As we enter the New Year investors and advisors will be wise to focus on the risks of 2010. Although the crisis appears long behind us it’s important to keep an eye on the bigger picture. Little has changed in terms of the structure of our global economy therefore the risks remain largely the same. Let’s take a moment to highlight some of the risks we perceive as we begin to prepare for a new year.
1. Those darned analysts
It would be comforting to think that Wall Street’s analysts were in fact doing us all a great big favor with their expert analysis, but the truth is, more often than not, they aren’t. Most analysts have been behind the curve at every twist and turn of the crisis. They remained too bullish heading into 2007 & 2008 and then were behind the curve as operating earnings tanked and they turned very bearish in Q408 and Q109. We believe that the greatest risk heading into 2010 is an analyst community that becomes wildly bullish and sets the expectation bar too high for corporate America to hurdle itself over. Early indications and reports show this is not a great risk at this point, but it continues to tick higher.
2. Stimulus, stimulus, stimulus
We have little doubt that the greatest mean reversion in modern economic times has been largely due to government stimulus. The bank bailouts, housing bailouts/stimulus and auto bailouts all helped stop the bleeding during a time when the economy appeared to be on its deathbed. Unfortunately, government spending isn’t the path to prosperity and the private sector will be forced to pick up the slack sooner rather than later. 2010 is likely to largely hinge on this transition. Should the government begin to sap the economy of its massive stimulus as the year drags on we would expect increased risks that the equity markets will struggle on without big brother’s aid.
3. Anything China
China has grown to become the hope of the global economy. With their booming growth, growing consumerism, and seeming fiscal prudence, China is the envy of the economic world. The rally in commodities and manufacturing continues to chug along with a great deal of help from China. If anything goes wrong in China (and we mean anything) we expect equity markets will tumble.
4. The almighty bond market
We believe low interest rates and benign bond market action have helped to stabilize the global economy. But as the United States and Japan print paper like it’s going out of style the risks in the global bond market continue to increase. We believe bond investors will not put up with signs of inflation for long. If bond investors get antsy and yields spike in 2010 the party is over. And the party might quickly turn into a nightmare. We are concerned that if there is a significant move toward dumping U.S. Treasuries on the market, mortgage rates would spike and that the Fed would be unable to maintain their accommodative stance. Further, the global economy could continue to suffer which could cause the price of gold to increase even more.
5. Banks…ALL OF THEM
Our zombie banking system continues to hold back the economy. As we copy the Japanese the battle between bank survival and loan growth continues to this day. Banks remain wary lenders as they attempt to reduce their balance sheet risks, maximize the quality of their earnings, and minimize their dependence on the Federal government. Meanwhile, the king zombie, the Central Bank of the United States, continues its boom bust policy of low interest rates and “accommodative” money. This is not only a 2010 risk, but likely a risk for the rest of this new decade. The banks are likely to be fixing their balance sheets for some time to come and the Fed’s boom bust policy will almost certainly end the same way Greenspan’s boom bust policy ended – right back where we began.
TPC – December 28, 2009
