Forget the Midwest – Drought in the Markets Is Crushing the Investors

by Jeff Reeves | August 13, 2012 6:00 am

The drought in the Midwest[1] continues to be one of the biggest stories of the year. The resulting jump in food prices is affecting consumers and businesses and consumers alike, and the government is scrambling to help farmers amid the crisis.

After reading the latest batch of headlines today, about modest rain failing to stem the crop losses[2], I couldn’t help but think about the similarities between this meteorological drought affecting U.S. farms and the metaphorical drought affecting the markets.

I know finance analogies are cumbersome and often overused — lines about consumer belt-tightening or stocks getting a dead-cat bounce or governments kicking the can down the road seem to be mandatory these days.

But allow this English major a little room to run with the drought metaphor for Wall Street right now.

Dried-Up Markets

Drought is, at its core, “a lack of liquidity.” There isn’t enough water — a fundamental necessity — to go around. The stock market, too, is suffering from a lack of liquidity in the business sense. Namely, money.

Fewer With Means to Invest: For many people, there isn’t as much money as there used to be after the recession. The average American family’s net worth dropped almost 40% between 2007 and 2010, according to a Federal Reserve study released in June[3]. And anyone who has looked at the ugly charts about income inequality in America[4] knows that a small-but-very-wealthy portion of the U.S. is doing all right, but the middle class is being squeezed. Investing in stocks is the last thing on their mind right now.

Fewer With Motivation to Invest: Beyond the practical limitations of household finances, there are many who could invest in the market but choose not to. Some of that is a good thing, with Americans deleveraging and paying down debt — cutting the nation’s average credit card balance by 11% in 2011[5]. But some of that reluctance to invest is born from fear or cynicism. A great National Journal[6] article shows that battered Americans don’t trust banks, big business or … well, just about any institution. That’s not about to change anytime soon, either, given the younger generation’s sentiments. The Financial Literacy Group, in a report cited by American Banker[7], surveyed 878 students at 18 high schools across 11 states. And three-quarters agree with the statement, “The stock market is rigged mostly to benefit greedy Wall Street bankers.”

Fewer With Money in Stocks: Those who do have the money are reluctant to put that cash behind stocks. A July fund flows report from Lipper[8] indicates that investors pulled money out of conventional funds in three of the last four months, to the tune of a $27.8 billion withdrawal in June. These folks are chasing bond funds instead, a trend that seems to be continuing based on the weekly report from ICI on[9] that cites equity funds had outflows of $6.89 billion while bond funds had total inflows of $5.07 billion.

No Shortage of ‘Rainmakers’

Film and literature love the idea of a good rainmaker. Whether it’s the classic film Rainmaker featuring Katherine Hepburn and Burt Lancaster or the John Grisham novel of the same name featuring an idealistic lawyer, the metaphor of drought as hardship and rain as new life is a pretty common one.

But while Hollywood might like “rainmaking” in its art, Wall Street has a different context for the term. Rainmakers are commonly the guys and gals who bring in new clients and new money. And sometimes (gasp!) they do so through unscrupulous means.

There’s no shortage of rainmakers these days. And despite the fact that the dry spell continues for many investors, they foolishly keep paying these hucksters in hopes that they can in fact control the weather.

Facebook (NASDAQ:FB[10]) was ripe for rainmakers with its overhyped and exclusive IPO that would value the social media giant at more than $100 billion. Underwriter Morgan Stanley (NYSE:MS[11]) was able to dangle hopes of a stake in this highly sought stock to prospective clients to win their business. But with FB stock down 42% from its initial offering price with no bottom in sight, clients have been left high and dry.

ETF firms continue to launch the latest fad investments — including chasing yield via leveraged dividend funds[12] or yet another sad imitation of a hedge fund[13]. Who cares if you actually make money in these when the issuers can collect their fees?

High-pressure marketing scams and the illusion of profits persist on Wall Street in any marketplace. But when the earth is parched and investors are thirsty for profits, it’s perhaps more important than ever to be on guard against opportunists.

We Are Not at the Mercy of Nature

Depressed? Well, thankfully I’m not going to take a page out of Grapes of Wrath and leave you with a dismal scene to wrap up this drought tale. Instead, I want to look to the future — and a hopeful future at that.

Droughts are so emotionally draining because it seems like there’s nothing we can do but wait. Only Mother Nature can send the rains, when the time is right.

But that’s patently untrue in the 21st century. Yes, a drought is a hardship that hampers productivity. But it’s no longer a catastrophe.

In a drought, smart water use can mitigate lower rainfalls. In a Wall Street drought, a focus on capital preservation instead of stock-picking and chasing growth can be equally important.

Irrigation can help bolster crop yields in a drought as farmers tap into some of the terrestrial water resources while waiting for rain. Investors waiting for the return of a raging bull market in stocks are not without options, as many low-risk dividend stocks or bond investments offer a trickle of decent yields.

As volatile crop prices threaten profits, shrewd businesses find ways to hedge their costs. Smart investors also can learn how to hedge their bets or target short-term investments to supplement their core strategy.

And most importantly, as investors, we must remember that a drought does not mean crops can’t grow. Some harvests might be a bit smaller than we are used to, and we can’t get surprised when some seeds scorch in the summer sun or a few plants wither and die. But we can’t lose hope or stop planting altogether.

After all, we have to eat.

The markets are up 11% year-to-date in 2012 and many are afraid that this brief period of plenty will be replaced by another downturn this fall. After all, the “fiscal cliff”[14] looms large, Europe still is a wreck and Q2 reports have some investors worried about slowing momentum for corporate earnings[15].

Sounds a lot like the Reuters report I read today[16] about a moderate rainfall helping farmers a little … but not enough to save many of the crops that were already lost, and not enough to ensure the drought is over.

We could very well see another leg down in the months ahead, and frankly, I think it’s likely we will see a rocky market until Thanksgiving[17].

But that doesn’t mean we are going to starve. There are tools available for investors to keep growing their money even in this dry spell.

Through my in-laws in Ohio and my college days in Pennsylvania, I had the pleasure to meet some real-life American farmers. They are not like the fair-weather Realtors who hopped into a booming housing market in only to wash out when times got tough. They are not like Wall Street hucksters who had hot hands during the go-go market of 2004 but can’t even break even now that the market is more challenging. These are folks who work hard every day, regardless of the weather or crop prices. Sometimes they have good years and sometimes they have bad ones — but that doesn’t mean they stop farming.

The current stock market is painfully dry. But if you’re an investor who’s serious about growing a portfolio, you won’t stop working the soil.

Jeff Reeves is the editor of and the author of “The Frugal Investor’s Guide to Finding Great Stocks.”[18] Write him at or follow him on Twitter via @JeffReevesIP.

  1. drought in the Midwest:
  2. modest rain failing to stem the crop losses:
  3. a Federal Reserve study released in June:
  4. ugly charts about income inequality in America:
  5. cutting the nation’s average credit card balance by 11% in 2011:
  6. A great National Journal:
  7. in a report cited by American Banker:
  8. from Lipper:
  9. report from ICI on
  10. FB:
  11. MS:
  12. chasing yield via leveraged dividend funds:
  13. yet another sad imitation of a hedge fund:
  14. “fiscal cliff”:
  15. some investors worried about slowing momentum for corporate earnings:
  16. Reuters report I read today:
  17. we will see a rocky market until Thanksgiving:
  18. “The Frugal Investor’s Guide to Finding Great Stocks.”:

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