A month into 2009 and the bad news continues. Perhaps I’m becoming immune to the economic gloom or maybe it’s the first sign of spring, but I can’t help feeling we should look on the bright side.
Yes, the world economy is undergoing a severe contraction. Millions of people are losing their jobs, and investors have seen their long-term equity holdings halve or worse in value. Even countries such as Iceland are going bankrupt.
But you know what? It could be worse.
The universally pessimistic financial commentary might have been useful in 2007, when investors could try to do something about it. But with a few honorable exceptions, everyone expected those debt-fueled good times to last forever. Banks lent huge amounts against inflated property values on the grounds that prices wouldn’t ever fall, and politicians like the UK’s Gordon Brown ‘balanced’ their budgets by assuming they’d abolished the boom-and-bust economic cycle.
Busts in capitalist systems happen for a good reason. In the absence of (inefficient) central planning, we need the market to correct the imbalances that build up as people and institutions slowly distort the system.
Something had to be done to stop the poor allocation of capital, whether by ordinary people bidding up the prices of their homes or cynical bankers slicing off millions in bonuses for playing pass-the-parcel with toxic and highly-leveraged assets.
Clearing uncompetitive retailers out of the high street and forcing inefficient companies to shape up or ship out overseas will also be valuable in the long run.
None of this is to diminish the suffering if you’ve lost your job or your home. But from a global perspective, things could be far, far worse.
Here’s ten quick reasons why I think we should be happier – albeit not exactly confident – in 2009.
1. President Obama is in office
As a UK citizen, I couldn’t vote for Obama, but as a citizen of the world, I’m glad he’s President.
Not just because Obama’s election is a wonderful affirmation of what’s amazing about America after years of being reminded what’s not so great, but because he seems a pragmatic and inclusive leader.
Sure, Obama has to talk a little about protectionism to pacify his voters, but I get the sense he’s too clever to risk the globalization that is making us all richer. Even more importantly, a new administration means the chance to do a ‘kitchen sink’ job on the American economy – turning over every stone, blaming the former incumbent, and taking whatever steps are required without being seen to back-pedal.
Whatever your political persuasions, having a new and capable man in America’s highest office seems to me a great catalyst for recovery.
2. This isn’t a depression (yet)
Things are terrible. American and UK unemployment is soaring, factories are closing, banks are going bust and stock markets have crashed. But it’s important to realize we’re not in a depression.
As the Oblivious Investor wrote recently on US GDP:
From the peak, [US quarterly GDP] is off $128 billion, or just under 1.1%. Sure, it’s not good. But it hardly seems catastrophic.
For comparison – and I’ve mentioned this before – from 1929 to 1932, real GDP fell by 27%. A 27% decline is an entirely different sort of thing than a decline of barely 1%. So please, let’s stop pretending this is anywhere in the ballpark of a depression.
Obviously things could get worse. But they haven’t yet. Let’s keep our heads.
3. Inflation is down
Falling inflation has enabled central banks to slash interest rates. I understand the argument that this could be stoking up problems for the future, but if you’re in a sinking boat, you should start bailing and worry about how the holes got there later.
Just imagine the alternative: A backdrop of rising inflation and rising interest rates even as consumers cut spending and lost their jobs would be far worse.
Deflation is a possibility, but I personally think we’ll avoid it. Governments are actively looking to print money by any other name (e.g. quantitative easing), and the world still has finite resources and a growing population. Inflation will be back in a year or two, I expect.
4. Commodities have plunged
Remember the tortilla riots? The rice wars? Peak oil? All just a memory after 12 quick months.
Prices of all kinds of commodities have collapsed from the astronomical levels of last summer. Oil, copper, aluminum, wheat, soybeans and corn are a fraction of summer 2008 prices. Only gold stands immune, either because it’s seen as the ultimate in safety or because of the fears of a return to inflation.
If you’re an investor in BP or Xstrata or another major resource company, this isn’t exactly good news.
But looking to the bigger picture, the recent commodity highs were hammering industry and fueling inflation, as well as raising the prospect of widespread civil unrest.
Hopefully the system now has some breathing space to adapt in a more orderly manner to the increased commodity demands brought on by globalization.
5. Reckless banks have left the market
Many of the banks which offered ridiculously generous mortgages or lent to barely-sub-prime borrowers have gone bust or been nationalised like Northern Rock in the UK.
The sins of US sub-prime lenders are by now well-known. Similarly, former building societies here in Britain such as ‘Bungled and Badly’ were playing at being bankers, with terrible consequences for UK household finances and the margins of decent banks.
We’re better off without them.
6. House prices are falling
I’ve written previously that continuing falling house prices are the main reason why bank share prices are still driven by fear. Until prices firm up, their balance sheets will continue to worsen.
From an investment point of view, this is terrible news. Confidence in banks is vital to the economy and the markets.
But from the point of view of long-term stability and dare I say a ‘just society’, I think falling house prices are a good thing.
It was getting to the point where the only people who could legitimately afford to buy a house were those with rich parents, equity in other houses or jobs as dodgy bankers. Areas of town that were accessible to professional graduates on above-average salaries a decade ago were becoming the preserve of the super-rich property-owning elite.
This sent out a terrible and distorting message to young people: Forget studying, don’t bother setting up a business, just become a landlord instead.
But a country can’t get rich by selling houses to each other. If house prices fall to make them more affordable to the majority, that’s a positive thing.
Even if you own a home, you shouldn’t bemoan falling house prices. Only when you come to sell up and exit the house market are high prices good for you. If you’re trading up, you’ll save more money by buying the next house up the rung for less then you’ll lose on selling your lower-valued home.
7. Wall Street and the City of London are humbled
Wall Street and the City made this mess, and they have paid for it. This is wholly good.
Anyone who has lived in London or New York will have heard 20-something bankers explain why they’re worth being paid hundreds of thousands or more because of the purity of the market system. Never mind that much of it was a zero-sum game even before it became apparent that it was worse than that – with toxic loans they were taking from one hand and stuffing their pockets with the other.
The financial elite claimed the brightest kids of each generation going into jobs where they shuffled numbers in ever more inexplicable ways – to the extent that even now banks don’t fully understand the risks they carry – was making everyone better off.
But now that much of the financial system has been found to be decked out in the Emporer’s New Clothes, perhaps some would-be financial whizkids will go cure cancer or put a man on Mars instead.
Note: I have extremely hardworking friends who work in the financial industry. I’m not saying they’re all corrupt, or even that they don’t deserve to be paid what doctor or a senior manager gets paid. It’s the obscene ultra-bonuses that come from nothing other than holding a bucket next to the money-geyser and the unremitting arrogance I object to. If that’s taken a knock, I’m glad.
8. Fund managers are being whittled away
There are more funds investing in the Western world’s markets than there are stocks and shares to invest in. This is crazy, especially as by definition at most 50% can do better than average, before costs.
Worse, there’s no reliable way to really tell whether any fund will offer a sustainable long-term advantage. And for all this you pay high fees! You’re better off passively tracking the market instead.
A few funds offer access to some particular asset class or money management expertise, but most are just expensive and under-performing pseudo-trackers.
If the dire news about the stock market causes a few more active fund managers to shut down and the overall ‘tax’ from the financial industry on unwitting investors falls too, then this bear market has not been in vain.
9. Less investment bankers
Are you spotting a theme here? Look, I’ve nothing against people making big money for taking big risks and contributing positively to society. For example, anyone who risks starting a company and triumphs deserves what they get, as far as I’m concerned.
Investment bankers by and large do not fall close to that bracket, at least in recent years, as has been well-documented elsewhere.
If the investment bankers still standing go back to advising clients how to sustainably grow their business – instead of being quasi-hedge funds run along the lines of a seaside casino – then that’s a good thing.
10. The markets don’t look expensive
If you’re a long-term investor, this is probably the best time to invest in the stock market for 20 years.
I won’t say the world’s stock markets look cheap. With so much uncertainty around it’s hard to tell what a fair discount is, and besides P/E ratios have fallen lower before previous bear markets have ended.
But Robert Schiller in the US has now followed Warren Buffett, Antony Bolton, Fisher and many others in declaring that stocks look undervalued, as reported in last month’s Forbes:
Yale professor and widely respected economics soothsayer Robert Shiller recently noted that, based on 140 years of market research, the Standard & Poor’s 500 has finally become, in his words, “undervalued.”
When Shiller talks, as the old saw goes, people listen, as he correctly predicted both the tech bubble and the housing bubble, so take that E.F. Hutton.
As noted by Henry Blodgett, writing for the Clusterstock investment Web site, this is the first time in 17 years that the market has dropped this low when measured against trailing earnings.
Shiller calculated the price earnings ratio of the S&P 500 at 15.2, whereas the historical average is 16. The question now is whether it makes sense to take the investment plunge, because no one can predict how long it will take the market to benefit from its newfound affordability.
Other stock markets look even cheaper – including the UK stock market, as Job Curtis, fund manager of the City of London Investment Trust, says:
A number of stocks offer attractive yields relative to Gilts, with depression era valuations causing equities to yield more than bonds. For example, the FTSE All Share offers a 4.8 per cent yield well above that of ten year Gilts, and is very cheap on a price earnings ratio of 8.6x.
Perhaps considering the very strong dollar, it’s a good time for US investors to look to putting some money overseas? UK stock market investors may as well load-up sooner rather than later, I reckon.
My glass is half full
Don’t get me wrong. I‘m not claiming that everything is rosy, or that the markets will definitely end up this year, or even next year. But things could certainly be a lot worse. And if you’re drip-feeding money in over the long-term you know you’re probably getting good prices right now.
Always look on the bright side of life? Maybe not, but it’s pointless fretting about umbrellas after the storm has passed. Sometimes you have to look for the sun peeking through, if only to remind yourself blue skies will come again.