Monday, April 26th, 2010

Sadly, except for Duke students,  alumni and maybe not  even 100% of them, the Butler Bulldogs did not produce the storybook ending in the NCAA Men’s Basketball Final when their star player’s last second half-court shot  bounced off the rim after coming tantalizingly close to going in.    Before the game, billed everywhere as a David versus Goliath event, the New York Times produced a graph which showed the disparity in relative wealth and stature between the two opponents. Based  on their respective student enrollments, both schools fall into the  midsize  private university category.  But that is where the similarities end. Duke’s endowment is over $6 billion while Butler’s weighed in at $165 million;  the Duke basketball budget is over $13 million while Butler spent slightly over $1 million.  One sports commentator noted the Butler figure is less than Duke’s phone bill. That is likely a stretch but maybe  Butler’s total budget is on par with Duke’s travel bill since taking multiple trips to Madison Square Garden from Durham, NC versus bus rides from Indianapolis to Muncie does add up.   Regarding Butler’s final shot, there was this telling comment by a Duke player:  “the shot was up in the air, for what, about 3 hours–everyone was sure it was going in.”   So even the victorious participants seemed slightly disappointed not to see the storybook ending.

But an earlier March event,  in its own way no less mad than the basketball tourney,  the Academy Awards did give us a David prevailing over Goliath triumph when The Hurt Locker soundly trumped both Avatar and Up in the Air— the prognosticators favorites heading into the event. Similar to the Duke/Butler comparison, The Hurt Locker cost $15 million  to make which  sadly remains its gross even after the Awards. This number probably approximated the catering bill for Avatar which did garner a few Oscars,  so the real loser at the Academy Awards was definitely Up in the Air, a movie with the  mega-star George Clooney playing a  likeable road warrior who spends his time flying around the country terminating management level employees. Quite a timely subject and ten years ago it would be hard to imagine this movie seeing the light of day, but desparate times call for desparate measures and the title of the movie aptly describes where we stand in the investment cycle in both literal and figurative terms.  After the stock market’s breathtaking ascent in the second half of 2009, we had a continuation in the first quarter of 2010 with the Standard and Poor 500 increasing  5.3%. Yet the road was bumpy with averages falling over 5%  during February on worries about a China slowdown and then a Greece meltdown. Interest rates except in Greece and other similar entities reamined largely in check and the Barclay’s Aggregate Bond Index (formerly known as the Lehman Index) rose 1.7%.  Yet despite increasing optimism about corporate profits, recently increased consumer spending,  and some interesting merger activity, it is hard to be unabashedly sanguine going forward.  While the stock market may soon approach it’s pre-Lehman levels,  housing and commercial property prices will  likely take a far longer time to retrace theirs.  A well placed real estate attorney told me that most of downtown San Francisco is effectively in foreclosure since eye popping loan to value disparities will need to be confronted as many loans are due to be renegotiated in the next few years. Indeed the Wall Street Journal’s HEARD ON THE STREET recently discussed the issue with reference to banks such as Wells Fargo , whose stocks have soared, but who have a  high number of such loans on their books:  “Even seemingly healthy loans where payments are up to date can end up hurting banks. Key Bank recently sold a repossessed Illinois mall for about 65% of the face value of the $37 million of debt against the property, even though it is nearly fully occupied.” (April 12, 2010).

Still there is enough good news on the corporate front both macro and company specific that has trumped such concerns for the time being.  The closely watched ISM (Institute for Supply Management) Index, a monthly survey of over 400 US companies in 20 industries, registered a significant upside surprise in March.  This is madness we all welcome since the latest numbers indicate GDP growth of 5-6% going forward.  Normally  GDP growth leads to domestic job growth although in our current predicament this logical expectation may not be a slam dunk.  One of the reasons is that many doubt that the US Dept of Labor unemployment figure, hovering at just under 10%, reflects the reality of the job market since many people have stopped looking or have taken part-time work and do not show up on the monthly reports.  The ranks of “consultants” have swelled and as the old joke goes, a consultant is a guy who knows how to make love a hundred different ways but lacks a girlfriend.  The real unemployment number is likely closer to 15% and some commentators  even worry that the encouraging news from the ISM  will bring many of the under-employed back to seeking full time work which could even increase the the 10% number.   Yet after the debacle of the financial meltdown and the ensuing recession,  seeing likely GDP growth of 5%+ less than a year later is something to be welcomed by all.

Anton Chekov, the Russian physician turned dramatist, once noted that a revolver placed on the mantle in the first act must go off in the third.  So what we will be waiting to find out is which of the revolvers on the mantle will be the one to go off and have the most lasting resonance.  Will it be the recovery we are now beginning to see spurred by the ISM numbers and merger activity, or will it be a continuing downward spiral in housing,  commercial real estate and real employment and the reckoning that results from our government continuing to kick the can down the road. As we wait for the ending of the play with Chekov’s warning in mind we should remember that most plays (including his) have four acts. So there will be more to follow after we hear our revolver and in the meantime we will remain Up in the Air.   This is not an argument to run to the sidelines or take an ostrich approach.  Rather it is a recognition that in an uncertain investing environment it makes good sense to be cautious, hedged, agnostic and above all, opportunistic.

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