Pessimism fatigue

Earlier this month I said:

So we could see a de-coupling between economic outcomes and market performance particularly should quantitative easing recommence in the US, Europe and the UK

I really think this is and remains a tradable investment theme in at least the first part of 2012 and the equity market, as represented by the S&P 500 which is moving this way so far as you can see in the chart below:

And so it is this morning that I must declare that I’m sick of being pessimistic, sure it’s made me money and helped pick both the market and the economy right for most of the past few years, actually getting on for to four now. But I’m over it, I want to be positive again, Europe stumbled in 2011, is stumbling still but it hasn’t blown up yet, the world hasn’t ended and it will hardly be a surprise if Greece defaults on its debt. Just like it hasn’t been a surprise over the past week with France and others getting downgraded along with the European rescue package itself losing its AAA rating.

Indeed markets may not have exactly shrugged all this off but they have generally taken these latest events in their stride and so it was in Asia yesterday and Europe and America overnight with equity markets generally still higher even as the World Bank pronounced that,

 “…The world economy in 2012 is set to grow by just 2.5 percent, weighed down by ripple effects from the 2008 financial crisis…developing country growth for 2012 is now forecast at 5.4 percent, the second lowest over the past 10 years. The Bank has also lowered its growth forecast for high-income countries in 2012 to 1.4 percent and -0.3 percent for the high-income Euro Area. Reflecting the growth slowdown, world trade, which expanded by an estimated 6.6 percent in 2011, will grow by only 4.7 percent in 2012, before strengthening to 6.8 percent in 2013. Risk aversion stemming from the Euro Area debt crisis has spread to both developing countries and other high-income countries.”

Nothing fresh, new or earth shattering there as far as I can see – this is of course the helicopter or very high level summary – and perhaps why it and the other bad news recently has largely been ignored.

I get a sense that for all the warnings of doom and gloom, we will actually need to see some real trouble, say a messy and chaotic Greek default, for the market to turn down. No doubt, later in the year, when real economic pain returns, the risk is that markets will resume falls, but for the moment in the New Year hope abounds.

Please remember these are not recommendations for you to trade these are my views and I have my risk management tools and risk parameters that you do not have access to. Thus, this blog is for information only and does not constitute advice. Neither Greg McKenna nor Lighthouse Securities has taken your personal circumstances, objectives or financial situation into account. Because of this you should, before acting on this information, consider its appropriateness, having regard to your objectives, financial situation or needs.

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      • But tell me what has changed? This New Year honeymoon alluded to above is just that. Then the ‘marriage’ falls apart i.e. when real bad news happens.

        • What has changed?
          – Bad news flow has been terrible and relentless. Now suffering from diminishing returns.
          – Leading economic indicators turning up.
          – Credit growth in the US.
          – Lower price inflation figures (price inflation is equivalent to CB cash rate in a ZRIP world).
          – Bottoming of bearish sentiment (ie contrarian is bullish).
          – MASSIVE liquidity injection from the ECB and more to come.

          So first half looks good for now, have to take it as it comes. Higher price inflation (or specifically too high oil prices) flowing through will then act as a counterweight if it comes through.

        • Deus Forex Machina

          true indeed – my point here is to help people understand the minds of traders and investors and why market reactions are currently different to bad news than they were back in the middle third of last year…

          in the end as you say its the economy, that wins out…which ever way it goes

        • Made a reply earlier but it went in to the black hole.

          What has changed?

          – Leading economic indicators are picking up
          – US lending growth has been expanding
          – Price inflation has been down (in a zero interest rate world, this acts like the funds rate) which is stimulatory
          – Bearish sentiment seems to have bottomed (as a contrary indicator)
          – The wall of bad news seems to be having diminishing returns.
          – ECB has increased money supply by a massive amount, with more to come.

          So all the factors have moved in to place for now. The first half should be positive… after that we will have to see. Higher price inflation would act as a counterweight and the whole environment means it is likely to have shorter cycles.

          • – Bearish sentiment seems to have bottomed (as a contrary indicator)

            Yeah but, didn’t I read the other day that bullish sentiment is at an 11 month high? Yes I did.

            So … is sentiment still a contrary indicator?

          • Lorax,

            “So … is sentiment still a contrary indicator?”

            Of course, but it depends on what you are looking at. The AAII survey is pretty useless right now. There is no context. It is neutral and does not indicate bullishness or bearishness.

            The NAAIM survey on the other hand is much more useful right now and shows a low in money managers equity exposure.

            We have also been having massive retail US equity market withdrawals from the markets for years. This isn’t the smart money. But it is on the sidelines and ready to buy in at higher prices as usual.


  1. For mine that’s a very fair comment. And things are always weighted to the long position (ie positivity) as the world is always looking for solution and humans are very creative.

    Most forget it’s actually a bigger, tougher call to be a bear because the dice are loaded.

    But, not being wary is how middle America and Europe handed their generational savings over to the finance world on a plate…

  2. Great post and title DFM. I am feeling much the same way.

    The charts don’t currently back up the bearish case, and haven’t for several weeks. Neither do they back up the bullish case.

    Time to be mostly fence sitting, watchful, with some nibbles at the long side just in case. Ready to turn on a dime if need be.

    As per The Prince’s Market Morning post, the re-test of the nearby October highs for the UK and German markets is key. And as per his Volume post, volume is low, so one key ingredient of a sustainable bull market is missing.

    Another reason for watchfulness is that the NASDAQ is outperforming the Dow and S&P. I have noticed this often happens towards the end of bear market rallies. When the mood gets frothy, the most speculative area of the market attracts more money.

    Wall of worry anyone? I’m trying to climb it…

    • Interesting – I have seen others in the USA mention that they are “recession weary” and given that all decisions are emotional, only to be rationalised retrospectively, then also given that positive emotions are more attractive to most than negative emotions – is there a “recession limit” inbuilt in our brain.

      When do we break the chains and enjoy ourselves with a little retail therapy?

      How long can a bear stay within the cave and not dare to venture out? (A real or virtual bear)

      Are there any studies? I’ll be surprised if there aren’t.

      • >given that all decisions are emotional, only to be rationalised retrospectively, then also given that positive emotions are more attractive to most than negative emotions – is there a “recession limit” inbuilt in our brain

        Very interesting thought.

        Perhaps emotional investment decisions are driven by following the herd, rather than based solely on their own individual emotions.

        Elliott Wavers would say that the herd movements and social mood are patterned, and that the “recession limit” is a social thing rather than an individual thing.

        • Well herd based decisions do get made, but until we place an emotional value on an outcome decisions are not made at all. That doesn’t mean that there is no rationale.

          Have you ever been in the position where your logic is telling you that you should buy stock “X” because it is downbeaten and the fundamentals are excellent, but another part of you brain is creating a contrarian thought? that is your rational thought process in conflict, and it will stay that way until the emotional part of your barin breaks the deadlock.

          They have done some studies on intelligent people who have had the emotional part of their brain damaged, and as a result they become “decision paralysed” but they still have the logic part of their brain working.

          It’s outside my field, but look at this youtube video for an explanation

          It explains to some degree why we make the decisions that we do. logical rationalisation of the decision is often the second part, it’s how we justify why we just bought a chevvy corvette to our wives when you had earlier decided on a toyota.

          • Rings true with me. I always thought that Bjork had it 100% right in the mid-90s when she sang “there’s definitely definitely definitely no logic, to human behaviour…”

          • All very interesting Peter, but its not like we haven’t had a rally during the recession. I mean, March 09 to March 10 was a pretty decent bout of optimism!

          • Lorax the US markets have done well since March 2009, but unless you were lucky and picked the bottom in a small window our markets have risen from around 3500 to 4200 – 20% over 3 years – big deal – we haven’t seen a rally at all in comparison.

   – try a few different starting points.

            It’s just not impressive in my opinion, and too volatile. Do you really think that the reward outweighs the risk at the moment, or has done so during 2009/2010. I would rather have cash at 6% than equities – it has also returned 20% over three years.

            I admit that I’m an amateur in equities, so tell me what I should be doing.

      • Deus Forex Machina

        You are on the money PF

        This has been the point of the Fed’s actions and the Bush/Obama Administrations rescue packages for the banks…

        hold up wall street until the optimism seeps into main street…

        now we can debate the merits of this approach both for efficacy and morality but at its essence its a psychological ploy to get people moving/spending again…

        personally though I’m sure that most Americans looking for a job and those 45 million on “food stamps” would just prefer to be employed

        but that’s a whole other topic

        • This is what makes this point in history so interesting really.

          There is an absolutely massive attempt to overcome what appears to be a structural problem through confidence manipulation via equity markets. So

          1. Do equity markets really matter that much?
          2. Does confidence really matter way way more than we ever suspected?

          The cynic in me sees the pension funds going the way of US housing – straight into the hands of the financial wizards.

        • Thanks. Our cerebral cortex can only cope with 7 problems give or take a factor of 2 so yes they may be able to use a psychological approach – enough good vibes may win them over.

          It reminds me of the old socialites’ poem

          “I enjoy a martini, two at the most,
          three I’m under the table,
          and four I’m under the host”


  3. I contend that it’s realism after 40 odd years of the global financial/political system spin and believing it. Now people are more critical, and we the citizens are being squashed while the elite prosper like never before. If you contend that debt is never a problem then be happy.

    However, I believe, before long, will be an opportunity to make loads on the markets, so I’m optimistic 🙂

  4. European recession … yay !
    Slowing Chinese growth … yay !
    Stubborn US unemployment … yay !
    Stalled banking earnings growth …. yay !
    Gradual decimation of retailers’ margins …. yay !
    Long-term cyclical shift in consumer leverage … yay !
    Declining house prices reducing people’s wealth … yay !
    Services sector jobs slowly being ground into dust … yay !
    Potentially disruptive political shifts due in European nations … yay !
    Tinder dry political standoff in Gulf ready to erupt and blow out oil prices … yay !

    But man, you can’t argue with a trend. Pile on in, Mom & Dad, the water’s just fine.

    • It’s this exact lack of confidence (justified in mho) that is not going to be easy to unseat.

      Belief in the integrity of the financial system has been given a huge knock and its just really hard to see the same sort of confidence that existed pre-GFC switched on again.

      • If you’re an obsessive surfer, it don’t matter too much what all of those fins in the water are -if there are some good waves to be had, then it’s wax on and stay ahead of the curl.

        Everyone else is just watching from higher ground, keeping their eye out for the tsunami, waiting to see if those fins don’t actually belong to a great white, and marvelling at those crazy f**king surfers.

        • In my case that line could be changed to “The market can stay irrational longer than it takes you to pull all your hair out”… I’m not in any danger of going insolvent!

  5. “developing country growth for 2012 is now forecast at 5.4 percent, the second lowest over the past 10 years”

    I am assuming that this includes China, how does this bode well for Australia?
    Added to that, it would appear that the Chinese are channel stuffing the dirt we sell them and that the decline in real estate prices does not include the “free gifts” that a lot of new investors are getting with their purchases, thereby hiding the true extent of RE collapse…..what am I missing?

  6. Great post and discussion.
    Surely there is fatigue and also disbelief. It can’t be this bad, right?
    What I don’t get is, how US is meant to decouple from the events in Europe and China, how is China going to decouple from events in Europe .. and China… It’s all a big interconnected vicious circle.

    • Addition
      Is this a central bank induced world(equity) rescue, the basis of which macros has described exceptionally well in the past?

      • Yes it is, and that’s why it won’t last. I saw someone on here the other day ask if the ASX might go to 15,000. Just wait until the retailers start laying off tens of thousands throughout this year. We will be lucky to get to 5,000.