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Notes to myself, possibly of interest to others.
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Tuesday, January 25, 2011

Rosenberg Daily - The Fundamentals and the Market

Going forward, we will probably end up with a few years of stable to moderately deflating consumer prices once the effects of the latest commodity surge starts to fade. It appears that we are in the process of seeing another down-leg in national home prices. Equities are wildly overbought and may suffer the same fate before long, with all deference to the recent leg-up in valuations. The U.S. unemployment rate is unlikely to come down much, if at all, if real GDP growth does not accelerate beyond 3%. If it couldn’t do it in 2010, then we have no idea why it would be the case in 2011. The only way it could happen would be if productivity were to really tail off.

Exports look vulnerable to the fact that so many countries are waging currency wars and countries that represent half of U.S. shipments sent abroad will either be contracting or slowing down this year. The savings rate is highly unlikely to continue in its latest descent and contribute so much to consumer spending, and contracting real wages will see to it that expenditure growth begins to slow sharply once the effects of the payroll tax cut subsides. There is not only a lack of organic income growth but there is also no bold willingness to borrow in order to fund big-ticket purchases, underscored by the prolonged decline in bank credit to households. The inventory cycle, which contributed to last year’s GDP growth rate, has run its course as stocks have finally moved into balance with final sales. The residential real estate market, with its powerful spin-off influences on consumer confidence and spending, is back on its secular downward trend following a brief period of post-crash stability.
So all of the extreme optimism and bullish sentiment, not only towards the market but also towards the economy, is more than just slightly overdone based on this assessment. It could also very well be emblematic of dangerous complacency. The big story for 2011 is most likely going to be how sound an investment the bond market proves to be, and not just in Treasuries, but also in the municipal market and in the market for high-yielding securities.

Perhaps we end up squeezing another couple of hundred point days out of the Dow. After yesterday’s rally, that goes without saying, but what is the likelihood of seeing closed-end muni bond funds with an 8% yield not generating double digit returns in 2011? With B-rated corporate bonds yielding 7.3% and company balance sheets in their finest shape in five decades, what is the likelihood that sub-investment grade bonds will not deliver either high single-digit or double- digit returns in 2011? After a move in the long bond yield from 3.5% to 4.5%, what are the odds of it not being able to trigger a decent return in 2011? And considering that we have a stock market that has managed to double in a third of the time that it took in the last bear market rally from 2002 to 2007, and in view of the six periods of up-and-down moves of 5% or more last year, what are the odds of classic multi-strategy hedge funds not being able to garner solid risk- adjusted returns in 2011? Finally, what exactly do breakdown in the Baltic Dry Index, the rolling-over of the Shanghai index, and the political upheaval we are likely to see both in fiscally-squeezed Europe and food price-challenged Asia imply for the risk trade in 2011?

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