Will 2008 Repeat Itself?
by Joseph A. Monaco, Ph.D.
Registered Principal - RJFS

I just checked my calendar and was surprised to see that it said this was the year 2011. Why did that surprise me? Because after Thursday's 500 point drop in the Dow Jones Industrial Average I received a spate of calls and e-mails asking if this was 2008 all over again. The question is understandable. But today's economy and financial market bares no resemblance to 2008.

In 2008 the American consumer was significantly over-leveraged. Many people routinely received mortgages for 110% of their home's value (and that value was calculated at the peak of the fastest and most prolific increase of home prices in recorded history). Both commercial banks and investment banks were extensively over leveraged. Across the country millions of home mortgages were about to be foreclosed. According to the Department of Labor, U.S. companies were laying off employees at a rate of over 500,000 per month! Corporate profits were collapsing and the whole world's GDP was in a mammoth downward tail-spin. There was even the very real possibility that at any moment the entire international banking system would collapse. So the potential catastrophe facing everyday people was not so much that their stocks might further decline in value, but the real possibility existed that they were about to lose the cash they had deposited into the bank.

Conversely, today in order to obtain a loan people need down payment money, a good credit rating and a reasonable income. The Federal Reserve has required banks to not only replenish their reserves for possible bad loans, but most banks now have more reserves than they did before the crisis. And although it is a travesty that so many people have lost their homes, there is a positive aspect to this for our economy. Since there have already been millions of homes foreclosed on, there are now millions of fewer homes upon which the banks need to foreclose. The Federal Reserve also reports that today's American consumer is in the strongest financial shape in well over a decade, with actual cash in U.S. banks now totaling over $72-trillion (yes, I said trillion). That is an increase of $23-trillion of cash in the bank in just two years.

According to the Department of Labor today we are averaging about 100,000 net new jobs each month. That is 600,000 jobs per month better than what we experienced in 2008. Rather than declining as they did in 2008, corporate profits in 2010 increased 38% over 2009 and this year look to increase an additional 20% over 2010. After Thursday's decline, the stock market (defined as the S&P 500) sits at only 12 times earnings, the lowest valuation we have seen since 1991. This valuation appears even more compelling when coupled with the knowledge that the S&P 500 Index now sits at 2 times book value. The only time in the last 20 years we've seen a valuation that low was at the bottom of the 2008 debacle, when it traded at 1 3/4 times book value.

None of this is to say that the stock market will skyrocket from here. Nor is any of this a guarantee that the stock market will not decline further. In fact, in the current climate of negativity some additional decline in asset prices wouldn't surprise me at all. But hopefully this does put into perspective that there are few correlations between today's economy and financial markets with what we experienced three years ago. American consumers have much stronger personal balance sheets with more cash and less debt. American businesses have record amounts of cash. People are indeed going back to work, albeit slowly. But that is a far sight better than massive layoffs. And banks have significantly increased their reserve capital.

The future over the next three to four months is unclear amid a cloud of dust. But in my 30+ years of providing financial advice and insight I have never experienced a time when the near future wasn't opaque. I do believe that the longer-term future is brighter than perceived and that the current climate of fear has brought the value of many asset classes to undervalued levels. In my opinion, two things are warranted at this time: a long-term perspective, and a confidence in our nation's ability to respond positively to trouble and uncertainty.

The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Any opinions are those of Joseph A. Monaco, Ph.D. and not necessarily those of RJFS or Raymond James.