The Federal Reserve, along with an average assessment among economists, are publicly setting growth expectations lower than historical averages. Last month, Ben Bernanke said, “There is a reasonable chance, looking at the long run of history, that the U.S. will return to health growth somewhere in the 3% range.”
I’m sure that just like me, you too are tingling with this confident reassurance … “reasonable” and “somewhere in the range”. Not exactly the cup of coffee I like to wake up to in the morning.
I constantly pound the inflation drum to clients. People have to keep in mind that “growth” must always be defined in “real dollars”. Money must be persistently thought of as having a set ability to purchase goods. If inflation is 3% and your money is safely sewn into your mattress, your money is safely loosing 3%. The Federal Reserve’s inflation target is in the 2-3% range. To project U.S. growth in the 3% range suggests that in real dollars, the Fed is projecting no real growth.
And here’s the pinch: Investors are not necessarily bound to this dynamic. Companies can thrive in an environment like this simply by means of economic survival of the fittest.
To illustrate, let’s say here in Denver there are two TV stores called “ABC” and “XYZ”. Let’s say that the Denver market demand for TVs was 1,000 and these two companies split the market share exactly 50/50 (each store sold 500 TVs). Let’s say the economy slows down and demand for TVs drops to 600. The two stores struggle and cut back as they’re down selling 300 TVs each instead of 500. Eventually “XYZ” goes bankrupt and boards up the windows. “ABC” is then the sole survivor to service the market demand of 600 TVs. The result is that simply because they held out, their sales actually went up 20% from before the slowdown (when they were selling 500 TVs) to now in an environment with less competition (when they are now selling 600 TVs).
However, Denver as an economy may not be better because of it. The people who worked for “XYZ” are now out of work. The tax revenue of the 600 TVs is much less to the municipalities. You get the idea.
This is why an investor has the potential to experience growth that outpaces a sluggish economy. It is not an investing environment where you are able to throw a dart at the Wall Street Journal and make money, but by no means is stock growth locked into the rate of growth of the broader economy. The stock market and the economy are two different things.
And this is precisely what we’ve seen. The companies that have survived are on a whole hoarding cash. Years ago they cut costs and have historically never been more productive relative to costs than they are right now. Naturally not every company is like this, but this is looking at the broader market. Not only this, but it is not as though US companies are bound to American demand. Roughly half of the sales from US automakers come from buyers overseas. This is where if you think like a CEO for a moment: What’s the projection of US demand? Below normal. Where are people who’ve never bought my product before? Not here.
In my opinion, it’s easier to invest in an environment like now. In my lifetime, I have never seen such a vacuum of hype in investing. In the past three years the stock market doubled and it hasn’t even gotten the public’s attention which could be one of the greatest gifts that an investor can get. It’s generally a bad thing when the masses are excited about investing. It is smart to loathe bullishness in anyone but you and love it when everyone else is bearish and you hear of people bragging about selling out of their stocks. The irony of investing is that investor sentiment is largely driven off broader economic news, but nobody ever said that companies are bound by the broader economy. Once demand has stabilized and perhaps some competitors have left the supply side, it’s a dream environment when unemployment is high, interest rates are low, and when people are hesitant to take a risk and compete.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results.