Throwback Threats

“History never looks like history when you are living through it.”
– John W. Gardner

“Il n’est pas certain que tout soit incertain.”
(It is not certain that everything is uncertain.)
– Blaise Pascal

Do you think your time in these markets is so very much different than anyone else’s? Do you think the headlines and uncertainty of prior periods were any less daunting and nerve-wracking than those we face today?

I’d like to take you back ten years, to a time not unlike this one – the Spring of 2003.

During this time, the market had been about six months off the low point of October 2002, what would come to be known as the bottom of the bear market that began with the Nasdaq crash and was punctuated by the rolling scandals of Worldcom, Enron and Tyco followed by the devastation of 9/11.

But by Spring of the following year – thanks to an incredibly stimulative Federal Reserve and the lapsing of time, stocks were rocking and rolling again. Techs and biotechs led the markets (the Nasdaq was up a screaming 35% from the October lows) and risk appetites were back. The parallels between then and now are obvious – tech had led us higher, then lower and then led the recovery, just like housing for the current boom-bust-boom.  Bernanke is following the same playbook as his predecessor did then (albeit a steroidal version) and as for risk appetites, in the Spring of 2003 they were only beginning to make themselves apparent, much like now.

These days, we’ve got some pretty substantial headwinds ahead of us – debt, deficits, Europe and the whole rest of the list you read and hear about each day. But I think it’s important to remember that in every era there are reasons to be concerned, reasons why things might turn back around at any time.

Let’s get back to the Spring of 2003…

I’ve pulled some vintage stuff from the media coverage of markets and the economy at the time. Just for fun, substitute the cited “headwinds” of spring 2003 for the ones we now face and you will be amazed at how little things ever truly change. This is an exercise in perspective…

Stephen Gandel, in the May 2003 issue of Money Magazine, ran through the litany of positives, which included lower oil, the falling dollar and the rebound of corporate profits. He then laid out the rundown of potential negatives that could stop the recovery in its tracks:

1. SARS The biggest and most unquantifiable risk right now is the impact that the respiratory disease SARS will have on world trade. Even so, reactions to never-before-seen diseases tend to be overblown in their early stages.

2. JOBS Unemployment continues to rise. Does that mean we’re headed for a double-dip recession? Probably not. In early 2003 the weather was crummy, the consumer was scared stiff and we were heading into war, yet the economy grew 1.6 percent. As for job cuts, they tend to continue well into a recovery. In 1992, a million more people were unemployed while GDP grew by 4.4 percent. (The latest on employment.)

3. THE DEFICIT Higher budget deficits hold the prospect of rising interest rates, which in turn can weigh down stock prices (they hurt bonds even more). Still, investors lived with large deficits for some 20 years, and it didn’t stop stocks from rising.

4. LOCAL SHORTFALLS In order to fund their own budget deficits, state and local governments are raising taxes. That could negate any benefit from the federal stimulus package. The hope: Additional local levies and higher property taxes will vanish when the economy picks up steam.

In hindsight, these “risks” seem fairly ridiculous now that we’re on the other side of a real crisis. But at the time, all of the concerns Gandel listed were on the minds of many market participants. SARS was actually a thing we were freaked out about (it will destroy global trade!) even though these days it would be a Twitter meme for us to joke about. Jobs were a concern back then, even despite the fact that in May of 2003 the unemployment rate was a mere 6.1% and 34 of the 50 states that month had reported an increase in workers.  We would kill for 6.1% now!

These days we hear an awful lot about how the rally is long in the tooth, running out of steam or is one big giant trap as we hit the old 2007 highs with all of the requisite superlatives being rehashed around the clock: The Highest Hedge Fund Equity Exposure Since 2007! or The Most Bullish Investor Sentiment Since 2007! etc, etc. I think it’s important to recognize that we were equally preoccupied with these stock market stamina issues a decade ago as well.

Here’s Adam Shell writing at USA Today in May of 2003:

Wall Street is at an important inflection point. The market is going up again, but investors don’t seem to want to believe that it’s happening. Some refuse to entertain the notion that the good times might actually last. Many can’t seem to forget that there have been many rallies eerily similar to this one that ended up failing — and costing them a lot of money.

Who can blame them? Since peaking in January 2000, the Dow has mustered up five big rallies with gains ranging from 15% to 29%. But they all proved to be short-lived, ultimately reversing course and resulting in new lows.

The references to Year 2000 market peaks are exactly like the comparisons to the Year 2007 market peaks that are so ubiquitous today.

More from USA Today – believe it or not, we had some of these Deflationist assholes running around back then too:

One big potential negative is if the economy falls into a deflationary spiral. On Tuesday, the Federal Reserve said they could not rule that out, although they say the risk remains small. Deflation is a profit killer. “In a deflationary cycle,” says Al Schwartz, an analyst at Schaeffer’s Investment Research, “businesses have no pricing power, (and) consumers are hesitant to spend because they know prices will be cheaper tomorrow.”

And here’s a throwback quote from Brian Belski, who has since become something of a permabull, converting sometime after this gem:

Brian Belski, fundamental market strategist at U.S. Bancorp Piper Jaffray notes that betting on an economic recovery has been a losing strategy. And with analysts still expecting double-digit profit growth in the second half of the year, and still no concrete signs of a full-fledged economic recovery, the likelihood of the rally fizzling is high.

“It’s unlikely the market can sustain the type of run it’s on,” Belski says. “The major upside move is over,” at least for now.

Oops. We know how hard these kinds of forecasts are to make – let alone to base a stock market outlook on – so Belski gets the same Pundit Pass we all need sometimes.

Not to be outdone in the Doubt Parade, here’s the opening of a Gretchen Morgenson piece at the New York Times from June 2003 in which “professionals” lament the return of “speculators” and “amateurs” (because the pros do so well)…

Internet stocks are racing, even those with more promise than profits. Unsolicited pitches for obscure penny stocks inch out of fax machines, and stockbrokers are prospecting for customers. Mutual fund managers who have been in the doghouse for years are basking once again in the favorable publicity that shines on hot performers.

LOL, fax machines.

And believe it or not, they even had the “Great Rotation” debate way back in March of 2003, just like the one we’re having now!

The big question then was whether or not investors – who had just pulled $110 billion from equity funds between June 2002 and the beginning of 2003 – were dooming the rally to failure. Thank god for data-driven market commentators like S&P’s Sam Stovall, who tackled the topic at BusinessWeek in much the same way as he debunks this sort of nonsense today:

Equity fund flows are at best a coincident indicator and are more likely a lagging indicator, since investors appear to get sufficiently discouraged to pull money out of equity funds only when the worst is just about over. This pattern can be seen by the outflows in 1987-88, after the 1987 crash; in 1995, after multiple interest rate increases during 1994-95 caused stock prices to decline; and in 1998-99, after the dramatic market decline in the 1998 third quarter in the wake of the demise of hedge fund Long Term Capital Management.

And what about today? Now that investors are withdrawing money from equity funds at a rate not seen in decades, does that mean the bear market is over? Possibly.

You had it right, Sam! You should’ve committed with an emphatic “yes!” Oh well.

Or how about this howler on mutual fund cash balances, from Justin LaHart at CNN Money in April of 2003:

But even in a future as bright as the optimists expect, the market may not have the fuel necessary to propel stocks higher. As of the end of February, cash as a percentage of total assets at mutual funds was just 4.3 percent. The only time it’s been lower in the past 30 years was March 2000, when it hit 4 percent and the stock market began its long decline.

“That’s not a lot of firepower,” said Janney Montgomery Scott vice president Larry Rice. “I’d feel more comfortable if it was 8 or 9 percent.”

Mutual fund cash reserves? What the hell was that about, who gives a shit?

The point here is not that everything’s fine. The 2003-2007 bull was a fantastic one and then it had run its course once the underpinning booms had become bubbles which had become funhouse mirror free-for-alls. The point is that in 2003, absolutely no one was focused on real estate and mortgages and Wall Street I-banks becoming leveraged hedge funds. The things that were the real rally-killing risks weren’t even imaginable at the start of the recovery.

And the notion that the threats of today are somehow more substantial than the threats of 2003 is subjective. It’s also a function of amplification; ten years ago we had only one business TV channel and a dozen or so magazines and newspapers. The echo chamber we live in today is exponentially noisier – a financial news story breaks and there are instantly hundreds of articles and blog posts, tens of thousands of tweets and a full-scale assault on the topic across three full-time business news networks and their sister radio properties.

I can’t tell you exactly what will bring this rally to an end or when it will happen. I have opinions like anyone else – but so does everybody. No, the most important takeaway is that there are always a litany of headwinds and risks no matter when you’re investing. Not only are there always threats, as you can see it’s the same fuckin’ people discussing them year after year – Belski! Morgenson! Stovall! Schaeffers!

And so I think our job is to understand these risks, contextualize them, figure out what they really mean proportionately, and then recognize that if we’re reading about them on the web, the market is probably quite a few steps ahead already except at major inflection points. The good news is that 99% of the time, we’re not at a major inflection point of any kind. 99% of the time we’re in the middle of something.

Having this longer-term perspective about the eternal list of “headwinds” and “risks” is crucial.

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