Saturday, August 13, 2011

Scary Days

The stock market has pulled back sharply over the past few weeks.  Wild up and down trading signals a major division of opinion among investors.  Chances are both sides are right.  The next few weeks is anybody's guess.  But looking a little farther out, where fundamental variables will be able to exert their gravitational pull on stock prices, the picture seems clearer. 

Benjamin Bernanke and most mainstream economists remain way off the mark.  Conventional theories haven't begun to explain what's taken place since 2006 and there's no reason to listen to them now.  The conventional analysis predicts 3%-4% GDP growth in the U.S. over the last six months of 2011 with further gains next year.  That's not going to happen.  But a major disaster isn't in the cards, either.

The European Central Bank is well positioned to prevent a financial meltdown.  Its bond buying and other support measures will impact economic growth, because the price the Bank is extracting is austerity measures.  If Italy, Spain, Ireland, and the others don't achieve the milestones the Bank has set out as a condition for its support, the support will be withdrawn.  So there's a high likelihood of compliance.  But that will bring down economic activity in the short run.  Japan isn't bouncing back in a big way from the earthquakes, either.  So that's not going to pick up the slack.  And while China has maintained momentum to date it's exports are bound to moderate, which could put the brakes on its import growth as well.

In the United States a downturn began in Q1.  Bernanke and crew didn't anticipate that and now say a rebound will emerge in Q3.  In truth, even slower growth is on the horizon.  The budget deficit negotiations are likely to keep a lid on fiscal stimulus.  And the Federal Reserve is out of ammunition when it comes to monetary tricks.  By the first quarter of 2012 GDP growth could slip all the way to zero, sending unemployment up to 10%.  West Texas oil prices could drop another $15 a barrel to $70.  Personal income could flat line.  Corporate earnings probably will contract despite the management heroics which have kept performance intact so far in the recovery.

A decline to 10,000 on the Dow Jones Industrials is possible.  The average might not go that low, considering the cash and other balance sheet assets that are in place.  But investors should be willing to ride out a move to those levels if they want to stay in the game at this point.  The high potential growth stocks we focus on in Growth Stock Insider might be dragged down with the pack.  But their earnings power is likely to continue rising while much of Corporate America slows down, creating even greater investment opportunity.

Downside risk appears manageable at current market levels.  The payoff for staying in the market could come in 2012.  The economy itself probably will take some time to really get rolling.  But there appears to be an excellent chance that lower corporate tax rates will be one result of the deficit commission.  That could be the rocket fuel the economy and market needs.  Once things start moving in a positive direction, moreover, consumer spending should pick up with the lower gasoline prices, cheap interest rates, and a pile of pent-up demand.  Corporate cash reserves will go to work.  A repatriation scheme could amplify capital spending by allowing companies to bring foreign earnings home at little or no tax liability.  And by then it's possible the housing market may start to clear in much of the country, boosting mobility and freeing up a lot of skilled workers who today are stuck where they are.

External factors could disrupt the rebound.  Global warning is getting worse and could cause unpredictable disasters.  Seismic experts are bracing for a major earthquake along the U.S. West Coast.  A war in the Middle East could start, not necessarily including Israel.  Putting that stuff aside, a fantastic buying opportunity could be in the making.  If you want to try and time the market, go ahead.  But it's tough to buy when the headlines scream trouble.  It's never as easy as it sounds.

Our advice is to remain invested in the type of high performance growth stocks we highlight in Growth Stock Insider Plan to start using the cash reserve we built up in the spring.  Valuations already are reasonable.  The long term outlook is tremendous.  The rate of return on technology already is improving and could skyrocket over the next decade.  Most investors today are afraid of the future, and stock prices reflect that.  It would be great time to be an optimist even if prices were high.  Things are going to be great.  The fact you can buy that future at a discount, well, can't beat that with a stick.

Walter Ramsley
Executive Editor