"Uncertainty Breeds a Lack of Confidence"

Sydney M. Williams

Thought of the Day

“Uncertainty Breeds a Lack of Confidence”

August 26, 2010

As we approach the end of August and face the dreaded months of September and October, we are reminded of Mark Twain’s famous quote: “October is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August and February.” With no disrespect to the memory of Samuel Clemens, September, I believe, has actually proven to be the single worst month for the averages. We are nearing that month with the economy looking weak, confidence low, and with market bears, perhaps alone among Americans, feeling good.

This will be my 44th September working on Wall Street; during those years September has more often been down than up, but not so consistently that one can derive any certainty as to the outcome of this year’s September. Using the S&P 500 as a proxy, on 23 occasions the month closed lower, on 19 it was up and once, 1979, it closed exactly flat at 109.32.

But, more important than the history of prior difficult Septembers, and what they may portend for the future, is the absence of confidence – a subject I have broached before. Early in his first inaugural address in 1933, President Roosevelt said: “So, first of all let me assert my firm belief that the only thing we have to fear is fear itself – nameless, unreasoning, unjustified terror which paralyzes needed efforts to convert retreat into advance.” Our country, our economy, our markets are suffering from a lack of confidence.

A curious thing about confidence is that it is not necessarily contagious. President Obama exudes self confidence, yet has been unable to instill a similar sense in the people. There is no question that, as a nation, we have experienced an extraordinary shock. Stocks have been in the doldrums for most of the past ten years. Home prices, which had risen almost uninterrupted for sixty years, collapsed over the past four and a half years destroying most peoples’ single largest nest egg. Financial institutions, using other peoples’ money and assuming unnecessary risk and undue leverage, brought the banking system to its knees. Politicians have increasingly become distanced from those they purportedly represent. (The fact that a recent Rasmussen poll indicated that 68% of politicians in Washington support the decision to erect a mosque two blocks from the World Trade Center site, while 77% of the people express disapproval is a telling and disturbing finding.) As Roosevelt also said in the same speech, at a time when the country was in far worse straits than it is today, but a comment that is still appropriate: “Only a foolish optimist can deny the dark realities of the moment.”

In 1980, the U.S. also faced severe, though different, economic problems. As newly elected President Reagan proclaimed in his inaugural, we “…are confronted with an economic affliction of great proportions. We suffer from the longest and one of the worst sustained inflations in our nation’s history.” President Reagan’s response was different from Roosevelt. In that same speech Mr. Reagan said: “In this present crisis, government is not the solution to our problem.” In circumstances not unlike today, Reagan’s initial efforts did not bring him great approval. A year and a half into his first term his approval ratings bottomed at 35%, well below where President Obama’s are today. Yet, by the end of his second term, with interest rates and inflation down dramatically, GDP up 83% and the S&P 500 higher by 105%, his approval ratings were above 60%.

The U.S. workforce approximates 180 million people. If one subtracts the unemployed (about 18 million) and the roughly 10 million who work directly for the government, you have close to 150 million who are working in the private sector. Of those, perhaps 10 to 15 million work for businesses that contract directly with the government. That leaves about 140 million who work in businesses in which the owners or managers depend on a view of the future that gives them confidence to grow and expand. They rely on the availability of credit, and rules and regulations that are fair and understandable. As businesses grow they hire and pay more in taxes. Everyone benefits. But deplorable employment numbers, the sorry state of home sales, the unwillingness of banks to extend lending, and declining stock prices tell us that confidence within the private sector is AWOL.

Every action has a reaction and a consequence. The decision by the Federal Reserve to keep interest rates low and to purchase longer dated Treasuries has not encouraged lending, but it has cost savers. The debt of the federal government is about $13 trillion. If the Fed’s actions have reduced interest rates across the spectrum of maturities by 200 basis points it means buyers of Treasuries have foregone $260 billion in income – an unsung sacrifice and unmentioned stimulus. Obviously monetary policy is a powerful tool and I am way over my head, but I worry that the Fed, in keeping interest rates as low as they have for as long as they have, has done very little for confidence. Additionally, a healthcare bill in excess of 2000 pages so complex that no one appears to understand its full ramifications does not help the employer looking to expand and hire new people.

The sad thing is that this is happening just as an extraordinary opportunity is developing – the emergence of hundreds of millions of consumers. China, Russia, India, Brazil and Indonesia collectively consist of more than three billion people; ten to twenty percent of them, over the next couple of decades, will be entering the middle classes. They will become consumers of products and services we produce. President Obama has said he wants exports to double over the next five years. He should set the bar even higher. America, since the end of World War II has been the engine, via our consumers, of global growth. That is changing. The engine has moved to the East. Manufacturing represents only 12% of our GDP, but it is worth remembering that our manufacturing, as a stand alone economy, would be the 8th or 9th largest in the world as measured by GDP. We should also keep in mind that Japan and Germany manufacture cars in this country – a vote of confidence by others in the potential of our workers and resources. Besides visiting a government funded battery plant in Wisconsin, the President should also visit the Chattanooga, TN site for Volkswagen’s new factory.

Early in his inaugural, before he spoke of “remaking America”, President Obama said that our past successes were due to “the risk takers, the doers, the makers of things.” That is the spirit and the message he needs to convey. Government should write regulations, enact laws, set the rules and serve as umpire. But, as long as they play by the rules, government should not interfere with the players.

So I conclude that the seemingly impossible is possible – that the most important mission for the President, Congress and the Federal Reserve is to work to restore the confidence necessary for business to build for the future. The economy will improve and so will the markets.