Figure 5 sums things up (on average). Secular declines are more protracted and deeper, lasting 20.6 months and declining -31.8 percent because average economic growth declined by -0.2 percent, which fostered an average -14.1 percent decline in stock earnings. Industrial production was also very weak during “big bears,” with a mean -20.7 percent plunge in ISM-PMI. Cyclical declines lasted 5.7 months and declined 47 percent less, down only -17 percent.
Figures 4 and 5 display the importance of economic underpinnings. They show why we spend so much time on diving fundamentals. Here is a tip: Long-term sustainable price trends must be supported by economic fundamentals. I have found that the odds of a change from a bull to bear market are much higher if annualized RGNP growth is below 2.5 percent during a calendar quarter that precedes and/or contains a new price high. During the fourth quarter of 2009 (2009 Q4), RGNP was only 0.36 percent, or 1.44 percent annualized.
Outlier Risk Management And Profit Opportunities
Investors need investment strategies that help them profit from market trends. They also need to hedge their traditional portfolios through an identification of threats to their well-being. The three major threats that we have identified in the Arrow Insights InPerspective to date are: 1) a sovereign debt-currency crisis; 2) food and energy scarcity; and 3) the correction of economic imbalances that resulted in our global financial crisis.
Embedded into the act of investing is a forecast of the future. Our approach is to overweight to assets that are fundamentally valued for core holdings and to hedge outlier risks and overvalued assets. Investing a single dime entails risk. We try to identify outlier risks that can be hedged through both longs and shorts.
Over the last 25 years, central bankers were bubble blowers and bubble fixers. They prefer inflation to deflation, which implies that they will ignore accelerating inflation in 2010. Our Federal Reserve Bank (FRB) will stay with their easy money policies until their prayers are answered by sustainable RGDP growth above 3 percent annualized. They will not raise interest rates while they delay and pray for a stronger economy.
Our recent financial crisis showed us who owns and runs the
During most of the crisis, deflationist views were correct because the bailout money remained in the banking system to shore up bank losses and to rebuild balance sheets. An inflationist view will be appropriate when demand meets up with food/energy scarcity and infrastructure development pushes commodity prices higher.
The FRB is setting the stage to transfer yet more private-risk and outright losses onto the bruised shoulders of struggling taxpayers. Crumbling tax revenues and high spending is setting the stage for continued U.S. dollar weakness that will also exert upward pressure on commodity prices.
In past issues, we found that the weight of the above evidence points to low future financial asset returns and higher real asset returns (inflation hedges and gold).