Comstock Partners, Inc.
The Great Divide
We live in an age of anxiety, and rightly so: Worries about the global economy are most emphatically not just in our imagination. The question is, who's going to bear the blame, come November?
The Age of Anxiety? With all due apologies to the late W.H. Auden, who penned that revelatory phrase with a subtitle of "a baroque eclogue," we couldn't resist its attraction as a fitting description of the current era with only the minor change in the subtitle to "a broke eclogue."
What inspired the update of that label to these perilous times was a double dose of unease. The first was the release of a survey by Pew Research Center that revealed stirrings of class warfare in, of all places, the good old U.S.A. The other was a casual reference to the possible outbreak of World War III by the wise, worldly and inimitable Marc Faber during the lively give-and-take at this year's Roundtable.
Marc, who revels in good-natured provocation, was being more than half-facetious, but that still leaves ample room to send a shiver up your spine. The Pew poll of 2,048 citizens disclosed that 66% believe there are strong conflicts between rich and poor, which is 19 percentage points greater than in a previous tally in 2009. That feeling found expression across a wide swath of the population, encompassing Democrats, Republicans, independents and strays who can't make up their minds as to which category they fall into.
Happily, there's no need-at least not yet-to load your shotguns or make sure your pitchforks are within reach, even if you're among the affluent, since a plurality of the respondents attributed your wealth as a reward for hard work or the wisdom of choosing rich parents who husbanded their fortune to leave to you when they shuffled off this mortal coil. We can't say that the great divide documented by Pew comes as a big surprise. Given the halting recovery from the Great Recession, the millions still on the dole, the ferocity of foreclosures and the formidable task for so much of the populace in just making ends meet, only a nation of dolts, which we certainly are not, wouldn't vent their ire.
No doubt the spread of the Occupy Wall Street movement helped fan the flames of resentment, if only by keeping the split between the rich and the rest of the population front and foremost in media coverage, but the grievances would likely have ballooned in any case. What could cool down the anger is no mystery: a quickening of the economy and a gusher of jobs. The prospects for both are murky at best.
More than likely this fall, the put-upon populace will seize the chance to vote its discontent, but just how isn't at all clear. To choose between the Obama administration, whose remedies for the lack of jobs and the waves of foreclosure have been less than resounding successes, or the Republicans, who seem intent on biting each other's back to the exclusion of everything else, strikes us as a perfect example of a Hobson's choice (in other words, no choice at all).
Although anxiety has its investment uses-it tends to keep fervid speculation in check-the present less-than-serene national mood strikes us as not notably encouraging for the stock market, which, all things considered, has been holding up quite well, despite the absence of a spirited Santa Claus rally (some of the reindeer balked when their rations were cut to keep costs in line). Investors have been responding to a sprinkling of favorable news on the economy, including a rise in consumer sentiment, as well as the usual upbeat Street prattle.
And for 24 hours anyway, the threat that the European Monetary Union was in dire danger of fracturing subsided, thanks to strong demand for 12-month Italian Treasury debt and an oversubscribed offering of three-year notes by Spain; in both instances, yields were comfortingly reduced from previous issues.
Obviously, the European Central Bank's stuffing the lenders with euros worked as intended-until the very next day, when Italy sought to peddle longer-term debt with less than impressive results and the credit agencies geared up to do some mean downgrading, including of France's triple-A rating. Indications, moreover, that the latest bailout of Greece seemed to be in trouble swiftly revived talk of default.
We shouldn't be too blasé about Greece defaulting just because it's something of an old story. That's clear in a recent post by Mark Grant of Southwest Securities, who points out that Greece's total borrowings-sovereign, bank and municipal debt, and $90 billion in derivative contracts-weighs in at a cool $1.1 trillion. If Greece goes belly up, a huge chunk of that princely sum would be in jeopardy.
So the woes of Europe, however ameliorated, are, to put it mildly, still of considerable moment. Which doesn't seem to have fazed investors, to judge by the market's buoyancy and the latest sentiment figures. On the latter score, Investors Intelligence shows over 51.1% of the advisory services are optimistic, the most since early last May, while the American Association of Individual Investors survey showed 49.1% of its responding members were bullish, versus a mere 17.2% bearish.
Big and small, then, investors are prepared for everything but a bit of bad news.
AS YOU MAY HAVE GLEANED, we're not especially sanguine about the outlook for equities until there's some evidence that the Old World has a firm handle on its problems, which are apt to get worse before they get better. We also would like to see some concrete signs that our own recovery, which is hardly immune to what's happening in Europe and, for that matter, the rest of world, turns more muscular.
To repeat what we've said many a time and oft, it's tough to conceive of a really vigorous recovery with housing still pretty much in the dumps. Yes, yes, we're aware that the home builders are upbeat (so what else is new?) and that investors have been bidding up the housing shares for quite a spell now.
The S&P home-building index is up more than 60% since hitting a low in October. But here, too, we think investors' reach exceeds their grasp. For as Comstock Partners points out in a special report, a soft jobs market and a freshly enhanced inventory stack up as daunting barriers to any upswing in housing.
Thus the decline in foreclosures has a heck of a lot to do with the robo-signing scandal, which prompted lenders to go easy on delinquent mortgage holders lest they further incite the public's wrath. That, of course, ate into the backlog. But the banks, having read the etiquette book on how to toss people out of their homes gently, are poised to try again.
Comstock ventures that with the lull in foreclosures poised to end, a new surge of houses will be pouring onto the market. It cites Ned Davis Research's estimate that the overhang of houses is close to 10 million. And prices, which haven't exactly set the world on fire for four or so years now-some 11 million mortgages are underwater-are due to decline further.
So, we're sorry to say, all those folks who have been putting their hard-earned bucks into home-building shares in anticipation of a revisit to housing's glory years could be in for a big and expensive disappointment.
AS THOSE SENTIMENT READINGS quoted above suggest, bears are far from numerous. Among the stalwart few is our old friend Dave Rosenberg, who turns out an enormous amount of worthwhile stuff from his Canadian perch at Gluskin Sheff. And a 20-page commentary he put out one day last week was resplendent with insight and articulation.
Dave has an eye for unusual and illuminating investment bits and pieces. Like the fact that European industrial production is roughly the same as it was six years ago, and still appreciably lower than when it hit its peak in early '08. The current spate of weakness in the euro zone, he notes, started before the new year began, and he sees no quick end to the downturn, with deleveraging in both the government and banking sectors trimming economic growth by two percentage points at a time when there's virtually no cushion in the aggregate GDP reading.
Along with recession in Europe, which affects 20% of the revenues of U.S. companies, among the things that make him wary of our market are slowing economies in Asia, particularly China; a margin squeeze from stubbornly high oil prices; reduced tax benefits; higher employment costs and lower productivity growth; crimped pricing power; no yield curve for the banking sector to ride off of; and limited ability to squeeze more earnings from loan-loss reserves.
For those who still fancy investing, Dave believes the best approach is to "focus on companies and sectors with earnings visibility, non-cyclical characteristics and a demonstrated ability to provide dividend yields with payout growth."
He'd give a wide berth to luxury-goods retailers like Tiffany, whose Fifth Avenue store suffered a year-to-year sales decline, and other high-end outfits that also will feel the pressure from financial sector layoffs and shrinking bonuses. Speaking of dividends, he notes that even the gold miners must have a yield in today's environment "where the boomers crave more income in the total return of their portfolios."
One of the relatively few companies he likes is McDonald's; he calls the fast-food restaurant chain largely noncyclical, with a 2.8% dividend yield. "Look," he explains, "even bears are carnivorous."