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The “New Normal” vs. “V-Shape” Recovery

August 17, 2009

There are two contrary view points in the markets these days. One talks about “new Normal” where the GDP growths will be more of 2% or less vs. 5% as was used in most of the macro or micro economic models of the past. The “New Normal” term was coined by Mohamad El-Erian of PIMCO where his shared that unemployment and record wealth destruction will keep growth at 2 percent or less for years (You may read more here)

The New Normal by Mohd El-Erian

The New Normal by Mohd El-Erian

Here is what Bill Gross shares as investment conclusion for the coming years in his latest outlook titled “Investment Potions”-

“ A 3% nominal GDP “new normal” means lower profit growth, permanently higher unemployment, capped consumer spending growth rates and an increasing involvement of the government sector, which substantially changes the character of the American capitalistic model. High risk bonds, commercial real estate, and even lower quality municipal bonds may suffer more than cyclical defaults if not government supported. Stock P/Es will rest at lower historical norms, and higher stock prices will ultimately depend on tangible earnings growth in the form of increased dividends, not green shoots hope. An investor should remember that a journey to 3% nominal GDP means default/haircuts for assets on the upper end of the risk spectrum, as well as extremely low yielding returns for government and government-guaranteed assets at the bottom end. There is no investment potion for this new environment other than steady income-producing bond and equity investments in companies with strong balance sheets and high dividend yields, as well as selectively chosen emerging market commitments where nominal GDP growth prospects are tilted upward as opposed to gravitating to new lower norms. Madame Rue has met her match.”

Which essentially means that we are to observe slow growth period ahead. John Hussman also think similar ways. In his latest report “Growth in “potential GDP” shows limited potential”.

However, then there are bullish arguments who argues that instead of a so-called New Normal of subdued growth, the U.S. may be heading for a robust recovery. The worst recession since the 1930s has created a reservoir of demand that will buoy the economy, say a growing number of economists led by James Glassman at JPMorgan Chase & Co., former Federal Reserve Governor Laurence Meyer and Stephen Stanley at RBS Securities Inc.

By reading newspapers or magazines one can make case of either one. Whatever be the case, that will be proven only in the “hindsight”. However, one thing looks highly probable, economy has to show progress by delivering hard facts else the path of least resistance is down. I think a lot of good news has already been factored into the 50% advance we have seen since March lows.

As I shared earlier, “Bull or Bear” market is always in the hindsight. And therefore “I would rather change my opinion than to lose money”. Being cautious is fine but don’t make it a matter of ego.  Mr. Market has humbled many time and again since “trading/Investing” began. What’s more important is whether or not you made money (hindsight) in the “move forward” which you needed to decide in “real-time”…and it keeps on repeating.

On Aug 6th, I suggested to look out for 9,425-9,450 level for Dow. It has been trying to make a push to go past, but it hasn’t been able to close above that level yet .

We have started opening the September portfolio for OPNewsletter and we are well positioned for either direction. If you would like to join OPNewsletter, pls click here to sign-up for the waitlist.

Trade carefully, Trade Profitably

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