Kudlow’s Pause That Refreshes
Kurt Brouwer July 27th, 2007
Given how much the stock market has fallen from the recent highs, I thought I would try to put it in perspective.
I have posted about Lawrence Kudlow and his blog before. He has been upbeat about the economy (he coined the term, the ‘Goldilocks’ economy) and he has been accurate on the direction of the stock market for the past 4-5 years as well. In this post he echoes an old commercial for either Coke or Pepsi (I can’t remember which one now).
His view of the recent downturn is that it is a pause not a new direction. In other words, he is looking for a resumption of the strong market once investors get over the fears inspired by the current credit crunch. When that happens, he believes investors will realize how well corporate earnings are growing and the good times will roll again [emphasis added].
‘In the midst of this hurricane-strength gale force wind of stock market pessimism, permit me to offer a very basic, positive view of stocks.
Corporate profits are the mother’s milk of stocks and the economy. They are also the ultimate backstop and guarantor of the quality of credit.
Amidst this panicked obsession about market downgrades of corporate and housing debt, the fact is that with 50% of the S&P 500 companies reporting (as of the close of business last evening) market cap-weighted profits are up 15.3 percent.
That is roughly three times the consensus expectation for the 2nd quarter.
Meanwhile, positive earnings surprises are virtually identical to those in the first quarter, while negative surprises are almost 6 full percentage points less than the first quarter.
So, while the bond market instructs private equity buyout firms to stop their over-leveraging of debt and go back to equity issuance in their takeovers, the key point that many people are missing in this market correction is that profits are robust and stocks remain relatively cheap…’
I agree with him that stocks are not generally overvalued and that earnings growth has been surprisingly good.
Kudlow is calling this a pause, but even if it becomes a correction — that is, a decline of 10%-20% over a period of a few months — I believe that is not necessarily a bad thing. Stocks have been up steadily for almost five years now and a pause or even a correction would be healthy.
Additionally, all the angst coursing through the veins of Wall Street players, hedge funds, private equity funds, mortgage lenders and so on is spot on. Mortgage lenders got to the point where it seemed they believed that risk was non-existent. Now, the real meaning and message of risk is getting through.
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