Market Update 10/15/2014

I don’t have a crystal ball and can’t tell you where the market is going, but I can tell you why I think it has fallen recently. Here are my top pain points in reverse order of concern/impact over the short-term (#6 having the biggest impact in my opinion):

1) Geopolitical Tensions / Civil Unrest – press on these has eased recently just because there seems to be worse news in other areas to take the headlines, but they’re still very present. Middle East, Russia / Ukraine, Hong Kong… all these sorts of issues threaten global economic growth through lower productivity and inefficient use of resources. Protests, sanctions, wars, fear, and loss of life around the world that seems like it will be ongoing indefinitely.

2) Central Banks – the US Federal Reserve is ending Quantitative Easing (QE), their bond buying program that essentially amounted to printing money to purchase treasury bonds (finance government debt spending) and mortgage backed securities (finance home purchases). Many worry that the end of QE and the ultimate beginning of an interest-rate hike cycle will put the brakes on a recovering US economy. So far, long-term treasury rates and mortgage rates have stayed low despite the Fed pulling back on QE as a potential economic slowdown tends to lower rates on its own. Other major economies of the world are also moving in the opposite direction, embarking on further monetary stimulus programs as the US pulls back. This forces their rates lower and acts as competition for US rates, dragging them lower as well. 10-year government bonds in Germany are paying less than 0.7% right now. US ending monetary stimulus while Europe and Japan extend stimulus tends to push the US Dollar up vs. the Euro and the Yen, making our exports less competitive which can also act to slow down the US economy. As one of very few sources of global economic recovery for the last few years, a lot is riding on continued US growth and the end of QE combined with a stronger dollar jeopardize that.

3) Europe – the majority of the continent’s economy is still a disaster and there aren’t any signs of improvements. Many suspect a QE-like program launching in Europe soon, but the legalities of such a program in a common currency with so many different jurisdictions involved make it difficult to pull off. There’s also no way of knowing how it effective it would even be given how low interest rates in the Euro zone already are. Additionally, some concerns from a few years ago are roaring back. Greece wants to end its participation in its bailout program, but doing so means it won’t be able to borrow at the low euro-zone rates, and potentially means it will need to exit the Euro completely which threatens the stability of the currency as a whole. If Greece reverts to its issues of a few years back, Portugal, Spain, and Italy (maybe even France) can’t be far behind.

4) Oil – the price of oil has been plunging in the past few weeks. While this is good for global economic growth in general (lower prices at the pump, lower heating oil this winter, lower costs for airlines, etc.), a portion of the US recovery has been led by the energy sector and our progression toward oil independence from the Middle East though domestic production and Canadian imports. It appears that OPEC is putting on a sort-of price war now with the US, keeping their production high despite falling prices because their drilling costs are lower than our more complex ways of extracting oil (oil sands, fracking, etc.). If they can push the price down for long enough, they may be able to force a reduction in US / Canadian production and maybe even put some US / Canadian companies out of business which will ultimately push prices back up with a larger share of oil production coming from the Middle East again. As energy prices dramatically fall, hedge funds that are dedicated toward energy investments, sometimes in a leveraged way, are forced to liquidate which causes further drops in energy prices and ultimately in other assets as well. Forced selling begets forced selling and the price of everything tends to fall in a whoosh until leverage is managed, markets clear, and price stability resumes. If oil continues to fall, it’s likely the rest of the market will fall with it until oil stabilizes. The good news is that once the forced selling is done, we’ll be left with lower energy prices overall and as long as the US / Canadian producers survive, that will be a stimulus to the economy in additional discretionary money in the pockets of consumers.

5) Ebola – this is one of those very low probability of extreme catastrophe events that makes it very hard for financial markets to price risk. When markets can’t price risk, then tend to avoid it, and that means short-term traders selling just about everything other than the safest assets (treasuries). Ebola has been around for a long time and there have been other outbreaks. There will be other outbreaks after this as well, since it is carried by animals that can transmit the virus to humans, without illness by the animals. If contained, as it has been in the past, it will come and go again as any other flare up of disease (remember SARS?). If not controlled, given a 70% mortality rate with the latest outbreak, it threatens large sections of the population. The concept of confident long-term market growth is based on population growth and productivity increases over time. If a disease eliminates substantial portions of the population, that premise fails and even over the long-term, economies will shrink and equity markets will shrink with them. Even if the most likely scenario happens (a minor breakout with no epidemic-like results), fear of the disease can temporarily cause fear of being out in public, traveling, shopping, etc. Each time more negative ebola news comes out, stock markets take another leg down. With a 10-14 day incubation period, It could take several weeks to see that the breakout is controlled before some confidence is restored. As I write this, details have emerged about a 2nd healthcare worker in Dallas having ebola and having flown on a commercial jet the night before her symptoms began. Sure enough the market fell to new lows shortly after the news. The US CDC needs to instill confidence soon or ebola will take the economy down in the short-term (best case) and could take it down in the long-term if it truly does become an epidemic. Again, very low probability of extreme catastrophe, but until it’s a zero probability, it will have an impact in financial markets.

6) Fear / Self-Fulfillment – Fear of all of the above having a negative impact on the economy causes markets to fall which causes confidence to fall which causes spending to drop and layoffs to begin, which causes the economy to contract. It can be self-fulfilling and can happen very quickly. The more the stock market falls and the longer the fall drags on due to fear of a recession, the higher the potential that the recession occurs as a result. This is the biggest concern for the stock market short-term. This correction, so far, has happened quickly and hasn’t taken market levels to a point that the fall will impact the economy. That doesn’t stop the market from starting to worry about though.

Remember, markets tend to climb the wall of worry. As long as there are reasons to worry, there’s room for the market to go up. New worries will push it down temporarily (no one was talking about ebola a year ago), but the lower prices go, the better the price you get if you’re using a consistent plan of buying over time. This is why people are so successful with 401ks. Volatility creates wealth for those who don’t fear it (see https://blog.perpetualwealthadvisors.com/2013/06/20/the-value-of-volatility/). While we can’t control the aggregate market going through a fear-cycle, I hope that understanding the reasons that cause the fear helps you avoid it.

Market Update 6/20/13

The Federal Reserve is eventually going to stop firing their Monetary Bazooka (“QE”, as its commonly known). We’ve always known that. Over the last month, culminating in yesterday’s post-FOMC announcement press conference, “eventually” became “soon”. Despite reiterating their promise to keep short-term interest rates near-zero into 2015, their plan to continue to QE program through mid-2014, and their resolve to support the economy through aggressive monetary policy for as long as it needs their support, the Fed has spooked the market by signaling the beginning of the end of monetary stimulus. First, let’s quantify the damage:

There are other factors at work as well including Japan’s unprecedented attempt to stimulate its economy through QE (makes ours look like child’s play) and the currency fluctuations that has caused, China attempting to pop its real estate bubble by extracting stimulus and causing domestic bank liquidity issues, recent protests in Turkey and Brazil, ongoing political instability in Syria, Egypt, and much of the rest of the middle east, inflation in India, Brazil, and some of the other emerging markets, massive unemployment and fiscal issues in southern Europe (Portugal, Italy, Greece, Spain, Cypress) while debating between austerity and trying to stimulate growth. I don’t want to minimize them, but here I want to focus on the Fed, which is really the only change in the past two days. Clearly, from the table above, there hasn’t been anywhere to hide but emerging markets have really taken the biggest beating as expected since they are typically the most volatile asset class.

In addition, mortgage rates have started to rise, following treasury rates. 30-year fixed rates have moved from 3.3% in May to an average of 3.93% last week according to Freddie Mac’s weekly survey, and likely well over 4% this week. Continued increases in mortgage rates will hurt the housing market which has been in full recovery mode for last 18-months and is the prime reason behind the economy’s strengthening.

So, should you be worried? I would be worried if any of the following are true:

1) If my financial plan was built on an expectation that I’d be able to borrow at absurdly low rates forever. I’ve been building 4.5% rates in for the near term and 6-7% rates for 2015 and beyond into all client plans. Higher rates are unfortunate, especially if you’re hoping to buy a home soon, but rates are still within the tolerances of your plan. It’s important to note also that if rates move much higher over the short-term, prices will most likely come down as buyers simply won’t be able to afford the higher monthly payment that comes along with higher rates on the same amount borrowed. In hot markets like the SF bay area, higher rates, if matched by an expected increase in supply thanks to higher prices, could stop the housing recovery in its tracks.

2) If my financial plan was built on an expectation that my investment portfolio would only go up, day-after-day, with no volatility forever. If you believe that’s possible, you haven’t been listening to anything I’ve said or written in the past. No portfolio (except maybe Bernie Madoff’s) will do that and your financial plan certain doesn’t have that expectation built in if I helped to create it. We’ve seen stocks relentlessly increasing since March 2009 and have to expect pullbacks / corrections from time to time. It’s the price you pay as an investor for the reward of higher long-term gains. As a general rule of thumb, you have to be prepared to lose 50% of the portion of your portfolio that’s in the stock market in any downturn. If you’re 50% stock / 50% bond, that means a 25% loss can be expected at some point (it’s happened twice in the last 13 years). As I’ve said before, if you’re uncomfortable with the potential for loss, then you must be more conservative and must accept lower long-term return expectations. There’s no way around this point.

3) If I was invested only in stocks and long-term bonds for my short-term goals and I needed every dollar I had invested for those goals. I coach all clients to invest conservatively for short-term goals, in some cases extremely conservatively, and to maintain cash for ultra short-term goals where you need every dollar you have. I’m not using long-term bonds in any client portfolios, favoring shorter-durations which will fare better in a slowly rising rate environment.

4) If I was investing for long-term goals primarily in stocks, but couldn’t get past short-term results, even though they don’t matter over the long-term. This one is psychological, but is key. Unless you think you have a crystal ball that can predict the short-term future of the markets, you just have to accept the short-term in favor of higher expected long-term returns. Hopefully you’re all on board. If you’re not, investing may not be for you.

5) If I hadn’t communicated my goals and plans with my financial advisor, or if I didn’t have a financial plan at all. Here’s there’s room for worry if things have changed in your life, you’re a PWA-client, and you haven’t communicated those changes or kept up with your annual reviews, or if you’ve never completed or kept up with a financial plan to begin with. To quote Yogi Berra as I’ve done in past posts, “If you don’t know where you’re going, you might wind up someplace else”. A similar result can be expected if you haven’t told your financial advisor where you’d like to go!

On the flip side, instead of worrying, remember that a falling market creates opportunity as long as you continue to add to your portfolio. You’ll be much better off with some dips along the way to your goal than you would in a straight line where the market only goes up, counter-intuitive as that might seem.

With all of the above said, perhaps some of you are still worried that rates are going to soar, the market is going to plunge into an abyss, and we’re headed for the Great Depression v2.0. After all, the real danger in unstable markets is the circular feedback loop that they have on the economy and that the economy has on the market. If asset prices irrationally fall, consumer and corporate confidence tends to fall too, which can slow the economy and cause asset prices to fall. Normally, this kind of feedback loop has the potential to cause a catastrophic downward spiral where fear begets fear and markets crash. If the Fed was stepping away and saying, “we’ve done all we can”, I’d worry about that too. In this case though, the Fed hasn’t stepped away from the market. They haven’t taken the training wheels off the bike, given the child a push, and turned their back. They’ve told that precious child that they’re going to take the training wheels off when she’s mature enough and steady enough and they’re monitoring that regularly. When they do, they’ll be there running along with the bike keeping it steady until it has picked up enough speed that she can balance and pedal without falling. And, if by some chance she falls off that bike even with all the support, they may put the training wheels back on again, repair the damage, and try again later. Yep, there may be crying, there may be a sleepless night or two, there may be a scraped knee, but she’ll make it. There may be short-term dislocations in the market as selling causes margin calls which leads to more selling temporarily, but the economy and the markets will make it as well.

To summarize, don’t worry unless you don’t have a plan or you haven’t communicated your goals to your financial advisor. Market volatility is both normal, and even helpful over the long-term. Finally, realize that the Fed hasn’t spent 6 years trying to get the economy back in working order only to walk away and let it crash now.

Market Update (07-14-2011)

*** We believe communicating with our clients is of utmost importance, especially during turbulent times in the market. While we don’t claim to have a crystal ball on the future of any financial market at a given point in time, we do believe that keeping clients informed on why things are happening increases their comfort level and understanding. This post contains an excerpt from the PWA Q2 2011 newsletter to clients, sent just the end of “QE2” (Fed stops buying new treasuries), explain three key issues for a continued rebound in the economy, as part of that communication effort***

• The End of QE – On 3/24/09, just after what we now know was the stock market bottom, I wrote in a “Market Update” note to clients that the announcement that the Federal Reserve was going to purchase U.S. Treasuries and other securities represented a “game changer” for the financial markets. Those purchases became known as Quantitative Easing (QE) with two distinct rounds of purchases being coined “QE1” and “QE2”. These were in fact a game-changer for the markets, with the S&P 500 rallying more than 100% from March ’09 to April ’11. They were a game-changer because the Fed was, in simplified terms, printing money to buy financial assets which put that newly printed money into circulation to offset the deflationary spiral that was occurring (the value of everything from houses, to bank assets, to the stock market, to commodities was falling rapidly and simultaneously causing credit markets, job markets, and the overall economy to grind to a halt). As of July 1st of this year, the Fed ended QE2 and has signaled that a QE3 is unlikely. This means the game-changer is over. However, the Fed is not selling the assets they’ve purchased to date and they will keep reinvesting in those assets as they mature which means we don’t expect a game-changer in the other direction to send the markets back down. What we do expect is that the days of 50% per year stock market gains are behind us for quite a while. We also expect interest rates to start to gradually rise on medium to long-term treasuries and mortgages, though probably not sharply because any sharp increase would set the economy back and likely force more intervention from the Fed. In the next 12-months we expect short-term rates on savings accounts, CDs, and short-term bonds to start to gradually increase as the Fed hikes the Fed Funds rate back to something less extraordinary (we believe 2-3% would still provide support for economic recovery without risking the inflationary dangers of the 0% emergency rate we have today. Finally, we expect a higher level of volatility (up and down) in all financial markets as the Fed-induced tailwind is no longer behind us and now the economy, business cycle, productivity, earnings, and jobs will take more focus.

• The Debt Ceiling – Much is being made of the U.S. debt ceiling and what might happen if it’s not raised and we’re unable to pay our bills. For the most part, this is political grandstanding. There is absolute certainty that the debt ceiling will be raised. But, there’s an important problem in the way Congress is currently dealing with the issue. August 2nd has been set as the “deadline” by the treasury secretary by which the ceiling must be raised in order to proceed with business as usual. For this reason, the credit rating agencies have to consider the possibility that the U.S. will not be able to pay its debts if the ceiling is not raised by that date. Ironically, Congress bashed the credit agencies for maintaining AAA status on collateralized debt obligations that later failed during the peak of the financial crisis, arguing that any risk of default should have caused an immediate downgrade of those instruments way before the crisis occurred. Those same credit rating agencies must now act accordingly and not wait until August 2nd to cut the U.S. rating or they risk having a AAA rating on August 2nd morning and a default rating on August 2nd evening. This means the real deadline to raise the limit is well before August 2nd, because a downgrade of the U.S. credit rating, if taken seriously by the world, will having a snowball effect through the financial markets and set off another deep, albeit temporary, financial crisis. The President’s comment that he will not approve a short-term extension, while obviously in good a faith effort to try to prevent this from being a recurring quarterly problem, actually worsens the situation because it makes the possibility of no deal by August 2nd more likely to the credit agencies. Congress is now playing a game of chicken and I expect a short-term deal is likely with an understanding of more short-term deals through the 2012 elections which will keep the ratings agencies at bay for now. In the meantime though, expect potentially violent moves in the markets, akin to those of the days of TARP being voted on, as momentum traders try to take advantage of the headlines. Since even a credit downgrade would be temporary (garnering a swift response in Congress if it ever did happen), market volatility due to these events is in my opinion, nothing more than an opportunity to rebalance portfolios taking advantage of dips in the market and to get a 401k or other savings contribution in at a cheaper price than without the debt ceiling issue. This issue will pass. The longer-term question of our government’s ability to govern if it’s willing to put us in these kinds of situations to begin with is a much broader issue but I’ll leave that discussion to those who enjoy politics.

• European Sovereign Debt – A less-urgent, but much more important issue to long-term global financial markets is the vast amount of sovereign debt that exists in the world and the sudden realization by financial markets that some countries truly may not be able to pay their bills. This issue is not about an arbitrarily set debt ceiling. Countries like Greece and Ireland are struggling to pay their debts because they’ve taken on so much debt that tax revenues can’t support government spending plus interest payments any longer. These countries, with others like Italy, Portugal, and potentially Spain, not too far behind them, have simply lived on a national credit card for the last decade and are now forced with extreme austerity in return for global bailouts or default. Default means the loans made to those countries become worthless and the banks holding those loans lose the loans as assets. This has the potential to kick off a global financial crisis that is all too familiar after the ‘08/’09 Lehman Brothers default created much of the same. It can also kick off a currency crisis as it threatens the Euro, thereby strengthening the U.S. Dollar and causing harm in our own recovery as it makes our goods, services, and assets seem more expensive to the rest of the world. So far, rescue packages from the International Monetary Fund have staved off default for Ireland & Greece, but this warrants further monitoring. There are three important actions to take here:

· Like others, we have no crystal ball and believe that markets price information and risks fairly in general. That means that in most cases the market would fall before we have reason to believe it would fall or it would rise before we have reason to believe it would rise meaning there is no way to time news events. However, as I’ve discussed with all of you at one point or another, if I hear the whisper of a freight train coming, and sometimes it comes without making a whisper first, I will take corrective action. This means moving all models temporarily to a slightly more conservative allocation or using other protective measures as I see fit.

· It’s easy to be complacent when the stock market is rallying like it has for the better part of the last 28 months. If you have short-term needs for your money that is currently invested as if it was not needed for the short-term, please communicate that need to me ASAP. If your portfolio is 80% stocks and the stock market falls 50%, which has happened twice in the last decade, you will lose ~40% of your portfolio. For long-term money, by definition, you don’t need it over the short-term so that’s not an issue. In that case, continue to invest as planned, buying at lower prices if markets fall and when markets eventually recover you’ll actually be better off than if the fall hadn’t happened. For short-term money though, that kind of a loss could mean not being able to fulfill a goal and goal-fulfillment is the only reason to invest.

· Expect the market to move both up and down. Many have become accustomed to seeing their portfolio balances only increase, and quite sharply quarter after quarter. Don’t be shocked to see more volatility. As long as you’ve heeded the point in the preceding bullet, and you have an overarching financial plan, don’t worry about the short-term movements of the markets. The only ways to ensure that your account statements will only show increases in value are to 1) keep your money in the bank earning slightly more than 0% per year in interest while the cost of living increases far faster, or 2) have a crooked financial advisor that’s cooking the books (and we all know how that ends… google “Bernard Madoff”).

Market Update (03-24-2009)

*** We believe communicating with our clients is of utmost importance, especially during turbulent times in the market. While we don’t claim to have a crystal ball on the future of any financial market at a given point in time, we do believe that keeping clients informed on why things are happening increases their comfort level and understanding. This post contains a message initially sent to clients just after what turned out to be the market bottom in March of 2009 as part of that communication effort***

With so much focus on the seemingly endless economic collapse that is happening around us I’ve been looking forward to begin able to send a more optimistic update for quite a while. Toward the end of 2008, I provided a few regular updates to all of you as events unfolded that led us into this decline. Over the last week, much has changed and while I’m sure it won’t get as much TV airtime as the bad news did, it’s just as important. Many of you know by now that the stock market rallied more than 7% today. This followed previous rallies over the past two weeks such that the market is now up more than 20% from its recent lows. Many regard the stock market as a view into what is around the next corner for the broader economy. This was certainly true last October when the credit markets froze, the stock market fell 25% in a week, and the real impact hit most people a few months later when layoffs rapidly accelerated. Similarly, I suspect the events of the last week, including today, will not be felt by Main St. until mid to late summer when those layoffs will slow down or cease. So, I wanted to provide a similar update to you now on what has changed, and why the market is reacting the way it did today.

To some of you in our conversations, I’ve already described the announcement by the Federal Reserve last week as a “game-changer”. In case you don’t know what I’m talking about, let me summarize what the Fed said they’re going to do. First some background. We all know that the government is spending a ton of money right now and that we don’t have enough tax revenue to pay for it all. This is commonly known as “The Deficit”. Years of deficits have added up to a very large national debt of just over $11 trillion, or some $36,000 per U.S. citizen. The debt is financed by issuing government bonds called “treasuries”, which are purchased by individuals, corporations, and foreign nations. Because the U.S. has a very stable political system and has never defaulted on its debts in the past, it is considered credit worthy and lenders don’t demand a very high rate in return for their money. But, the deeper the hole we dig, the greater the interest that we have to pay on our debt. As that interest becomes a bigger and bigger slice of the tax revenue, it creates some risk that we might not pay our debts off. This risk would push interest rates up, just at a time that the government wants to keep them low for investment, refinancing, etc. So, we seem to have to choose between deficit spending (needed to turn the economy around) or low interest rates (also needed to turn the economy around). Quite the dilemma. Meanwhile, the recession continues to take its toll on asset prices (stocks, real estate, commodities, etc.). To put it simply, there is just less money out there than there used to be which means people can’t afford to pay what they previously could for similar assets. This creates a deflationary spiral where asset prices are falling because of the recession, and the recession is deepening because of falling asset prices. To combat this, the Fed announced last week that they will now be buying treasuries directly from the Treasury to finance the deficit, and mortgages directly from mortgage lenders to free up capital for new lending and keep mortgage rates low. Where will they get the money? Good question. Believe it or not, they’re just printing it.

Printing money is highly inflationary. If we just double the amount of dollars in the economy, then we double the demand for everything which raises prices until it takes two dollars to buy what we used to be able to buy with one dollar. No one is wealthier, but because prices are rising so quickly, people start to hoard assets pushing up prices further, which can start an inflationary spiral. But, if we’re in a deflationary spiral now, putting some seemingly inflationary actions into play could break the spiral. If done carefully, we’ll end up perfectly replacing the lost wealth that is pressuring the economy which will put a floor under asset prices and return confidence to the normal buyers of those assets. In short, the recession will end and growth will be restored… a game-changer. Things won’t get better overnight, but for the first time in several months, I believe recovery is in sight and that the economy will begin to slowly stabilize over the next 3-6 months. Note that by stabilize I don’t mean the Dow returns to 2007 levels, that unemployment returns to 5%, that housing prices start increasing 10% per year, and that things feel “normal” (per 2004-2006 expectations) again. I mean that stocks will stop falling, unemployment will stop rising, and we’ll have time to get used to the new normal (stable, sustainable, moderate growth). It’s likely that the stock market today and over the past couple of weeks senses this as well, and is pointing toward signs of recovery.

In some additional good news, the Treasury today announced their long-awaited plan for handling illiquid mortgage-backed securities commonly known in the press as “toxic assets”. The plan includes a public-private partnership that will team up private capital, government programs such as TARP (the name for the $700 billion “bailout” that Congress passed in December), and the FDIC to purchase and create a market for these previously illiquid assets. Without a market to sell them, banks were forced to keep ownership despite their rapidly declining value and uncertain future. This in turn rattled investor confidence and prevented banks from raising new capital from private markets; hence the need for government bailouts. The details of the program make a lot of sense, with the private investors determining what price they’re willing to pay for the assets via an auction process, the government backing their investment in a way that will reward them for taking risk while also rewarding taxpayers alongside the private investors, and no penalties for banks that participate in a sale of their assets. As stated currently, this program should be another big positive for both the markets and the economy.

Before we sound the “All Clear” signal, we have to realize that along with all the positives come some greater risks as well. Buying treasuries and mortgages is bold action by the Fed and while it is likely to end the recession in the medium term, if it’s not done carefully, it will lead to potentially bigger problems down the road. We could face runaway inflation, lost confidence in the dollar as a currency, and political tensions with other nations who suffer because our actions devalue the dollar that they own a ton of in the form of our debt (the financial engineering equivalent to highway robbery). The Treasury, the Fed, and the Federal government will all have to work together to cut spending, remove excess dollars, and reign back the flood of liquidity as soon as confidence is restored and the recession is over. If they don’t, $140 oil will seem like a bargain compared to the prices we’ll be paying in a few years!

In addition to the risk of inflation going forward, there is another risk that is worth mentioning. The government is beginning to meddle in the private markets in ways that could hurt the willingness of corporations to do business with them in the future. Last week, the House passed a bill that would tax AIG bonuses at a 90% rate as a way of punishing the firm for paying bonuses after taking government money via the TARP program. While I think we can all agree that rewarding failure at the expense of the taxpayer is not what was intended by TARP, we have to be very careful in retroactively changing the rules on government programs. When TARP was passed there were no stipulations on how the money could be used. While the focus is on AIG who took the money to keep their business afloat, many firms took TARP money so that they could provide additional loans to homebuyers and businesses that needed credit. Now, the government is imposing additional rules on executive compensation for all companies that took TARP funds. If you change the rules in the middle of the game, it’s possible that no one will play with you anymore. In this case, many companies are now seeking to return TARP money which would cut off the added credit to the economy and reduce the effectiveness of the program. This government behavior could also cause skepticism of the new public-private partnership announced today. If there’s danger that participating banks may face new rules 3 months into the program, they may not want to participate at all. Congress needs to make sure that it writes all the rules ahead of the release of programs like TARP, and whatever those rules are, that it consistently enforces them without modifying them midstream. If we have a fair and consistent set of rules, which encourage participation in government sponsored programs to stimulate the economy, then those programs stand a chance of working. If not, we’re just wasting our time creating the programs that no one will use and the downward spiral will continue.

In conclusion, let me be clear… I’m not claiming that the worst is over for the economy. There will be more layoffs, there will be more housing price declines, and there will be more foreclosures as the current damage flows through the system. But, over the next few months, these new programs and the lack of new damage will stabilize the economy and it will eventually begin to grow again. I’m also not claiming the stock market has necessarily bottomed. The short-term stock market is too unpredictable to say with certainty what will happen over a matter of days. But, IF the risks stated above are controlled, and that is a BIG IF, then I believe these plans are likely to stabilize the market. That is why we saw the gains we saw today and why we probably have seen the last of the 20% monthly market drops for a while.

As always, if you have any questions about this update or anything else, feel free to contact me.