They say the market climbs on a "wall of worry," and most of that worrying comes from the Nattering Nabobs of Negativism out there in the community of economists and short sellers. I spent a morning last week listening to Alan Beaulieu, a widely-respected and historically accurate economist and principal at the Institute for Trend Research. Folded up in my breast pocket was the latest newsletter from Norm Fosback of "Fosback's Fund Forecaster" fame and author of "Stock Market Logic."
Wow. What a divergence of opinion. Every time Alan said something really disturbing, I would have to sneak a peek at Norm's newsletter for some reassurance.
End of recession
The good news from the Trend Research people is that the recession is definitely over and that we are headed into a period of strong economic growth. This is the time to borrow as much money as we can get our hands on with fixed interest rates as low as we will ever see them in our lifetimes. Paradoxically, this strong economic growth will not necessarily be wonderful for the stock market. It will be another seven years before the market reaches its high of October, 2007.
Why wouldn't the stock market be responding more positively to robust economic growth? Because inflation is just around the corner - a lot of it - and rising interest rates will adversely impact corporate profits. Of all factors, interest rates have the most impact on corporate earnings. Stock market values over the next seven years will be climbing a wall of rising interest rates. At least we can console ourselves with the prospect of receiving annual dividends.
But it gets worse. In twenty years, we will be heading into a worldwide recession which coincides with the famous Kondratiev wave that has capitalism exhibiting 60-year cycles of boom and bust. Alan Beaulieu spells out the coming world-wide conditions (mostly debt) that would contribute to that outcome.
Norm Fosback, by comparison, expects stock prices to rise by 26% over the next twelve months with a total rise of 75% over the next five years. If the Dow Jones average had kept pace with the NASDAC and the Russell 2000 (smaller companies as a general rule) it would be 2,000 points higher right now. There are plenty of reasons for this stock market logic, not the least of which is the enormous amount of cash held by investors today. At the individual investor level, cash amounts to 25% of portfolios in a remarkable situation where the earnings on that money amount to essentially zero.
Available cash to invest is the engine that raises stock prices. Sooner or later, investors sitting on cash go nuts while watching markets rise and they dollar cost average back in, or at least buy on the dips. It's the mirror image of throwing in the towel when markets are plunging.
For investors struggling with what to do when faced with conflicting ideology, it always boils down to individual circumstances. We won't know until after the fact, which of the above guys will turn out to be right. The question for us is always one of knowing which of the two possible outcomes over the next 5 to 7 years will matter to us one way or the other. It would be nice to see assets almost double over the next five years, but if they only rise about 25% (to get to 2007 levels) in seven years, we might be better off in short term bonds that will benefit from rising interest rates. If you're older, lean toward the latter approach. If you're younger, leave your chips on the table and hope that Norm is right.