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Bulls Climb a Wall of Worry — For Now

By    |   Monday, 15 Jun 2009 03:58 PM

Lately, stock prices seem to be ignoring bad news and moving higher and higher. The recent market action is what traders mean when they say that bull markets need a "wall of worry."

All markets discount the future. Discounting is an accounting process where a precise future value is placed on an asset. For example, if the stocks in the S&P 500 index are expected to earn $60 a share next year and the average historic P/E ratio is 15, then the index should be valued near 900.

Of course, that example is an oversimplification.

By discounting the future, stocks trade on what should happen rather than what is in the news right now. This can explain why stocks often seem to move higher when the news is at its worst.

And, right now, the economic news is actually pretty bad. Unemployment for May was reported to be 9.4 percent, higher than analysts had expected it to be.

Reading deeper in that report, we learn that more than 16 percent of Americans are unemployed or underemployed when using what the Bureau of Labor Statistics calls "Alternative Measures of Labor Underutilization." This includes discouraged workers who have been jobless for at least six months and those who took a part-time job because they can't find full-time employment.

Unemployment and underemployment all too often lead to foreclosures for highly leveraged consumers. In the first quarter, homes in the foreclosure process reached a record level near 5 percent. Even more worrisome, about 9 percent of mortgage holders are delinquent in their payments.

Now we see consumer woes extending to credit cards. For the first three months of the year, the delinquency rate was up 11 percent from a year earlier.

For those looking for more worries, they can consider the impact on banks that issued the cards and are still reeling from mortgage-related losses.

Rising oil prices are also a cause of concern. Gas prices have moved significantly higher lately and are now near $2.60 a gallon.

Worried consumers will be forced to rein in spending if we see a repeat of the run-up experienced in 2008.

Interest rates are now increasing at a record pace. Over the past five months, we have experienced the greatest rate of change in the 10-year Treasury note since 1953. This will trickle through the economy and make mortgages and other loans more expensive, which can slow the economy even more.

Meanwhile, Congress is set to begin debating how much influence government will have in healthcare. Government spending, at all levels, already accounts for more than 40 percent of GDP in the United States. Putting healthcare under that umbrella will allow government to control more than half of the economy.

There is more than enough for investors to fear and worry about in the news. Yet stocks are indicating that a better economy is just months away.

This market has certainly been climbing a wall of worry. These worries include unprecedented political and economic risks. And, the message from Wall Street, for now, seems to be don't worry, be happy.

Unfortunately, the discounting process is a continuous one. After the risks have been resolved the market may fall just as good news appears in the headlines.

Investors need to be wary when the green shoots flourish.

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MichaelCarr
Lately, stock prices seem to be ignoring bad news and moving higher and higher. The recent market action is what traders mean when they say that bull markets need a "wall of worry."All markets discount the future. Discounting is an accounting process where a precise future...
stock,prices
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2009-58-15
Monday, 15 Jun 2009 03:58 PM
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