Blog : A Look Back at Q1: What Were They Thinking?

by Ed Zwirn on March 28th, 2014

All the worry it has caused us notwithstanding, the first quarter of 2014 may well go down as representative of an era in which we didn't know how good we had it. And that's the frightening part.

The bull market year of 2013 saw the value of everything from penny stocks to blue chip shares rally sharply, with the Dow Jones Industrial Average finishing the year up 26%, the broader NASDAQ Composite Index up 37.7% and the small-cap Russell 2000 ahead by 36.7%.

Propelling this rally was the perception, widespread in late 2013, that the U.S. economy had been making accelerating progress, in part because of the Fed's Quantitative Easing program, which had pumped $1.02 trillion into the volume last year, outweighing the drag put into the economy by federal budgetary shenanigans. The latest GDP figure available at year end had shown the economy responding to this by growing 4.1% in Q3, with real estate prices recovering, unemployment rates showing steady but anemic progress and inflation almost non-existent.

This bullish outlook has been tempered since then both by evidence of an economic slowdown and increasing worry coming from other parts of the globe.

The Q3 GDP figure turned out regretfully to be no more than a blip on the screen, with the final estimate of Q4 growth weighing in at a sluggish 2.6% and the general opinion calling for continued moderate (but not blockbuster) growth this year.

Aging bulls are more fragile than young studs, and this fragility was also exacerbated by the serious worry occasioned both by the Ukraine crisis and a more general implosion for emerging markets. Both problems were heightened as the Fed commenced tapering off on quantitative easing, which as of April will be going down to $55 billion monthly, down from $85 billion at year end. Without taking anything away from the problems of places like Ukraine and Turkey, taking all this money off the table has flushed money out of these more speculative markets, making it harder to raise enough capital in places like these to calm down restive populations.

The upshot has been a stock market which, while it has seen some heights and dips so far this year, has been on a general retreat, with the Dow off 1.5% so far this year as of Friday, the NASDAQ off 0.5% and penny stocks, as represented by the Russell 2000, off 1%.

That being said, the outlook going forward is probably a positive one, provided the international situation doesn't deteriorate. Instability in Eastern Europe owing to the Ukraine crisis has at least in part been priced into the market. Even so, investors could be in for a nasty surprise in the event Russia follows up its Crimean annexation with further moves and succeeds in provoking a war, or at least a trade war. The latter already offers itself as a distinct probability as the U.S. and the E.U. slap sanctions on Russia and Russia retaliates.

At the risk of overreaching, this crisis is also frightening, at least to history geeks, in part because it coincides with this year's centennial of the start of World War One. It will be 100 years this June 28 since Archduke Franz Ferdinand of Austria was assassinated in Sarajevo. By July 28 the first shots of the war had been fired. The rapidity of the measures and counter measures which led to this epoch of bloodshed and societal dissolution may or may not have a parallel in the current situation. Let's hope not.

Getting back to the present for the time being, there is every reason to be bullish, at least for the short term, provided no drastic scenarios play out, which they probably won't. As I pointed out in a penny stock blog earlier this month, the bull market for stocks and the moderate upswing for real estate pushed the net wealth of U.S. households to an all-time high as of late last year, with assets outweighing liabilities in the collective household balance sheet by $80.7 trillion. With only a moderate 1% or so having been trimmed from stock market gains in the meantime, the vast bulk of this prosperity has remained intact.

This is in fact starting to sink into the American economic psyche. The Conference Board reported last week that its consumer confidence index strengthened in March to 82.3, up from February's 78.3 and the highest reading for this index since January 2008. Also this week, it was reported that personal income and personal spending were each up by a respectable 0.3% in February.

Depending on whom you talk to, these numbers either really mean something or are lies being manufactured by a secretive ruling elite. If these numbers really mean something, and those who think otherwise don't know what they're talking about, we just may come out of 2014 with moderate growth, despite a rough Q1, provided that the world doesn't blow up.