the
Market Outlook
History Rhymes
A quarterly newsletter published by M.L. Ballew, III and T. Doug Dale, Jr., Ballew/Russell advisors
July 2008
Before we get into the meat of the newsletter, we wanted they misled the public out of ignorance or greed. However,
to be sure to note that recent reports show that the Dow is
the public was certainly guilty of ignorance. A little
down 15.3% for the one-year period ending June 30, 2008.
homework would have made it clear that bad things were
We are pleased to report that for the same time period our
going to happen to your stock portfolio.
managed accounts at Ballew Russell are showing positive
Some might say, yes, but we had a great recovery after
results across the board, testimony that our investment
2002. That is true. But, it was the result of artificial and
philosophy continues to work for the benefit of our clients.
excessive stimulation by our former Fed Chairman, Alan
It has been said that history may not repeat but it often
Greenspan, on top of tax cuts from Bush and Congress that
rhymes.
got us in the mess we are in now. Without the stimulus then,
My long-standing view (since 1998) that the market was we would have had a much worse recession in 2002, and
nearing an end to a long term secular bull market (which
later. The valuations in 2003 were at levels where most bear
officially occurred in 2000; I was early), and would frustrate
markets begin, not end, but the government stepped in to
buy and hold investors for as long as the next 15 or so years, postpone the needed price adjustments of the U.S. stock
is still on course.
market.
However, it has unfolded differently than the previous
You might say, “So, what is the difference? At least we
secular bear periods of 1929-1950 and 1966–1982.
postponed the pain.”
The reason these secular bear markets (1929-1950, 1966The difference is that the problem is now bigger and I
1982, and 2000-?) rhyme but are not exact repeats is a
am afraid the pain will be much worse this time around.
function of some of the following:
Remember, history says the secular bear markets end with
1. Status of global economy
single digit price earning ratios and dividend yields in the 4%
2. Fiscal and monetary response to the downturn
to 6% area on the entire S&P 500 Index. These measures of
3. Valuation levels at the peak
valuation are not the only ones to
There are obviously other factors but as I
look at but the best understood and
"The Fed and Congress will
see it, these are the main ones.
easiest to review. To achieve those
tinker and do everything
In the 1930s and now, we were/are in a
kinds of valuations today would
global economy and much of what we do with possible to support the
require prices to fall in excess of
markets,
giving
companies
the fiscal and monetary policy in the U.S. is
50%. Please note: I did not say they
diluted or exaggerated by the interplay of other and individuals time to clean would fall 50%. I said that is what
world central banks.
is required based on earnings and
up their debt and improve
In the 1966-1982 period, we were a closed the quality of earnings."
dividend yields today.
economy since well in excess of one-half of
The Fed and Congress will
the world’s population was non-productive and
tinker and do everything possible to
under communistic or socialistic control.
support the markets, giving companies and individuals time
A global economy brings on cheap labor, competitive
to clean up their debt and improve the quality of earnings.
pricing and a throttle on inflationary pressure. The closed
That is why the secular periods get longer and longer
because of interference by various government entities.
economy is just the opposite.
Historically speaking, the valuation levels of the U.S.
Japan – A Comparison
stock market on 12/31/1999 were off the charts in all
For lack of a better crystal ball, look at the Japanese
categories yet there were well thought of pundits telling the
Their stock market was at 40,000 in late 1989
experience.
public to buy stocks. As an aside, I have always wondered if
Page Two
There are many of us who can’t be fired for telling the truth
and real estate at $100 per the size of a $100 bill (i.e., put a
and have done our homework that are pretty much on the
$100 bill on the ground and what it covered was valued at
same page. That page says:
$100). That was – well, ridiculous.
A. The stock market is now back in a down cycle
Their market fell to 7,600 (-81%) by 2003 and now is
during a long secular bear market that began in 2000 – just
back to 13,000 (-68%) after 19 years. Their real estate
like the hills and valleys of all other secular bear markets.
peaked and then started imploding about 1999, a 10-year lag
B. Returns are going to be below the 10% - 11%
from the top of their stock market. Sound familiar? Our stock
average historical trend. They may be as low as
market peaked in 2000 and our
3% to 5% for some time to come. At the time of
real estate market peaked in
- "What we need is an
my writing this newsletter, the Dow is (-4%)
2007.
energy policy and leadership
since January 2000. The S&P is (-21%) since its
I am not saying that we will
in Washington."
high in March 2000 and the NASDAQ is minus
be just like Japan but there are
(-62%) since March 2000. This is before
similarities. For instance, both the
dividends (which wouldn’t have helped much) and after eight
decline of the stock market and the real estate market were
and a half years later.
long drawn out affairs and only now is Japan beginning to
C. Emerging economies will maintain strong demand
attract steady inflows of investors.
for commodities in the long run but commodity prices should
Our stock and real estate markets may or may not fall in
temporarily break in price due to the slowing of the entire
percentage terms as much as the Nikkei average but the
global economy, led by the U.S. and Western Europe.
decline of each will be a long drawn out affair. Indeed, one
D. Inflation should abate and deflation may be of
of the lessons that should be learned from the Japanese
concern. The deleveraging of the U.S. economy will be slow
experience is that Japanese banks were second round losers.
and long lasting putting a large wet blanket on the worldwide
They didn’t really begin under performing the rest of the
party of economic growth for a while.
market until the second Japanese recession debubbling
E. Interest rates should fall and U.S. treasuries should
process, as we are now doing in the real estate/credit bubble
rise and shine in the next 24 months. Treasury rates can fall
provided courtesy of Alan Greenspan. Financials in Japan
without the Fed lowering rates for two reasons:
and now in the U.S. didn’t really start to suffer until the
1. Investors flight to quality since we are still the big,
consumer started to struggle there and now here.
safe kahuna in a world of falling asset prices.
Financials in the U.S., as a percentage of total market
2. Deflationary expectations should drive bond prices
CAP, reached 25% in 2004-2006. This was enabled by
higher as commodities (oil, food, etc.) retreat from
outsized earnings from risky leverage and financial
overheated levels.
engineering. Now, they will be deleveraging and are
F. The dollar should firm against the Euro and assist in
restricted in reserves, thus limiting their ability to lend and
the lowering of commodity prices. However, a rising dollar
make money.
will add to a reduction in inflation (good) but if it gets carried
That market cap is now 17% of the total but the average
prior to 1968 was around 5% to 7%. So, we may have further away to the upside – it adds to the difficulties of deflation.
G. International stocks are not a safe haven today as
to go given the limitation in lending due to impaired capital
they are well correlated with the U.S. and will stay coupled
and reserves.
to the U.S. markets for some period of time. Most
In any event, at 1990-2000 for Japan and 2000-2008 for
international markets have given back most of the last two
the U.S., there are many similarities – some we are worse –
years’ gains and are actually under performing the U.S. since
some we are better. They are as follows:
October 2007. However, over the long term, international
1. A. U.S. consumers (no savings)
markets offer greater growth rates.
B. Japanese consumers (big savers)
H. The Fed and Congress are impotent to stop the
2. A. U.S. Government – highly indebted
progression of natural economic laws but can periodically
B. Japanese Government – even higher
give a megadose of stimulus to postpone the trip to cheap
indebtedness as a percent of GDP
values. In doing so, they likely will make it worse for retirees
3. A. U.S. – high domestic consumption
now and our children later.
B. Japan – export oriented
I. Barring war (worldwide) or major droughts, we have
4. A. U.S. lets bad companies go broke
plenty of energy and farmland. What we need is an energy
B. Japan kept bad companies on life support
5. A. U.S. lays off employees and cut operating cost
policy and leadership in Washington.
Oil, gas, coal, wind and nuclear capabilities are in
B. Japan promised jobs for life
abundance if the government would get out of the way. The
Lone Wolf?
U.S. could be self-sufficient allowing us to stop
Am I the lone wolf in a world of smart optimists? No.
unnecessarily enriching unfriendly nations abroad. Additional
Page Three
How is it possible that bonds, which have the ultimate
sensitivity to inflation, would decline in yield and rise in
price in such an inflationary environment? The short answer
is that in the broadest terms, insufficiency of demand has,
and will continue, to overwhelm inflationary forces, creating
How Do You Spell Deflation?
deflation in many categories.
What looks good? Bonds! We like bonds, not to the
In the second quarter, current dollar gross domestic
exclusion of stocks, but expect competitive performance
product totaled an estimated $14.3 trillion, about $572 billion
from bonds versus stocks over the next several years.
greater than a year ago. Of this gain, $359 billion can be
Consider some of the following:
attributed to price increases and $213 to higher real output.
1. The U.S. market is down 23% from its high in
There are times, however, when GDP is not the final arbiter
October 2007.
of the economy’s performance, and this is one.
2. International markets are similar or worse unless
The seemingly large gain in GDP pales in comparison to
they benefit from domestic natural resources.
the loss in wealth, which GDP does not capture. Over the
3. Housing prices are down 17.8% from their peak and
past fiscal year, holdings in the stock market, as
show no signs of relief with the excess
measured by the Wilshire 5000 Stock Index, lost
supply approaching 11 months of sales.
more than $2.1 trillion. Simultaneously, the 15.3%
"...expect
4. Financial companies continue to
contraction in the Case Shiller Home Price Index
competitive
bleed and their problems seem to be
performance from suggests the wealth loss in value of household
spreading to the real economy. How so?
residences was a staggering $3.1 trillion. Without
bonds versus
Lending standards are tightening
including the negative wealth impact for declining
stocks over the
everywhere. At the same time, prices of
prices of automobiles and other durables, the total
necessities (oil, food, etc.) are rising. The
next several
wealth loss was approximately $5.2 trillion.
consumer, therefore, has to spend an
Obviously, the sum of dollars being erased from
years."
increasing portion of his income on
our economic system has overwhelmed the amount
necessities and is forced to reduce his
of dollars being increased by inflation by a factor of
discretionary spending.
more than 14 to one. Thus, once again, the bond market had
5. Consumers have recently been cutting back on
it right—deflation is in ascendancy. Treasury bond yields fell,
necessities – less travel and, therefore, gas consumption has
and they will continue to trend lower, creating an even more
actually dropped in year over year comparisons.
profitable environment over the next four quarters for longIf asset prices (stocks and real estate) are falling,
term Treasury bondholders.”
consumer spending is slowing, and unemployment is on the
There will be opportunities periodically presented in the
rise – then, doesn’t that spell deflation? Read the following
stock market but, in general, those rallies will dissolve and
reality check produced by Hoisington Management out of
test our patience until we achieve those good valuations that
Austin, Texas.
all secular bear markets ultimately produce. We will be trying
“Twelve months ago, the annual increase in the CPI was to take advantage of the temporary rallies when market
2.6%. Today it is at 4.1% and rising. The Reuters/Jefferies
conditions dictate and continue to deliver risk adjusted
CRB Index fell 7.3% for the year ending last June. Today the positive results in up and down markets.
12-month change is 36% higher. Nevertheless, the 30-year
As always, we welcome any questions and appreciate the
bond yield fell to 4.5% on June 30 of this year, well down
opportunity to serve you.
from 5.1% one year ago. This provided a remarkable 15%
-Matt Ballew, JD, LLM, CPA
return for investors.
and more advanced refining capacity is also a must. People
have been arguing that it takes years to get this done. Again,
government needs to get out of the way. We’ve been arguing
about it for 30 years. We could be there by now.
OUR BOTTOM LINE ––––––––––––––––––––
M.L. Ballew, III
[email protected]
T. Doug Dale, Jr.
[email protected]
• The Fed and Congress are impotent to stop the progression of natural economic
laws but can periodically give a megadose of stimulus to postpone the trip to
cheap values.
• What looks good? Bonds!
• Treasury bond yields fell, and they will continue to trend lower, creating an even
more profitable environment over the next four quarters for long-term Treasury
bondholders.
Page Four
Need a Speaker?
Matt Ballew and T. Dale are available to
speak to your professional organization,
employees or civic group. We will be glad
to provide a complimentary informative
talk regarding the market and preparing
for the future.
To schedule a speaker for your group,
please contact Lisa Tate at 368-3500 or
[email protected].
4800 I-55 North, Suite 21
Jackson, MS 39211
Post Office Box 14888
Jackson, MS 39236-4888
The Market Outlook is a quarterly publication for
the benefit of the clients of Ballew/Russell, Inc. Pursuant
to the provisions of Rule 206(4)-1 of the Investment
Advisors Act of 1940, we advise all readers to recognize
that they should not assume that recommendations made
in the future will be profitable or will equal the
performance of past recommendations. The contents of
this letter have been compiled from original and
published sources believed to be reliable but are not
guaranteed as to accuracy or completeness.
M. L. Ballew, III and T. Doug Dale, Jr. serve as
portfolio managers at Ballew/Russell, Inc., a registered
investment advisor, a subsidiary of Security Ballew, Inc.
Ballew/Russell, Inc. is affiliated with Ballew Investments,
Inc., a fully-disclosed introducing broker/dealer and
NASD/SIPC Member. All securities are cleared and
executed through Pershing, LLC. Ballew/Russell, Inc. and
Ballew Investments, Inc. are both subsidiaries of Security
Ballew, Inc. Clients of Ballew/Russell, Inc. may have
positions in and may from time to time make purchases
and sales of securities mentioned herein.