Tuesday, April 01, 2008

April Fool

No one wants to be stuck wearing a Fools Cap, least of all investors. Yet it would seem that everyone from Wall Street to Main Street may be played the fool by the Federal Reserve.

Chairman Ben Bernanke and other representatives with the Federal Reserve address various Congressional Committees this week to explain the Fed’s intervention in the Bear Stearns situation. After all the secrets are out on “who knew what when and what they did about it,” taxpayers think they have been snookered?

Many have made the point that if the Fed had acted more quickly to inject liquidity into the market, Bear Stearns may not have reached the crisis point. UBS does not seem to be in much better shape, and that is not just a problem for the Swiss where UBS is domiciled.

Yet taxpayers are going to be left with the bill at a time when everything else is becoming more costly. Food, medicine, gas, clothing, rent - all that we need to live - is going up in price. Inflation is rearing its ugly head at the same time that we are experiencing slow or no economic growth and a reduction in available credit. This suggests stagflation.

Yet Bonnie Ben and his cohort at the Fed have yet to admit that the economy is not growing. He has been unwilling to admit recession - protected by the fact that we have not had the two consecutive quarters of negative growth that formally defines a recession. Stagflation is probably not even part of his vocabulary.

I think formal definitions make little difference. What is important is what is happening on the streets - Wall Street and Main Street. It is doubtful that the Fed has caught on to the triple whammy that nearly everyone else in the country knows so well - higher prices, no jobs, and no credit. Mostly likely the Fed will remain as they have been "a day late and a dollar short."

So where does this leave the investor? My own stock selection criteria have gravitated toward recession proof sectors, such as health care and hazardous waste disposal. Balance sheets with no debt and high cash balances have always been a criteria and it is proving sound in the present equity markets. However, this may not be enough if we have now entered a period of stagflation as I suspect. It will also be important to find companies that have pricing power and have alternatives in sourcing supplies. A tall order, but investors should be looking up and down the production pipeline from raw materials to finished product with some “what if” analysis.

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