The CFA Society of Milwaukee gathered October 15th for a luncheon presentation given by Dr. Jim Paulsen, Chief Investment Strategist of Wells Capital Management. An entertaining and engaging presentation ensued as Paulsen showed slide after slide supporting and reinforcing a perspective on the economy and markets that was, simply put, very positive.For this writer, the mood of Paulsen’s commentary was quite literally 180 degrees from that of Laurie Goodman, mortgage-backed securities analyst of UBS, from almost one year ago to the day. The message a year ago was grim as Goodman demonstrated how the mortgage-backed sector was, as she spoke, sucking the global economy and financial markets into a vortex. At that time, she did not see a silver lining in anything on the horizon.
Paulsen’s discussion began where Goodman left off: last year’s panic was, as he dubbed it, “the depression that wasn’t.” Literally, people had stopped transacting in the real markets as everyone prepared for the worst. The widespread panic was not allayed by our political leaders, he said. He pointedly commented that the president’s decision in early November, 2008, to get up four mornings in a row, stating publicly before the media and the world that we were all veering towards depression, particularly did not help the situation.
If there were anything to learn from the reaction of policymakers last year, it is that the playbook for handling a collapse of confidence in the financial markets should be re-written, focused instead on restoring that lost confidence. Paulsen’s and Bernanke’s grinding appearance for 10 days in October before Congress was both painful and, arguably, a process that did not serve to reinstate investor confidence as volatility spiked to record highs and the equity markets death-spiraled to 6,500 on the Dow.
Paulsen then turned his attention to the recovery. Companies and households had basically prepared for depression. The leanness that resulted has lead to increased productivity and a faster bounce-back than markets had expected. The recent run up in the markets reflects this. Paulsen claims the equity market may go even higher from this point. We may even re-attain 14,000 on the Dow in this recovery cycle. A measure of that recovery could be 4% GDP growth in the U.S. in 2010. The “new normal”, he said, will actually look pretty normal.
Paulsen next talked about the effects of the stimulus programs. It is akin to a barbeque where the coals don’t come to life quickly enough, so the host throws more and more fluid on the fire until… a veritable conflagration. These programs have injected a mighty force into the economy we have yet to see. He also pointed to a mountain of cash that has been built up in a manner not seen since the mid-80s. Private sector cash holdings to GDP stand at about 75%. Paulsen notes that, as he made his career in the mid-80’s on a mountain of cash, so too will many in the audience. He believes that unemployment will keep a lid on inflation for a while and he does not view inflation as a threat even as the economy recovers, longer term.
Two threats he was concerned about a couple of months ago, mortgage rates and oil prices, have receded. While he acknowledged that the consumer continues to be burdened particularly by unemployment (as of this writing, the rate had surpassed 10%), the consumer is not as debt laden as common wisdom assumes, and business investment will begin to fill the gap.
Paulsen overlaid two measures; the household obligations ratio, put out by the Fed, and the energy obligations ratio. This relationship showed how the U.S. household burden is no worse that it was in 1980. He contends that the evidence does not point to housing debt as the culprit. Rather, he points to the shock of oil prices that pushed the consumer over the edge leading up to the recession. The consumer was not as fiscally imprudent as, again, common wisdom would have it. He believes the “worst-ever lending crisis” story is overplayed, too. Annual inflation-adjusted growth in total U.S. Household Debt, while bad, is no worse than 1981, 1975 or 1970.
Paulsen then turned to the emerging world, another positive contributor to the economic outlook. Again, taking a different view on the data, he believes the perennial U.S. trade deficit has served to seed and foster emerging market economies whose internal consumption is starting to take hold. Clearly, a proponent of the decoupling theory, he sees the emerging world as an engine for global economic growth. He is not concerned about the continued trade deficit or falling dollar. He argues that the G7 and the U.S. are in the same boat with China and will, over time, put pressure on China to revalue the yuan, leading to a more balanced global economy.
In short, Paulsen gave many reasons to believe that things may turn out better than expected in the medium term. In the Q&A, however, his responses to questions about other longer-term challenges (the audience asked several questions about the health care debate, as well as welfare, environmental and energy policy), particularly in the developed world, did not give much reassurance.
