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MAKING CENTS OUT OF THE NEWS
Blog #17
(November 6th, 2008)
AND THE CURE FOR LOW STOCK PRICES IS….
By Tom McAllister, CFP™
Commodity traders like to say “The cure for high prices is……high prices.” This old adage has proven true in recent weeks. Oil prices peaked at $147 a barrel, and we were paying $4.19 per gallon for gasoline. Apparently these prices were too high, and the situation began to “cure itself”, adjusting oil prices downwards to nearly $60 per barrel; in Indianapolis, gasoline is selling for under $1.90 per gallon. Adjusted for inflation, this is less than the 25 cents per gallon I paid when I started driving in 1953!
If higher prices are their own cure, is the reverse also the case? Last week’s one-day 11% increase in stock prices was almost unheard of. The rest of the week continued strong, holding an approximate11% gain for the entire week. Nothing in the news, save the coming half-point drop in the Federal Reserve interest rate, explained such a steep and sudden recovery. Perhaps, then, the real explanation is that the heavily “oversold” stock market, which had been dropping 2-3% each day for more than a week, evolved into its own cure. In other words, the cure for low prices seems to be….low prices!
Virtually all the professional investment advisers I know had been salivating over the extraordinary opportunity to buy very good stocks at bargain basement rates. Tuesday, October 28 was apparently the day many chose to act on this impulse. It’s simple to understand: with stock values fallen so low, the bargains could no longer be ignored by professional investors. (Of course, the next day, stock prices backed off slightly, as profits were taken on the news of the rate cut.) But the rest of the week saw solid gains, and this week stock prices rose even more, before backing off the day after the election. “Buy on uncertainty, sell on news!”
John Templeton, founder of the Templeton family of mutual funds and one of my heroes in the investment world, once said, “Bull markets are born on pessimism, grow on skepticism, mature on optimism, and die on euphoria.” During my more than forty-six years observing investment markets, I’ve seen “the Cure” principle work again and again. Prices – not just stock prices, but prices of real estate, commodities, and collectibles – have followed this cycle over time.
In last week’s blog
(see
“Re-arming Regulation – Duh!”
)
, I quoted Alan Greenspan’s remarks about the flaws he discovered in his own free-market ideology. I see Greenspan’s basic premise (that markets tend to self-correct) absolutely borne out in the up-and-down price behavior in stocks and commodities. From my vantage point it seems that it’s not Greenspan’s free market ideology that’s flawed. What’s flawed is the system of regulation and oversight of trading practices. As Greenspan correctly observes, “Transparency and responsibility in the marketplace will go a long way towards restoring stability and confidence.” With common-sense safeguards in place relating to practices such as short selling and the securitization of mortgages, prices will find their own levels.
Thus it appears that the cure for low stock prices is none other than….low stock prices!
(I will have comments on President-elect Obama's upcoming administration as his transition in to office occurs…)
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