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On Public and Free Market Matters

Following the devastation and human tragedy and suffering brought on by Hurricane Katrina, the stock market rallied. Who knows why? There’s much speculation about various US companies that will benefit from the rescue, stabilization, and rebuilding of New Orleans. Of course, they all cannot benefit in the universal manner that the short term stock market is predicting. I’m speculating that the effects of Katrina will provide numerous companies with a new fix of “special” charges and one-time event excuses to propel their stock certificates for a few more quarters in an over-liquefied and speculative market. How else to explain the most recent rally in consumer stocks right after they took their first serious technical damage in over a year as gasoline surged well above $3.00 per gallon? 

As I’ve said before, the key event for US consumer stocks is the shopping season for Christmas 2005, and you can bet that this fact is not lost on the Fed or the politicians in charge. If the Fed keeps raising short term interest rates, this is likely to invert the yield curve and this will not reflect well on the public’s perception of the US economy. The more likely scenario is that the Fed slows the “measured pace” short term interest rate hikes, thereby floating the US economy for another couple of quarters. However, one cannot yet ignore the possibility that armed with a good excuse – Katrina – the Fed may decide to burst the US debt bubble and consumer economy via continued and prolonged measured pace rate increases. Don’t listen to me or anyone else on this…keep your eyes on the charts and listen to the Fed governors to see which way the Fed wants to go. Remember the trend has been for the Fed to telegraph their moves via the press, and the trend deserves the benefit of the doubt until proven otherwise.

If the stock market is correct in its short term prediction that the rebuilding resulting from Katrina will be good for business, then at least one of the following three statements must be correct:

1. The loss of several additional major US cities would be even better for business than just the loss of New Orleans.

2. Although it may be good for certain sectors of US business, the net effect of the rebuilding of New Orleans resulting from Katrina will not be a net gain in US wealth, but instead, it will be inflationary. The net effect will be a redistribution of wealth from the general public to those who need the help, with some of it going to corporate profits of the businesses providing the help. With the money (government debt) to pay for the rebuild created out of nothing, this wealth redistribution will occur via inflation. (Note: This should be “good” for gold.)

3. Since the Katrina rebuild is good for business, other public use of funds may be similarly good for business. Such use of public funds may include construction of public transportation systems, increased public funding for college tuition, and funding of research and development of alternative sources of energy. In this case wealth would be redistributed from the general public to those who benefited from the public works, with some of it going to the corporate profits of the businesses providing the services. With the money (government debt) to pay for the public works created out of nothing, this wealth redistribution will occur via inflation.

OK. We can dismiss Number 1 as absurd. Yet examining this statement points to the probability that Katrina will not be good for the US economy in the way that stock market seems to be predicting in the short term. Number 2 cannot be correct without Number 3 being even more correct. Considering that the rebuild of New Orleans gets the US back to even economically with some inflation, funding for public works as in Number 3, above, provides benefits that will increase our overall national wealth in spite of some inflation. In addition to the stimulation effect and increased corporate profits, the following benefits would be enjoyed by the US.

If the benefits resulting from the public projects are equal to the amount of newly created money from their finance, then there would be no net inflation at all. (However, there would be some wealth redistribution.)

Unfortunately in the intermediate term, this is a mute point as the US is now in so much debt that increased funding in public works is totally unrealistic. Providing the necessary help to our impacted brothers and sisters after Katrina will add to the debt burden. We still need to pay for the ongoing military activities on in Iraq and Afghanistan which is a serious financial burden. At the same time the US public, by and large, has a simple minded view that the free market will take care of everything and “tax and spend” is never a good way to go. While funding for the New Orleans rebuild will not be questioned by the public, other public funding is loathed by the public.

My point is that there are no simple absolutes in issues of public funding for public works. The correct approach is somewhere between the completely private free market and socialism. I’m hoping that a few short years from now, we can look back on a rebuilt and prosperous New Orleans as US citizens with a good perspective of who we are and for what we stand.

In the mean time, yours truly is perfectly willing to not shed even one tear worrying about our lack of oil refining capacity and piping infrastructure in the US. These are private sector issues and this is America. In this matter, why not just let the free market work? If it was profitable and a good business decision for oil companies to build US refineries, they would do so. If we are hitting peak oil, then what would motivate an oil company to build a refinery when they can alternatively raise prices on refined products from existing refineries? If we are near peak oil, then why invest the necessary capital to build a refinery with an economic life of over 30 years? While it takes a level of expertise most people do not have to evaluate the economics in detail, why bother as oil company managements have done the analysis already? Just rely on the free market. It’s a business decision!

Are NIMBY-citizens keeping refineries from being built in the US? Who’s naive now? Public opposition is a likely convenient scapegoat along with environmental regulations, developed by scientists to prevent excess greenhouse gasses and cancer. It is a private business decision; nothing more. Perhaps, it would be worth revisiting this opinion about the time when Madison Avenue stops running advertisements about US consumers fulfilling some sort of childhood deficiency by owning a gas-guzzling SUV. Until that time, let the free market work.

Today’s Market

The stock market churned, finishing little changed on relatively high volume, especially in the NYSE. There were very few gainers except for precious metals stocks. Although gold was up only marginally and silver was down, finishing below $7.00/ounce, the HUI, XAU, and silver stocks that I follow (PAAS, and SSRI) were up strongly. Gold Corp (GG) hit a 52-week high today and is trading well after hours. For my money their history in building shareholder value and strong balance sheet makes Gold Corp a good long term play in my humble view..

The bond market finished little changed, and oil was up only marginally.

The homebuilders were down on the disappointing outlook and marginal earnings miss by Hovnanian (HOV). Yet the action throughout the sector was not as bad as the closing quotations may have shown. For example, Ryland Homes finished little changed after opening down significantly. I’m going on memory here, but a few months ago I posted a table of insider selling in homebuilders which showed that Hovnanian was the homebuilder with the most current insider ownership. Are there any reasons you can think of why this would impact upon the “aggressiveness” of their forward looking earnings outlook?

Market breadth in the US market and across the world has been extremely positive and it seems that everywhere you look there is a bullish chart. Yet a quick look at the 6-month daily chart of the Nasdaq suggests that perhaps it is not sunshine and light everywhere.

Recent Nasdaq action since the possible top in early August has shown that down days have been consistently occurring on higher volume. Except for last weeks rally day, all of the higher-than-average volume trading days (5-trading days, total) on the Nasdaq have been “down” days as indicated by the red volume bars.

After hours, the market is applauding Texas Instrument’s mid-quarter update and booing that of Intel.

Similar to the homebuilders Sears (SHLD), a retailer with a lot of moving parts sold off on bad news early, yet finished strong. One would expect that following slowness in Wal-Mart, the US consumer will exhaust themselves up the food chain. First Wal-Mart, then Sears, then J.C. Penny, then Federated, then Nordstrom, and finally Neiman Marcus. There is nothing in the J.C. Penny chart to refute that argument.

Have a great evening.

Martin Goldberg

Copyright © 2005 All rights reserved. Martin F. Goldberg, MS, P.E. Market Analyst Expert Page Commentary Archive Email

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