Sunday, September 20, 2009


The frequency of similar financial headlines today tell us much more about current perceptions than future risks and opportunities. This misaligned focus has been true ever since there has been financial gossip emanating from market places. Instead of deriding these calls for attention, we should array these headlines in a reasonably normal progression from total collapse to a glorious future, as a indication of where we are in a normal progression.

Beginning in the fall of last year and through the first quarter of 2009, great concern was expressed as to the closing down and liquidation of financial and industrial enterprises. While Lehman Brothers is in various forms of liquidation, no other large scale enterprise has been closed putting almost all of its employees out of work. Many employees are still drawing paychecks from corporations that are working their way through bankruptcy and other arrangements to restructure their debts. Analysts are now celebrating companies that are generating cash. (Note the cash is before various non-cash charges such as depreciation to pay for the costs of past capital expenditures including, in some instances, acquisitions.)

The next series of headlines will be when companies like the auto makers actually earn a full net income, albeit probably not accruing income taxes due to past losses. At this point we are likely to see equity offerings from the auto companies as a way to pay back the government (us). Soon we may see reports suggesting that even if there is another leg down in the economy, various companies have developed survival earnings that can keep their doors open in a decline. (Many companies world-wide are probably there today.)

After surviving in a defensive bunker, we will see an increase in the number of analytical reports that will declare various stocks are cheap in that they are selling at relatively low multiples of earnings power. As most analysts and most management are not good at estimating future earnings, they will rely on the past. Earnings power will be determined as the average earnings per share developed over the last five or ten years. The thought is that the future, on average, won’t be a great deal different than the past.

The more venturesome investors will look at the very best earnings, or perhaps margins, achieved in the past and declare that stock prices are real cheap when compared to the past. While they do not come out and say it, they are hinting that most market indexes will accede to their old highs. (This would suggest a doubling or more for NASDAQ, and even more for Japanese securities.)

For corporate managements contemplating meaningful capital expenditures, they need to deal with payback periods of five to twenty-five years. To give a go ahead for such spending, they probably need to see net cash generation growth on the order of 15% or more. We are actually seeing those kinds of commitments being made selectively in mining and pharmaceutical companies.

There are some unreconstructed optimists that believe that there will be other large scale developments that will generate massive earnings power as has the Internet and cell phones in the past twenty-five years. (I am awaiting a list of these opportunities from you, the readers of this blog.)

The popular fears that accompany each step in this progression from a bear market collapse to a bubble bull market are unlikely to materialize because too many are expecting it, and have already made some preparations. The progression from bear to bull won’t be smooth with regular steps up. There will be falls along the way for geopolitical disturbances, fraud, forced liquidations of visible capital positions handled poorly, and disappointments in people, products and services.

Less than a year after the point of feared liquidations of employment and capital, I look at the long term horizon positively. Do you?

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