Bull Market Update
Ross M. Miller
Miller Risk Advisors
May 14, 2007
I have survived another year of life among the academics
and as my "reward" I get to hang out with a bunch of Fed
governors and their friends on a small island off the coast of Georgia
soon after I post this commentary to the Internet. While my faith in
higher powers occasionally wavers, the mere fact that I have been invited
back to bask in glow of Ben and company is simply divine.
Having dispensed with hedge funds as the potential
source of Armageddon, this year's Federal Reserve Bank of Atlanta research
conference focuses on credit derivatives—a field
where I can make a legitimate claim to having been present at birth. But
I'll save such stories for the next commentary and focus my energies on
the bull market.
These commentaries began in early 2004 with "The
Bull That Will Not Die" and I revisit the bull whenever he needs
comforting. By now, the we have gotten to be good friends and I have
defended my bovine buddy against the likes of Bill Gross and Jeremy
Grantham (who has only grudgingly come to see the wisdom of my position in
The main reason that I thought that the bull market
would survive the 2004 elections and why I continue to believe that it
will survive indefinitely is straightforward: The Fed has kept short-term
interest rates too low throughout this young century. With real short-term
rates currently poking their heads above an inflation-adjusted rate of 2%
(the Fed may look at core rates, but people still have to use
transportation, keep warm, and eat), the Fed has yet to tighten rates. The
Fed has merely, to use their words, "removed accommodation." As
long as the central bankers of the world lack the will to protect the
value of their currencies at any cost, the liquidity that they hose out
will eventually slosh its way into international stock markets. On the
other hand, as the late 1970s demonstrated, excessive monetary laxness is
bad for both stocks and bonds. The Fed's actions along with its
anti-inflationary rhetoric would appear to be sufficient to prevent a
repeat of a massive spike in prices and the pain required to get things
back under control.
The best possible path for the Fed would be for prices
to drop for exogenous reasons (low oil prices), which as CPI dropped would
induce real tightening assuming the Fed stays on pause. (At 1.5%
inflation, the current 5.25% fed funds rate would finally qualify as
tight.) In the absence of such good fortune, the Fed may have to bring its
current "pause that refreshes" to an end at some point by
raising rates. Fortunately, that will not happen any time soon. Regardless
of what various pundits and the futures markets say, the best bet for the
remainder of 2007 is that the Fed will hold the fed funds rate at 5.25%.
Will rates drop any time soon?—find the black swan
and perhaps he can tell you.
The best news for the stock market is that people have
begun to forget about the grim days of 2001 and 2002. It was those
memories that sent liquidity in the misguided direction of real estate,
especially of the residential variety. Homes are nice, but as places to
live. Only prime residential real estate, which tracts houses in Las Vegas
certainly are not, make sense for another other than short-term
Behaviorally, the stars are well-aligned for the stock
market. P/E ratios may be too rich for the Buffetts of the world (they
will have to wait at least until the Great Baby Boomer Cash-out for their
next buying opportunity), but still well below nosebleed levels.
Volatility is low but not as low as it used to be, which is also good.
(While volatility still has the potential—for
structural reasons—to go lower than its historic
lows of last year, such an occurrence looks to be years away at this
point.) Moreover, news stories abound about the market being too rich and
investors lacking confidence. There is widespread pessimism about
everything from Iraq to vanishing honeybees. And, finally, there are no
signs of market mania.
Right now, I am waiting for the first buying panic to
hit. A 100-point rise in the Nasdaq would do nicely. While such a move
would mark the beginning of the end of the bull market, it would only be
the beginning and would confirm that this bull market will be another
monster. There is no guarantee that the bull market will reach that stage,
but if it did it would be reassuring. While the stock market is currently
seems ill-equipped to weather an increase in the fed funds rate, a more
manic market could shake it off after the obligatory plunge knocks the
wimps out of the market.
I could write more about the stock market, but why
bother? I have all sorts of bizarre and interesting (to me, at least) that
I have been dying to write about and they will fill my future
commentaries. I have one more "serious" commentary left to go
and then summer madness at Miller Risk Advisors will commence. It is quite
possible that I will never write what could be construed as market
prognostications again because it is most tempting to quit while I am—or
perceive myself to be—ahead.
Copyright 2007 by Miller Risk Advisors. Permission granted to
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