The Dow Jones Industrial Average (NYSE:DIA) is sitting at 11,577 points. Dick Fuld is still CEO of Lehman Brothers, AIG (NYSE:AIG) is still trading toxic CDS derivative contracts, and the $700 billion TARP bailout is a pre-idea about to be invented in the brain of Treasury Secretary Hank Paulson. Oops, wait a second, this isn’t the Dow 11,577 of September 2008, but rather this is the Dow 11,577 of December 2010 (+11% for the year, excluding dividends). Was the -50% drop we experienced in the equity markets during 2008-2009 all just a bad dream? If not, how in the heck has the stock market climbed spectacularly? Most people don’t realize that stocks have about doubled over the last 21 months (and up roughly +20%-25% in the last 6 months) – all in the face of horrendously depressing news swirling around the media (i.e., jobs, debt, deficits, N. Korea, Iran, “New Normal,” etc.). Market volatility often does not make intuitive sense, and as a result, many market observers have been caught flat-footed.
Here are a few basic factors that average investors have not adequately appreciated:
Headlines are in Rearview Mirror:
News that everyone reads in newspapers and magazines and hears on the television and radio is all backward looking. It’s always best to drive while looking forward through the windshield and try to anticipate what’s around the corner – not obsess with backward looking activity in the rearview mirror. That’s how the stock market works – tomorrow’s news (not yesterday’s or today’s) is what drives prices up or down. As the economy teetered on the verge of a “Great Depression-like” scenario in 2008-2009, investors became overly pessimistic and stocks became dramatically oversold. More recently, news has been perking up. Previous recessions have seen doubters slowly convert to believers and push prices higher – eventually stocks become overbought and euphoria slows the bull market. I believe we are in phase II of this three-part economic recovery.
Ignore Emerging Markets at Own Peril:
We Americans tend to wear blinders when it comes to focusing on domestic issues. We focus more on healthcare reform and political issues, such as “Don’t Ask, Don’t Tell,” rather than the billions of foreigners chasing us as they climb the global economic ladder. Citizens in emerging markets are more concerned about out-competing and out-innovating us through educated workforces, so they can steal our jobs and buy more toasters, iPods (NASDAQ:AAPL), and cars – things we Americans have already taken for granted. The insatiable appetite of the expanding global middle class for a better standard of living is also driving ballooning commodity prices – everything from coal to copper and corn to cotton (the 4 Cs). This universal sandbox that we play in offers tremendous opportunities to grasp and tremendous threats to avoid, if investors open their eyes to these emerging market trends.
Capital Goes Where it’s Treated Best:
Many voters are fed-up with the political climate in Washington and the sad state of economic affairs. The great thing about the global capitalistic marketplace we live in is that it does not discriminate – capital flows to where it is treated best. On a macro basis, money flows to countries that are fiscally responsible, support pro-growth initiatives, harbor educated work forces, control valuable natural resources, and honor the rule of law. On a micro basis, money flows to companies that are attractively priced and/or capable of sustainably growing earnings and cash flow. Voters and politicians will ultimately figure it out, or capital will go where it’s treated best.
Today’s Dow 11,577 is no bad dream, but rather resembles the emergence of a bright shining rainbow after a long, cold, and dark storm. The rainbow won’t stick around forever, but if investors choose to ignore the previously mentioned factors, like so many investors have overlooked, portfolio performance may turn into an ugly nightmare.
Wade W. Slome is a CFA and CFP® at Sidoxia Capital Management.
Disclosure: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, AAPL, and an AIG derivative security, but at the time of publishing had no direct position in GS, any security referenced in this article.