Tuesday, September 02, 2008


The month of September has historically been the worst month of the year for stock prices. It is a bad month because of uncertainty. Who knows what compromise the congress will make as a part of passing a massive federal budget, one that is fast approaching 3 Trillion Dollars?

This year is different in that the congress has not even attempted to pass a budget. Democrats have decided to wait until after the elections, when they expect to pass 100's if not 1,000's of new spending programs.

The decision to hold off on the budget does not take away the uncertainty. The congress must pass a continuing resolution, one that continues to fund programs at the same level as approved last year.


It took a very long time for this economic cycle to move past the late expansion phase during which MEI stocks do well. MEI is short for materials, energy and industrials. This economy stalled for a long time while games were played in regard to energy. It was hard to reach a clearing price when regulation prevented drillers from drilling, nuclear plants from being built, coal plants from being authorized and during the middle of a Middle Eastern war. Markets always reach clearing prices. Push the price up high enough and extreme measures will happen. At $4 per gallon, both drilling and walking to work were up for consideration.

Now, almost everything about the cycle seems to be normal or at least racing toward normality. In the normal economic cycle, energy stocks turn down before commodity prices start to fall and well before a strong rally in the bond market, followed by a rally in financial stocks. After the process is underway, all four things happen at once. Today is a normal day for this time in the cycle.

Basic material stocks are down 4.89% today. Energy stocks are down 4.58% today. Oil prices are down $6.70 per barrel today. Gasoline prices are down 15 cents today (gasoline retail, $3.30 in a couple of weeks). Gold down $24 per troy ounce today. And, the huge bond market is up about 1.5% today! Financial stocks, which historically turn up before the bottom the broad market averages which include the big oil companies, are up .8% today. Consumer cyclical stocks, which are historically the first horses out of the gate, after the market bottom, are up 1.2% today.


Having lived through black Monday, October 19, 1987 and having read about the October crash of 1929, I understand that September has the worst performance partly because these crashes are always mentioned several times at this time of year. Despite fair warning to be buyers when fear is great, the average investor sales for irrational reasons.

Regular readers know that I believe the pending Iranian deal could prove to be one of the most important events in the history of the world. I can't say that a deal will be done, but I can say that there are many indications that a deal is close. I can't say what congress will pass in September or early October, but I can say there is great pressure on Iran and Congress. If the deal with Iran includes compromises with Russia, the deal would be enormous. If the congress allows drilling without the forced spending on all sorts of pork barrel projects, the market will be joyous.

Between now and then, the markets are trading as expected. Housing futures contracts turned up in July. Housing sales are up in 30 states. Home prices are rising in most markets. Financial stocks, especially some of the highly levered mortgage companies, have turned with a vengeance. Bond markets in the US, UK, EU, AU and elsewhere are rallying. Gold, oil, copper, wheat, corn and other commodities have fallen from dramatic peaks. Numerous countries, including England, Australia, Japan and Canada having pushed the brakes to the limits are ready to let up.

One of the reasons countries applied the brakes so hard was to send Iran the message that the world is willing and able to do without Iranian oil. Now that the point has been made, progress has been made in the negotiations. Japan and others are once again buying oil from Iran. A deal with Iran would allow these and other countries to let up on short money brakes. The $7 per barrel drop in oil is huge but the marginal cost of production of the last barrel needed is probably already down to $70. When the price of oil broke in the 80's and 90's, it quickly retreated by two thirds or more. Seventy three fifty is only half of the peak price. After getting over the bumps in the road, congress and Iran, the price of oil could be at $70 in a flash and as other supplies come on line, prices could easily get back to go back below $50. Now would that not be "normal"!