Iron Capital Insights

  • Iron Capital Insights
  • September 7, 2011
  • Chuck Osborne

The Truth, the Whole Truth, and Nothing but the Truth

Our world, and by extension the investment markets that are a reflection of our world, seems to be suffering from a serious case of over-specialization. The advice most often given to the last generation of workers and professionals was to learn all one could about one thing. Become an expert in your field. This is logical advice, but, like anything in life, when taken too far can cause problems. In becoming experts on singular issues we seem to have lost focus on the big picture. What we need in our world today is what they used to call a “Renaissance Man,” someone who was truly educated and knew about a great many things. Someone who can see the forest and not just the trees.

What does this have to do with our current investing environment? Everything. It seems we live in a world where investors and policy-makers alike do not seem to understand the consequences of their actions on other parts of the world. Our world is one big living organism, it is not a series of specialized silos. The only way to see the truth – the whole truth – is to understand the big picture.

Last week the federal government announced that it was suing the 17 largest banks for “their part” in the financial crisis. Today there is an article in The Wall Street Journal suggesting that one of the largest obstacles to a robust recovery is the inability of so many homeowners to refinance and actually take advantage of these historically low interest rates. In our specialized world people seem to read these as two unrelated items, yet they are not: a bank being sued for being too aggressive in their lending practices is going to react by not lending.

Investors are acting just as recklessly. A few weeks ago I received a newsletter from one of our competitors in which they were claiming that inflation was coming, justifying their large allocation to commodity investments. They, along with so many others like them, caused a spike in commodity prices. When that happens in an environment that is not inflationary – as we discussed in our latest “Quarterly Report” – it leads to an economic slowdown. Friday I received another newsletter from the same firm saying that we are heading for a Japanese-type stagnation; however, there was no admission of their role in causing such by artificially boosting commodity prices.

Nowhere is this dangerous lack of focus on the big picture more disturbing than in Europe. Every time the EU tries to solve a debt crisis fire with a band aid, simply kicking the can down the road, the bigger the next fire becomes. The EU needs to take decisive action one way or another to bring this crisis to an end. Allow Greece to exit the EU and default on their debt, or take their debt over completely. Until then we are going to continue to see market turmoil. European markets are down approximately eight percent over the last two days.

The markets will be watching the President’s speech on jobs this week. Hopefully there is a realization that all actions of government affect jobs. Health care, financial reform, wars, tax reform and the debt crisis – these are not isolated issues, one different than the other. They are all parts of the bigger picture, one that has been incredibly bad for jobs and that increasingly is risking a new recession.

Another part of that big picture is the actual health of the corporate world. Corporations are not lowering their forecasts. In August only 138 companies lowered their earnings forecasts, while the norm over the last decade has been an average of 221 lowering forecasts. If you split the world into three segments, governments, consumers and corporations, corporations are in the best shape by far. Unfortunately, the market is ignoring this third of the forest, even though it is the third where your money is actually invested.

This leads to a frustrating environment where the opportunities for future returns look very attractive, but the immediate concerns over government balance sheets and the hard politics that go along with this situation increasingly are causing the consumer to grow pessimistic. The end result is volatility. The longer this volatility lasts, the greater the probability of a severe bear market.

I am not saying this is a foregone conclusion; in fact we remain cautiously optimistic over the next two to three years, but the odds of a severe bear market are increasing. What we need is some well-rounded, big-picture leadership from policy-makers who consider the whole truth. Unfortunately we seem to be surrounded by specialists. Alas we must play the cards we are dealt. We will continue doing all we can to protect your assets in this environment.

Chuck Osborne, CFA
Managing Director