Tuesday, August 9, 2011

No, We're Not Heading for a Repeat of 2008

A week ago, right before the U.S. Treasury was able to replenish its coffers through a debt auction, several observers noted that technology icon Apple actually had more cash on hand ($75 billion) that the U.S. government ($74 billion).

Corporate America is awash in cash - nearly $1.9 trillion. True, some of it is offshore, and is not likely to be repatriated unless the government offers some sort of tax holiday, but still: that's a lot of liquidity.

As I noted on Random Glenings last week, corporate bond yields are now at their lowest level in decades. Corporations can easily access the credit markets, paying only a fraction more than our AA+ rated government.

This is the major difference between now and 2008, in my opinion: the credit spigots are wide open, and virtually no credit-worthy borrower is lacking for funds.

In fact, today we have the opposite problem: our banking system is so flush with Fed-infused cash that a large custody bank - Bank of New York Mellon - is now charging a fee to any large depositor.

There are other differences between now and 2008:
  • Interest rates are much lower today. The 10-year Treasury was yielding nearly 4% at the time that Lehman Brothers went under in September 2008, but now offers a meager 2.35%. Corporate bond yields were also much higher - remember when Pepsi offered a 10 year note yielding 8% at par in October 2008. Options to investing in stocks are much more limited;
  • The S&P 500 was trading at 17x trailing 12 month earnings in 2008 vs. 12x now;
  • While a few money center banks are still in difficult shape (Bank of America and Citigroup), most financial companies are in much better capital shape than they were in the fall of 2008. Ed Spehar at Merrill Lynch, for example, notes the huge cash positions of life insurers like Met ($2.4 billion, or 7% or market capitalization) and Prudential ($2.6 billion, or 11% of market capitalization);
  • While some would argue that the Fed's intervention options are limited in today's environment, investors are surely aware our government is very aware of the importance of the capital markets to our society, and will act accordingly.
Finally, remember that the S&P 500 hit a record high in October 2007. Investor confidence was much higher starting in 2008 after the markets had rallied +75% since 2002. Judging from the calls I have been receiving, and the news coverage, I don't think anyone is unaware of the risks of investing in stocks.

The Wall Street Journal had a piece this morning comparing current conditions with 2008. Here's an excerpt, with the full link below:

Starting from the most obvious: The two crises had completely different origins.

The older one spread from the bottom up. It began among over-optimistic home buyers, rose through the Wall Street securitization machine, with more than a little help from credit-rating firms, and ended up infecting the global economy. It was the financial sector's breakdown that caused the recession.

The current predicament, by contrast, is a top-down affair. Governments around the world, unable to stimulate their economies and get their houses in order, have gradually lost the trust of the business and financial communities.

That, in turn, has caused a sharp reduction in private sector spending and investing, causing a vicious circle that leads to high unemployment and sluggish growth. Markets and banks, in this case, are victims, not perpetrators.