Sunday, July 4, 2010

I am from nature optimistic, but that does not mean I'm blind

The recovery is stalling. After the initial realization that there won't be a depression right in March 2009, the markets made a remarkable U-turn and recovered at near neck break speed. All forecasts about a slow recovery were thrown out. Nobody mentioned Harry S. Dent's latest book predicting a depression in 2012.
Although Harry's initial forecast was somewhat too detailed and pessimistic, elements of his story remain standing. We were/are an overleveraged society and as Warren Buffett points out, all those derivatives form a time-bomb that is indeed difficult to diffuse. Harry's prediction that government stimulus would not pull the economy out of a tail spin was kind of right. Not because the baby-boomers have lost their purchasing urges, but because of deleveraging and the absence of purchasing funds by a severely indebted consumer. Yes we got a bunch of new roads, but all this stimulus was insufficient to give stocks like Finning or Bombardier the boost many analysts have predicted. Steven Harper was right to keep the stimulus program modest, because in the end it seems not to be more than a fizzle before it could give us a big bang.
Now governments in Europe, Japan and the U.S. are deeply indebted, corporations are paying down debt while banks are hesitant to lend money to the public. Europe and many other nations are so deep in debt that bond investors don't want to lend them anymore. After the initial economic boost, which led Mark Carney of the Bank of Canada and many others to believe interests were once again on the rise, the opposite seems to be happening.
If one is a believer in technical analysis, one might state that we are in a trading range about to turn around into a crash. It definitely looks like a possibility. For many older people who are within a few years of retirement the question will come up whether it is better to miss out on some near term potential games or batten down for a possible upcoming storm.
It is not that the market is overvalued but it is more that we as a society have to pay down our debt. We seem to transition into an economy without significant inflation and without significant population growth; an economy with a greying population that is more interested in scaling back consumption than to increase it. Yes China is still growing, but it is only a 5 trillion GDP economy while the U.S. is close to 14 trillion and you may look down on Europe and on the EU, but the European Union has a combined economy even larger than the U.S. So if China is to grow, where does that growth come from if in Europe and the U.S. demand is stabilizing or declining?

I feel this is a time to get rid of weak investments and taking profits (and thus offset your cap gains with losses). This is a time to aggressively build up your cash position because the risk of falling equity markets and a contracting economy is high. Especially with governments no longer able to raise funds to stimulate their economy. They're out of gun powder no-matter how badly they want to spend.

Right now, getting rid of weak investments, collecting dividends from solid companies and build up cash seems to be a prudent thing to do. Yes you can sit through yet another downturn, but why do so if the risk level right now is so high?

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