The Dilemma
It is folly to attempt to forecast the future.
A dilemma is a choice between two or more options none of which is very appealing. The markets are always full of dilemmas for investors and traders but this time the dilemma is striking because the usual metrics one uses to choose investments are useful but unhelpful in solving the current dilemma. That is because the dilemma is not presented to us by the markets but by a few handfuls of men. They are largely unelected but appointed to their positions of power. The Federal Reserve (Fed.) and the European Central Bank (ECB) are openly manipulating the markets to achieve their mandates. The credit and solvency crises we have experienced since late 2007 have involved many twists and turns; yet we still find ourselves mired in the same problems we had 5 years ago. So the roots of the problem stretch back for years and once again things are coming to an inflection point. Perhaps a quick look at our current situation will provide insight into the future or at least refine our possibilities for the more probable futures that lay ahead of us.
Some of the current events that are impacting the market:
- China’s economy is experiencing a hard landing.
- Australia’s economy is weakening.
- India’s economy is facing inflation, infrastructure weakness, weak corrupt governmental bureaucracy and other internal issues
- Brazil is fighting inflation and an economic slowdown.
- Europe is a mixture of insolvency and conflicting desires regarding monetary union and who is to pay for the insolvent countries and banks.
- America which is facing a Presidential Election, A Fiscal Cliff, an economic slowdown with an increasing likelihood of a recession.
- The Federal Reserve has pledged to keep rates low through 2014 which is punishing savers.
The USA stock market has thrived in this environment and as several pundits have noted it is one of the most hated rallies because a lot of people have missed out on it.
In the immediate future: There is a big meeting in Jackson Hole, WY put on by the Fed. to talk high level central bank policy followed by a Fed. meeting in September. There is a big ECB meeting in September to set their policy. In Germany the Constitutional Court is expected to announce the constitutionality of the ESM (European rescue fund) Also the Dutch will be having elections in September. There is also discussion of whether to bail out Cyprus by the end of September. So depending on what these entities decide or announce will have a significant impact on bond yields in both Europe and the USA the announcements or lack of announcement of a form of Quantitative Easing in the USA will impact the stock market. IF we have QE then most pundits expect equities to rise and interest rates to fall. In Europe if all goes well they will also drive down bond yields and their stock market will rally some on hopes the crisis is being fixed.
Yet optimism alone rarely puts a meal on the table. While the markets may rally the underlying fundamentals are projected to continue to weaken. Eventually, and sooner than the officials at the Central Banks would like the fundamentals underlying the stocks will cause a decline.
The Dilemma facing us is this: deteriorating fundamentals across most major world economies versus the hope that hope that the FED, ECB, & German Constitutional Court will all make the right policy decisions and the law creating the ESM is constitutionally legal versus the likelihood that it will not all go as planned. That is the 30 second sound bite version of what is a very complex and dynamic global monetary situation. The secondary dilemma is how to invest in this environment. That will be the subject of another post.