Recent Punditry On US Equity Markets

There's been some striking divergence among equity and capital market pundits recently. Especially just in advance of, then, in light of, last week's outsized gains in US equity indices.

For example the Yahoo Finance page featured these pieces last week.

The first was by Mohamed El-Erian. While not, to my knowledge, a degreed economist, he never the less is the first well-known pundit of whom I am aware to suggest that unemployment has become a leading, not a lagging, economic indicator. Noteworthy passages include,

Unemployment has shifted from a lagging indicator to a leading one and is warning government policymakers to confront problems in an economy mired in slow growth, Pimco co-CEO Mohamed El-Erian told CNBC.

The consideration of unemployment as a lagging indicator is a favorite mantra among economists who believe the rate primarily looks at the past rather than what is to come.

But the internal details of current trends paint a different picture: More than half the labor force out of work for more than 26 weeks, the average length of unemployment at greater than 35 weeks, and the unemployment rate of 25.7 percent for 16- to 19-year olds.

"These are structural aspects which cannot be solved overnight, cannot be solved with a cyclical mindset," El-Erian said. "And they are worrisome because they make the unemployment rate not only a lagging indicator but also a leading indicator."

Then there is well-known equity bear Doug Kass. Here's what was written about his predictions last week,

Doug Kass of Seabreeze Partners, famous for calling the market bottom in March 2009, isn't worried. In fact, he's bullish. "I think we've seen the lows of the year," he tells Tech Ticker guest host Jon Najarian of OptionMonster.com. "The market's are traveling on a path of fear and share prices have significantly disconnected from fundamentals," he says.Kass predicts stocks will rise 10%-12% by year's end on the back of strong earnings and a better-than-expected economic recovery. He says positive trends in the ISM manufacturing and non-manufacturing index and improved labor market conditions point to "moderate domestic economic expansion, not a double dip."

Trading at around 11 times earnings, stocks are fairly inexpensive, says Kass. He notes stocks generally trade at around 15 times future earnings, and even higher in periods of tame inflation and low interest rates, as we're currently experiencing.

While I don't have the article quotes, Wells chief investment officer Jim Paulsen weighed in essentially in lockstep with Kass in another Yahoo piece.

Finally, Michael Shedlock was the focus of a piece that featured these passages,

Having already heard the bullish case from Doug Kass and James Paulsen earlier this week, Tech Ticker decided to invite Mike "Mish" Shedlock, author of Mish's Global Economic Trend Analysis, back on the show to hear the other side of the argument.

Is he bearish? You bet!

"The optimism out there is rather insane," he says. There’s only a 15-20% chance of the market rallying, Mish tells guest host and Business Insider deputy editor Joseph Weisenthal. "It's more likely we go down there and test the March lows, and there's a decent chance actually that we break those lows," he says.

Mish says "it is nuts to be net long" stocks right now in the face of all these headwinds:
-- Slowdown in Europe as austerity measures take hold.
-- Slowdown in U.S. as stimulus fades, housing remains weak, state and local governments cutback
-- China looks to cool its economy in the face of growing housing bubble
Until Mish sees signs of sustainable job growth, he'll be firm in his bearish stance. "Without a driver for jobs I don't know how someone could be bullish on the stock market."

Who to believe?

Well, first, realize that every one of these guys is talking his book. None of them go public like this without first positioning the funds they manage. Thus, they hope to trigger a stampede of the large, mindless herd of institutional portfolio managers who are responsible for the bulk of market capital.

That said, the next thing to consider is how each pundit calculates these managers will perceive their remarks.

For example, Kass is more notable predicting rising markets then falling ones, because of his reputation as a short-seller and general market bear. Thus, his remarks are most visible because they are contrarian to his perceived sentiments.

The others are less connected with any particular sentiment. But, speaking of sentiment, Kass' commentary put a very light weight on that factor. He articulated his own view of market influences, which include fundamentals, valuation and sentiment. He claimed that fundamentals carry a 70% weighting.

Kass and Paulsen both cited various market valuation mechanics and upcoming S&P earnings, suggesting that consensus earnings and a market-multiple of 12-13 gives you an implied higher S&P than the 1023 to which Kass felt the market should never have sunk.

So basically, you have two pundits stressing math and historical averages to defend a higher equity index, and two other pundits stressing macroeconomic factors.

Something that Shedlock said, in contrast to Kass and Paulsen, was that, in bear markets, market multiples shrink. Thus, if earnings are lower than expected, not only does the imputed S&P fall, but so does the multiple in a downward market.

Don Luskin wrote a piece in last week's Wall Street Journal which observed the same phenomenon.

Personally, I'm swayed in this situation by El-Arian and Shedlock. I understand that sentiment and broadscale opinions of the mediocre bulk of equity managers can drive markets in the short term. But, longer term, macroeconomic realities inevitably triumph.

For example, the March 2009 S&P low from which the index rose nearly 100% was a consequence of an 'end of the financial world' concern of late 2008. That was a valuation correction, more than a vote of confidence in a healthy economy.

Last week's two day upsurge in the S&P is hardly the same thing. If anything, viewed from the April 2010 S&P high of 1217, last week's peak of 1078 seems pathetically weak. A 50-point, four-day rise, predominated by a one-day surge, doesn't a market recovery make.

Here's another conundrum. Last week's equity index surge was reputed to be in anticipation of good corporate earnings numbers during the coming weeks. Doesn't that mean optimistic results are already baked into the S&P? So it shouldn't rise any more, and, if anything, might fall on profit taking.

Or fall if some earnings fall short of expectations, or, even as they meet them, do so on inadequate revenue growth.

I continue to be amazed at how investors have begun to ignore revenue growth, as if companies can cut costs to zero. They can't. At some point, probably in the next two quarters, lack of revenue growth will become an issue.

The next few weeks will give us a better view of that performance and investor reactions to it.