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Consider Dow 13,000. We have already surpassed that
mark and probably will do so repeatedly in the next several weeks. To
skeptics such as myself, there is an underlying fallacy in numbers such as
this. When DJIA hits new high water marks, it allows investors to fall prey
to the big number fallacy.
The big number fallacy goes something like this: All big numbers, and
we can certainly qualify 13,000 as a big number in terms of stock market
advances, are considered infinite. There is the possibility that given enough
time the Dow could lumber on towards infinity. And the chartists among us
will agree, based on the pace of recent years that it could happen in our
lifetimes.
Most would agree that the meteoric rise in that index of thirty
industrials that occurred from 1990 through two small recessions and a market
correction or two has been impressive. And as we further consider the big
number fallacy we find the Dow 13,000 is larger than any other previous
number and yet smaller than any other that may lie ahead and, to complete the
infinite fallacy, the numbers are the same as each other. Being greater, less
than and the same as is a feat that only numbers can accomplish.
The problem with such thinking is one of promotion. To most investors,
big numbers can only get bigger. In December of 2003, I offered readers of
this column the following suggestions when another big number was broached. The
excerpt was from an article titled the Kiss of Dow 10k.
“There are still some worrisome indicators,”
I wrote suggesting that 10k might be just a smoke screen of sorts masking
deeper problems. “Right now
though, it is important to think about how we should act, what we should do,
and how disastrous mistakes of the past can lead us to profitable maneuvers
in the future.”
You will remember that many of us were still
stinging from the losses we experienced when the market seemingly fell from
beneath our collective feet and this article sought only to forewarn
investors from jumping in. It is a well-documented fact that investors like
markets on the rise, disdaining the bargains of a market on the decline.
“Many of the pundits
that I hear of late are encouraging trading in a market that is moving
steadily higher. Buying into such scenarios takes more discipline than many
people have. There are some simple guidelines you can use though that will
make any correction in equities (oops! the bear in me is slipping out) less
painful.”
To this day I remain skeptical – invested mind
you, but not so certain that what we see is reality. My next suggestion
sought to temper enthusiasm but not discourage the human element
involved.
“Once you have made
your decision to buy a certain stock, buy half as much as you would like. Your exuberance has probably taken over your
research and trimming your enthusiasm for your decision is better done
initially. This market is trading at very high levels and in spite of all of
the potential, all of the growth, and all of the positive numbers, we have
come a long way too fast.”
And that fact
remains true today.
“There are some technical problems
with the markets right now. [A] Lack of conviction means that money is simply
moving around in as many issues as possible, a spreading of risk that isn't
necessarily something that should be confused with diversification.
“Profits at many companies are up
based on lowered guidance as reported to analysts. Underestimating profits is
garrulous at best, lulling the average investor to sleep while selling their
own shares at record levels.”
With
companies briskly repurchasing their own shares coupled with the hot pursuit
of potential leverage buyout candidates, the result, the current reporting
season has been grossly underestimated. And the Dow goes higher.
Some critics
have challenged the Dow’ performance and questioned the
benchmark’s viability. The Dow is a price-weighted index giving member
companies with rising stock prices higher visibility or weight within the
index. As it crosses the 13,000 mark, only half of the Dow stocks were up.
Compared to
the Dow, the S&P 500 has 347 advancing issues in an index that is
calculated based on market capitalization. And yet, the index has yet to come
close to the all-time closing high of 1,527.46 mark set in March 2000.
I was equally
critical of the Fed asserting that their failure to raise interest rates was “timid” and “has allowed portfolio managers to
run this economy.”
“And lastly,” I wrote, “productivity is not a good indicator that things have
improved. As many of the current work force will tell you, excluding the
temporary force that is shifting in and out of the only jobs available,
capacity to produce is strained to human limits. When manufacturers begin to
address this problem and rehire workers to meet growing demand for increased
inventories, stock prices will begin to fall.”
In this
market, only three years later, manufacturing jobs have shifted to service
sector employment and in many instances for considerably less pay. Capital
spending, the kind that improves productivity has been almost non-existent
leaving many to wonder what is propelling these outsized stock gains.
The gross
domestic product is down along with housing. Personal income is up and
spending is as well. The economy is down; consumer confidence is on the wane.
Regulators are threatening to throw SarbOx out as so much of a knee-jerk
reaction while 41% of the profits these companies are reporting are coming
from overseas operations. And the market shrugs.
While I
suggested that “the kiss of 10k
would be mostly a peck on the cheek”. The intervening years have
led me to believe that rather than 13,000 being portrayed as the love child
of that kiss, it should be identified as more of a placebo for an economy in
trouble.
This market offers little
in the way of substance and a good deal in the way of illusion. The Latin for
placebo is “I shall please” and so the market has. Portfolios and
retirement savings plans have benefited from the rise in stock prices. Those
prices, acting as placebo, mean very little without underlying growth.
It would be wise to remember that in order for a placebo to
work, there needs to be faith in not only the person administering the
treatment, the markets, their cheerleaders, and the companies but the
patient, the investor as well. Do you have faith?
Paul Petillo
www.BlueCollarDollar.com
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