Intuitive Assessment of Investment Climate

One of the primary lessons of The Intuitive Investor is how to use your intuition to assess the investment landscape.  On occasion I have provided intuitive assessments of major events, especially when facts have been obscure, or worse, very scarce.  For example, just this year I have provided an intuitive assessment of Egypt, an intuitive assessment of the Middle East, and an intuitive assessment of Japan.

I am proud to say that investors using these assessments would have invested in moments where investors, in general, were selling.  Buying on those dips would have made folks lots of money.  Lately there has been very little convincing movement in stock markets, either up or down.  So where are we now?

Analysis:

Right now it feels as if to me there is anxiety in the collective investor consciousness right now.  That anxiety seems to be attached to nervousness that the economic recovery is still on a shaky footing.

In particular, we have the following:

1. Unemployment remains high.  Despite lots of jobs being created by U.S. businesses, the long-term unemployed are re-entering the jobs markets.  That is putting a damper on the ability of the unemployment rate to decline.  Psychologically this is very important.  That 9% unemployment rate figure is seared into the collective consciousness and is the concern of retail investors.
2. Stagnating profit growth on the part of U.S. corporations.  Corporate profit growth has been robust for the past two years – even during the Great Recession.  Much of this came from holding sales flat, but by cutting expenses massively (i.e. mostly layoffs).  Now businesses are lean, but having to actually earn additional profits by selling goods and services to customers.  This is proving to be difficult.  This is of limited concern to most investors right now, both Joe Blow and Joe Pro.  However, it is a large concern of hedge fund and momentum investors.
3. Lack of compelling sexy reason to buy stocks.  Other than the Apple iPad, what is the sexy thing right now?  That thing that creates media buzz in equities and gets folks super excited about the instant riches that can be won in the stock market?  Social media, like Facebook, Twitter and LinkedIn?  Maybe.  But compared to the froth of both the dot.com and real estate bubbles, the financial markets are decidedly lacking in buzz.  This lack of inspiration certainly is of consequence and concern of retail investors, hedge fund investors and momentum investors.
4. Geopolitical fears.  Here I am referring especially to geo-economics, like the still unresolved Greek debt crisis and the possibility of a U.S. debt market meltdown if Congress cannot agree on raising the debt ceiling and on budgetary priorities.  These two forces are a huge source of tension and are a concern of institutional investors and hedge fund investors.  Plus, there is the possibility of the simmering tensions in Israel – which was conspicuously left out of the wave of ire that swept through the Middle East in January and February – boiling over and unsettling Israel’s Middle Eastern allies, like Jordan and Egypt.
5. Recognition that the commodities bubble may be near bursting.  The rapid sell off several weeks ago of oil, gold, and especially silver, was very unnerving and a concern of retail investors, hedge fund investors and momentum investors.  In general, its my opinion that in this category, “the smart” money – hedge fund investors – know that the commodities bubble is near a breaking point.

Collectively these causes have the effect of creating a predisposition to selling, rather than buying, on news that leaves investors feeling uncertain.  I have been tracking the “mood of the market” for the last week and feel that the anxiousness of investors is growing slowly, not subsiding.

To me the level of anxiety present feels as if it could result in a sell off in the Dow Jones of up to 500 points.  That would completely scare off retail and momentum investors and result in an extended funk of almost a year.

What This Means

• It means that if you are sitting in cash waiting to get conviction that you should hold off, in my opinion, from diving in to U.S. equity markets right now.
• It also means that if you are sitting on stocks that it would be wise to take profits in your holdings that have had big run ups.
• And it means that if you are sitting in cash already, that a compelling buying opportunity may be just around the corner.
  

The fact is that the U.S. and worldwide economies are doing okay – not amazing – but okay.  That, combined with fairly valued stocks, normally is a stock market buy signal.  But anxiousness is the motive factor right now.  So if the sell off does occur, we have an okay economy with undervalued stocks, and that is a strong stock market buy signal.

Importance grade: 9; if I had to place a probability on a 500+ point decline it would be around 30%.  If I had to place a probability on a 300+ point decline it would be 45-50%.  Declines of less than 300+ points are a 10-15% probability.  Gains of greater than 5% feel unlikely to me at this moment.

Obviously, I will continue to track the level of anxiousness present.  Once it has subsided, perhaps from another impressive gain in U.S. jobs creation in May, I will certainly post an updated intuitive assessment.

Let’s be careful out there!

Jason