Obama's Ace In The Hole

Be prepared for Barack Obama to pull out what he believes will be his ace in the hole sometime this summer or fall when he will argue that the stock market has done much better since he became president. He was inaugurated on January 20, 2009, and the Standard and Poor's 500 Index did bottom at 667 seven weeks later. To a very large segment of the voting public he would seem to have a point. But as one who spent 33 years managing stock portfolios for mutual funds and pension funds, I would not be one to give Obama the credit for that occurrence. In fact, I would argue the reason the market plunged as far as it did from October, 2008, to March of 2009 was because of Barack Obama.

Basic investment management textbooks teach those who pursue a career in professional money management that the stock market is what is known as a discounting mechanism. That means it discounts the future, traditionally anticipating the economic and market environment nine to eighteen months out. In other words, the market today reflects what aggregate investor expectations are for corporate operating conditions approximately a year ahead.

Following the Bush tax cuts of 2001, the stock market as represented by the Standard and Poor's 500 Index of large company stocks doubled over the five years from the summer of 2002 through the fall of 2007, peaking in October at 1565. From October 2007 into September 2008 the market underwent a typical consolidation following an extended advance, dropping nearly 20% as the bull market aged and details of the magnitude of the housing bubble, related mortgage debt derivatives activities and their impact on the financial system began to become known. Then the proverbial shit hit the fan. The Bush administration decided it was necessary to rescue Fannie Mae and Freddie Mac, Lehman went bankrupt and the Fed bailed out AIG. Reasonable people can disagree on who bears the burden for what happened next, but over the next seven months the market plunged another 46%, finally bottoming in March of 2009 at 667 for a total decline of 57% from the October 2007 peak, the worst stock market collapse since the 1930's.

I know that some folks would contend otherwise, particularly those with a vested interest in getting bailed out from their high risk speculation gone bad, but in my mind there is no question that the Bush Administration's response to the financial system's liquidity crisis was the wrong thing to do. There was no need for bailouts. Financial institutions that suffered trading losses should have suffered the consequences. Bankruptcy laws are on the books to deal with the situation, and the failed banks should have been reorganized and operated by the FDIC as stipulated by law. Few depositors would have lost any money, but greedy speculators in high risk fixed income securities and derivatives would have suffered the substantial losses they should have sustained for making irresponsible bets.

But I would argue that wasn't the primary reason for the stock market debacle. In September of 2008 the presidential election polls swung sharply in favor of Barack Obama over John McCain following months of a near dead heat. The stock market promptly accelerated its plunge when it became clear Obama was going to win the election. This was a man who had very little experience legislating or managing anything. He had no noticeable accomplishments other than winning elections. He rose meteorically through the most corrupt political system in America. He associated with many questionable and contemptible personalities over the years, and he had the most liberal voting record in Congress when he actually did take the time to show up to vote. Plus, he certainly had a vested interest in making the financial system turmoil look worse than it really was so he could claim credit for an eventual 'miraculous' recovery from the brink of epic disaster. Unfortunately, we will never truly know what would have happened without the bailouts.

Furthermore, during his campaign Obama had made many promises that scared the hell out of businessmen and investors. He said he was going to raise taxes by letting the Bush tax cuts expire. He said he would institute Universal Health Care, driving up costs of insurance for both consumers and businesses. He promised to enact windfall profit taxes on oil companies. He vowed to pass the Employer Free Choice Act, an ironic euphemism for legislation to make it easier for productivity killing labor unions to force unionization of business enterprises. In essence, he promised to mandate into government policy the dominant themes of the Democratic Party - environmentalism, income redistribution, more government support programs and stronger regulation of commerce and industry.

Once he was elected he proceeded to pursue implementation of those promises while undertaking an exponential expansion of the questionable financial system bailouts. Under Obama the US government became much more involved in the private sector of the economy than ever before with the help of Democratic Party control of both houses of Congress. They ignored public opinion and enacted Universal Health Care. They engineered a take-over of General Motors accompanied by abrogation of legal contracts to give more power and ownership interest to labor unions. And they created new regulatory agencies and hundreds of new rules and regulations to bog down and straightjacket private enterprise.

As I said at the beginning, the stock market is a discounting mechanism, anticipating the economic and market environment approximately a year into the future. Sure enough, the two years ending in December 2009 saw corporate earnings for the Index of large companies drop 31%. For smaller companies the decline was worse - 35% for the mid-size companies and 60% for the Small Cap Index. The market anticipated the environment quite well. Today, March 2012, the large company index has recovered to 1365, only 8% above the level of September 2008 when the second stage of the market decline began and still down 13% from the peak in 2007. This poor performance relative to other recoveries can be attributed to the anti-capitalist policies Obama has pursued since his election which have resulted in the slowest economic recovery since the 1930's, the only other time these big government policies and extensive interference in private enterprise have been conducted. They didn't work then and they are not working now. Official unemployment is still in the neighborhood of 8%, with actual unemployment much higher counting those who have stopped looking for work, and economic growth remains below average.

Obama will certainly argue that he saved the American economy from the incompetence of George Bush and that he now has the economy back on track and moving up. That is more misleading propaganda. His policies are responsible for keeping economic growth well below what it should be. All he has truly done is doom us to painfully sub-standard growth, high unemployment and progress killing stagflation into the foreseeable future. That is the credit he deserves.

All that still leaves one question unanswered. Why is the stock market going up despite the growing concerns of market strategists about valuations and falling earnings estimates? I would argue there are several reasons. One is that you can't keep capitalism down for long no matter how hard you try. Business is improving slowly because people cannot postpone their need for a new car, new clothes or a new computer forever. Pent-up demand is being unleashed. Another reason is that the Fed's unprecedented easy money policies, keeping interest rates historically low by buying up nearly all of the new government debt being issued to fund massive deficit spending, is causing some of the money being created to leak into equities. And of course, the stock market could be enjoying a boost from the anticipation of an end to the four year nightmare of Obama in the Oval Office.

Perhaps the most powerful and sustainable reason the market is in an uptrend is due to what one might call the pendulum effect. Financial markets over time swing back and forth between asset classes, just like a pendulum. Over the last decade fixed income investments have grown as the investment of choice for institutional investors, the folks who dominate the markets. So much money has gone out of stocks and into bonds, collateralized debt obligations and their derivatives over the last several years that the total size of the stock market has shrunk considerably. For example, IPO's (Initial Public Offerings) in the United States have declined to around 100 a year from 360 a decade ago, and listings on American stock exchanges have dropped to under 5000 from 8,800 fifteen years ago. The pendulum has swung so far to fixed income that bonds are now in a speculative bubble while stocks have been ignored.

When the fixed income and derivatives bubble collapses, the rush out of those asset classes back into stocks could fuel a bull market of substantial proportions. It won't necessarily be about the economy, corporate earnings or market valuation. It will be about supply and demand. We are just at the beginning of the pendulum beginning to swing back towards the equilibrium and on up the other side. As interest rates start to rise investors won't be able to get out of bonds fast enough. Bonds have been in a bull market for 30 years. The pendulum swinging back into stocks may not last that long or provide the 15% annualized annual returns stocks achieved during the 18 years from 1982 through 2000, but the gains should be more than satisfactory.

Finally, Barack Obama is proving that in order to become a successful politician one must master the ethically and morally dubious arts of self-righteous condemnation, artificial indignation, sanctimonious condescension, character assassination, contrived passion and choreographed press conferences, all while taking credit for the good things that you had nothing to do with and proclaiming oneself a virtuous steward for the public good. In other words, one must have the ability to convince folks of things that aren't true - to take credit when credit is not due and deny responsibility when it is. Barack Obama may be the best we have ever seen at that game.

Why Not The Best?

Why not the best and the brightest?

America is fast approaching perhaps the most important election crossroads of its 236 year existence.  Will we remain the world's beacon of liberty and the engine of global prosperity or will we sink into the doldrums of apathy and dependence, or even worse, the abyss of oppression and destitution.  It is time to elect real leaders instead of settling for the best of poor choices.  Mitt Romney, Rick Santorum, Newt Gingrich and Ron Paul each have excessive baggage that is likely to prove fatal in the general election unless Barack Obama does something really stupid.  It is time for Republicans to reboot and offer candidates with proven ability, integrity and substance to the voters.  Now would be as good a time as any to start replacing the professional politicians who dominate our nation's government.

David Petraeus is an experienced, recognized leader with a long term record of success in the world's most challenging and vitally important arena's.  No one in America has an impressive resume' as he does.  He has shown all Americans that he is an intelligent, hard-working, decisive, strong patriot who is in love with his country, not himself.  Thomas Sowell has been rendering wise, rational, pragmatic opinions on social and economic policies for nearly four decades.  O.K., he is 81 years old, which rather than being a liability means to me he has seen it all.  He would be the perfect choice to be responsible for giving enlightened advice to a chief executive who knows how to get things done.

Neither of these men have displayed the desire to run for the top political offices in the country, which in my opinion is a huge plus factor.  Anyone who really wants the presidency so badly as to run the gauntlet of a political campaign is on a power trip, and probably should be among the last people on earth to have the job.  I think it is time to appeal to General Petraeus and Mr. Sowell to lead the Republican ticket to get America back on track to regain the principles and policies established by our founders that made America great.

Of course neither man might want the job.  Who could blame them?  But there have to be other men and women in America whose experience, qualifications and character would make them much better choices than the ones we have.  We must find them.  With people such as a David Petraeus in the White House and a Thomas Sowell as Vice-President, we would have an excellent chance of restoring our country to its traditional greatness and leave a United States of America to our children and grandchildren that continues a legacy of freedom and economic strength instead of a ruined hulk of once what was.