Making Sense of the Stock Market Swings
Posted under: Rollercoasters are fun. At least as long as we’re talking about amusement parks and not 401(k)s. The past three months in the stock market have been surreal ride at times. It’s a heaven for traders but a nightmare for individual investors managing their retirement nest-eggs. In fact, Wall Street and corporate America have done so much to disenchant individual investors that Prudential Financial noted that 44% of Americans will never put money back in the stock market. The current volatility isn’t doing much to change that. These swings of 1-2% up or down on low-to-dismal volume has a lot of pundits wondering why, after an amazing run from March 6, 2009, the market has stagnated in a sideways trend for the past quarter.
Perception of stocks is at an all-time low. Source: Prudential Financial
Bad tech quarter. Market down 0.75%
Bailout news from Europe. Market up 1.4%.
Bad jobs data. Markets down 2.1%
It’s like the S&P ran right back to 1350 and then hit a lead ceiling that it can’t seem to break. There are a lot of theories. Most revolve around some form of trading-the-news. Not that it matters to me, though, since I don’t buy that story. I think the explanation is much simpler, and, unfortunately, much more ominous.
On October 12, 2007, the S&P500 hit its all time high of 1,557 points. This was the height of the economic “boom” of the Bush era. Financial alchemists were busy in the Wallstreet Lab, producing more and more complex derivatives, and the Loan Wizards at your neighborhood bank were supplying the raw materials in the form of ARMs and HELOCs. New properties were being built, old ones were being renovated, and times were good. Confidence in the American dream was at an all-time high.
Skip forward to June 1, 2011. Closing at 1314.55, the S&P500 index endures an intraday thrashing of over 2%. By virtually every measure, our economy has not recovered. Unemployment high, home sales low, consumer confidence low, and the list goes on. Yet somehow, some way, the stock market indexes have found their way to within 15% of their all-time highs. Does that mean the entire decade of the 2000s was just vapor growth? Probably not since we had just come out of a ridiculously large tech bubble that defined “vaporware” in more ways than one. If we consider even some of the growth in the subsequent years to have been “real” economic growth (benefitting Main Street, too, not just Wall Street), then it’s difficult to find the current index market valuations to be anything but complete horses***.
Of course, current valuations incorporate other variables beyond “book value” such as uncertainty risk and growth prospects, so let’s look at it from that angle. There is no doubt that uncertainty regarding the housing market has ebbed significantly since 2007. It has been replaced, however, by serious uncertainty in the solvency of entire countries (Greece, Ireland, Portugal, etc.) and the long-term feasibility of a major world currency, the Euro. This is not a risk to be trifled with. Debt default in one country may destabilize other ones as confidence in the Euro falls. At least in the United States, we have one-country-one-currency. So perhaps the real reason for the spectacular 2 year run in the stock market is the growth prospects.
Let’s see… Where can we grow fast? Cars? Housing? Well, hard to get financing these days, not to mention $4 gas. Maybe agriculture? I’m sure congress wants to give them more subsidies in a deficit scenario like ours. How about technology? Ah, yes. Knowledge Process. All we have to do is make sure our students are the best and the brightest… Oh.
Unless there are some drastic changes in the United States, our growth potential is limited, and I believe that an unconscious knowledge of this is manifesting in the volatility we see in the stock market. We have to generate a serious solution to this problem to be able to move up from here.
Drilling anywhere, cutting everything BUT entitlement programs, “tax cuts for small businesses,” and clicking ones heels three times and chanting, “I’m exceptional!” do not constitute real solutions to this long-term viability problem the United States is facing. We must compete on a global scale now. That means our wages and prices have to come down and our productivity has to go up. We cashed in a century’s worth of investment in a decade, so it’s time to start again.