Economic Outlook The economic outlook remains weak. Here are the fac-tors that concern me the most (in no special order):
Housing: The Case/Shiller index of property values fell4.5% from a year ago. On the bright side, the figuresfrom a year ago were inflated by special tax credits for new home buyers and the index has been relativelystable over the last 3 months. Regardless, the underly-ing problems remain with too much housing stock andtoo few willing and able buyers. Since Americansmeasure their wealth, in part, on the value of their homes, consumer confidence remains under pressure.And until the housing problem is resolved, our con-sumer led economy will struggle.
Employment: Forget the unemployment rate. Thelabor force participation rate and the employment topopulation ratio dropped to their lowest levels since
the early 1980’s. And long term unemployment,
which has reached new heights, will exacerbate theemployment picture and economic well-being for mil-lions of Americans for years to come.
European debt: The sovereign and bank debt crisis inEurope threatens the entire financial world. Funda-mentally, according to those I read, there are onlythree ways out of the mess: currency devaluation and/or debt restructuring and/or severe public austerity.Since none of these approaches are politically palat-able at the moment, the crisis persists. But there is alimit to how long this can go on.
American debt: The U.S. also has its debt issues, bothpublic and private. Aside from currency devaluation which has its own set of issues, America is dealing withthe problem through public and private austerity anddeleveraging. While this is an effective way to deal with the debt, it exacerbates the employment problemand depresses economic growth. If a more creative
solution isn’t found, the so
called ―muddle through‖
economy is the best we can hope for for many years tocome.
Political deadlock: Focusing on the U.S., the funda-mental disagreement over the role and ability of gov-ernment to resolve the economic malaise (primarilyunemployment) has, so far at least, become a self-fulfilling prophecy. At the risk of over-simplification,one side feels the need for substantial governmentstimulus while the other side feels the need for re-duced government intervention and greater relianceon the private sector to do its thing. While both pointsof view have merit, neither can get off the ground onaccount of an unwillingness to compromise. Over thenext few weeks and months, Congress and the Admini-stration will have one last opportunity to deal with theproblem before the 2012 election. From what I cansee, there is little evidence to point to that suggeststhis opportunity will be seized upon.
Meanwhile, from an investor’s perspective, the news isn’t
all bad. Since equity values are fundamentally based onthe current and perceived future financial success of com-panies, as long as corporate profits remain strong, despitethese other factors, equity markets will thrive. As it hap-pens, S&P 500 earnings per share and adjusted after-taxcorporate profits as a percent of GDP are at pre-recession levels, probably owing to the globalization of business and the productivity that derives from a greater reliance on capital than labor (lowered employment).
Stock Market Commentary
Lane Asset Management
This correlates highly with equity values. The bigquestion is whether the economic headwinds inthe developed economies will overwhelm corpora-
tions’ ability to keep profits high.
Investment Outlook Long term investors might conclude that the cur-rent market slump presents a buying opportunity,and they may be right. That said, I would pointout that many long term investors in 1998 wouldfind that their investments had not changed in
value over the last 13 years. Of course, that’s not
true for all equities, but finding long term winnersin a diversified portfolio is not easy. To wit, Invest-ment News reports that only 13% of mutual fundsbeat their benchmarks so far in 2011.Unless you can stand the volatility, I would be verycareful about adding equity exposure at this pointin time. My current suggestions are: basically thesame as last month:
High quality, dividend paying common or pre-ferred stocks
High grade corporate and government globalbond funds, especially U.S. TIPs (inflation-protected Treasuries)
Gold (see pages 3 and 4)
For taxable accounts, municipal bond funds.Given the extreme economic uncertainty andmarket volatility, I no longer recommend coveredcalls.