Gridlock is Good

In the movie “Wall Street”, ruthless tycoon Gordon Gekko famously stated, “Greed is Good!”  That may or may not be true, but I think that political gridlock is definitely good, both for businesses and for stock markets.  When politicians are busy bickering with each other, chances of new laws and regulations coming to play are diminished, and businesses are more likely to venture in new areas.   Uncertainty, the perennial enemy of a bull market, is reduced.  And  political gridlock is exactly what we have right now.

Markets are taking notice of this.  The European PIIGS woes are now all but forgotten, and even unrest in Egypt failed to derail the market.  In my earlier update, I called for a near-term market top.  So much for giving short-term predictions!

While I still think that a consolidation is likely, longer term uptrend remains intact.  Here are some points to support this point of view.

– Last week, two major milestones were retaken.  U.S. GDP finally advanced past previous pre-recession high of 2007.  Dow Jones also rose above 12,000 mark.  However, it still remains more than 14% below its previous peak reached in 2007.  Earnings yield, compared to bond yield, remains very attractive.

– There is a real possibility of a number of municipal bond defaults, and a downgrade of U.S. treasury securities.  While each of these events will be devastating for the bond market, ironically, the resulting redemptions from bond funds are likely to flow to equities, supporting stock market.  There are many people who, in the aftermath of the Great Recession, redirected their stock investments into bonds.  Slowly but surely, these investors are coming back to stocks.

– Cash continues to be a major holding on corporate balance sheets.  Sooner or later, it has to come into play, either in the form of stock buybacks, new hiring, investing the business, or mergers.  All of these are beneficial to the market. We are seeing some evidence of this already.

– Finally, last but not least, corporate earnings continue exceeding expectations.

In summary, there are many positives supporting the market now.  While bumps along the way are inevitable, current environment for equity investors appears to be quite good.