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Why Rising Stock Market Is Bad News     
      By   Shlomo Maital

   The New York Times reports: “The US stock market is off to its best start (of the year) since 1987”. Good news? And then the bad news….”investors are expected to dump hundreds of billions of dollars of shares this year.” Bad news.

     So what in the world is going on? The article, by Matt Phillips ,has an uncharacteristically clear, simple explanation.

     Remember that Trump tax cut? The one that put billions of dollars into the pockets of the wealthy and the corporations? Well it made the corporaitons cash flush.

     What did they do with the cash?

     Invest it, in infrastructure, R&D, innovation?

     Not exactly.

     They mostly used it to buy back their own shares, massively.

     Why? Simply – to funnel that big tax cut directly into the pockets of shareholders, at low (capital gains) tax rates.

       Share buy back by corporations drove the market up.   Even at a time when armchair investors, funds, etc…. were selling.    Investors aren’t dumb. They will take their profits, before the market crumbles when the buy backs of corporations stop.

       I avoid the stock market. But for those who want to listen, I counsel, don’t hold shares of businesses that buy back their own shares. Why? If the best investment businesses can make, is buying back their own shares, rather than developing new and better products, well —   dump them. Share buy backs are abysmal.  They are caused by CEO’s seeking to look good, in the short years they hold the position, under pressure of myopic shareholders and Boards.

         Share buy backs have now cemented corporations as the leading source of demand for shares – their own. This is a fundamental change in the way the stock market works. It is a change for the worse. When companies STOP buying back their own shares, they will pull the rug out from under the market.

     This will happen, perhaps, when the US enters recession – something most economists expect to happen by 2021.

      

 

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End of a Trend?

By Shlomo Maital

Bond

 

Bond. The name’s Bond.

No, not James Bond. Bond bonds, like, 2 per cent U.S. Treasury bonds.

We have seen a two-decade 20-year bull market in bonds. Some investors, like the legendary bond guru Bill Gross, made a fortune on it. But now, some, perhaps like Gross, may have missed the inflection point – the turning point that sees an end to the bond bull market.

   What drove the bull market? Falling interest rates, and rising bond prices, as central banks everywhere fought the global stagnation in the wake of the 2007-8 crisis by printing money and slashing interest rates.

   The booming Chinese economy, from 2002, created a huge boom in commodities and flooded with cash poorer countries that exported commodities (copper, oil, gas, iron, etc.) with cash. According to Mike Dolan, writing the “Inside the Markets” column in today’s New York Times, that boom led cash-rich countries to invest in low-risk government bonds, issued by the U.S. and other G7 countries. This led to rising bond prices and falling yields. It also led to the boom in the stock market. When you can’t make money on your investments in bonds, because of low yields, well, dump it into stocks.

   That trend is over, Dolan notes. The IMF says that the value of foreign currency reserves held by Central Banks rose in just one decade, from $1 trillion to over $8 trillion by mid-2014. That mini-trend is over too. Central Banks of exporting nations are now divesting their dollar holdings and spending them. No longer will they dump the money into U.S. Treasuries. And yields will rise, bond prices will fall.

   Central Banks everywhere are under pressure to raise interest rates, especially the U.S. Fed. Fed Chair Janet Yellen so far has delayed, and resisted, but it is inevitable. And markets are already capitalizing, into bond prices, the anticipated rate hike.  

   Dolan quotes Deutsche Bank: “The peak in bond demand is probably behind us.”

   Each of us needs to think about the implications of this inflection point, the shift from Mr. Bond to Mr. Bust.   Think about the possible teleology, or chain of events.   Higher interest rates mean….   Higher interest and debt-service costs, hurting debt-ridden governments, debt-laden businesses….and individuals?

    Lock in your low interest and mortgage rates now, while you can.  

Stock Prices Plummet in October

By Shlomo Maital

   market crash

On Sept. 13, in a blog titled “the coming meltdown”, I noted signs that the world economy was weakening.

Now, in this the middle of October, stocks have declined sharply.   For the month, U.S. stocks are down 5 per cent, German stocks are down 9 per cent and French stocks are down 11 per cent.   There are a number of causes.   Believe it or not, Ebola has created a negative mindset. Oil prices are down, slashing profits for many big companies and nations. Demand appears to be weakening in Europe, raising fears of a third recession since 2009. Geopolitics are highly unstable, with problems in Ukraine, the Mideast and elsewhere.

   At the same time, there is a flight to ‘safety’. Bond prices are up, as demand increases, with investors willing and even eager to take low yields in return for safety.

   The bright spot is the U.S. economy. Falling gasoline prices, often below $3 a gallon, have put money into working people’s pockets and they are spending it. This is a natural experiment. It amazes me how economists and policymakers are ignoring this simple evidence — spurring demand helps the economy! America’s economy is doing better than Europe’s as a result.

   October is an awful month for stock prices, for some reason. In October 1987, the market fell 20 per cent on a single day, but that was due to computer trading and a doom loop link between spot and future prices.

   The mindset of global investors continues to be shaky. In the end, it is the confidence, or lack of it, of global investors that drives equity and bond prices. When world headlines are terrible, as they are now, investors run for cover.  

Why U.S. Stock Price Rise IS a Bubble — Beware

By Shlomo  Maital

Bubble

  The Standard & Poor 500, the broad index of Americna stocks, has set new records this summer.  This, despite the flagging U.S. economy, an unpopular President, gridlock in Congress, and mountains of cash held abroad by U.S. multinationals, stubbornly refusing to invest it in their own country.

   Writing in the London Telegraph, Andrew Davis notes:  “US shares are undoubtedly expensive – on some measures such as the Cyclically Adjusted Price-Earnings ratio, which uses a 10-year average of earnings to calculate their current valuation, they have only been more expensive a few times in the past century. “

   What is going on?  Is it a bubble?

   Andrew Davis has a simple answer.  Stock buy-backs.   

“Companies are using their cash, and cheap interest rates, to buy their own stock, in large amounts.  That said, it is clear that one of the forces that has driven the long rise in US equity prices has been the willingness of companies to buy back their own shares. A lot of this buying has been funded by companies taking advantage of extremely low interest rates to issue debt and using the proceeds to buy in their own equity.”

     Personally I would not invest in companies that have nothing better to do (R&D, innovation, HR, infrastructure, facilities, IT) with their cash than curry short-term favor with myopic shareholders by artificially pumping up their own stock price.  When I tell this to CEO’s, they frown, or worse – but they agree, in their heart of hearts.  They simply feel they have no choice but to buckle under shareholder pressure.   

   They DO have a choice.  Present a capital investment program. Invest when other companies are afraid to.  Then, when the recovery finally comes, you will have a major competitive advantage —  and your stock price will rise for the right reasons. 

Blog entries written by Prof. Shlomo Maital

Shlomo Maital
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