Manarin Investment Counsel, Ltd.

We all remember the doomsday prophets from three years ago. Predictions were dire. The then-new period of diminished returns was referred to as “the new normal”; but just how accurate was that claim?

Reprinted with permission from the Tillman Stock and Bond Hotline
For: Thursday, May 12, 2011
(800) 219-1333.  VetHotline@aol.com.  VanEckTillman.com.

     We want you to take a moment and think back to the dark days of late 2008 and early 2009.  The economy was contracting, credit was very tight and the stock market was in the midst of one of the worst bear markets/crashes in modern history.  There was a lot of talk back then about how everything had changed.  The phrase "The New Normal" became a core creed to some analysts and investors.  They decided that the economy would continue to shed debt (leverage) for years and even decades to come.  As a result, it was widely predicted that the economy would remain in or near a recession indefinitely.  As for the stock market, it was pronounced to be dead on arrival.  Many of the bears expected the crash of 2007-2009 to continue for years to come.  Such opinions were so strong that many of the skeptics have refused to acknowledge that stocks are in a new bull market - even after a more than doubling of the major stock indices and new all-time highs registered by both the Dow Transports and the Russell 2000.

      There is another statistic that shows just how far the stock market recovery has taken the bulls during the past two-plus years.  According to Fidelity Investments, the average 401(k) plan balance reached a record $74,900 at the end of the first quarter.  With the broad stock market up another one to two percent since March 31, the average value of those retirement plans is even higher today.  It is impossible to argue with those results.  Some of the gains during the past two years have come from fresh flows of cash.  However, the bulk of the gains came from a good old-fashioned bull market up trend.  The economy bottomed out more than two full years ago.  We are nearly at the two-year anniversary of when GDP reportedly went from contraction to growth.  Corporations exited the recession with costs cut to the bone.  When revenues began to pick up in 2009 and then accelerated in 2010 and 2011, corporate profits exploded higher.  It looks like S&P 500 earnings will reach a new all-time high during the coming year.  It seems like a sensible bet that the broad stock market will reach a new high of its own during that period of time.  In the near-term though, we remain mildly cautious.

      Earlier in this Hotline, we mentioned the phrase "The New Normal."  We think this is a good time to remind you about the history of that phrase.  Back in early 2009, Bill Gross, who runs the largest bond fund in the world (Pacific Investment Management Co - PIMCO) said that the U.S. economy had entered a new phase called "The New Normal."  Gross predicted that the period would see subpar economic growth and high unemployment for a long time to come.  In order to give you a broad perspective of what Gross was saying back then, here is a quote from a summer 2009 interview.  Bill Gross said, "The surprise is that there’s been a significant break in that growth pattern, because of delevering, deglobalization and reregulation.  All of those three in combination, to us at PIMCO, means that if you are a child of the bull market, it’s time to grow up and become a chastened adult; it’s time to recognize that things have changed and that they will continue to change for the next – yes, the next 10 years and maybe even the next 20 years.  We are heading into what we call the New Normal, which is a period of time in which economies grow very slowly as opposed to growing like weeds, the way children do; in which profits are relatively static; in which the government plays a significant role in terms of deficits and reregulation and control of the economy; in which the consumer stops shopping until he drops and begins, as they do in Japan (to be a little ghoulish), starts saving to the grave."

      In October 2009, after the economy and the stock market had already shown some significant signs of stability and recovery, Bill Gross and others remained unimpressed.  (Do you remember all of the sarcastic remarks about "green shoots" back in 2009 and beyond?)  During that month (October 2009), Gross was asked once again to define what his New Normal would mean for the future.  Here is what he said, "In the context of PIMCO’s growth and profit expectations for 2010, there may be substantially more potential for downside risks than upside risks for most asset classes.  We don’t expect a return to levels seen in June 2008 in most markets because the financial system has been salvaged, re-liquefied and significantly de-risked, but a slow recovery, lower corporate profits, potential for disappointments and potentially displaced confidence all suggest pulling back risk positions that have been acquired over the last six months."  As it turned out, almost all of those predictions failed to materialize.  The Wilshire 5000 reached its June 2008 high (14,340) just a few weeks ago and appears to be in need of a rest.

      We have one more quote for you.  Sorry if it is overkill, but Gross has been in the news again recently and the gist of his analysis is that America is still in trouble and headed for years of pain.  As a result, he has recently added to PIMCO's bet against U.S. Treasuries.  In a July 2010 interview, Bill Gross was asked what the New Normal would likely mean for investors.  Here is what Gross had to say, "Instead of 10% returns for stocks, look for five or so.  And instead of the past 20 years' returns on bonds, which are actually better than stocks - close to double digits - it's 4% going forward.  So that's what the new normal is.  And it's based upon the primary assumptions of a deleveraging of the private sector and the public sector being limited in what it can spend."

      When Gross made that prediction about the stock market, the Wilshire 5000 was trading near 11,390.  As of today, the index has gained 25.0% since PIMCO's leader predicted that stocks would gain about five percent annually during the new financial Dark Age.  That means in the past 10 months, the broad stock market managed to post five year's worth of gains (based on the parameters set down by Gross and people with similarly pessimistic views).  A lot of gains have been missed by the entrenched skeptics during the past few years.  We are afraid that many of them will stay out of the market (or short) even after the next correction/consolidation runs its full course.  The Wilshire 5000 closed today at 14,265.35, up by 104.85(0.7%) in the past week.  The Volatility Index (VIX) closed at 16.03, down from a reading of 18.20 a week ago.  The yield on the 10-year Treasury note closed at 3.23%, up from 3.17%.  More next week.