The economy and the market, July 2014

Without putting you to sleep with the volumes of economy-related notes I've taken over the past few weeks---which amount to summaries of the data, and my thoughts on various leading indicators---suffice it say that last week's jobs number confirmed what I'm reading in the employment-related stats. And that housing, general retail, manufacturing, services, even pianos (anecdotal), fishing guides (anecdotal), boats, and more small business owners taking one week vacations than they have since before the recession tells me that the economy is indeed doing better than it has for quite some time.

I just completed my bi-weekly assessment of market valuations, and, as has been the case of late, I see value in some areas and froth in others. Going forward, near-term, it'll be about earnings and interest rates. As I've said all along (well, all along of late), inflation/higher interest rates would be the obvious potential catalyst for the next correction, or bear market. Not that some black swan won't swoop in in the meantime.

All the pundit prognostications can make your head spin. I've heard everything from we're merely 5 years into a 15 year secular bull market, to, we're within days, or weeks, of the next great bear market. No kidding!

Some say higher interest rates will indeed send the stock market reeling, while others say rising rates will be welcome confirmation that things are finally improving, and that that will show up in corporate earnings sufficient to offset the potentially negative effects of higher rates on stock prices.

I'll say this; stocks will not do well against higher interest rates unless we indeed see substantial growth in earnings. Even with better earnings, however, I would still expect stocks to struggle at the first sign that rates are indeed on their way to normalcy.

But hey, let's not put the cart before the proverbial horse. The Fed (the majority on the board anyway) just doesn't seem overly worried about inflation and, therefore, stands pat on short-term rates for now.

The wildcard remains the bond market --- the longer end of the curve that is. Bondholders don't have to be prompted by the Fed; if they indeed see inflation coming, particularly while they're holding such tiny upside potential in their bond portfolios, they will sell, forcing up longer-term rates and---if they turn out to be right on inflation---leaving the Fed to play catch up. And that's where recessions/bear markets tend to come from. Time will tell...

Bottom line for me:

Short-term: I'd love the Fed to step up the timeline and start raising short-term rates, and let the stock market deal with it. Much better to be ahead of the inflation curve in my estimation.

Long-term: I'm bullish on innovation and growth, globally, and I want to own the companies that will deliver it in the years to come. And am willing to ride through (while adjusting at the margin, and rebalancing periodically) the inevitable volatility to come.

So why not try and time the market?

Well, frankly---my opinions regarding the economy, inflation and stock prices notwithstanding---one would have to possess a gargantuan ego, while being profoundly foolish (I guess they go hand in hand), to even begin to think that he/she can anticipate the actions of thousands of individuals, and institutions, taking opposite sides (it takes two to transact) on millions of shares of stocks.

Lastly, back to the Fed: As you watch the brief clip linked here, notice how some members of the panel, along with the Fed, have yet to grasp that curious task of economics. Per Friederich Hayek:

“The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design.”