November 14 2010|05.00 AM UTC

Stan Reybern

12 Things About Wall Street That Should Still Worry You

Category: Personal Finance, SRTags: , ,

Since the recession began, many of us have understandably looked forward to a recovery. From time to time, sudden spikes in securities prices have been accompanied by commentary from analysts that “the recovery is beginning.” However, it is wise to remember that markets are not independent entities that suddenly “recover” of their own accord. While many conceive of stock markets as impersonal mechanisms, economist Thomas Sowell reminds us that they are “as personal as the people in them.” Accordingly, several foreboding obstacles remain to be dealt with before the millions of people who buy and sell securities feel as comfortable doing so as they once did. Following are 12 of the most daunting.

Sudden Spikes Are Usually Temporary

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Plain and simply, most enduring rises in the overall stock market occur gradually, rather than suddenly skyrocketing and staying there. For instance, if the Dow spontaneously leaps 2,000 points in a single day of trading, it is more likely to be evidence of a short-lived recovery than any fundamental turnaround in the broader market. For evidence, one need only remember October 2008. Mere weeks after the onset of the stock market crash, the Washington Post reported on October 14 a “market rebound for the ages.” Despite the recent crash, the Post breathlessly informed us that Wall Street roared back with its “largest rally in 70 years, revealing renewed confidence in U.S. and global efforts to combat the financial crisis.” Needless to say, it is now February 2010 and the recession still very much exists. The lesson is to stake your hopes on gradual, sustained rises in stock prices, rather than sporadic bursts of activity that make headlines and dissipate as quickly as they came.

The Dollar is Weak

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Admittedly, not all financial analysts see a weak dollar as being problematic to stock market prosperity. TradersNarrative.com, for instance, points out that as international companies like 3M and Coca-Cola “earn revenue in Euros, Yen and other stronger currencies, their US dollar earnings will balloon.” However much a weak dollar might assist particular firms, though, it is not a positive indicator of overall stock market health. David Malpass of the Wall Street Journal wrote an extensive article about the illusory “benefits” of a weak dollar in October 2009, recalling the “giant sucking sound” of “British capital and jobs moving offshore as the pound sank” during the 1950′s and 1960′s – despite billions spent by particular British firms to expand overseas. Until the dollar displays an enduring resurgence versus the Euro and other major foreign currencies, it is one more obstacle in the way of a lasting, market-wide recovery.

Housing Still Hasn’t Rebounded

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Another major harbinger of stock market activity is the overall state of the housing market, which remains largely in disarray. In many areas of the country, like Elkhart, Indiana, the housing market is essentially on life support courtesy federal government aid. In a February 14, 2010 article, the New York Times wrote that People [in Alkhart] are pretty sure the answer will be no” to the question of whether the housing marketing can function after the cessation of emergency programs run by the federal government. Nor is Elkhart the only area of the country suffering from stagnant housing prices. The Times declares that the plight of this Indiana town “symbolizes the failure of federal efforts to turn around the housing slump at the heart of the economic crisis.” Worst yet, there do not appear to be any quick fixes for this problem. The housing bust was the result of irresponsible behavior in many places (government and the financial sector) over many years, and contrary to the promises of politicians, it will likely take a similar amount of time to sort itself out. In fact, political “solutions” and “patches” are only likely to prolong the problem.

Household Savings Are Up

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A common reaction to recessions is pulling money out of the stock market (which is perceived as volatile) and putting it into safe, reliable savings accounts. Sure enough, consumers have reacted in precisely that fashion to the current crisis. A June 2009 Bloomberg article notes that “Americans are shutting their wallets and building their nest eggs at the fastest pace in 15 years” following the explosion of debt spending that got us here in the first place. While Bloomberg optimistically predicted that the surge in savings would reduce American dependence on Chinese investment, it also warned that higher savings “may also restrain economic growth in 2010 and beyond.” The reason is not at all difficult to comprehend: every dollar tucked in a low-interest bank savings account is one less dollar invested in the growth of publicly traded companies through the stock market.

Investor Confidence is Inconsistent

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Perhaps the most important variable to keep an eye on during any recession is investor confidence. It goes without saying that the stock market cannot persist in any kind of meaningful growth unless investors believe that investing will be safe and prosperous for them. Unfortunately, it is not at all clear that investor confidence is rising just yet. A February 16th BusinessWeek report offers a case in point. While investor confidence is named as the catalyst that “pushed the S&P 500 to a 15-month high last month”, BusinessWeek nevertheless predicts in the same sentence that the S&P 500 retreating below its 200 day average (a distinct possibility given Greece’s budget deficit) could “undermine investor confidence.” Until more investors sustain their optimism for more than a few weeks at a time, the prospects of a sustained recovery look bleak indeed.

China is Growing Stingier

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Another recent problem to emerge on world markets is the growing stinginess of China. As Reuters revealed on February 1, the Chinese economy started off 2010 strong, but then “ordered banks to slow, and in some cases, to halt loan approvals for the rest of January.” It was the first of a number of indicators that China is tightening its lending (both within the country and outside) and Reuters wrote ominously about the “tremors that the government’s gradual tightening has provoked in global markets.” It is difficult to exaggerate how large an impact Chinese economic policies have on the global markets, including U.S. stock markets. Evidently, a “half-point increase in required reserves that took effect on January 18″ – which locked up 300 billion yuan – sent world markets “tumbling” because investors were caught off guard by the timing of the maneuver. Similar actions could likewise have a continued chilling effect on stock market performance in the U.S.

Jobless Reports Are Still Terrible

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Economists and financial analysts are fond of using the term “jobless recovery” to describe an overall stock market rebound in the absence of growing employment. Unfortunately, that does not appear to be happening in our current recession. On February 5, Yahoo! Finance pointed out that while unemployment fell from 10% to 9.7% in January, this was “good news, but not nearly good enough.” Citing how “an average 113,000 people a month have been added to U.S. payrolls” since 1990 and the 8.4 million jobs lost since the recession began, Yahoo! gloomily predicts that even “if we averaged 200,000 new jobs a month, it would take more than eight years to get back to even, after factoring in work force growth.” VerySmartInvesting.com concurs, noting on February 4 that “stocks plunged at the opening bell” – a fall of 188 on the Dow and and 43 on the NASDAQ – “and those losses held” following the release of another weak jobless report.

Continued Melodrama in the Media

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While admittedly tougher to quantify, there is something to be said for the never-ending, recession-related melodrama propagated by the media. Stock market gurus notwithstanding, a great percentage of the investing public are passive investors. That is, they invest through their pension or managed vehicles like broad-based index funds or mutual funds. They are not obsessively tracking the movements and complex interplay of market forces. Thusly, when broadcast after broadcast inundates them with how categorically awful “the economy” is doing, many are discouraged from investing on the basis of little more than media fear-mongering. Indeed, there is an old saying that “recessions start between people’s ears.” Hard as it may be to believe, the mere widespread fear of the recession can itself prolong the recession, including dismal stock market performance.

Tax Increases on “The Rich” Discouraging Investment

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Another daunting obstacle to sustained growth on Wall Street are President Obama’s tax increases on high income earners. In total, Americans for Prosperity shows the President’s 2010 budget calling for $1.96 trillion in new taxes over the next ten years “while cutting taxes only $614 billion, for a total net tax hike of $1.35 trillion.” Regardless of one’s feelings on the morality of higher or lower taxes, certain economic outcomes inevitably follow depending on the approach chosen. By definition, each extra dollar consumed by the government in taxes is one that cannot be invested in the growth of publicly traded companies. Furthermore, placing the brunt of this tax increase on those making more than $250,000 leaves this group with less money to invest and gives incentive for not investing the money they retain. As former Presidential candidate Jack Kemp is fond of saying, “if you want more of something, subsidize it. If you want less of something, tax it.” Keeping that in mind, it is difficult to imagine any scenario where these tax hikes do not restrain economic growth or stock market performance.

U.S. Auto Industry Still in Shambles

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The fact that the U.S. auto industry is still hurting represents another anchor around prolonged stock market growth. The Auto Alliance, for instance, points out that while “autos account for $690 billion of U.S. retail sales, or about 20% of all U.S. retail sales”, those sales have been steadily falling since the recession began. While the Baltimore Sun reports encouraging news in the form of a 25% rise in Ford sales during January and a 14% rise for GM, Toyota sales are down 16% as a result of the recent defect recall. Furthermore, even the “good” numbers of Ford and GM, the Sun points out, are only “good” in light of the “truly dismal January of last year.” Auto Alliance also reports that consumer auto loan delinquencies are rising. A convincing case can be made that a healthy U.S. auto industry is vital to any real, lasting recovery in the market.

A Swelling Deficit

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For all that is said and written about the need to avoid burdening our kids and grandkids with debt, the U.S. government is and has been doing exactly that. The Heritage Foundation‘s blog, for example, compares the deficit spending of President George W. Bush alongside President Obama’s – and reveals some startling facts. While Bush “expanded the federal budget by a historic $700 billion through 2008″, Obama’s budget plans would add another $1 trillion. This is in addition to the President’s stimulus plan, which by itself quadrupled the federal deficit. The problem is not simply an abstract distaste for deficit spending, but the unavoidable fact that deficit spending can only continue with the aid and support of lenders – namely, other nations. Earlier, we discussed China’s growing reluctance to lend money. The runaway deficit spending of the federal government only exacerbates this problem and, many say, makes other nations less willing to lend to the US. All of this translates to dampened investor confidence and, ultimately, less investment.

Many Foreign Economies Are Also Unstable

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Last but not least, we must also remember that the U.S. is not the only economy hurting. We participate in a global market alongside other economies, many of which are doing as poorly or worse than we are. China’s economy is generally strong, but we have already discussed their diminished willingness to lend money. ABC News reported on February 15 that “British consumer price inflation is expected to have jumped to a 15-month high of 3.5 percent in January.” Analysts expect it to be short lived, but there can be no assurance of that. Regardless, the UK is still suffering from “very slow growth.” Greece’s budget deficit was alluded to earlier and remains a major concern. One of the risks of participating in a global market is that U.S. investors can feel the pinch when foreign economies are hurting. Indeed, a February 16th BusinessWeek report names “declines by other countries’ stock markets” as a major reason why “U.S. equity benchmarks are likely to extend the past month’s retreat into a bear market.” A lasting stock market recovery, therefore, will likely coincide with several foreign economies recovering in tandem with the US.

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{ 4 comments… read them below or add one }

Scott Carney February 16, 2010 at 8:37 pm

It does not necessarily follow that what is good for privately traded companies on the stock market is good for America as a whole. Or the American worker, or our vast middle-class. Irresponsible management at many of these companies spurred radical over consumption, poor investment strategies and corroded the once-strong economic foundations of America. I don’t think it makes sense to look at the stock market as an indicator of the health of our overall economy, as you say in your opening salvo, its spikes are not indicators of stability. The problem with most people who invest in the stock market is that they want to make money, not build lasting institutions.

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Jane Quatam February 17, 2010 at 4:40 pm

The consumers saving is not a resource for Wall Street. America is not a resource for Wall Street. Wall Street is a parasite that thinks everything in the universe is a resource to be consumed, repackaged, and resold with commensurate fee structures and markups.

“A capitalist will sell you the rope to hang him with.” A Mr. Lenin once said that, and it is as true today as it was during the Russian Revolution.

An unfair, unregulated finance system that merely drains the wealth of the many to redistribute it to the few, will in the end do little but foment a revolution which will destroy it. We are on that path, Wall Street must change itself or it will destroy itself.

Inept and inane propaganda like this article do little to move forward any discussion of the true problems or their extent. We are in the midst of a collapse of the finance system, it is currently propped up with trillions of government dollars and even more hidden transfers from the plunge protection team. Wall Street does not reflect reality, there is no underlying value, the collapse is being prolonged by not booking losses and shuffling liabilities around. Soon the piper must be paid or the music stops.

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Christopher November 30, 2010 at 9:44 am

Wow. Only two comments and it is obvious that all the media has done it’s job. Just the mention of “Wall Street” and people go into histrionics. This is an article about why we are in a world of sh*t financially, not really about Wall Street, and it is a good one.

Lenin may have said “A capitalist will sell you the rope to hang him with.” but he should have gone on to say “A communist will force you to manufacture the bullets they will shoot you with.”

The problem is not the markets, but the governmental manipulation and interference in them that caused theses problems.

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Anonymous November 30, 2010 at 1:02 pm

I agree. If you look at the underlying causes of the housing problems, you will find government policies to be just as responsible as Goldman Sachs.

I find Jane Quatam’s comments regarding Wall-Streets “redistribution” of wealth to be ironic, as I’m guessing she would have no complaint regarding the governments redistributionist policies.

The real root problem is America, and Americans, have been living beyond their means for too long. I am a CPA and am astonished at the way 80% of people manage their wealth. The American government is just a reflection of its people.

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