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As I’ve been suggesting the past few weeks, the stock market is not out of the woods yet.
Some investors find this perplexing. After all, economic growth is solid, inflation is tame, the Fed has cut the discount rate (and is likely to cut the Fed Funds rate on, or before, the Sept. 18 meeting) and earnings are mostly coming in ahead of expectations.
But the stock market is a forward-looking animal. So it’s not today’s inflation or last quarter’s earnings that drive it. It’s the outlook just ahead.
And right now, the black cloud that’s hanging over the stock market is almost entirely related to the housing market.
We all know that home prices are softening, sales volume is down and foreclosures are rising. That has created weak consumer confidence, which sometimes leads to lower spending, which affects future sales and earnings.
Spending is also likely to be affected by adjustable-rate mortgages that are resetting higher. Higher mortgage payments leave less discretionary income for purchases.
The refinancing game is over, too. Higher interest rates, the credit crunch, stricter lending standards and less equity to tap into have turned once-busy lending offices into virtual morgues. A good friend who owns a mortgage company tells me he is doing almost nothing these days. (He calls himself a “professional thumb-twiddler.”)
This doesn’t mean the equity party is over, incidentally. Everything I’ve just told you is already discounted in current stock prices.
The tough part is determining how much the housing slowdown will affect the rest of the economy.
After all, the bursting of the real estate bubble is something most investors have never seen in their lifetimes, even if they’re in their nineties. (Sure, there have been individual areas – like Houston or New York - that have gone through slumps. But this is the first nationwide real estate bust since the Great Depression). No one can be certain exactly how this will play out.
As you may know, it’s not my policy to engage in a lot of economic theorizing. Our strategy is to buy great businesses with sharply rising sales and earnings and good technical strength.
But right now, most stocks are not moving on fundamentals like these. They’re moving on waves of buying and selling based on judgments about the outlook for the housing market and opinions about the severity of the credit crunch.
So this week, the best move investors can make is to keep their powder dry, and to also keep a close watch on the market’s short-term gyrations. Look for possibilities that have virtually no tie to the business cycle. That’s what I’m doing, and I will keep you posted as opportunities develop.
At the height of the stock market boom in the late 1990s, Alexander Green walked away from a prestigious position with one of the country's leading money-management firms to take a position as the Investment Director for The Oxford Club - a private financial organization dedicated to building and preserving the wealth of its members, and an affiliate of both Money Morning and The Money Map Report. The Hulbert Financial Digest, the industry's top watchdog, has ranked Alex's stock selections 3rd in the nation overall, based on their five-year, risk-adjusted return.