Equity Market Outlook 2010 to 2012

Year 2009 was a tough for money managers, regardless of their methodology or market of choice. Every conceivable trading paradigm was challenged by the collapsed equity market and unprecedented government and central bank intervention. The key factors affecting equity pricing in 2010 will the monetary policy, the looming sovereign debt crisis, bursting market asset bubbles, anti-business policy coming out of Washington DC and the lack of job growth. U.S. have an unprecedented crisis of confidence among taxpayers and investors. Millions of U.S. citizens are protesting against Washington!

The White House has announced federal deficits that are far worse than any prior estimates; $1.6 trillion for 2010 and $1.3 trillion for 2011. We should expect continuing massive deficits. 2010 could be the year public debt among US states is finally internalized by equity markets, forcing equity valuations lower as public sector debt swamps more states than just California. A crisis of public debt could expose the central structural problems in the US economy; financing the difference between income and living standards, masking productivity loss with inflation and over-reliance on a credit fueled consumer. Complicating the current unpaid liabilities of the states are their unfunded long-term obligations in the public pension and health systems. These obligations will start to extort a major toll on state budgets in the coming years.

Even if a debt crisis would be postponed beyond 2010, there are still tremendous risks for growth. The expiry of Bush tax cuts will reign in private investment. Congress is examining a host of policy initiatives, any one of which could stall growth and add to long term obligations. As private investment gets crowded out and the public sector falters and contracts, the overall effect will be negative for jobs and consumption. Without a new asset bubble to inflate the market, defensive moves by companies to reign in cost structures will no longer be sufficient to manufacture profits. Valuations should begin to move in line with earnings. All of this argues for lower equity markets in 2010 and an expansion of volatility. Most of these externalities will induce a sell-off of the inflated value of stocks.

Stocks are cheap to cash when the fed funds rate is near zero. Corporate profits will continue to look good, bolstered by low cost structures, not by growth. But in order for stocks to move higher or maintain their 2009 gains throughout 2010, an engine of job growth must emerge. However, the growth scenario is less likely. The midterm elections could change the tone of policy coming out of Washington. If Washington would change the course of policy, it is likely to come at the expense of stimulus for 2010. This would cause the equity market to decline in 2010. In almost every past recession and bear market U.S. corporations has delivered solid values to investors. Price-earnings ratios (P/E's) use to be in single digits. Solid stocks has been selling for five or six times earnings. It has never happen before that the U.S. government panicked. Now P/Es are already back up again to grossly overvalued levels.

States drowning in debt may be able to summon the political will to correct their fiscal course at the state level. The US government has successfully covered-up the decline in personal income for many years. There is no reason to assume this year is the year the market takes its medicine.

The Foundation for the Study of Cycles, a nonprofit research think tank founded 70 years ago in the wake of the Great Depression, have sorted through historic data going back 5,000 years. They have put together data series on most major markets during the latest 300 years. Since 1971 the Foundation have in advance accurately identified cycles and nearly every major shift in market direction. Monty Agarwal, partner of the hedge fund MACM LLC, has analyzed the Foundation’s research with great interest and fund that the accuracy rate is far superior to any other approach he has ever seen. The Foundation predicted the timing of the Crash of ‘87. It predicted the timing of the bear market of 2000-2002. It predicted the market’s rise through 2007. And it nailed the top of the market prior to the big plunge in 2008. Its cycle work predicted the great bull market in gold of the 1970s. It predicted gold’s downturn starting in the 1980s. And it was suggested to get back into gold in 2001.

The research suggests that most U.S. stocks are likely to fall in a zigzag pattern froths year and for nearly three long years. The Foundation also forecast that gold will skyrocket far higher than $2,000 per ounce by the end of 2011. In the last few years gold quadrupled in value, despite two big stock market declines and the worst recession since the Great Depression. Richard Mogey point to that gold parallels the cycles in the U.S. dollar. And for the dollar the Foundation have cyclical data going all the way back to 1680. Its cycles predicted the dollar’s plunge from 1971 to 1980, the dollar’s surge peaking in 1985, the dollar’s decline bottoming in 1992, the dollar’s rally through 2001 and the big plunge since.

The real decline in the dollar, and all other currencies, will show up more clearly in the doubling of the value of gold. Measured against gold, the dollar’s purchasing power will fall by half or more, depending, of course, on the intensity of the global selling that hits the greenback. The U.S. Dollar Index will begin to sink in 2010 and will not hit bottom until early 2012.

Cyclical data on GDP and on consumption points to a material improvement in the U.S. economy through the first two quarters of 2010. However, starting in the second half of 2010, GDP growth will start to sink fast and negative growth could be expected by the beginning of 2011. The U.S. economy will suffer a severe double-dip recession in 2011! The worst period for the economy will hit in the fourth quarter of 2012. For year 2012, the Obama administration is making some aggressively optimistic assumptions for the U.S. economy and forecasting a deficit of $828 billion. Instead, with the economy sinking, it could be over $2 trillion!

Richard Mogey believe that 2012 will be the year of maximum turmoil in markets and has also pegged it as the year of the “Perfect Storm.” The Foundation have the dollar cycle, stock market cycles, consumption cycles, and GDP cycles all bottoming in this same approximate time frame, between late 2011 and 2012. Year 2012 is also the middle of a sweeping transition in the longest and probably most important cycle of all. The 500-year geopolitical cycle. The Foundation have mapped it back to 670 BC. It is a broad and far-reaching shift in power, wealth; earlier from East to West, and now from West to East. There will also be a major wealth shift from old fortunes that are destroyed to new ones that are created. This wealth shift will be seen from countries, companies, and families that were dominant for many decades to new ones that replace them on the other side of this massive upheaval!

Ben Hedenberg

Page last updated Sunday, May 11, 2010


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