‘Tis the Season to be Hopeful!

VIRGINIA, your little friends are wrong. They have been affected by the skepticism of a skeptical age. They do not believe except [what] they see. They think that nothing can be which is not comprehensible by their little minds. All minds, Virginia, whether they be men’s or children’s, are little. In this great universe of ours man is a mere insect, an ant, in his intellect, as compared with the boundless world about him, as measured by the intelligence capable of grasping the whole of truth and knowledge.
“Yes, Virginia, there is a Santa Claus”
Francis Pharcellus Church
The Sun, New York
Tuesday, September 21, 1897

 

As we move through the holiday season and watch 2011 quickly coming to an end, we look back over the year in passing and begin to embrace the outlook for what will be in store for next year. While concerns continue to run high for what the New Year may bring within the global community, we believe that the outlook will be brighter than many on Wall Street expect.

The three most common areas of concern today haunting the financial markets are without a doubt: worries over economic disruption in Europe caused by the possibility of countries defaulting on their sovereign debt and the eurozone breaking apart; deficit spending and budget issues in the United States escalated by the inability to bring political parties together to make necessary decisions for spending cuts; and the possible “rise and fall” of the Chinese [economic] Empire as investors worry over the current slowing that China is experiencing and the prospects for a real estate bubble bursting throughout the country.

We speak often of a world that seems orchestrated by governments and trading firms through financial maneuvers as if economics is a three level chess game. Within this international arena the real test for China, as an example, a country of over 1.3 billion people, has centered on a transition from an overheated economy with rising inflation and higher interest rates to a slowing economy in need of new stimulus measures to create internal domestic consumption. China is susceptible not only to internal economic influences, but also to external forces due to its heavy export dependence on the United States and Europe.

What gives us hope this holiday season for the New Year is the belief that 2012 will include incremental benefits from global economic cooperation and lessons learned from the consequences of past behavior. Significant change has already occurred in the political arena as governments adjust to their current financial and economic conditions. The “Occupy” movement is a statement by people who have borne witness to and feel the consequences of others’ behavior. If not now for change, then when? A few points that we would like to share this Yuletide season:

• The fear of the eurozone coming unraveled, we believe, is more emotional than realistic. While the European Union may make appropriate fiscal adjustments, economically and politically unraveling would have significant negative consequences in the global arena for the individual countries.

• Global leadership is shifting. Those with both a global and individual country focus on issues are rising to the top. Five Eurozone countries—Italy, Greece, Belgium, Spain and Portugal—have recently replaced their political leadership. Mario Draghi from Italy has taken the helm as President of the European Central Bank and Christine Lagarde, former Finance Minister of France, took over as Managing Director of the International Monetary Fund.

• The United States, facing budget problems and a national election in 2012, is changing at a snail’s pace. The United States economy has gained strength in spite of the challenges. Employment has improved in recent months, in spite of the dislocations and seeming lack of skills in particular industries, and consumer confidence is rising.

• Consumerism in the United States has gained traction, albeit with an ever increasing degree of savvy. While we believe the level of consumption will ebb and flow at times, given the lack of a major catalyst for growth and the high unemployment level that still remains, it is nonetheless a key component necessary to help the economy continue to improve—and it is visible.

• The world witnessed the crossing of a new population measure in 2011—7 billion people. People, technology, communication and worldly awareness today, more than in any time before, are the driving force for global economic growth. Developing countries represent the future engine of growth for consumption. Not only are China, India and Brazil important, but also the other emerging and frontier countries, such as Africa, with its 310 million middle class individuals today, which will propel growth throughout the world and require further structural development. These are significant catalysts for the future.

While the breadth of changes globally that needs to occur for stable growth is large, the global framework has adjusted with recent positive incremental occurrences. We cannot think of a time when things got worse when there has been so much awareness of the issues and such herculean efforts being made to support survival. There are difficulties at hand to overcome. However, the global economy can move toward healthy growth through a more equitable well-being of individuals around the world, less political and financial corruption, and stable, predictable legal and tax environments. There may be bumps along the way, including the dampening effect of fiscal consolidation. Certainly the economic changes afoot suggest that the world’s resources and wealth will be more equitably shared globally. This should be welcomed.

We are including a link to an article, ”We need not fret over omnipotent markets,” that discusses the power that the financial markets wield over economic inefficiencies throughout the world by driving changes to ineffective political systems and economic structures, and enhancing regulation, controls and oversight. While disruptive forces may cause further volatility, the end result should be a far more prosperous and efficient global economic system with a broader global middle class. Our vision for the future leaves us smiling in this season of sharing and leaves us constructive on the New Year.

Happy Holidays and wishing you a prosperous 2012 from all of us at MKG Financial Group.

Mark K. Gaskill, President and Chief Investment Officer
Julie C. Bryan, CFA, VP, Research & Portfolio Manager

Disclaimer

The opinions expressed reflect the current judgment of MKG and are subject to change without notice. This report may contain forward-looking statements, which involve risk and uncertainty. Actual results may differ significantly from the forward-looking statements, due to economic situations, corporate, market and political risk.

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“Kicking the Can!” A global anomaly!

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There’s an interesting statement of comparisons. By now, most readers have heard or read a variety of new reports or read articles regarding the shallowness of any details for the Europe bailout fund and ancillary components. No matter how you cut it, there isn’t a lot of difference in what Europe pushed through last week and what the U.S. accomplished just a few months ago—both coming in with a plan of action that contains little explicit data, nor commitments on how the plan will be accomplished.

This is called “kicking the can down the road” because the accomplishment simply satisfied the demand for the existence of a deal with the understanding that the holes will be filled in later when the time to implement the plan comes to fruition. The original “kick the can” scenario for Europe actually began in mid-2010 when an attempt to bring Greece out of its troubles moved forward without a workable plan or much hope for success.

The current bailout plan in Europe doesn’t have the specific power behind it that had originally been discussed among the eurozone countries. It is smaller than the original amount thought necessary to provide coverage against sovereign default from ailing countries. In addition, there is a lack of any specific commitment from private investors providing questions about where the funds will come from when needed. As an example, while it was hoped that China would come to the aid of Europe as a contributor to the bailout fund, China has made it clear that it is studying the situation, but is not a willing candidate to help bail out a further ailing scenario. Therefore, despite the hoopla and joyous enthusiasm from investors, Europe just “kicked the can” again.

This may seem familiar to what we have recently seen here in the United States. The Wall Street Journal ran a lead article on July 8, 2011 entitled “Sights Set on Grand Debt Deal—Obama, Congressional Leaders Eye Sweeping Bargain to Cut Deficit by $4 Trillion.” Of course, the amount eventually was significantly reduced and when the agreement was finalized, the particulars as to where the money or spending cuts would occur were pretty much left out of the picture—referenced also as “kicking the can down the road.” And despite the rhetoric about whether the European leaders can take a lesson or two from the U.S., or just the opposite in the views of others, the characteristics are all too familiar in both cases. The United States’ next budgetary challenge should emerge before Thanksgiving when the Congressional “supercommittee” is scheduled to make its recommendations.

So with the clock ticking and the world watching with great anticipation—and hesitancy, investors were relieved that a European deal was struck and the markets have moved up in one of the best performing Octobers seen in decades. However, with the realization now of everything discussed here, the markets have quickly lost steam and ended the last trading day of October with a 276 point loss in the Dow Industrials. All eyes will be waiting to see if this is just the ending for a month in which short-term profits have been taken off the table, or whether concerns in moving forward appear to be warranted as investors push the market back to the lower end of a new trading range. The answer lies within the economic prospects, corporate outlook into 2012 and the supercommittee’s recommendations to the Administration and Congress.

~Mark Gaskill, Chief Investment Officer

Disclaimer

‘Tis the Season to be—Scary!

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After a recent major move in the global stock markets to the upside, we heard sounds that perhaps the markets are now in need of a rest before moving even higher. And while we would definitely concede that the markets have made a strong technical rise out of their third quarter trading range to finally hit new higher highs, there appear to be cracks forming that may indicate that the world markets are actually running out of steam. In reality, the cracks aren’t new, but investors were just basking in false hopes—especially in putting so much faith in Europe quickly solving its problems.

The reason for making this observation when the accompanying charts (Dow Jones Industrials and Dow Jones Global) show a definite break to the upside is that we are now getting third quarter earnings reports that are not only disappointing, but are being followed by truly major declines in the accompanying stocks of the underlying companies. Netflix, 3M, Cummins and AK Steel Holdings to name a few, are falling this morning.

In addition, on the economic front, there is a scary absence of any real news here in the United States regarding the U.S. budgetary problems and how we are going to address our own situation—yet the clock is ticking and in November we will once again begin to watch the DC Dance as politicians waltz their way to nonconformity.

The U.S. problems for now are, of course, easy to ignore while all attention focuses on Europe. Meanwhile, investors wait to hear how Greece and the Euro are going to be saved—an announcement that we believe will continue to be postponed for lack of EU consensus—and European political commitment. This occurred today; let’s be honest–could it really have been a surprise? Yet it is all one is hearing in the news. Déjà vu of the United States in July and August.

So Europe will go back to the drawing board. Remember, for many of the EU countries in the Eurozone, even after an agreement or understanding is brought together, the parliaments of the individual countries will need to place their seal of approval on their country’s backing and this may well be the barrier for bringing a package together. Meanwhile, the underlying banks and countries in financial straits are getting weaker and European confidence and growth is wilting.

In addition to the European issues, there are still issues to resolve in the United States; our problems will resurface—and may well bring about what we are going to call “the sobering reality” that we may all be suffering from similar illusions and in need of a similar cure. This will be a long-term fix, not a short-term recovery.

And while nobody is looking, watch over your shoulder at China. There is something there too that doesn’t seem quite right. The old adage “where there’s smoke, there’s fire” may actually become something of a reality should problems in China actually begin to surface in the news. The real estate market in China definitely appears to be in trouble; we’ll see what transpires, but it doesn’t sound good. The accompanying chart on E-House Holdings, Ltd, a Chinese real estate developer, provides a look at what some investors think of this sector for the Chinese economic outlook.

Could be that there is too much real estate to choose from—an oversupply problem—especially now that the U.S. is considering giving visas to people outside the United States if they will come to this country to buy our empty houses (minimum home price: $500,000). What a wonderful consideration—a win-win situation for America. Not only will we cure our housing problem by pushing our home ownership overseas, but it could also beef up the number of people in the 1% highest tax bracket and increase revenue for the country, as well. Thank you Warren Buffett.

When problems begin to be addressed, it will be a slow process. But first things first. The main point for this period of time is that we may end up trading a Merry Christmas this year for a Happy Halloween. Scary.

~Mark Gaskill, Chief Investment Officer

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