DOW 20k and the Wall of Worry

In the past, Jeff has not hesitated to publish controversial posts here on A Dash of Insight. His writing often flies in the face of so-called conventional wisdom –  speaking out against permabear pundits and the cynicism that pervades financial media. In 2010, as self-proclaimed skeptics paraded around ideas of DOW 5k and DOW 7k, Jeff floated an idea of his own: DOW 20k.

“Someone needs to say this:

 

Dow 20K.

The fear mongerers abound in the financial media.  TV and online ratings seem to go to those helping to peddle fear and sell gold or structured annuities (with high commissions attached).   Every individual investor I meet is scared silly.  They do not realize what is at stake.

For the mainstream media, it is all about ratings.  They have all learned that fear sells.  Attacking Obama, attacking Bernanke, attacking European leaders, explaining government policy as if it were the family budget —  it all works.  The big-time media have garnered page views and sold papers.

Even when they attempt to show “balance” they have someone warning about Dow 5000 and the “bull” saying that stocks will go up 8% this year!  Is it any surprise that watchers are scared witless?

Investors need to understand that they are missing more than an 8% move. Stocks will double.  When will they get on board?  Do they have a plan?

The Proposition

Let us attempt to restore some balance.

There is undue publicity given to Dow 5000.  A 50% decline has happened only twice in history.  The first time was in the Great Depression.  The second time was when people incorrectly believed that the fall of Lehman would lead to another depression.  As we now know, that was incorrect.  March, 2009 was a buying opportunity.  What about now?

Here is the proposition.

The Dow will double before it is cut in half.

I want to make this proposition right now, with the Dow around 10,000 and many forecasting 5000.  A prediction needs a time frame.  That is part of my current research.  For the moment, let me just say that it is shorter– much shorter — than most people would think.

The key point?  Most do not realize the cost of sitting out the return to normalcy of stock prices.”

As the DOW crossed the 15k mark in the spring of 2013, Jeff took some time to reflect on the media conditions at the time and mull over the reaction to his predictions.

The Dow had been toying with the 10,000 mark, after a 10% correction. The news from Europe seemed to be terrible, and everyone was on board with the domino theory. We were in the midst of the worst May since 1940. The most bullish of market pundits were calling for upside of 8% or so. Meanwhile, there were plenty of highly visible pundits calling for Dow 5000 – or worse.

Something was seriously wrong with the media perspective. Investors were getting a huge dose of the downside risk, complete with numbers, but the upside story was more difficult to explain. I wanted to challenge readers to step back and to reexamine their biases.

I suggested the simple proposition that the market was more likely to double than to be cut in half. It was the sort of thing that Peter Lynch said in days gone by, and everyone accepted it as obvious. Something changed in 2008. We entered a climate of negativity on all fronts, and we still have not emerged.

This article prompted some of the harshest comments Jeff has ever received, both here and on the syndication webpage Seeking Alpha. In 2013, in a post called The Fed is a Fig Leaf, Jeff reviewed the way in which his suggestions were so readily dismissed.

“There is a simple reason for higher stock prices: Better economic conditions and higher profits. Over the last three years the most important market worries have lessened.

Most people struggle to understand the “wall of worry” concept. Briefly put, it means that, at any given time, stock prices might be lower than one expected because of headline risks. These are plentiful at all times, fueled by ratings-seeking media and blogs. Trying to explain how Europe will bargain its way to a solution is pretty boring when compared to footage of a run on banks in Cyprus!

It is very difficult to evaluate the worries in real time. To avoid this problem, let us use the Wayback machine to go back three years. In my Dow20K series, I raised a number of “what if” questions. The commenters were most of the “Miller, you idiot” persuasion. Feel free to go back and see how nearly everyone questioned the mere possibility that any problems might be solved. Here was the favorite from the Seeking Alpha crowd:

“‘What if unemployment falls to 8%? What if the annual budget deficit is reduced?     What if earnings for US companies continue to surge, leaving the 10-year trailing     earnings in the dust?’

And what if my aunt had balls?

She’d be my uncle!'”

The smart-aleck who offered this viewpoint is still around — providing the same “in-depth” and inaccurate analysis.”

Essentially, the idea behind DOW 20K comes from a simple concept: “The Market Climbs a Wall of Worry.”

One of the most difficult challenges for investors is understanding what information is already “in the market” and what constitutes fresh news.  The recent market rally is a great example.

There is widespread agreement about current economic problems.  Many observers express surprise that the market can rally in spite of “the fundamentals.”

This is the wrong question.  The best time to invest is when things look terrible and prices reflect the poor current condidtions.  I wrote an article on this topic in mid-April of 2009 that I thought was one of my best.  A commenter, probably reflecting many others, offered a skeptical “Good luck with that.”  It is difficult, unpopular, and profitable to have a bullish market viewpoint when the general news flow is so negative…

…How can stocks rally with so much to worry about?  To answer this question you need to consider what these lists would have been like a month ago.  Some of the worries have been crossed off!  Others have been reduced.

  • The crash of the Euro, the sovereign debt crisis, and the “cockroach theory” have not come to pass.
  • Corporate earnings have remained strong — both current and prospective — despite skepticism.
  • None of the extreme “technical” forecasts — Hindenburg Omen, head-and-shoulders top, Death Cross, or Dow Theory signals came to pass.  Some are now reversing.

If you watch the lists of worries as they change over time, you can see that some important concerns drop off.  This climbing of the “wall of worry” best explains both the current market action, and also the week ahead.  Let us start with our regular review of last week.

Jeff had elaborated on this concept in an earlier article in which he outlined the progress that had been made on a number of important issues.

There are many economic problems — all well noted and discussed by many (including us).  Most observers seem to believe that this means that markets should always move lower, with no particular destination in sight.  The skeptics tell us to ignore any evidence to the contrary.  Consider some examples.

  • Wells Fargo pre-announces good earnings.  The punditry rushes to tell us how wrong this is.  Check out Tom Brown for some detailed analysis of the critics.
  • Goldman pre-announces good earnings.  The punditry rushes to tell us about the “hidden month” as they shifted, as expected for their new role as a bank holding company, to a calendar year.  Writing about this shift generated a lot of page views, but those looking ahead might have a better grasp of the earnings potential.
  • Intel announced good revenues and earnings, and suggested that there was a bottom in the PC market.  Pundits complained and the market weighed to the sell side.  Why?  The company did not give “hot” guidance.  Is this a surprise?  Companies will remain cautious in guidance until well beyond the economic turn.
  • The stimulus will not work, say the political critics.  They are confident about this even before they see any data.
  • The PPIP will not work, say the pundits.  They are confident before the participants are even announced.
  • Anyone who booked the 20% gain in the last month has enjoyed a “sucker’s rally.”  If you Google this term you will see 500,000 hits, all telling you how stupid you were.

In this way, the DOW 20k concept – while outlandish to many – is grounded in very simple fundamentals. Despite the challenges facing society, people continue to come together to perservere. It is the goal of business leaders and statesman to avert the worst case scenarios, and more than likely they will.