A friend, whom I'll call Gary for purposes of this piece, recently
dropped me a short note which said:
"Happy Dow 10,000 to all! I will go on record saying that,
even as the S&P enjoys a 21% year-to-date lift from its low last year, I
remain convinced that a major pull back is at hand. I feel the investing public
has been and is going to be duped, yet again, by Wall Street finance. Methinks
we're building more castles on the soft side of the river. Foundation cracks
will soon appear."
He provided a couple of links to things that supported this
view, one of which was a NY Times editorial. After reading and thinking about
the Times editorial, it reminded me of the importance of what you're reading to
form financial viewpoints and make financial decisions. In this case, the
editorial is leading my friend astray.
Below are the key passages from the Times editorial followed
by my comments:
"Dow 10,000 brings back glowing memories of good times - and
not just for the people in pinstripes walking around Wall Street with ‘Dow
10,000' baseball caps. When the Dow Jones industrial average first closed above
10,000 on March 29, 1999, the economy was in its eighth year of uninterrupted
growth. The jobless rate was so low - 4.2 percent - that economists called it
"full employment."
"The Dow passed the milestone again this week. It was the
25th time since that day a decade ago. As far as we can tell Wall Street is the
only place celebrating."
"The chasm between the Dow's stellar performance and the
dismal state of the American economy is of historic proportions. The
unemployment rate is now at 9.8 percent. Employment as a share of the
population is at its lowest level since January 1984. State governments are
teetering near bankruptcy. Solvent businesses are seeing their credit lines cut
or canceled. Consumer and mortgage lending are both down..."
"In six of the eight months since March, which is when the
Dow started rising, the best-performing stock in the index has been a bank.
Many of these banks are doing so well by trading the same sort of financial
products that originally drove the system to ruin."
"JPMorgan Chase's otherworldly second-quarter profits, which
sent the Dow vaulting over 10,000 on Wednesday, came mostly from investment
banking, notably trading in bonds and other fixed-income securities. At the
same time, the bank has curtailed consumer and business lending."
"Every week that banks refrain from lending - trading their
way to a profit while they clean out bad loans from their portfolios - is a
lost week to the recovery."
"In June, Ben Bernanke, the Federal Reserve chairman, said
that the Fed's objective in mobilizing hundreds of billions of dollars to
stabilize the financial sector wasn't saving banks: ‘We care about Wall Street
for one reason and one reason only - because what happens on Wall Street
matters to Main Street.'
We can say with no hesitation that there are no Champagne
corks being popped on Main Street."
Let's think about the main messages and statements here:
Only Wall Street bankers are happy about the Dow making it
back to the 10,000 level.
Banks like JPMorgan Chase aren't lending to consumers and
businesses but are instead making vast sums of money engaging in highly risky
trading.
It's the fault of the banks who aren't lending money that
the economy isn't recovering and by that the Times means, we aren't seeing
increased employment.
These opinions and assertions are wrong, plain and simple.
Apparently, the editors at the Times who wrote this
editorial don't routinely examine economic data and why would they - they
aren't economists or financial analysts! That's why their editorial writers
shouldn't write this type of commentary!
The Times' editors apparently don't understand or know that bank
lending to consumers and businesses always contracts in a recession. I've
pointed that out before, most recently in the article, "Record Plunge in
U.S. Consumer Credit Signals Weakened Spending." The two graphs below show
yearly changes in business and consumer loans and you can see that lending
always declines in recessions (shaded areas on graphs), and almost always
bottoms after the official end of the recession.
It makes sense that borrowing declines in a recession.
Businesses don't need as much money for expansion purposes (because most
businesses are contracting not expanding) and consumers who are out of work or
tapped out with debt borrow less. And, smart bankers don't wish to lend money to
high risk credits with a low probability of paying it back. (Can you imagine
the outcry if banks were making even more bad loans to compound all the real
estate loans that have soured?)
As for Wall Street bankers being the only folks happy about
the stock market rebound, the facts speak otherwise also. The tens of millions
of U.S investors who own stock through their retirement accounts are happy
about that too!
Employment growth always happens after a rebound in the
stock market and corporate profits are underway. This recent recession will be
no different in that regard. Blaming banks for the recent lack of employment
growth while the stock market has been rebounding is misinformed and erroneous.
As a company, the New York Times is in trouble. While the
paper has some good journalists, their business strategy of giving away their
paper's content for free online in the hopes of making enough money from
advertising has been an utter disaster. The business consultants who advised
this crazy strategy should never get work again! Common sense should have told Times'
management that younger readers, accustomed to using the Internet, weren't
going to shell out hundreds of dollars annually for a print publication when
they knew they could get it all online without paying! While the Dow may be
back at the 10,000 level it was at 10 years ago, look how badly the Times'
stock price has done over this same decade.
So, why get investing and economic advice from these same
folks?
I asked my friend Gary if he thought that such editorials in
the Times were a reliable source of economic information. "I don't think that
they are," he admitted. Yet, here he had put forth this editorial to support
his reasoning that the economy and stock market were headed for big trouble
ahead.
I then asked Gary
how he has his money invested. He had previously told me that he got out of
stocks before the big drop in 2008 and had even invested some money in an inverse
S&P 500 ETF which rises when the S&P 500 falls. So, he made money
during the stock market decline. Problem is, I knew from the last time I spoke
with him in the late summer that he still held a sizeable position in this
inverse ETF so he was now losing money as the stock market was rebounding. This
is how his money is now invested:
20 percent cash
45 percent gold
35 percent inverse S&P 500 ETF
What many people don't realize about these inverse ETFs (as
well as those purporting to double or triple the return of a given index) is
how often these ETFs fail to match their stated purpose. Take a look at the
two-year graph below for ProShare's inverse S&P 500 ETF. The bottom (red)
line shows that the S&P 500 index itself has lost about 30 percent over the
past two years. Therefore, if the ProShare's inverse S&P 500 ETF were doing
its job correctly, it should be up about 30 percent over this period (less it's
management fee of 0.95 percent per year). So it should be up about 28 percent
over this period. It's not - not even close. The ETF's price is charted on top
and as you can see, over the past two years, it's actually down about 10
percent!
Gary
admitted to me that he feels that he has two full-time jobs. One is his regular
day job and his second one is following the economy and financial markets. Gary rattled off a
lengthy list of websites and publications he regularly reads. He feels doing so
is necessary as the days of buy and hold are long gone.
I disagree. As the food - both quantity and quality - you
consume affect your personal health, the financial media - both quantity and
quality - you consume affects your financial health. Consuming more financial
media isn't better, especially if it's flawed. I'm not advocating sticking your
head in the sand but simply being selective about what you're consuming and how
informed is the source. I will give Gary
credit that he became an EricTyson.com subscriber in recent months so I hope
to get him on a better path.
