Stock Performance in 1930’s

As this interesting post illustrates, economic and stock market performance can be rather decoupled from each other.  Indeed, in terrible economic environment from 1932 to 1937, stocks returned 400%!  The conditions during that period were considerably worse than they are now.

Best Buy Helps the Market

Today, electronics retailer Best Buy reported a drop in its profits, but at the same time provided guidance that exceeded Wall Streets estimates.  As a result, its stock rose substantially and contributed to the advance in the overall market.  The fact that Best Buy sells consumer discretionary goods and its better outlook indicates that consumer spending decline is at least moderating.

The Crash in Reverse

Today was a good day for the markets.  Investors apparently liked the government plan to buy toxic assets.  This, with some other positive news for housing and consumer sentiment that I mentioned in earlier posts, was good enough for a 7% jump in S&P.  Over the last couple of weeks, it rose by 21%.  So does this mean that the bottom is behind us, or is it a bear-market rally like we had from mid-November to the end of 2008?

Well, I am certainly not qualified to answer that question, and neither is anyone else.  The bottom of this bear market will be identified only when the next bull market is well on its way.  However, periods like these illustrate market’s ability to rally very sharply on good news, as well as importance of having a consistent exposure to stocks as opposed to jumping in and out of the market.  You don’t want and can’t afford to miss days like today .

Consumer Confidence Rebounds Sharply

Consumer confidence is unquestionably important for the economic recovery.  While this metric is not a measure of any specific performance, such as manufacturing activity or unemployment claims, how consumers feel about the future will ultimately decide when this slump will end.

The graph below show that consumer confidence improved dramatically over the recent week.  In fact, it took only five days for it to recover the losses over the last five months.  Of course, it can drop just as quickly, but nevertheless it is a good sign.

Netflix at All Time High

Today, Netflix reached an all-time high of $42 per share.  This is a quite remarkable achievement in today’s market.  Please refer to my earlier post in January about Netflix earnings.

Good News on the Housing Front

It is quite clear that stabilization of the housing market is an absolute requirement for turning the economy around.  Today, we finally got some good news on that front.  New housing starts jumped 22% and new building permits rose 3% — both much better than expected declines in both metrics.

In other piece of good news, core prices rose 0.2% in February.  This rate is quite benign (not too high) and it is also positive, which puts a damper on deflation fears.

While it is clearly early to call a bottom yet, any positive news are welcome.  Maybe the rally we had last week in the market was justified after all.

End of Mark to Market?

Many in the financial industry claim that mark-to-market accounting has been a major contributor to liquidity problems plaguing the banking system.  On Thursday, House begins debates on a possible suspension of this rule.

So, what is mark-to-market accounting?  This simply means that bank’s (or any other business’, for that matter) assets are determined by their fair market value.  This seems simple enough, but what happens if the market for much of these assets has stopped functioning, as is the case for mortgage-backed securities?  It means that these securities should be reported at nearly zero prices, which dramatically drags down the balance sheet, and forces the bank to report huge losses.  Having smaller capital also negatively affects bank’s ability to lend.

This is not to say that mark-to-market rule is solely responsible for this crisis, but it could well have added fuel to it.  In fact, there is a train of thought that suggests that mark-to-market amplifies boom-and-bust cycles by overstating “real” assets, whatever they might be, during the good times, and understating them during the bad.

Suspension of mark-to-market rule will instantaneously bring banks’ balance sheets to much better shape, and it could be a huge boon to the stock market.

For basic explanation of mark-to-market, take a look at this video.

Is Buy and Hold Investing Dead?

The historical market statistics are certainly horrendous.  Over the last 10 years, one’s investment in a market index declined by some 20%.  2008 was the w0rst year for Nasdaq ever and second worst (after 1931) for Dow Jones.  January of this year was the worst January on record.  So far this year, the market is down 25% — more than the celebrated market crash of 1987.  S&P 500 currently trades at 1996 levels — that’s 13 years of zero return.

With data like this, and old investment philosophy of buy and hold comes under strong scrutiny, as “Mad Money” host Jim Cramer likes to point out, among many others.   However, horrible as it is, markets had similar “dead money” periods — one during the Great Depression, and another more recent one from 1967 to 1982.  Both of these periods were followed by strong gains.  In fact, while it is natural to assume that the next 13 years will follow the same pattern as the preceding 13 years, usually that is not the case.

This article from Fortune was published in October of last year, when the market was significantly higher.  Nevertheless, it still applies to the current situation.  Buy and hold is not dead, it is just dormant at the moment, but it will wake up.

Recap of Recent Events

Here’s a summary of recent market news:

– Markets extended their slide with S&P 500 dropping to 1996 levels on the news of stunning $62 billion loss from AIG from derivative gambling. Today’s news of possible GM bankruptcy didn’t help either.

– Warren Buffett’s Berkshire Hathaway had the worst year it its existence.  In the annual report, Buffett said that the economy will be in “shambles” for the rest of the year.  He added, however, that this doesn’t automatically translate to poor market performance and predicted that “the best days for U.S. lie ahead”.

– Real estate market is not getting any better.  One out of 5 mortgages are now underwater, and one out of 8 borrowers is at least one month behind in payments.  These are very high numbers.

– There were a few positive reports as well.  Retail sales rose in February, lead by Wal-Mart, which raised its dividend.  Unemployment claims dropped, and manufacturing report was better than expected.

– President Obama called stocks “potentially good deal” and likened daily market gyrations to noise.