By any reasonable measure, the past three months have been among the most aggravating quarters on record for the investment markets. The debt ceiling debate, constant dithering in Europe over whether or not Eurozone members should be allowed to default on their sovereign debt, partisan bickering, the downgrade of U.S. government debt, continued unemployment, and a general unsettled feeling about the economic recovery have all combined to put investors in a pessimistic mood. When people are pessimistic about the future, they sell--as they did, steadily and persistently, through what will be remembered as the gloomy summer of 2011. But is the outlook all negative? We would argue that it is not. For example:
- Supply shortages of oil have eased from the start of the year, causing oil prices to drop. This results in more money in the pockets of drivers (to save or pay down debt perhaps).
- Consumers have paid down enormous amounts of debt over the past three years, bringing them in line with where the consumer debt burden has been for the past 30 years.
- Mortgage rates are at historical lows (in the high 3%’s) leaving those who qualify with lower payments and more cash in their pockets.
- Corporate profits and cash levels remain at record high levels (over $2 trillion), making cash available for dividend distributions, share buy-backs, acquisitions, mergers and growth.
With any good news hiding behind headlines about U.S. and European sovereign debt levels, it is hard to predict that the markets will rally decisively. But it is also difficult to bet against a sudden shift in sentiment, especially since there have been so many in the past few years. The wisest investors tend to see the optimistic side of the situation when the markets are the gloomiest, and see the dark clouds gathering when everyone else is enjoying a strong run-up in stocks. Despite what you hear on the financial news channels, nobody really knows how long stocks will remain “on sale” or how long it will take for the global economy to finally sort itself out and begin growing consistently again. We DO know, from past experience, that eventually the economy recovers from even the most severe shocks, and (again, eventually) the markets return to an upward trajectory. History tells us that a recovery is inevitable, and it is likely underway somewhere behind the negative press, partisan bickering, and occasional market panics. When investors figure that out, there will most likely be another bull run and people in that happy time will forget all over again that stocks can go down as well as up. That's when you'll hear our lonely voices talking about downside risks and the advantages of holding sizeable allocations to low volatility assets.
