Bull Market Bear Market Complicated Market

The idea for this post was my initial and apparently incorrect reading of the Jeremy Grantham letter. On first read I thought he was saying expressly the market is very complicated these days and while he may have have been implying as much I did not find the comment as I remembered it on the second read through. Whether he implied it or not, I will say it; the markets right now are especially complicated and appear to be facing fundamental things that it has either never faced or not faced in modern times.

We as investors need to assess it all and try to navigate through.

The list of risk factors is too long to come up with all of them off the top but things on my mind this week (many of which have been newsworthy this week) have included many countries facing ratings downgrades and having to answer questions about whether they are candidates for default, just about every US state has serious deficit problems, it is possible the GDP growth seen thus far might be all from stimulus, pension funds are looking back at a decade where US stocks dropped a couple of percent per year but they need growth of 7-8% per year, there are conflicting messages coming from Washington (not unique), US budget deficits will be starting for with the letter T for years, creating enough jobs to get the U-6 number down to something decent seems like a mathematical impossibility, it seems like a mathematical certainty that home foreclosures must rise a lot and there are more.

The point of the above the paragraph is not to lay out a bearish argument for why stocks should go down because most of these issues have been around since before the rally started last March. The above paragraph does point out the complexities that we face today. When the market goes up they build the wall of worry for the market to climb and when the market goes down they become fundamental causes for a "big" decline.

That the same factors can be both the wall of worry and a reason to go down is not new but the current events are collectively a little more complicated than I think we are used to.

A big focus of this website from the beginning, and more importantly in the portfolios I manage, has been the expectation of trouble of this sort (with no attempt to assess magnitude or predict specifics) to come along and so to seek out countries that either avoid these issues or do not reasonably face the same magnitude of trouble where the issues might be similar.

There are plenty of countries that have only endured normal cyclical events in the last two years and so are clearly emerging from contraction--some of these places have far fewer employment issues or already raising rates as the economy expands-- or do not have anywhere near the mountain of debt and associated problems or don't have the entitlement program trouble the US has (the biggest number I have seen for social security and medicare is $53 trillion) or their banks are not so fouled up or any combination of the above.

Additionally there are many countries with far fewer moving parts (as a function of being less mature) where demographics are better, growth on the ground (infrastructure to create a modern industrial society) is going to happen as these countries become more globally relevant. Put another way there are less obstacles for these countries to have normal growth or growth that is close to normal.

If you have been reading this site for a while then you know the countries I am talking about but to mention a couple Norway, Chile and Israel and you can dig up Bill Gross' ring of fire that has been moving around the web this week for some ideas about where not to look.

The flip side to this is that every country has its own risk factors and a portfolio heavily invested in any foreign markets will lag when the dollar goes up or go down more during certain types of declines. Think about how much some countries were up during the last decade. Norway was up 121% and Chile was up 194% as the US was dropping 24%. Clearly US based investors were better served holding these markets over the longer term.

However there were periods were they lagged noticeably and perhaps uncomfortably behind the US. From March 1, 2004 to May 10 of that year as the S&P 500 fell 6% Chile fell 10% and Norway fell a more meaningful 14%. During that scare in the second quarter of 2006 (do you even remember that one?) as the S&P 500 fell 6% in a little over a month Chile dropped a little more but Norway fell 17%. In certain types of declines (in these two examples each lasting quite a few weeks) these markets can lag meaningfully but looking at the big picture, that is longer term, they were clearly better to hold.

If this is new to you then going forward it means trying to discern from being wrong and having to endure a market event. All of this adds up to more complicated. We will all have to get used to it.