Investing in a Mexican Standoff

The tension in the market, it is as if we are watching one of those cowboy movies where two rangers face each other, thumbs twitching to quickly grip their guns out of the holsters. One guy, a stalk of grass sticking out from his mouth, muttering, “top….”, challenging the other one to then spit out onto the ground, and mutter, “I’m not going down…”

And yet every one is anticipating at every dip to sprinkle a little bit more of the fairy dust from the burgeoning bag of ‘dry powder’ that we have so much of we know not what to buy.

“Wait”, say the value investors, “wait”, say the hedge fund managers, “wait”, says Yellen and says Carney. (Draghi? He just likes to make people wait). The way those Central Bankers glance at you from the corners of their eyes while making speeches, saying, “expect rates, – but wait…”

But what are we waiting for? (And what ever happened to that town windbag Mr Momentum?)

“Numbers!” shouted every one. Which numbers?

GDP! Shiller PE! Housing! Unemployment! No, grandfather, this is not your stock market. For one thing, HFT was not the topic of a popular book. Dark pool was a body of water not lit by the moonlight, good for skinny-dipping, so says Mr Barclays.


From Brad DeLong,

“The undershoot relative to previous expectations of first-quarter real GDP growth by 6%-points, followed by no bounce-back catch-up at all, would seem to be bad news for inflation, for profit margins and hence stock valuations, and for long-run potential GDP. But the stock market does not seem to care. And inflation expectations as measured by the TIPS-Treasuries breakeven do not seem to care.

Is it that people trading in the breakeven think that the Federal Reserve will hit the economy on the head if inflation starts to rise, and so think that the stock market in failing to react and fall is irrational? Is it that people trading in the stock market think that the effect of lower long-run potential and lower profit margins on real stock values are offset by higher inflation and hence have no impact on nominal stock market values, and that the breakeven market by failing to markup future inflation is irrational? If you think the markets had it right in January, then right now either the stock market is too high or the TIPS-Treasuries interest-rate spread is too low. People ought to have been shorting the stock market, shorting treasuries, and hedging by buying TIPS on a large scale”

Perhaps calling it a Mexican standoff would be more apropos. A standoff between the stodgy Central Bankers and the recalcitrant Ms Market.

Across the pond, UK is set to outstrip the global growth this year. The IMF has predicted that UK would have grown by 3.4% between the fourth quarter of last year and the end of 2014. And still, Ms Market looks on stubbornly ahead, cautiously measuring Carney’s words against the GDP figures, praying it would not be ‘too good’ that he is tempted to hike the rates.

What does it all mean then, for investors, retail and institutional alike? How do you put forth a valuation where senses are numbed, numbers are dulled? (Or should that be senses are dulled, numbers are numbed?) Perhaps investors should best bear in mind what Tren Griffin pointed out in a tweet today, said by Morris Chang, the chairman and founder of TSMC,

“You Americans measure profitability by a ratio. There’s a problem with that. No banks accept deposits denominated in ratios. The way we measure profitability is in ‘tons of money’. You use the return on assets ratio if cash is scarce. But if there is actually a lot of cash, then that is causing you to economize on something that is abundant.”

There is no conclusion to be had here, such is the nature of a standoff, which is “the inability for any one party to advance their position safely, a condition common to any standoff; in a Mexican standoff, there is additionally no safe way for any party to withdraw from their position, making the standoff effectively permanent”.

In addition, the Central Bankers have fixed such stiff shock-absorbers onto the investors’ buggy wheels, that we can’t feel whether we’re riding over potholes or on the smooth ground. So until we reach our destination, or until one of the wheels break, we just keep on ridin’ uphill, and prayin’, and ridin’…


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