Markets seem to be sitting on the edge of their seats, and for good reason.
On the positive side, there are tremendous innovations in technology, growing and thriving emerging markets, and the possibility (I didn't say likelihood) of real fiscal reform in developed markets.
On the other hand, there are very big fiscal problems in developed markets, increasingly burdensome regulation that's slowing growth/innovation/employment, threats from bad growth and politics in emerging markets, and the ever-present danger of terrorism and natural disasters.
Markets are waiting to see what choices politicians make, because if they screw up--which is extremely likely--then things will get significantly worse before they get better. If politicians straighten out the fiscal messes they've made, and reduce ineffective and burdensome regulations, then individuals and entrepreneurs will be free to innovate and grow everyone's prosperity.
If they don't, then several crises will unfold and we'll likely end up with the same reforms anyway. Herb Stein once said that if something can't go on forever, it won't.
The developed countries of the world have built up too much debt and entitlement programs which can't possibly be paid for. If/when politicians wait too long to deal with those mathematical problems, crises will result that will force change anyway. We'll get change, it just depends on which route we take.
One route will require much more pain and time and the other will require less difficulty and set us on the road to a big recovery.
Having studied history quite a bit, I think politicians and voters will put off the pain until it's too late, but they can't avoid logical consequences any more than the U.S. Congress can legislate gravity out of existence.
Canada in the mid-1990's faced the music and have been booming ever since. They saw that economic reality couldn't be avoided and changed course. They are very much the exception, not the rule.
If the U.S., Europe and Japan face the music, we can all get on with life. If not, then tough days are ahead.
And, that's why I'm long run optimistic and short term pessimistic. I don't think our politicians will face the music because voters don't want to, either. But, like a 3-year-old throwing a fit, that won't change the facts.
If past market cycles are any guide, we'll get down to 10x normalized earnings at some point, which would be 670 on the S&P 500 today, 890 five years from now, or 1200 ten years from now (versus a level of 1320 now, requiring drops of 50%, 33% and 10%, respectively).
It's not inevitable, but it's very likely. Plan accordingly.
After that, we'll probably have another long boom that will take the market back to euphoric peaks. That will be a fun ride, and I'm very optimistic it will happen. But, probably not as soon as I'd like.
Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.
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