municipalities have historically provided economic stability -- no more.
10. Federal, state and local taxes will be rising as the deficit must eventually be funded, and high-tax health and energy bills also loom.
From a contrarian's viewpoint, the bull market in complacency makes the market increasingly vulnerable to an external and unanticipated surprise and/or from a disappointment to consensus expectations. And from my perch it is only a matter of when the market corrects, not if.
Meanwhile, everyone's getting fat 'cept Papa Kass, and even "Entourage's" Turtle got his blue Ferrari.
Turtle: Why'd you call last night? Jamie Lynn Sigler: My therapist says I'm attracted to losers. Turtle: Lucky me!