WHEN you see a car being driven firmly within its lane and well under the speed limit, there’s nothing to worry about.
Or is there?
If you’re David A. Rosenberg, the glass-half-empty economist, there most certainly is. He says the world economy is like that car. And where others see stability and recovery, he sees “a car being driven by a drunk, lurching from side to side on the road, narrowly avoiding the ditches each time.”
At this particular moment, he says, the car happens to be in the middle of the road. But he can’t help but ask, “Is that because the driver has sobered up, or is it because the car is just passing through the middle on its way to the ditch on the other side?”
Mr. Rosenberg isn’t certain of the answer. But despite the cheer pervading the stock market and the relatively upbeat perspective of most economists, he says he isn’t convinced that the car will remain safely out of those ditches.
Formerly the chief North American economist at Merrill Lynch, and now proudly back in his native Canada as chief economist and strategist at Gluskin Sheff in Toronto, Mr. Rosenberg writes a market newsletter that is always provocative, often cantankerous and frequently out of step with the Wall Street consensus. He has been called a “permabear,” a label that he says is exaggerated but not entirely without merit.
“I’d say I’m as pragmatic as possible and not locked into one position,” he says, “but I do understand that I have a much better record forecasting rain than in predicting the return of sunshine.”
His record bears that out. Mr. Rosenberg correctly called the start of the last two recessions. But he was late in recognizing the strength of what has become a long bull market. In May 2009, when the stock market was in an early stage of its climb, his worries about the economy made him resolutely bearish on stocks. “I’d lock in my gains right now,” he told me then.
But his clients have generally done very well if they’ve followed his cautious advice, which called for buying fixed-income securities early in the bond market’s long boom. His mantra is “safety and income at a reasonable price.”
For a gimlet-eyed perspective on the current stock market joy, I called him last week and asked him what, exactly, has been propelling shares higher.
His answer, in two words, was “the Fed” — the Federal Reserve and its monthly $85 billion purchases of bonds and mortgage-backed securities, which are being piled on top of a balance sheet that swelled to a gargantuan $3 trillion last week.
Other analysts have pointed to a recent surge in stock mutual fund purchases by individuals, as opposed to the big institutional investors like pension funds, endowments and other money managers. The earnings season has been reasonably strong, and, at least in recent weeks, there has been no outright global economic disaster emanating from Washington, the euro zone, Tokyo or the oil fields of the Middle East.
These factors are all relevant, he allows, but they pale next to the direct and powerful relationship between the growth of the Fed’s balance sheet and the stock market.
The Fed’s control of short-term interest rates has always had a major impact on the markets, and the adage “Don’t fight the Fed” is a bit of Wall Street wisdom that has stood up for decades. But since the Fed lowered its benchmark Fed funds rate to near zero in December 2008, short-term rates have ceased to be a meaningful indicator because they cannot be lowered any further.
Instead, to provide further monetary stimulus to the economy, the Fed has embarked on a series of quantitative-easing measures — direct purchases of financial assets.
Mr. Rosenberg says his calculations show that there is now an 85 percent correlation between the growth of that Fed balance sheet and the Standard & Poor’s 500-stock index. If that relationship continues — and he’s not certain that it will — the market could keep rallying, though he says he believes it’s due for a correction. On Wednesday, the Fed reiterated its pledge to keep interest rates low and to keep making asset purchases for what effectively will be many months to come.
The Fed’s expansionary policies are contingent on weakness in the labor market and the overall economy. Well, the unemployment rate in January rose to 7.9 percent, the Labor Department announced on Friday. And the Fed says that as long as inflation is below 2.5 percent — and it is well below that level now — and unemployment is above 6.5 percent, it will keep rates ultralow. In addition, the gross domestic product declined at an annual rate of 0.1 percent in the last quarter of 2012, the first decline recorded since 2009.
MR. ROSENBERG says he does not believe that we are in a recession now but that we are very close to one. “Anemic growth is my baseline scenario,” he says. A shock could undermine the economy. And there is no assurance, of course, that the Fed can keep propping up equity asset prices.
So he advises that for diversification alone, investors should keep holding onto bonds and other carefully selected fixed-income instruments; in addition, there is a great likelihood that inflation will stay low and longer-term rates will be constrained, which would be beneficial for fixed-income prices.
He recommends playing the equity markets cautiously by seeking high-dividend-paying stocks of well-managed companies. At the moment, he says, those include Blackstone, the asset manager; Merck, the drug maker; and Yahoo, the Internet portal, among United States stocks. And he suggests that United States citizens hedge their bets by keeping 20 percent of their assets in Canada, which, he says, is fiscally sound and is likely to have higher growth and lower inflation than its southern neighbor. He advises holding Brookfield Infrastructure, which owns and manages utilities, energy and timber assets, and Crescent Point Energy, an oil and gas exploration company.
Above all else, he says, preserve your assets and your safety. Watch out for reckless behavior in the economy as well as on the roads. You never know what is about to come hurtling your way.
