2008 25
Economy down 1% markets down 50%
Published by MartinVarsavsky.net in General with No Comments
Here´s an OECD report that says that US economy will grow 1.4% this year and contract 1% next year. Still stocks are down 50% or so depending on the day (volatility is gigantic). So either the financial markets are wrong big time, and what we are seeing now is prices that reflect panic selling and not future earnings of companies, or economists are wrong big time and USA and the global economy will shrink much more. If the markets are right it should take take until 2014 to reach the levels of economic activity that we had in 2008 and earnings will evaporate for a while. Only time will tell but this time I am more with the economists than the markets. Still this is the first time in my life that I see such enormous discrepancy between economic data and financial markets behavior.
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Niko on November 25, 2008 ·
Isn’t it that markets reflect profitabilty, GDP reflects turnover?
willdom on November 25, 2008 ·
Niko,
Interesting thoughts…
by the way how could it be 50% less profitability and 1% more turnover?…
I’m not trying to discuss but it’s interesting, something is missing here. Stock prices also reflect expected returns… so… is the stock market anticipating a drastic cut on returns on the long run? or may it be also …. panic!!
Haim Ac. on November 25, 2008 ·
Martin,
I would add that the big discrepancy was between all forecasts and the financial markets.
I recommend the reading of a recent book The Black Swan by Nassim Nicholas Taleb. It shows how all predictions can go south and how to be ready for it.
Regards
Haim
David on November 25, 2008 ·
Well, the S&P 500 doubled between 2003-2007 and GDP surely didn’t double over that time frame.
It’s important to keep historical perspective in mind.. The Nikkei index of Japanese stocks is right now at the same (nominal) level as it was in 1983!! The S&P 500 is currently at 850, yet in 1983 it was at… 150. yikes!
In my opinion, most stocks are not oversold. Earnings expectations for many companies are hugely inflated and still need to be revised downwards. And yes, wildom (#3), many “old economy” companies will see their earnings tank by 50% and more: industrials, commodities, steel.. tons of them.
Good luck out there!
Eric Pederson on November 25, 2008 ·
Should they really work the same? A 1% decline in GDP will mean a bigger % decline in company profits, and if instead of profits companies have losses, why as a shareholder would I want a share of that? The amount of a loss I want is less than zero. I’d think the value of a stock for a company that is losing money (lets assume perpetually) would be its residual net value at bankruptcy, if any.
The other thing is that Economists are brilliant at hindsight analysis, but not quite so good looking forward. There are many strong predictors of the strength of the economic troubles ahead that average folks are keying off of which Economists are not plugging into their regression equations.
We are on the throes of a nonlinear event.
Juan Carlos on November 25, 2008 ·
Financial markets are a world, the economy of the people are another world.
Financial markets have their own rules, and works in a certain way, are independent, though it may seem otherwise.
Niko on November 25, 2008 ·
@willdom: of course the stock market indices represent expected future profits as well (I meant that) and of course my thought is not without flaws. But still, there was a time when investors bought stocks based on expected dividends. Investors nowadays thought that they could get “dividends” off a trade, buying cheap, selling high, but real dividends reflect profitability-that is the true criteria for ROI on the stock market. Not the buy low-sell high intra-day returns which only worked at the cost of someone else. The market correction is not over yet, as stocks were simply too inflated and stock market developments have for long been forcefully detached from GDP growth.
David on November 26, 2008 ·
Niko #8, please don’t fool yourself. At no time in history have investors bought stocks just based on expected dividends. The expectation of price appreciation has always been the main driver behind the purchase of stocks, since the South Sea bubble (18th century) and even before that.
Put simply, if investors wanted a recurring “dividend” payment every year, they would just buy corporate bonds, which typically pay a higher yield than dividends. But they buy stocks because they also want the upside of stock appreciation. Stock appreciation, by the way, is achieved not just intra-day as you say, but also over the course of months and years.
Finally, to suggest that “real dividends reflect profitability” is a great fallacy. Many companies are hugely profitable but simply opt no to reinvest them rather than pay dividends. Some companies are not profitable yet pay dividends (from cash on the balance sheet). Your “rule of thumb” is simply not true. Time to hit accounting 101 books…
Mark on November 26, 2008 ·
If you have confidence in the OECD forecast for a 1% contraction, then we are likely around a market bottom. I personally see risks of the economy entering a negative spiral, and so I am only easing into the stock markets cautiously. The historic relation of markets to GDP in major ressions is:
1930/29 GDP:-8.6% DJIA:-57% but the crash continued for another 2 years for cumulative 24% GDP contraction and 85% drop in DJIA
1975/73 GDP:-0.7% DJIA:-42% crash ocurred over two years
1982/81 GDP:-1.9% DJIA:-20%
1991/90 GDP:-0.2% DJIA:-20%
2009/08 GDP:-0.9% DJIA:-45% using OECD estimates for 2009
Note that the 82 and 91 recussions were discounted by the markets a year in advance, and actually gained in the year of the recession, which supports the idea that we could be at a bottom. Looking at these periods I would say we are closest to the 70´s in the sense that the crash happened of a multi-decade period of stock market strength. This could mean that we will stay in a trading range between 7700 and 11500 for many years to come.
Niko on November 26, 2008 ·
@David 9: You are right course in individual cases, but for the sake of argument I chose to depict the conservative investor (more fashionable than ever) and make some suggestions that underminde my basic argument: Profitability or expected profitability of companies is what should drive stock markets. Of course investors buy for stock apreciation, but stock appreciation should (in a heathy market system) follow profitability or expected profitability of a company. If people were to buy mainly because of expected stock apreciation than people may easily be fooled by self-fulfilling prophecies. I think even bankers have enough of those these days. I don’t think you would disagree if I said that generally speaking the more profitable a company, the more likely it is you will get a healthy dividend, which for long-term investors should be a fact to be included in their investment decision process. I know myself that there are always exceptions, companies paying dividends off cash, etc. but generally speaking I think my argument holds true. And i do not need Accounting 101 for that. It is better to go with books like Warren Buffet has written. That explains what I mean much better… They are a great read! Dividends rule!!!!!!!!!! 😉
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Martin on November 25, 2008 ·
Markets reflected levels in 2008 that were inflated by massive credits, and those were given with very little control from the authorities. We will not see the financial markets at the levels we have seen them in 2008 in the short term -and by short term I mean at least 10/15 years-.