The smell of money is fresh again. Wall Street watering holes are seeing more traffic, giants among banks still left standing are raking in decent profits, even some in the battered manufacturing sector are showing signs of life, while trading revenues are skyrocketing and new corporate bond IPOs are burning through dealers’ books faster than papyrus in a blast furnace. If there is such a state as “normal” on Wall Street, its players and pundits seem to be right back in it.
Granted, some of the responsibility for such exuberance lies with the real economy, too. Although the labor market is still wrapped up in all kinds of doom and gloom, the U.S. housing market has finally started showing signs of intelligent life. Also, the U.S. Conference Board’s index of leading economic indicators has hit the highest levels not seen in the past two years. All of these green shoots have
prompted some of the analysts and economists to go as far as to proclaim that the pendulum has swung deep into bullish territory.
Which begs the question: has the economic expansion really achieved self-sustainability?
Personally, I don’t think so, although there are quite a few respected voices out there who may disagree. Unlike some, I cannot forget how miserable the beginning of this year truly was. I cannot forget how dismally underpriced the market was, as if preparing for the End of the World. And, while the current upbeat market pricing indicates to me that its participants must be suffering from some form of collective amnesia, and while I seem to be reasonably in possession of all my faculties, I cannot possibly join in on the chant, “The crisis is over! The crisis is over!” I believe there are still quite a few punches left in the old Great Recession that could inflict serious injury.
However, for those among our readers itching to get back into the game, or those who may already have ventured back, I have a single piece of advice: make sure to get your premiums for the risks you may be taking. In my view, those premiums are too few and too far between, which should tell you how the market really “feels” about this whole bullishness business.
At the onset of this year, the market was priced as if Armageddon was just around the corner. However, by the end of the first quarter, even as the economy was still struggling, there were signs that near-term recovery was a distinct possibility and that we could reasonably expect to enjoy anywhere from three to five years of decent returns. Instead, what actually happened was that those forecasted three to five years of wonderful returns have been compressed into the period of the past eight months. Whoever had the guts during the second and third quarters to take on additional risks in exchange for those wonderful returns, kudos to them. Whoever didn’t, don’t expect to find the same high premiums for the amount of risk taken going forward.
I may be a coward or I may be a conservative in my approach to investing, it will depend on who is asking the question, but my view of the current market prevents me from jumping onto the bulls’ bandwagon just yet. Of course, this doesn’t mean it also prevents me from going back to the races altogether, because I’m one of those analysts who believe that money can be made in any market. It just means that the risk analysis and risk management have become the main components of my investment process.