Why Is Everyone So Jumpy?

From the Desk of Joe Rollins

As I’ve said before, the general public’s fearfulness that the economy is falling back into recession is baffling. I have seen no economic evidence to support that fear, and why the anxiety continues accelerating is a mystery to me. In fact, there is overwhelmingly good news about the economy. Clearly, investor anxiety is running amok.

In a recent New York Times blog post, "The Recession Has (Officially) Ended," it was stated that a vast majority of U.S. investors have abandoned investing altogether. I suppose that just goes to show that small investors tend to do exactly the wrong thing – invest when the market is at a high, stick around long enough for their portfolios to go down, sell out at the bottom and then never reinvest. Small investors who have not reinvested since March of 2009 have missed a cool 85% increase in the stock market.

Through Thursday, October 14, 2010, the S&P 500 Index was up 6.8%. Through the same time frame, Rollins Financial’s total portfolio under management is up an even more impressive 9.84%. Therefore, through the first 10 and a half months of 2010, our managed accounts are outperforming the S&P 500 by approximately 44%.

If asked how the stock market has been doing for 2010, most people would likely tell you that it continues to lose money. My guess is that these are small investors, and as I stated above, they are usually wrong.

The following are some positive attributes for the stock market going forward:

• First and foremost, it was recently announced that the recession ended in June of 2009, almost 15 months ago.
• Interest rates are extraordinarily low. Furthermore, the 30-year home mortgage interest rate has fallen to its lowest level ever. Earlier this week, you could obtain a 30-year fixed mortgage at a rate of 4.18%. Long-term interest rates have never been this low in the history of the United States. If you have not refinanced your mortgage to get this low rate, you are giving up one of the greatest all-time government subsidies.
• Even though we’re in the early stages of reporting earnings for the 3rd quarter of 2010, the earnings that have been reported are nothing short of breathtaking. Corporate earnings will be the highest ever recorded in American finance next quarter. Why? Because corporate America is operating more efficiently with less overhead and less administrative costs than in its entire history.
• Corporate America is sitting on a cash balance of nearly $1.8 trillion. When business finally improves, you may rest assured that corporate America will allocate these assets to higher earning investments. Corporate America cannot sit on this high level of cash balances when it earns next to nothing. Corporate America will soon use this cash to buy other companies or make investments that pay many times the rate of cash. The only thing necessary for these businesses to allocate capital is to develop some level of confidence.
• U.S. investors are saving and paying down debt at unprecedented levels. The American consumer is finally deleveraging himself. For the first time in over a decade, American consumers are saving more and using their significant cash flow to pay down debt. While these actions are a short-term drain on investing, they are very much a long-term positive for the American consumer. Even this morning, retail sales for September reported a strong 0.6%. August retail sales have been revised up to 0.7%. Retail sales would not be increasing unless the consumer was starting to feel a little more confident about their job situation.
• It was announced this week that the infamous Troubled Asset Relief Program (TARP) could potentially make money. It’s currently projected to lose about $18 million, but if the car companies are able to complete an initial public offering, there is a chance the TARP will show a profit. You may recall that when the $787 billion TARP was proposed, it was considered to be a complete waste of money that would be totally lost by the U.S. government. There weren’t many who thought it would ever break even, but I am one of the few who did believe that investing in American banks would be profitable. Don’t believe me? Read my September 24, 2008 blog - "This is Not a Bailout!" It’s rewarding to be proven correct when so many economists argued that the entire amount would be lost and wouldn’t help the economy anyway.
• The Federal Reserve Bank of New York released its Empire State Manufacturing Survey this morning. It was expected to be in the 3% to 6% range, but came in at the breathtaking rate at 15.73%.
• In recent weeks, the U.S. dollar has fallen off a cliff and gone down in value. While that may sound like a negative, it’s actually very much a positive. When the dollar is low, U.S. companies compete in international commerce by exporting more. As we manufacture to export more, this creates jobs and a better U.S. economy.
• The mid-term elections will likely create complete gridlock in Washington, which is usually a plus for the stock market. From the polls, it appears that the Republicans will take over the House by several positions and the Senate race will be a dead heat, although it doesn’t appear that the Democrats will lose control of the Senate. As far as I can remember, the best investing years were from 1994 through 2000. During that timeframe, Bill Clinton (a Democrat) was in office, but almost nothing could get through the Republican-controlled Congress. Gridlock in Washington is as good as it gets for investing. Come November, we are almost guaranteed total political gridlock. Since it will be almost impossible to get anything accomplished, perhaps both the House and the Senate should just take a two-year vacation.

There may be negatives in our economy affecting investing, but they are few in comparison to the positives listed above. A few of the negatives affecting the economy that could impact the stock market are as follows:

• Unemployment continues to be stubbornly high. Even though the economy has clearly recovered, unemployment rates are not going down anytime soon. Until there is a higher level of business confidence, you will not see employers hiring the many people who are out of work. While it is unfortunate that unemployment is at 9.6%, it appears that the 90.4% who are employed are spending more and feeling better about the economy, thus, increasing retail sales.
• The federal deficits, over the short-term, are not really a problem, but they can become a long-term disaster if allowed to continue. Based on Washington’s current projections, the deficit could approach $10 trillion over the remainder of this decade. Clearly, the public has spoken and the trend is changing in Washington. I expect a new attitude in Washington regarding deficit spending, and hopefully, there will be a long-term plan initiated. The budget doesn’t need to be balanced, but a plan does need to be created to work toward balancing the budget. It’s interesting to see Great Britain actually cutting their government expenditures by 25% in one year alone. Perhaps Great Britain will be an example of what we should and could do in the United States. However bad the deficits appear to be now, it appears that there will be a new sheriff in town in November, which will hopefully help us get back to some sense of normalcy.

A client told me the other day that the increase in the stock market was really a house of cards. Given that this client makes his living in commercial real estate, I can understand his skepticism. While there are certain pockets of our economy that are in desperate straits, it’s quite unusual to see such skepticism by the general population while corporate profits are at historic highs. Hopefully, if you avoid the “gloom and doom” reported by the media and instead review the facts regarding the economy, you will see that while the economy isn’t great, it is on solid footing.

Something that has clearly been missed in this stock market rally is that extraordinarily high profits and low interest rates make stock investing much more desirable. I see nothing on the horizon that would change any of those thoughts regarding investing.

Speaking of investing, have you made your IRA contributions for 2010 yet?

As always, the foregoing are my opinions, assumptions and forecasts. It is perfectly possible that I am wrong.