“First Principles”: A Prescription for Sustainable Recovery
John Taylor, former Undersecretary for the Treasury, was recently interviewed by Tom Keene on Bloomberg Television where he discusses U.S. fiscal policy. Professor Taylor’s new book “First Principles - Five Keys To Restoring America’s Prosperity” offers sound and practical advice for getting policy, markets and capitalism aligned which will enable the country to return to long- term prosperity.
We share Professor Taylor’s belief that limited government interference is a key component that will drive the stock market sustainably higher. Click on Bloomberg below to see the video.
Source: bloomberg.com
Making Progress Towards Energy Independence
One big story of 2011 was the United States switching from being a net importer to a net exporter of petroleum products. These exports consist of diesel and gasoline sold all over the world (excluding crude oil).
The attached graph plots the difference between U.S. exports and imports of petroleum products. On average in 2008, we were importing about 1.8 million barrels per day more than we exported. As of the second half of 2011, this difference has swung to an average positive net export balance of 0.4 million barrels per day (see chart by clicking Source below).
Source: library.constantcontact.com
Positive Signs
Since our last post the S&P 500 is up nearly 9%, in spite of continued uncertainty in the European Union. Key indicators on the U.S. economy are showing signs of improvement and, along with recent monetary policy actions in the U.S. and Europe have moved our macro based Economic Spread Signal to a Buy.
We believe that recent comments from Federal Reserve Chairman Ben Bernanke will provide an environment that is conducive to higher stock prices. The Fed extended its Zero Interest Rate Policy through 2014 and stated that inflation is under control. Falling correlations among stocks and significant fund manager out-performance in January is evidence of this emerging trend. See “Stock-picking Matters” by clicking on the Yahoo button below.
We discuss these recent events along with the actions Legacy is taking in client portfolios on a recent conference call with clients. A replay of the call is available on our website at www.legacycapitalinc.com
Source: Yahoo!
Legacy’s Bottom Line
The Problem
Much has been discussed and written about the solution to our current economic malaise. The country still faces an unsustainable level of debt. US government obligations need to be at lower levels relative to our country’s GDP, which can only happen by paying down or writing off substantial amounts of debt. Simultaneously we need to stimulate economic activity to grow our economy. With interest rates near 0%, monetary policy via the Federal Reserve has, and will continue, to be ineffectual.
Last year, President Obama formed the National Commission on Fiscal Responsibility, resulting in the Simpson Bowles Report. It contains the action plan that would address our deficit issues and facilitate economic growth. The likely result of the actions within the report would no doubt trigger near-term pain, but it would set us on the course of fiscal sustainability and economic growth. Washington has yet to fully embrace the plan as of this writing.
The Solution - Leadership
What is required is the ability to face the facts of the situation, execute (however uncomfortable) a solution that addresses the underlying problems, and let the natural forces of capitalism operate. Whether our politicians do what is right or not, we expect the near term environment to be challenging for stocks. Our concerns manifested themselves in conservative portfolio strategies and an adherence to a process that is objective and based on facts rather than hope. This has often resulted in a message that was neither popular nor positive. We have shared this data in numerous presentations and written communications - to inform our clients and colleagues as to the seriousness of current circumstances as well as our solutions. This candor exacts a cost – often times at our own expense. But it is the right - and necessary - thing to do.
It is unfortunate that our political leaders have not done the same. Our defensive strategies and our tools to make money in declining stock (and bond) markets are now serving our clients well. We look forward to buying stocks at substantially cheaper prices, or when our structural problems have been addressed. In the mean time, we will profit from the opportunities that present themselves along the way.
Hussman Comment
Sound monetary policy requires sound fiscal policy, coupled with a habit of the private sector to allocate resources productively so that the government isn’t forced to compensate for bad decisions. That’s where the global economy has failed. What is needed most is to disengage the expectation that bad decisions, public or private, will be bailed out; to minimize the use of new resources to make past mistakes whole; to appropriately restructure and write down bad debt so that past errors don’t persist as massive anchors to future growth; to reduce the transmission of risks between financial institutions (through higher capital requirements, lower leverage, and transparency) and countries (through a partial or complete return to independent monetary systems) so that mistakes are not amplified or socialized; and to pursue policies that encourage and even subsidize the allocation of scarce resources to new investment, R&D, and other productive purposes.
