Don’t play chicken with a Merc

Hey, this is fun! The EuropeanDemolition Derby.

Smash! Crash! Crunch! Whack!

Fenders banged up. Radiators steaming. Tyres flattened. Whee!

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But here's the most exciting scene in the whole show. Greece and Germany are playing chicken!

Greece presses down the accelerator and heads for Germany. "If you force us out of the euro, all of Europe will go up in flames," say the Greeks.

"Oh ja?" say the Germans, turning on the speed in their Mercedes, "ve'll see about that. Ve haf airbags!"

And we watch. Wonder. Which one will lose his nerve? Or will they crash head-on?

Nobody knows for sure.

But nobody wants to have money in Greek banks, in Europe's periphery banks, or even in euros when they find out.

Yesterday, more money leaked out of Greece and out of the euro. The euro fell to its lowest level in two years as "Europe braced for turmoil... "

One headline said Greece was making plans to withdraw from the euro. The Greeks promptly denied it which reminded us of what they used to say in Soviet Russia: no rumour is confirmed until it is officially denied.

De La Rue, an English company that prints most of the world's currencies, would not say whether an order for drachma had come through or not.

Meanwhile, all these wrecks and smash-ups are damaging Europe's economy. The New York Times is on the story:

Economic reports Thursday showed Europe's prospects dimming as the long battle to defend the euro zone continued to undermine confidence and raised the prospect of a renewed cycle of demands for austerity.

The relentlessly bleak data, reflecting weakness across the Continent and in Britain, came a day after political leaders again failed to break the deadlock over how to resolve the European debt crisis.

A Markit Economics index that tracks the European services and manufacturing sectors fell in May to 45.9 from 46.7, worse than economists surveyed by Reuters and Bloomberg had expected. An index reading below 50 suggests the economy is contracting. In the first quarter, the euro zone economy grew just 0.1 percent.

Perhaps even more worryingly, German data released Thursday showed signs of a slowdown in an economy that until now had been a bright spot for the Continent. A Markit index based on surveys of purchasing managers of German manufacturing companies fell to 45.0 in May from 46.2 in April.

And Britain's is worse. New data show the slump is worse than previously thought. The NYT again:

The Office for National Statistics revised the decline in gross domestic product in the first three months of this year to 0.3 percent, up from the 0.2 percent it estimated last month, because of a deeper slump in the construction industry. Construction output dropped 4.8 percent from a year earlier, the agency said, not 3 percent, as it had estimated earlier.

The revised figures were "bad news for U.K. policy makers as it shows the economy faring even more badly than initially thought," said Scott Corfe, senior economist at the Center for Economics and Business Research in London. "Indeed, the latest data show the U.K. economy performing worse than the euro zone economy, which saw zero growth at the start of the year meaning the U.K.'s woes cannot even be fully attributable to the debt crisis embroiling the Continent."

So, stay tuned. Let's see what happens tomorrow...

And more thoughts

How do you like those wimpy, whiney investors? They lose money in Facebook. Do they take their losses like men? Nope.

They rush to sue everybody! The investment banks who were midwives to the birth of FB into the public markets weren't playing fair, they say. They gave their best clients more and better info than they fed to the public.

Well, what... you mean... could you be saying... that the insiders have an edge?

Well... duh... uh...

"The thing about this IPO," said a friend at lunch, "was that the whole world was watching. That's why this was so important. It showed everyone how Wall Street operates. Everybody got burned. And they blame Wall Street... because they can see that the pros were being only half honest. And the other half was incompetent."

Yes, dear reader, our hunch seems to have been right. The FB launch was a disaster for shareholders, for Wall Street and for the whole cult of equities that has ruled the investment world for the lastthree decades.

"... a six-decade passion for equities has come to an end," reports the Financial Times.

"Stocks have not been so far out of favour for half a century," continues the report. ... "with equity returns virtually flat for more than a decade, the incentive for investors to take risks by funding smaller, more entrepreneurial companies has declined eroding a process that has traditionally given managers the flexibility they need to grow. Capitalism with less equity finance would follow a much more conservative model."

In the US, pension funds allocated as much as 70% of their funds to equitiesten years ago. Now, they're down to 52%.

Everyone is turning his back on stocks. At least, that's what the FT says. And analysts are already comparing this FT article to the "Death of Equities" cover story in Business Week in 1979, just before a huge new bull market began.

Relative to bonds, stocks haven't been this cheap since 1956. That was the year when George Ross Goobey announced he was switching the entire portfolio of Imperial Tobacco's pension fund into stocks.

Goobey turned out to be a genius. Stocks began a great bull market which continued, aside from a countertrend between 1966 and 1982, for the next 56 years!

And now a lot of people think this is another Goobey moment. Stocks are cheap, they say. Get ready for another grand bull market!

What do we say? Nah...

The problems are:

This ain't 1956. This is 2012. The US is no longer on top of its game. It's no longer in full expansion. It is slipping, sliding, burdened by high costs, zombie industries and corrupt governments. Growth rates are low, lower than the rate of debt build-up. There is no reason to think America's capital structure either stocks or bonds will become more valuable.

Stocks are not cheap. They are only cheap when you compare them to bond yields. But bonds yields are suppressed by a Great Correction (about which more below). In order to be absolutely cheap, US stock prices will have to be cut in half at least. That would put yields and p/es near where you can get a 5% + yield and buy a dollar's worth of earnings for $5, not $12. Then, stocks will be cheap.

Bond yields fall in a correction because people do not want to increase their debt levels; they want to reduce them. They also reduce spending, which lowers business sales and profits, thus making stocks less valuable, not more valuable. As the Great Correction intensifies (and it appears to be doing so now) we can expect stocks to follow the Japanese example. Japan has been in a Great Correction for 22 years. Its stocks have lostthree quartersof their value. They're still down 75% nearly a quarter century after the correction began.

Goobey moment? We don't think so. It's time to sell stocks, not buy them.

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