Thursday, August 13, 2009

Slender Shoots Indeed

I marvel at what passes for business and economic news that drives up equity markets these days.

Last Friday, if what I read is correct, a smaller than expected job loss number, due, in part, to job seekers simply dropping out of the group actually looking for work, drove the S&P500 up 1.34%.

This week, a slight rise in the index was attributed to Toll Brothers' registering the first year-over-year rise in new home orders in four years. An anemic 3% growth rate was cheered.

The Fed announced yesterday that the economy is 'leveling out.'

If you ask me, these are slender 'green' shoots, indeed. None sustainable.

Let me be clear in explaining that I understand the difference between what drives the economy, and what drives equity markets.

Right now, due to the precipitous decline of the S&P since September, followed by a sharp rally, investors believe they are piling into low-priced equities in the equity markets. Various pundits and government cheerleaders have pumped up sentiments in investors.

Equity markets being what they are, sentiment counts for a lot.

The real economy, however, is quite a different story. Unemployment continues to grow. Inventories are depleted and, as yet, are unreplenished. Growth is evident in higher-productivity sectors, rather than those which tend to account for a lot of hiring.

Meanwhile, even the housing numbers seem suspect. It's common knowledge that banks are holding foreclosed houses off of the market right now. The recent price stabilization is considered vulnerable to more supply flooding markets.

As my partner and I currently manage an options investment strategy, we are keenly interested in getting investor sentiment right. But that doesn't mean we ignore the real economy.

I think it's just a matter of months before real economic and business earnings news dampens the current positive sentiment of investors.

When more home foreclosures pressure bank asset values and earnings, what will the Fed do this time? What if inventories are not replenished at the rate that many pundits expect?

If you take a step back from the current economic news, and view things from a longer, broader perspective, it's not such a rosy picture. And just one quarter's mediocre news, or a Fed rate hike, and equities will be back in the tank.

I'd be very surprised if equities do not experience a sharp and deep sell-off by the end of October.

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