As Edwin Lefèvre writes in his classic book Reminiscences of a Stock Operator, catching the last and first eighth of any bull or bear market is how reputations are forged and the real money is made. So as the current bear market moves out of its early innings, the key question is: Are we at bottom yet?
In the wake of the Bear Stearns blowup back in March, many traders hit upon the notion that the worst of the turmoil had passed. That would make March 10, when the Dow closed at 11,740, the market bottom for the cycle. In the weeks that followed, yields on U.S. Treasuries rose as investor demand for safe securities waned. One U.S. brokerage was so confident of the bottom that it released a report entitled “The ‘If Only’ Market” — as in, investors will look back one day and say, “If only I had bought then.”
So did we just miss our big chance? Well, take heart, non-professional investors. There is more than a little skepticism out there about the recent market optimism. A chorus of macro economists is warning that we’re only getting started on this recession — and that it’s going to get much worse yet, as the American consumer curls up into the fetal position, cries softly and stops spending. According to the International Council of Shopping Centers, 5,770 stores will close in the United States in 2008, a 25% increase over 2007. In mid-April, a negative earnings announcement from bellwether blue-chip GE cited remarkable drop-offs in business activity at the very end of the first quarter, suggesting the bear is only beginning to bite.
A loud voice in the “more worry” camp is the rock star of macro-economist bears, Nouriel Roubini. At an early April event sponsored by BMO Financial Group and Wilfrid Laurier University, the Stern School of Business professor scared the crowd with an outlook that can only be described as radically bearish. “It’s going to be much more severe than people think,” said Roubini. “This is the worst housing recession since the war, and it’s going to get much worse yet.”
Key to his case are home prices, which are already down 10% in 2008. Roubini suggests they could fall 10% more this year and another 10% in 2009. “This is a massive wealth destruction,” Roubini said. As many as 21 million of the 51 million homes in the U.S. could find themselves in a negative equity position, marking the end of the “house as ATM” trend. The negative effect on consumer spending will eventually lead to what Roubini expects will be massive defaults on commercial real estate and corporate bonds in the months ahead. “The systemic implications of this are massive. The idea that this is going to be a six-month recession is unrealistic,” he said.
A mid-April Merrill Lynch report is similarly bearish. The retrenchment in consumer spending is just now getting under way, and is spread out across sectors — hotels, clothing, autos, airlines, jewelry, appliances, restaurants, sporting goods, casinos, home improvement. “Investors have visions of a short and shallow recession and a V-shaped recovery because of all the fiscal and monetary stimulus being thrown at the situation,” writes David Rosenberg, North American economist for Merrill. “In our view, the government is not bigger than the business cycle, and the markets are not braced for what could be a prolonged consumer de-leveraging process ahead.”
Rosenberg goes on to mention a recent trip to Europe during which, at “70% of the meetings, the crowds were there to warn me that I was missing the turn [in the stock market].” He finds that troubling. “I left the continent feeling that we are nowhere near a capitulation point because it’s at that point where it’s despair, not hope, that reigns supreme, and there was scant evidence of any despair in any of the meetings I gave.” This to say, in his opinion, market psychology is out of tune with the larger picture. “We may be past the worst of the financial market crisis…but we are likely only one-fourth of the way into the recession,” writes Rosenberg. “We think we still have a long and hard downward trek ahead of us.”
Be surprised if that March 10 floor holds through the next four months.
