I have to admit the markets look shaky, but I never actually expected the ground to move underneath me. Yet, Tuesday afternoon as I sat at my computer, I felt a wave underneath my chair like the floor was letting the tide in. It was my first earthquake and preferably my last.
I have to admit that’s the way the markets have been feeling as of late. CNBC had an interesting fact: the Dow Jones Industrial Average (better known as just the Dow) has moved at least 300 points in a day seven times so far in August 2011.
The greatest fear for investors is a repeat of 2008. Many equity investors lost significant money in the markets three years ago and have recovered since March 2009, when many stocks saw their lows. The fear of this same loss may be driving people out at low prices. If you invest in stocks or invest at all, the most important thing to avoid is investing with emotion. When you feel the ground move under your feet, don’t panic because it gets you nowhere. In fact, it can make you sell at the lows or near them. Fear can also prevent you from investing when the opportunities and values are the best.
A June 2005 article in Psychological Science titled, ‘Investment Behavior and the Negative Side of Emotion’ reported on a study done on a set of patients with an impaired ability to experience emotions. This is a new field called neuroeconomics and seeks to explain human decision making. The study showed the 15 individuals with impaired emotional ability but normal IQs made better investment decisions than individuals with normal emotional responsiveness. George Loewenstein, an economics professor at Carnegie Mellon University who helped author the study, said: ‘When people with normal emotional reactions lost, they got discouraged… .’
Unfortunately, we are in an economic climate rife with discouragement. The United States is having subpar growth coming out of one of the worst recessions and financial disasters in our history. This is due to a multitude of factors. Deleveraging of the U.S. consumer is leading to lower consumption. This means the U.S. population had too much debt compared to its income and it has paid that down over the past three years rather than buying goods. The good news is that consumers have paid down that debt and the debt is now at the level it was a decade ago.
Unemployment remains higher than normal in the United States. The last reported number was for July 2011 at 9.1 percent; it has averaged 5.7 percent since 1948. The Congressional Budget Office (CBO) predicts the unemployment rate will stay above 8 percent until 2014.
Overseas, Europe and the Euro have serious debt issues. Greece is on the brink of collapse and other nations face the same danger along with even the strongest Eurozone member, Germany, facing slowing growth. We are definitely in a global economy. Just as our credit issues in 2008 affected countries around the world, Europe’s issues could spread.
We are facing an aging demographic. Baby Boomers are heading into retirement and consume less during their golden years. This means the largest part of our population will be doing less and consuming less. They are also heading into their Social Security years, which is a major drain on the government coffers.
Feeling panicky? Thinking of moving to China? Fear not, dear reader, for hope remains. As Warren Buffett stated, ‘We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful.’
The markets are currently testing support levels. The low area of 10,600 on the Dow is currently the point of protection on the downside. The big question is: Will the market break the lower support or break to the upside for a rally or a continuation of the bull market? What are the positives that could lead to better earnings and a positive stock market?
Our U.S. dollar is being devalued through the two Fed quantitative easings and our debt to GDP ratio. This may not sound like good news but a lower dollar stimulates increased export demand, which will help our multinational companies. A high dollar can act as a tax on exports and that tax has been removed, thus making our exports much more competitive.
China, India, Brazil and other emerging markets are still strong and have clean balance sheets. They are smaller and less liquid stock markets than the U.S., but they have a growing middle class dynamic and unemployment is low.
Finally, the U.S. economy may not be headed for a double-dip recession but just for slower growth than in the past. The reality is the growth of the past 10 years was built on a house of cards called leverage. That growth was artificial. The slower growth that we will experience in the future will be real growth built on innovation and hard work, two things for which Americans are known. Companies have strong balance sheets with cash for investments or dividends and have cut costs to make more from less.
What does all this mean for investors? It means paying attention and acting on real trends rather than emotion is crucial to making money in the markets. Whatever you do, don’t panic.
