BONDS - Both the Fed and Washington have gone off the deep end in slashing interest rates and promoting a senseless "stimulus" package, which is little more than pandering for votes. Lower interest rates increase downward pressure on the dollar and upward pressure on inflation, force corporate pension funds and fixed-income investors to accept yields below the rate of inflation, cause an increase in the price of energy and other commodities and reward those who have abused the credit markets. The $150 billion fiscal package is spitting into the wind in a $13 trillion economy. The sad fact is that every intelligent person knows it will have little to no lasting effect and will only increase the already outsized national debt and the interest thereon, furthering the forces of currency debasement and higher inflation.
Both these measures are futile attempts to repeal the business cycle and paper over the fail-ures of lenders and government at every level with regard to the housing mess and unbridled wasteful spending. Better to flush all the toxic debt out of the system, albeit with some degree of pain. For years, warnings of the consequences of profligacy have been disregarded. Now they are upon us. They will not be easily or quickly dealt with. Investment objectives will be difficult to achieve with yields at such low levels. In a year or so this picture may radically change.
EQUITIES - The failure of equities to show traditional strength in January casts a pall on market expectations for the year. Let's not confuse a bear market with a recession. A recession is defined as at least two consecutive quarters of decline in GDP. A bear market is a decline from a previous high, usually defined as 20%. It is not necessary to have a recession to have a bear market. We are not yet in an officially defined recession, but it certainly feels like a bear market when a host of leading issues have fallen by at least 20%. A recession is what it is; a bear market is a redefining of risk, obviously exacerbated by a recession. The early line on GDP for the 4th quarter of '07 is growth of .06%, a precipitous drop from previous quarters. Corporate profit margins have been at 40 year highs in '07, but these are likely to be substantially reduced this year, when the latest PPI has broken above 6% and consumers are in no mood to put up with price increases for most goods. Desperate efforts by the Fed, dropping the funds rate another 50 bps today, fail to inspire equities. The initial reaction of the DJI to the rate cut was an advance of 150 points, but the market closed down 50 points.
Stock indices are headed lower. Individual issues likely to hold or advance are those bene-fitting from inflationary pressures that are baked in the cake by dollar weakness and vast increases in the money supply. These would include all goods and services for which domestic demand is in-elastic, such as energy, generic drugs, some areas of health care and areas of infrastructure which need immediate attention. Some real estate issues will benefit from lower interest rates. Anything smacking of discretionary spending is suspect because consumers are strapped. Precious metals are expected to do well. Selected emerging market issues catering to increases in consumer income are attractive. The fat lady's aria has begun, but she has yet to hit the high notes.
William Wright