Markets in Flux?

David R. Kotok
Chairman and Chief Investment Officer
Markets in flux?
June 24, 2010


Markets are in flux and the situation outlook seems gloomy. Some bullets and unanswered questions follow.

1. Will markets start to “climb a wall of worry” or will they falter? If they climb, the correction will be deemed to be over and the next upward leg will be confirmed. If they selloff from here, the rally will be declared a false start and we will test lower levels. Our view favors positioning in the markets due to the massive and continuing liquidity and near zero interest rate outlook.

2.Is it a “W” for the economy (double dip)? Is there another stimulus spending bill coming? The answer to the second question is “maybe.” It is being discussed. Right or wrong the Obama administration seems to think that only way to address things is to keep borrowing and spending and making the government share larger and larger. Witness Geithner telling the G-20 not to impose austerity on their budgets. Imagine: the US is the sponsor of gradualism and not dynamism and of budget profligacy and not balance. Markets see right through this policy failure just as they saw right through the Geithner PPIP proposal and just as they watched him fail a credibility test when it was revealed that he was a tax-scofflaw. Obama is trapped with Geithner until after November. Geithner contributes to Obama’s falling approval ratings.

As for the “W”, we think it is going to be more like a square root sign. Sharply down for two years (2007-2008) was followed by a V-shaped inventory rebuilding led up leg that was not robust enough to carry the US economy back to the starting point of the prior down leg. Then things go flat and it just feels lousy day after day. Meanwhile, we expect the coming earnings season to show some pleasant surprises. Double dip is not our forecast. Flat and tepid growth and very low interest rates and near zero inflation is what we expect.

3. What will this FINreg law do to us? It is silent on Fannie and Freddie; these are the largest culprits and dwarf Lehman and others in losses. For reference, IndyMac was a $32 billion failure; it cost the FDIC about $11 billion. F&F are already nearly twenty times that cost and the numbers keep rising daily. Congress does not do anything about it. This contributes to the very low ratings that Americans have about their Congress. Some polls show scorpions as more popular.

4. US is embroiled now in the Obama Afghanistan war after rejecting the Bush Iraq war. When wars go badly, presidents get in a deep hole. Nixon and Vietnam, Carter and hostages in Iran are more recent examples of presidential trouble. There are many examples in history of geopolitical and military events sinking a president. It is happening to this one as it did to the last one. In addition, scandal with a general does not help matters.

5. When presidential approval ratings slip below 50% as midterm elections approach, the party in power can be creamed in November. See John Harwood‘s excellent analysis done on CNBC earlier today. will have it posted on their website. We will be adding our own comments on CNBC today at 11 AM on Morning call. Markets do not like weak leadership and failing presidents. That is another reason for the tepid performance.

6. BP events and the mess in the Gulf worsen daily. See our series on “Oil Slickonomics.” Found at The Obama administration lost a court test because it was offering an ill-conceived and hasty solution driven by politics. The judge ruled it as “arbitrary and capricious.” So now, they are embarrassed. Their continuing “on again-off again” policy regarding the use of dispersants is poisoning the Gulf. They still do not know what to do. Indecision and poor decision-making about the GOM events haunts this president.

7. Einstein described insanity as doing the same thing repeatedly and expecting a different outcome. It may take a November debacle to get true “change” in policy. However, that does not mean we will not get it. The new congress will be much different than this one. In addition, the Obama administration will look much different next year after it is reconstructed with new faces.

8. Jobs is the big issue and it will remain so. The numbers are disconcerting. It will take years to restore some balance to the labor situation in the US. That means the Fed’s policy is going to be continued and the term “extended period” is to be believed. We remain fully invested in stocks in the US and see the market eventually closing the Lehman gap. Our target is an S&P 500 index level of 1250 to 1300. We like well-selected and good quality taxable and tax-free bonds of long duration. We prefer spread product to US treasuries. Our bond accounts are similarly fully invested. Our cash target remains zero.

Lastly, we thank our readers for their many comments on Oil Slickonomics. Several asked why we sent a retraction on the statement about Tom Daschle. The reason is simple. We did not include the word “advisory” in our original text. That has been fixed on the website version. Senator Tom Daschle was not on the BP global board of directors; his service to BP was on the BP America advisory board. Therefore, we made a technical mistake and published an immediate correction.

This afternoon, we are off to Maine for some quiet reading, some conversation and a hoped for encounter with friendly smallmouth bass. Fly rod is ready and packed. Barbs are removed from the hooks. We will be back on Monday.

David R. Kotok, Chairman & Chief Investment Officer, Cumberland Advisors,

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