Good Evening: If perception can indeed matter as much or more than reality in the stock market, then today’s giddy reaction to FASB’s about face on the mark-to-market accounting rules once again proves the point. If perception can then morph into belief (as we saw in October of 2007, when investors took stocks to new all-time highs in the misguided belief that the credit crack up was over), then even higher equity prices might lie immediately ahead. Astride this happy upward path stands both tomorrow’s unemployment figures and the sad reality that the months ahead hold for the global economy unless business conditions make a U-turn of their own.
Markets overnight in Asia and Europe were very strong in the wake of some firm economic data released in China, and the resulting rally exerted an upward pull on U.S. stock index futures. These pre-opening gains in the U.S. were held somewhat in check by both a drop in the Monster employment index and the worst jobless claims readings of this cycle. The major averages opened 2% to 3% higher and kept going higher once the FASB accounting changes became a fact instead of a rumor. Coming in at +1.8% instead of the expected 1.5%, the factory orders data helped also helped to goose equities. Though some pointed to the G-20 gathering as a further reason stocks went up today, I simply cannot see why.
Going from strength to strength for most of the day, equities came in for some late profit taking ahead of the payrolls figures. The final hour pull back trimmed the advance in the Dow and S&P to just less than 3%. These solid gains lagged well behind the almost 5% rise in the Russell 2000 and the almost 8% leap for the Dow Transports. Since expectations for tomorrow’s jobs report are already pretty low, it will be fascinating to see how market participants react to whatever the BLS cooks up. Treasurys, gold, and the U.S. dollar have all been perceived as places to hide in recent months, so they all retreated as Mr. Market climbed. Treasury yields rose between 8 and 12 basis points, the dollar fell 1.5%, and, despite a 2.5% drop in gold, the commodity complex raced to keep up with stocks. An 8% gain in crude oil set the pace as the CRB index finished with a gain just shy of 4%.
The balance of this commentary shall deal with the ongoing battle between perception and reality. First up is gold and why it continues to remain heavy while other assets take flight. Gold is commonly thought to be just an inflation hedge, but I prefer to view it as a hedge against poor policy actions by governments and central banks. It is the resulting instability bred by these unwise policies (whether evidenced by falling asset prices or rising goods prices) that drive the performance of the yellow metal. The real enemy for gold is NOT rising stock prices (as implied in the article you see below); it’s a stable and smoothly functioning global economy that turns gold bars into paperweights. I don’t see how huge government stimulus packages and wanton money printing by central banks will bring the world back into balance. If by chance these panicky policy moves do somehow lead us out of trouble, I think it will take quite a bit of time to do so.
One misperception hurting gold today, for example, surfaced when some of the G-20 nations offered a proposal allowing the IMF to sell some or all of its cache of gold. Such a move is highly unlikely, since it takes the approval of 85% of the nations who contribute to the IMF before any such sale could take place. Yet gold was slammed due to the perception of people like Prospector Asset Management’s, Leonard Kaplan, who think the G-20 was out hitting bids in the bullion market this afternoon. He offered the following inaccurate nugget: “’You’ve got the IMF selling gold — maybe it’s not a lot, but psychologically it would weigh on the market,’ Prospector’s Kaplan said” (source: Bloomberg article below). Sorry, Mr. Kaplan, but the reality is that the IMF’s gold is still in the vault and any sale, should it ever occur, is still months away.
Mr. Market, too, can have his head turned by perceptions that never quite materialize into reality. If the old gentleman had a female counterpart brought to life by FASB’s latest accounting change, she should be dubbed “Miss Mark to Market” in honor of the “mismarks” she claims to be rectifying. Mr. Market goes wherever supply and demand lead him — higher, lower, or sideways. Whether he bounds ahead or takes a spill, it’s the last sale on the board that determines his every step. FASB used to believe in Mr. Market and in the information his journeys provided to investors. In allowing financial institutions to decide for themselves whether or not Mr. Market is putting a foot wrong, however, FASB has apparently chosen to embrace Miss Mark — who goes wherever she darn well pleases. Himself trapped by the reality of the last sale, Mr. Market must be jealous of Miss Mark’s ability to wander and flit about.
Before you get the notion that the preceding rant means that I’m a believer in the “efficient market theory”, please understand I do NOT think Mr. Market is always right. Sometimes the old geezer misplaces his glasses. How could the concept of alpha otherwise exist? To think all outperformance is simple luck is as silly as the notion that my 8 year old did not find a dollar bill resting on the sidewalk we both traversed this winter. But he did, in contravention of the EMT. Remember, the last sale provides information, even if that information screams “opportunity!” for those who doubt its accuracy. More importantly, using the last sale is a very good discipline for preventing interested parties (a.k.a. bank executives) from engaging in harmful flights of fancy. Besides, if the banks mispriced so many securities in the first place, why should we now rely on their latest guesstimates?
As Miller Tabak’s Dan Greenhaus said so well in his post at the BP Cafe today, “To be clear, mark to market accounting hasn’t caused this issue. It has exposed it.” Furthermore, Mr. Greenhaus also points out that FASB 157e will only prevent the markets from clearing (see below). What bank will want to sell toxic assets to Tim Geithner’s PPIP at a loss if it can simply sit on the assets and mark them as they please? I agree, but I like even more Jeff Macke’s description of why turning to “Miss Mark” instead of Mr. Market doesn’t’ make the problem go away (and may some day make things worse). Arguing against reacting like an ostrich, which perceives sticking its head in the sand is the best way to deal with a dangerous reality, this CNBC “Fast Money” panelist was debating the merits of the FASB proposal some weeks back with colleague, Peter Najarian. I’m paraphrasing him, but I believe Mr. Macke perceptively asked Mr. Najarian: “If an axe murderer walks into your bedroom and your reaction is to hide under the sheets, you know what? He’s still there, Pete…”
— Jack McHugh