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David's Macro Blog

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Archive for January, 2010

Can good economic times last forever? Is it impossible to have “stable” economic growth?

This is the argument presented in Barry Ritholtz’s post: Galbraith: Financial Stability Creates Instability

Here are the essential points of the article.

  • When the economy is good for a long time, people then think the good times will continue indefinitely so they take extra risk (e.g. debt).
  • This additional risk eventually sows the seeds of the end of the economic expansionary period.

For example, during the 2000 real estate bubble, housing prices were thought to only go up, therefore the logical conclusion was for everyone to buy as much real estate as possible (by using financial leverage or debt) since this was an easy road to wealth.

Of course this speculation led to massive over construction of residential and commercial real estate. The resulting overcapacity caused falling prices which, as we now know, completely destroyed our financial system and the economy.

Interestingly, classically accepted econimics says that the economy can remain in a steady state – yet it never does, does it?  Ritholtz’s article explains what really happens.

Key Quotes

McCulley was referring to economist Hyman Minsky’s concept that long periods of stability cause people to take on ever more debt and ever more risk, leading to a gigantic meltdown.

Systemically-speaking, the Ponzi phase is one of risky behavior crowding out prudent behavior in a world free of regulatory controls. If risky behavior is temporarily rewarded with profit and this temporary period is long enough, then risky behavior wins and drives out good behavior.

Think we’ll remember this during the next bubble?

Related Posts

Before I share with you my 2010 predictions, we should first take a look back at the prior year’s predictions and the actual results. The main thing I keep in mind is humility. It is extremely difficult to predict the future in regard to specific targets and time ranges. Instead it is much easier to make general predictions based upon the fundamentals.

This reminds of one of Warren Buffett’s well known quotes:

“In the short term the market is a popularity contest; in the long term it is a weighing machine.”

What Happened in 2009?

  • Stock market bottom and recovery
    • Intraday low on the S&P of 666 in March and year finish at 1115.
  • Real estate prices fall but show some stabilization
    • Residential prices plummeted but leveled off in most markets. Some price appreciation at the very low end in growth markets like Phoenix and San Diego.
    • Commercial real estate price continued to fall because rents and occupancy are down and loans are difficult to qualify for.
  • Unemployment rose above 10% (from just 4% in only 2 years).
    • Any decrease in unemployment is due a reduction in the workforce participation rate, not new people actually getting jobs.
  • Credit crunch still in place but has loosened some.
    • The main question is what will happen when the Federal government stops all support of the credit markets (Fannie & Freddie, FHA, commercial paper, FDIC), and many other programs to buy debt.
  • The Federal government has a trillion dollar budget deficient and of course over 10 trillion dollar debt.
  • State governments have deficits and debts and the problem got worse.
  • TBTF – Too Big To Fail – became mainstream language
  • “Privatize the profits and socialize the losses” became apparent to the public
  • Failure to pass sweeping national health care reform
  • Failure to pass sweeping banking regulations

Essentially the US and the world have avoided Financial Armageddon so far. The government, the Fed, and the Treasury deserve credit for the short term fix. However the main problem is still there: there is more debt than can be serviced. Many of the debts just got moved from the private sector to the public sector (i.e. Privatize the profits and socialize the losses).

Most Accurate Predictions from Last Year

“There will be a surplus of government intervention to combat mass unemployment. I expect we get close to 10% unemployment (U3) by year end.”

Right on, December’s unemployment was 10.0% (U3)

“Defaults grow beyond comprehension and models for these debts” (mortgages, credit cards, other loans)

Look at the charts and you’ll see defaults are beyond any models considered accurate just 2 years ago.

“Debt monetization and bail out of the FDIC (which wouldn’t be allowed to fail).”

Had you ever heard of “debt monetization” prior to last year? The Fed has monetized the debt through quantitative easing plus the FDIC was given an unlimited lifeline to additional funds.

Least Accurate Predictions from Last Year

“The markets have been in an uptrend since the market low in November around 748 on the S&P. This appears to be a bounce/retrace of the October market crash. A standard 50% rebound would have the S&P peak between 1000-1100. Naturally I expect this rebound to be short lived and for new lows in 2009 as companies report very low earnings.”

Well, much of this was correct, the market did retrace over 50% to the 1100 range but essentially I predicted a fall back to the market lows which never occurred. Thus, this is definitely a miss.

“Economic growth in China turning negative.”

Totally missed this one. Even if we don’t trust the numbers from the Communist government, the growth rate didn’t go negative.

“Unemployment will peak at 8.5%” under the Obama rescue plan

OK, this wasn’t my prediction (it was President Obama’s), but it just shows how clueless politicians are in general about the economy and perhaps that they are willing to say anything to be politically popular.

Quotes of 2009

“The ego has landed.”

“I had to hold my nose and stop those firms from failing.”

— Ben Bernanke, US Fed Chairman

Also check out: Favorite Videos of 2009.

To learn what makes Amazon.com such a great company, listen to CEO Jeff Bezos talk about its recent acquisition of Zappos, innovation, and customer obsession.

Everything Jeff knows seems to be a very short list.

#1 – Obsess Over Customers

Put customers first because ultimately they’ll make or break your business.

Jeff doesn’t clearly state this, but it seems that the main reason for Amazon’s acquisition of Zappos is the fact that both companies (and CEOs Bezos and Tony Hsieh) share similar values, starting with customer obsession.

#2 – Invent

“Don’t accept either/or thinking”, instead invent your way out of any problem. 

Invent solutions on your customer’s behalf. You can invent your way out of any box if you think you can.

#3 – Think Long Term

For any company to be innovative or focused on customers needs, it needs to think long term. Some ventures will take 5 to 7 years to pay dividends. New inventions take time to be understood.

Applying the principle to think long term might pay dividends for customers BEFORE benefiting shareholders.

Note: Jeff candidly admits that Amazon has made a lot of mistakes along the way, with the result being Amazon has learned something.  You don’t get to know much without trying lots of things and making a lot of mistakes.

“Failure is only the opportunity to more intelligently begin again.”

— Henry Ford

“If you want to succeed, double your failure rate.” 

— Thomas J. Watson

It’s important to note that innovation isn’t the result of focusing on next quarter’s earnings and short term gains.

In summary, if you want to innovate in your business, you need to obsess over your customers and invent new solutions for them, knowing that you’ll make a lot of mistakes along the way.

For more reading on Amazon’s innovation, visit:
Amazon.com Whiz Jeff Bezos Keeps Kindling Hot Concepts

Please comment below – I’d love to know what you think.

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Monetary Lessons from America’s Past

Jeff Bezos about Amazon and Zappos

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Jordan Frisbee & Tatiana Mollmann – 2009 New Classic Dance Routine

You might also like: 2009 Year in Review.

One of the most obvious signs of the market cycle being at its peak is when new people enter the market with no experience and DO WELL.

During the stock market bubble ending in 2007/2008, Lenny Dykstra, a baseball player known for tough play but limited intelligence had become a respected financial anaylst and investment guru (even endoursed by Jim Cramer).

Naturually there was no substance to Dykstra’s investment genius, just the tail wind of a massive credit bubble and rising stock prices.

Watch these 2 segments of the Daily Show below about Dykstra’s rise and fall as an “investment guru”.

 

Note the spots in the video where Dykstra says that he doesn’t read books because they hurt his head and where Cramer calls him “brilliant.”

It should come as little surprise that Dykstra has now filed for bankruptcy, is multiple millions of dollars in debt, and has dozens of lawsuits filed against him.

As a side note, Lenny Dykstra was endorsed and promoted by Jim Cramer who said Dykstra is “one of the great ones in this business.” That should have been a clue that there was probably no substance. Watch Cramer on video tape admitting to manipulating stock prices: Jim Cramer on The Daily Show.

Calculated Risk also posted about this story in this post – Daily Show: Financial Guru?

What do you think? Comment below and let me know.