July 6, 2009
Good morning. Down week for the market as Friday’s poor unemployment numbers spooked what had been a very flat week. The SPY finished at 89.81, down from 91.84 or 2.3% on the week. Friday’s move was actually down 2.7%, as we had been up slightly. The VIX also had a modest jump, from 25.97 to 27.45. The financial predictors, doing the best they can to try and tell people how the worst is over, had predicted a job loss number of 365,000 jobs, only to see that number at 467,000 jobs lost. Even though that number is down from earlier in the year, it still is a spectacular 20,000+ jobs loss for every working day. The unemployment rate, useless number that it is in many ways, continues it relentless march towards 10%, reaching 9.5% in June. We have now seen job losses for the first 6 months of 2009 exceed 3.4 million, more than the entire 2008 number of 3.1 million. So far this morning the market is continuing to move lower.
What do numbers like that even mean? To hear the talking heads tell it the fall is lessening, things are improving, and some even say we will see growth in the third quarter. I would love it if they turn out to be right, but it really seems to me that they are smoking some of that stuff now almost legal in California. I think their problem is that they see this as just numbers, and it is not about numbers, it is about people and their ability to function and improvise in what is supposedly a free economy. It is about turning back a couple of decades of thought that saw manufacturing concerns viewed as trading cards, to be sold, moved to wherever, closed, bought out by competitors and closed, etc. There used to be a commercial that ran in the Chicago area years ago, where a fellow was the third generation owner of a button manufacturer. Anyway, in the commercial he talked a little about the history of the button, but more importantly how making thousands of kinds of the lowly button fed him and his family and hundreds of other people and their families. He did not mention anything about getting his stock options priced low enough so he could sell out to a competitor at a lackluster price, making a fortune and throwing everyone out of work. He must have been some kind of Neanderthal!
Ever notice how everyone who considers him or her a so-called financial expert minimizes the talent and work necessary to actually start and manage a reasonable sized business. By that I mean how many people do you know who have ever started or even ran a business that employed a thousand people. I mean have an idea, put up your own cash, get the financing, find or put up a facility, design the product and process, buy the tools and fixtures, and go forth and sell it for more than all the other stuff cost you? I am going to guess virtually no one you know. Starting a profitable business that employs one thousand people is an amazing accomplishment. I have been an entrepreneur almost my entire life, and now own a large part of a successful money management and brokerage firm, but 1,000 people? Not even close. We are losing, based on last months employment numbers, the equivalent of 20 firms like that a day. When you walk down the street do you see 20, or 10, or 1 person that has the talent, energy, and drive to replace that ever, much less in the next several weeks? I think not.
I will give you a personal example. Most of you know I have always had a fascination with railroads, and the unique challenges of running a large successful manufacturing concern (almost as tricky as trading markets lately). I spoke at length with Mayor Daley regarding all the railroad cars (both new and refurbished) just the City of Chicago was going to need in the next 20 years, and he asked me why no one was in the City in that business or wanted to enter that business. I replied that the business was too cyclical, wanting 500 cars in two years, then none for a decade, etc. He asked me to think about structuring something. I did, and really put some work into it for about a month. The more I thought the more I realized how incredibly difficult it would be to recreate what Pullman had created over the years. I figured it would take at least a decade to reach a point where anyone would give the new firm a bond guarantee for a new design and build contract. I even thought of starting small, maybe with a bus refurbishment contract, gradually training people that could then move onto railcar refurbishment, then manufacture of a current design, and finally the design and build of a new advanced design. I thought of the literally thousands of tools, dozens of presses, drilling machines, welding machines, that would need to be accumulated. I also thought or the lack of collective knowledge of the industry, every engineer I knew is probably dead, and I don’t even know if anyone knows what a Manufacturing Engineer is anymore. We would have to train everyone every step of the way. Last, but certainly not least, how much of a royal pain would a whole new set of environmental stuff that I am totally unaware of hurt the process. In short, I gave up, but if I had not, and been successful, it would only have been one four hundredth of what we are now losing each month.
Like I mentioned last month, these (for the most part) are not layoffs in the manufacturing sector that will return in the same location. It is going to take new innovation and new leadership, and I am not so sure that that sort of entrepreneurial thinking is what our schools have been teaching. Some will be force learned, like I lost my job and need to find something. But that does not help in getting financing in the current environment, and it does not help, for example, in industries like homebuilding where prices have declined too far below replacement costs. In short, we have a real mess on our hands. I do not say that just to jump in front of the other pundit with an even more dour prediction, I do it because until we understand the real depths of the problem we will not solve it. It is not just a short-term liquidity issue brought upon by easy mortgages, but a real crisis involving economic, social, educational, and collective energy issues. It needs to be more of the question “How do we create, or really encourage to form, 1,000 successful new firms with new products and ideas of an average size of 1,000 employees in the next two years?” Even that would cover only one third of the jobs lost this year, but would be a big start. That would be a huge challenge, and even bigger accomplishment, but that is what we need. Is it possible? This is America, but you can’t do it by having every state and municipality putting a hand in everyone’s pocket early and often.
So how do you trade this? I think the recovery will come, but later than most others think. We maintain our protection and keep some cash available. We want to be enough in the market so if the recovery comes faster than I expect we will take part in it, yet be protected enough where if I am right we lose little to nothing with a further correction. Maybe if the market were to test the March lows again this time the puts will not be as high and we will feel more comfortable committing some of our remaining cash. I also think we need to monitor carefully some of the homebuilders, airlines, and autos to see early signs of any recovery. I do not think even the bad numbers of last Friday will send us out of the current trading range, but continual signs of stimulus not working might send us near those March lows this fall. We will be ready.