first_imgDear Reader, I have a treat for you today: an exclusive article by prolific investment strategist Don Coxe, frequent contributor to Casey Research and one of our favorite thinkers. Below, you’ll read his thoughts on why US stocks continue to make new highs, and what needs to happen for them to continue upward. Then we’ll hear from Doug French, reporting on why pundits who poke fun at so-called doom-and-gloomers are off the mark. My excuse for my sparse contributions to today’s missive is that I’m hard at work analyzing the student loan “crisis” for the next issue of The Casey Report, due out next week. I have to say that before cobbling together and parsing the data, I assumed that the student loan bubble was a real thing. Lending standards on student loans are even worse than the famed “liar loans” of the mortgage crisis. When issuing Federal Stafford loans, the government doesn’t consider the student or parent’s income, expected future income, assets, or credit history. Essentially, as long as the student hasn’t been convicted of a drug offense, he qualifies. No wonder the true student loan delinquency rate is north of 30%. But after examining the structure of the industry, I’m not so sure. The bankruptcy laws are so favorable to student lenders that it’s hard to imagine them ever losing much money. For instance, because student loan debt is not dischargeable, the government collects an average of $1.10 for every $1.00 of defaulted Stafford loans. That’s right: after adding in penalties and fees, students who default end up paying more money. Of course, the lawyers and collection agencies get to wet their beaks, too. But even after subtracting collection costs, the government’s net recovery rate on defaulted Stafford loans is over 90%. Not bad when you consider that lenders typically recover less than 15% on defaulted credit cards. Anyway, there’s much more to the student loan story than I can explain here. We’re also going to have a related stock pick—a company with a big portfolio of student loans, most of which are guaranteed by the US government. If you give The Casey Report a risk-free try today, you’ll be among the first to get the brand-new issue, fresh off the digital press on June 12. As with all our monthly newsletters, you get 90 days to try it out—love it, or your money back. Click here to get started. And with that, here’s Don Coxe… If You Own the S&P 500, You’re Betting on These Three Outcomes… Whether You Know It or Not By Don Coxe, Chairman, Coxe Advisors LLC. So… why did the S&P return from its barbecuing and parade-watching on Memorial Day to surge to another new all-time high? Street economists credited it to the increase in durable-goods orders. But that’s a hoary answer exhumed to cover up economists’ shared inability to explain the stock market’s idiosyncrasies on a day devoid of big news. Durable-goods orders are lumpy and notoriously subject to massive restatements, so they almost never produce a widespread lust to buy stocks. Other answers are equally unsatisfying. It’s not as if a three-day weekend was enough time for investors to plow through all the bulky weekend papers to find reasons to rush into stocks. And it’s getting tiresome to hear the argument that zero returns on cash and piddling returns on Treasuries render stocks the default option. Everybody already knows that. So why the high? A clue came from the simultaneous sell-off in gold, which drove bullion through its support level to its lowest price in nearly three months. There was near-zero doubt that this breakdown occurred because Ukraine produced its first really good news in nearly three months. Not only had the Ukrainian elections gone off with large turnouts and no claims of fraud, but the previously pusillanimous central government had deployed gunships and paratroopers to dispatch the Russian-backed occupiers of Donetsk airport, killing dozens. This was the first military victory for the nation since Vladimir Putin and his KGB and military troops began cowing and conquering Ukraine. The previously all-conquering Putin responded by merely demanding a halt to the killings. The twin triumphs—at the polls and at the airport—unleashed a massive sigh of relief. Naturally, US equity investors celebrated. The Putin problem was no more. Vlad had been had. Or so it seemed to Wall Street, which was ignoring a potentially bigger story: the game-changing European Parliamentary elections. European Elections When the votes were counted across the EU, the political class across Europe and the eurocrats in Brussels were shocked and embarrassed. The usual coalition of the center-left and center-right was still—barely—in charge in the 766-member legislature, which meets in a beautiful hall in Strasbourg. Yes, the reliable Germans voted for reliable parties and politicians. But voters in the UK, France, and Denmark elected far-right populist protest parties to represent them. Populist parties of various stripes—including loonies, lefties, lively eccentrics, and loathsome racists won an unheard-of and unexpected quarter of all seats. (It’s worth noting that, aside from India, this is numerically the largest parliament in the world. It has long suffered a poor reputation among voters, a large majority of whom consider it irrelevant or despicable. The European Parliament seems to function as a spittoon where voters can express their discontent with their own governments and the EU without actually booting their own governments out of office.) Surveying the voters’ sneers at established European pompously privileged parties, national leaders such as France’s François Hollande wondered aloud whether Europe would even be governable in the future. The French gave a huge win to the National Front of Marine Le Pen, inheritor of the party leadership from her odious father, Jean-Marie Le Pen. His record of anti-Semitism was so strong that the UK Independence Party, which thrashed the Tories, Labour, and Social Democrats, announced early on it would never partner with that party. So why does all this mean a new high for the S&P? Because suddenly, the US political situation seems relatively less messy and intractable. Until last weekend, the biggest knock against investing in American stocks has been the ruling class in Washington—most notably the White House, then the Congress, and, among many Americans, the unelected and seemingly unrestrained Fed. With Europe edging closer to extremism, the US’s ruling class no longer looks so bad. What was a disadvantage has morphed into a comparative advantage. The Euro: Europe’s Bigger Problem Europe’s fate is based largely on the wildest of wild cards—a currency that doesn’t enjoy universal acceptance across Europe and lacks legal backing from any government, tax system, army, or navy. While the greenback’s value will likely fall victim to runaway Fed presses, it remains legal tender for all debts, public and private. The euro could—in theory—become the equivalent of Confederate money. As an aside, the dollar has another unquantifiable advantage: it bears the motto “In God We Trust.” That does not give it divine backing, but most avowedly gives it cachet. Euro banknotes have never made any claim to value—intrinsic or spiritual. Given some of the racist riffraff who will now be living off the European taxpayer, the euro’s abstract neutrality seems totally appropriate. With Europe Divided, Who Deals with Putin? Investors seem to think that Putin’s humiliation of the mixed and unmatched Europeans is over—that Ukraine will no longer be the sustained bad-news story that distracts investors from all the “good” economic news. Even the announcement that US Q1-GDP had been revised to a negative 1% was treated as good news, because the Street blamed it on the long, cold winter caused by climate change, formerly (and ironically) known as “Global Warming.” We hope the market has its geopolitics right. But we bet that Putin will be back. He is both resourceful and resource-full: he has class and gas. Ukraine is billions of dollars in the hole for its previous purchases of KGB-gas and must somehow find the funds to keep warm next winter. The EU election results make it unclear who will be managing the Ukraine rescue and will be negotiating with Putin—Ukraine’s creditor and gas-master. Until Putin took command of Crimea, the S&P had been floating slowly north on a raft of Fed oxygen. Near-zero short rates meant that investors have had positive dividend returns in a seemingly endless bull market. The economy has been lackluster, but the investor returns have been superb. Putin was the rude intruder into this dream deal. If he really is in full retreat and hasn’t just paused, then the S&P’s new high could be a precursor to more. However, Ukraine doesn’t need just a vanquished enemy: it needs a deep-pocketed friend who will stay the course and keep the cash flowing. Obama can be an eloquent friend, but has no authority to dispense American cash. (The Pentagon responded to pleas for weapons for the beleaguered Ukraine military by sending Meals Ready to Eat.) Regardless, for the S&P 500 to keep climbing, the US economy must someday start showing enough mojo to get profits rising at a pace at least equal to the rise in stock prices. Until that happens, investors who buy US stocks are making three risky bets at once: The EU will be able to get all 28 of its members in line to find the strategy and cash to save Ukraine—and keep Putin from destabilizing Ukrainian regions heavily populated with Russian speakers’ Putin has been beaten at his own game by a chocolate oligarch; and US corporate profits will catch up to equity valuations. That—at least to us—is at least one big bet too many. For 40 years, strategist Don Coxe has been speaking about, writing about, and investing in the global capital markets. Currently, he is advisor to BMO Global Asset Management for commodity funds, and he publishes The Coxe Strategy Journal for clients of Coxe Advisors.last_img