2008-Loss of Confidence and 2009 will be Loss of Hope Year!
By Jon Markman
If 2008 often felt like a nauseating but endurable ride, as government and banking authorities grappled with unseen forces that rocked the investment world, then 2009 will be the year that distress becomes so great that investors actually lose their stomachs.
The past year may have been about the loss of confidence, but the coming year will be about the loss of hope.
It's always tempting after a massive decline to look optimistically at the future and think about what might go right. And in this case, it's true that the next month might bring calm and higher prices to the stock market as investors gaze wistfully at a path ahead that the Federal Reserve, the Treasury and Congress have promised will be greased richly with public funds. Several prominent fund managers who have been bearish on stock valuations for years have reversed their views, going long the market.
Yet in time, all those promises of federal largesse will need to be transformed into enough high-paying jobs and high-quality earnings so that towers of individual and corporate debts can be repaid and balance sheets rebuilt, and that is where the trouble still lies. The concept of spending hundreds of billions of dollars on rebuilding roads, investing in renewable energy and strengthening hospitals sounds peppy on paper, but when you pencil out how many actual salaries it creates, it isn't much -- and history shows that government-funded gains rarely last.
Someone please tell me how many roads can be built by journalists thrown out of work at bankrupt newspapers or how many solar panels can be assembled by former accounts-payable managers for bankrupt retail chains. Unless you're a construction worker or bio-energy scientist, the Obama reconstruction will likely leave you cold.
By proposing massive borrowing to battle a problem created by an excess of debt, the government has essentially proposed fighting fire with gasoline. So, lit by a bonfire of the inanities, I propose to you 11 fearless forecasts for 2009:
No. 1: Infrastructure spending plans will bog down in Congress.
The president-elect has asked Congress to send him a bill to sign in his first week in office. This is already a bad idea, as haste makes waste in lawmaking. But the disbursement of $500 billion-plus would also generate an unseemly, partisan free-for-all in the Capitol, with powerful Democrats on the coasts hogging the best programs for their states and Republicans complaining about being shut out.
In short, passage of this noble yet spendthrift job-creation bill will drag out, blunting its effectiveness.
No. 2: The unemployment rate will approach 10%.
Even if an infrastructure spending law dashes through Congress, it will be months before the money is spent and jobs are created. In the meantime, companies will see their borrowing costs rise even faster than their revenue shrinks -- a toxic cocktail that leads to layoffs.
By the end of the year, the U.S. unemployment rate will rise from its current 6.7% to about 8.5%, en route to 10%-plus in 2010. The broadest measure of unemployment, which includes part-timers and discouraged job seekers, which is now at 12.5%, will approach 17% by 2010. In the spring, a single month will record a loss of 1 million jobs.
No. 3: Weak second-quarter earnings will dash hopes.
Prayers for a swift end to the U.S. recession will go unanswered as investors come to realize that America can't spend its way out of a hole by itself. That will be clear in anemic corporate profits during the first half of next year.
The driving force in 2009 will continue to be a forced reduction of leverage for all developed economies' big companies and elites combined with the relentless bursting of a global property and commodity bubble. The U.S. fiscal stimulus will soften the blow of the recession, but it will remain painful. By the time the recession ends, possibly in late 2009 or early 2010, it will eclipse the 1980 and 1973-75 recessions and be viewed as the second-worst of the past 100 years, after 1929-33.
No. 4: Synchronized swoon will become an Olympic event.
No economic slowdown of the past 80 years has been so viciously coordinated among regions of the world and various industries that normally operate on different cycles. Past recessions have ended once one region's strength pulled up others, but Europe, Asia, the United States and Latin America will continue to pull each other down as monetary and fiscal stimuli fail to significantly erode debt loads.
The longer the recession, the more likely earnings will drop more than managements can handle, leading to accelerating bankruptcies and unemployment. Big companies will see earnings-per-share drops of 25%-plus.
No. 5: Markets will reach lower lows.
The first bottom in 2008 was made on the failure of Bear Stearns in March at the 1,255 level of the S&P 500 Index ($INX). The second was made on the failure of Fannie Mae (FMN, news, msgs) and Freddie Mac (FRE, news, msgs) at 1,200 in July. The third was made on the failure of Lehman Bros. (LEHMQ, news, msgs) and stress in related bank funding at 840 in October. The fourth was made around the near failure of Citigroup (C, news, msgs) and in recognition of a plunge in the rate of fundamental business deterioration in November at 750.
In 2009, final lows will come at 550 to 700 as the absolute level of earnings estimates plunges amid despair over the lack of progress from federal stimulus efforts.
No. 6: Chinese growth will slow to the 0%-to-4% range -- or worse.
China's growth rate has been in the low double-digits for years, generating the commodity boom in the developing world. Now many experts believe that, at worst, China's growth rate will slow to 7% in 2009.
But veteran Hong Kong economist Jim Walker, the director of the Asianomics research firm, believes investment cycles don't slow -- they disintegrate. Although Beijing will try to keep building public infrastructure, Walker's research indicates that a steep decline in private-sector demand from Europe and the U.S. will lop 7.5 percentage points off gross domestic product growth in 2009.
Walker thinks a crash in domestic consumption will lop an additional 2.5 percentage points off GDP growth. Thus Walker's best-case scenario is in the 0%-to-4.5% range, and he puts 30% odds on a contraction. "There has been an outrageous over-investment in property and factories, and much will be unwound," he says. The economist also believes that the growth in Chinese domestic consumption has been overblown and that despite a 50% decline this year, the Chinese stock market remains grossly overvalued.
No. 7: Russian, Persian Gulf and Japanese investors won't bail out the U.S.
The decline in oil and gas prices will gut the Russian and Persian Gulf economies to the extent that their governments will be too focused on boosting domestic growth to bother with buying more U.S. and European assets.
Due to their higher savings rate, the Japanese might actually regain some of their pre-1990 stature and use their strengthening yen to make smart acquisitions even as their domestic economy falls back into its two-decade recession.
No. 8: Treasurys will trump corporate debt.
The United States will find it can issue as much debt as it wants, even as yields on the 30-year bond approach zero, as the world prefers their safety over the volatility of corporate debt. Junk and low investment-grade bond yields will continue to advance -- in defiance of bulls' expectations -- making it harder for companies to finance operations. The Fed will ultimately step in to guarantee some corporate debt.
No. 9: Market timing will beat buy-and-hold.
As the government helps some industries at the expense of others, distorting normal corporate cash flows and historical pricing gauges, investors focused on fundamentals and valuation metrics will face another frustrating year. Traders and timers will dominate just as they did in the 1970s -- and in 2008 -- as they swear allegiance to no investment style except the Church of What's Working Now.
Investors who try to buy into infrastructure companies -- gravel miners, engineers, cement truck makers, fiber optic line constructors and steel makers -- will be frustrated as they discover government contracts are less lucrative than private-industry contracts and suffer more slowdowns due to red tape, incompetence and corruption.
No. 10: Investors will seek low-risk growth.
Most companies will spend 2009 focused on survival. The best will also innovate, as new products are the surest path to higher margins. Tech companies with large cash positions, consumer focus and innovation records, such as Apple (AAPL, news, msgs), will stabilize, as will some makers of networking equipment.
Meanwhile, many commercial-real-estate trusts, retail chains and old-school industrial manufacturers, such as Unisys (UIS, news, msgs), will declare bankruptcy or disappear in no-premium mergers. Banks will be avoided as the government has taken over their financing function and has a lower cost of funds. Energy, metals and materials will stabilize and inch higher.
No. 11: Russia will seek its own bailout.
High-priced commodity exports fueled a big boom in social programs in Russia and the strength of the ruble. As energy prices stabilize at a lower level, analyst Vitaliy N. Katsenelson says he believes the ruble will be smashed, undermining buying power and putting a big hole in the Moscow government's ability to pay for expensive social programs.
After Russia "de-privatized" (the government word for stealing) oil assets, the Minsk-born Denver investment manager says, it reinvested little in new production facilities or maintenance, which has led inevitably to declining production. He expects Russia to need to do an about-face and beg foreign investors, and possibly even the International Monetary Fund, for a bailout.
Well, that ought to do it for 2009 -- another cheery 12 months in which global commerce continues to unwind in painful fashion.
I hope that I have gotten every one of these wrong and that the new year is the best ever for the nation and your families.
If 2008 often felt like a nauseating but endurable ride, as government and banking authorities grappled with unseen forces that rocked the investment world, then 2009 will be the year that distress becomes so great that investors actually lose their stomachs.
The past year may have been about the loss of confidence, but the coming year will be about the loss of hope.
It's always tempting after a massive decline to look optimistically at the future and think about what might go right. And in this case, it's true that the next month might bring calm and higher prices to the stock market as investors gaze wistfully at a path ahead that the Federal Reserve, the Treasury and Congress have promised will be greased richly with public funds. Several prominent fund managers who have been bearish on stock valuations for years have reversed their views, going long the market.
Yet in time, all those promises of federal largesse will need to be transformed into enough high-paying jobs and high-quality earnings so that towers of individual and corporate debts can be repaid and balance sheets rebuilt, and that is where the trouble still lies. The concept of spending hundreds of billions of dollars on rebuilding roads, investing in renewable energy and strengthening hospitals sounds peppy on paper, but when you pencil out how many actual salaries it creates, it isn't much -- and history shows that government-funded gains rarely last.
Someone please tell me how many roads can be built by journalists thrown out of work at bankrupt newspapers or how many solar panels can be assembled by former accounts-payable managers for bankrupt retail chains. Unless you're a construction worker or bio-energy scientist, the Obama reconstruction will likely leave you cold.
By proposing massive borrowing to battle a problem created by an excess of debt, the government has essentially proposed fighting fire with gasoline. So, lit by a bonfire of the inanities, I propose to you 11 fearless forecasts for 2009:
No. 1: Infrastructure spending plans will bog down in Congress.
The president-elect has asked Congress to send him a bill to sign in his first week in office. This is already a bad idea, as haste makes waste in lawmaking. But the disbursement of $500 billion-plus would also generate an unseemly, partisan free-for-all in the Capitol, with powerful Democrats on the coasts hogging the best programs for their states and Republicans complaining about being shut out.
In short, passage of this noble yet spendthrift job-creation bill will drag out, blunting its effectiveness.
No. 2: The unemployment rate will approach 10%.
Even if an infrastructure spending law dashes through Congress, it will be months before the money is spent and jobs are created. In the meantime, companies will see their borrowing costs rise even faster than their revenue shrinks -- a toxic cocktail that leads to layoffs.
By the end of the year, the U.S. unemployment rate will rise from its current 6.7% to about 8.5%, en route to 10%-plus in 2010. The broadest measure of unemployment, which includes part-timers and discouraged job seekers, which is now at 12.5%, will approach 17% by 2010. In the spring, a single month will record a loss of 1 million jobs.
No. 3: Weak second-quarter earnings will dash hopes.
Prayers for a swift end to the U.S. recession will go unanswered as investors come to realize that America can't spend its way out of a hole by itself. That will be clear in anemic corporate profits during the first half of next year.
The driving force in 2009 will continue to be a forced reduction of leverage for all developed economies' big companies and elites combined with the relentless bursting of a global property and commodity bubble. The U.S. fiscal stimulus will soften the blow of the recession, but it will remain painful. By the time the recession ends, possibly in late 2009 or early 2010, it will eclipse the 1980 and 1973-75 recessions and be viewed as the second-worst of the past 100 years, after 1929-33.
No. 4: Synchronized swoon will become an Olympic event.
No economic slowdown of the past 80 years has been so viciously coordinated among regions of the world and various industries that normally operate on different cycles. Past recessions have ended once one region's strength pulled up others, but Europe, Asia, the United States and Latin America will continue to pull each other down as monetary and fiscal stimuli fail to significantly erode debt loads.
The longer the recession, the more likely earnings will drop more than managements can handle, leading to accelerating bankruptcies and unemployment. Big companies will see earnings-per-share drops of 25%-plus.
No. 5: Markets will reach lower lows.
The first bottom in 2008 was made on the failure of Bear Stearns in March at the 1,255 level of the S&P 500 Index ($INX). The second was made on the failure of Fannie Mae (FMN, news, msgs) and Freddie Mac (FRE, news, msgs) at 1,200 in July. The third was made on the failure of Lehman Bros. (LEHMQ, news, msgs) and stress in related bank funding at 840 in October. The fourth was made around the near failure of Citigroup (C, news, msgs) and in recognition of a plunge in the rate of fundamental business deterioration in November at 750.
In 2009, final lows will come at 550 to 700 as the absolute level of earnings estimates plunges amid despair over the lack of progress from federal stimulus efforts.
No. 6: Chinese growth will slow to the 0%-to-4% range -- or worse.
China's growth rate has been in the low double-digits for years, generating the commodity boom in the developing world. Now many experts believe that, at worst, China's growth rate will slow to 7% in 2009.
But veteran Hong Kong economist Jim Walker, the director of the Asianomics research firm, believes investment cycles don't slow -- they disintegrate. Although Beijing will try to keep building public infrastructure, Walker's research indicates that a steep decline in private-sector demand from Europe and the U.S. will lop 7.5 percentage points off gross domestic product growth in 2009.
Walker thinks a crash in domestic consumption will lop an additional 2.5 percentage points off GDP growth. Thus Walker's best-case scenario is in the 0%-to-4.5% range, and he puts 30% odds on a contraction. "There has been an outrageous over-investment in property and factories, and much will be unwound," he says. The economist also believes that the growth in Chinese domestic consumption has been overblown and that despite a 50% decline this year, the Chinese stock market remains grossly overvalued.
No. 7: Russian, Persian Gulf and Japanese investors won't bail out the U.S.
The decline in oil and gas prices will gut the Russian and Persian Gulf economies to the extent that their governments will be too focused on boosting domestic growth to bother with buying more U.S. and European assets.
Due to their higher savings rate, the Japanese might actually regain some of their pre-1990 stature and use their strengthening yen to make smart acquisitions even as their domestic economy falls back into its two-decade recession.
No. 8: Treasurys will trump corporate debt.
The United States will find it can issue as much debt as it wants, even as yields on the 30-year bond approach zero, as the world prefers their safety over the volatility of corporate debt. Junk and low investment-grade bond yields will continue to advance -- in defiance of bulls' expectations -- making it harder for companies to finance operations. The Fed will ultimately step in to guarantee some corporate debt.
No. 9: Market timing will beat buy-and-hold.
As the government helps some industries at the expense of others, distorting normal corporate cash flows and historical pricing gauges, investors focused on fundamentals and valuation metrics will face another frustrating year. Traders and timers will dominate just as they did in the 1970s -- and in 2008 -- as they swear allegiance to no investment style except the Church of What's Working Now.
Investors who try to buy into infrastructure companies -- gravel miners, engineers, cement truck makers, fiber optic line constructors and steel makers -- will be frustrated as they discover government contracts are less lucrative than private-industry contracts and suffer more slowdowns due to red tape, incompetence and corruption.
No. 10: Investors will seek low-risk growth.
Most companies will spend 2009 focused on survival. The best will also innovate, as new products are the surest path to higher margins. Tech companies with large cash positions, consumer focus and innovation records, such as Apple (AAPL, news, msgs), will stabilize, as will some makers of networking equipment.
Meanwhile, many commercial-real-estate trusts, retail chains and old-school industrial manufacturers, such as Unisys (UIS, news, msgs), will declare bankruptcy or disappear in no-premium mergers. Banks will be avoided as the government has taken over their financing function and has a lower cost of funds. Energy, metals and materials will stabilize and inch higher.
No. 11: Russia will seek its own bailout.
High-priced commodity exports fueled a big boom in social programs in Russia and the strength of the ruble. As energy prices stabilize at a lower level, analyst Vitaliy N. Katsenelson says he believes the ruble will be smashed, undermining buying power and putting a big hole in the Moscow government's ability to pay for expensive social programs.
After Russia "de-privatized" (the government word for stealing) oil assets, the Minsk-born Denver investment manager says, it reinvested little in new production facilities or maintenance, which has led inevitably to declining production. He expects Russia to need to do an about-face and beg foreign investors, and possibly even the International Monetary Fund, for a bailout.
Well, that ought to do it for 2009 -- another cheery 12 months in which global commerce continues to unwind in painful fashion.
I hope that I have gotten every one of these wrong and that the new year is the best ever for the nation and your families.
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