mutual funds and this September

NASDAQ is down by about 10% so far in September, the S&P is off by about half that. The Dow, a primitive measure that used to be a good yardstick for the health of smokestack America but is pretty pointless today, is down by somewhat less than the S&P.

Despite all the drama about the valuation extremes separating tech from heavy industry–drama I’ll confess I’ve found myself caught up in–this has been a normal September so far. That is to say, I don’t think the market decline is about anything other than the internal workings of the mutual fund industry.

Mutual funds are exempt from income tax on their profits. In return for this privilege, they are required to distribute virtually all dividend income and realized capital gains to shareholders, where they become taxable income to the owners.

For reasons I don’t really get, mutual fund shareholders like to receive distributions, provided they’re not too large. (An aside: I once turned over a small-cap fund I’d been running successfully for a few years to an office-politics virtuoso who had risen to a high position despite having a mental cupboard bare of any trace of equity investment skill. He bemoaned my maladroitness in, for example, holding a large position in QCOM (which rose 10x over the following two years), dumped out most of “my” stocks and remade the the entire portfolio in his own image. The result: in year one, he was down, by 7% (?), in an up market and had created taxable gains equal to about 35% of NAV. Investors were not happy in this case. Hard to believe, but this guy is still working in the business, which is part of the reason people don’t trust investment companies.)

Anyway, the tax year for funds ends in October. So managers tend to sell–both to create gains for distribution and to recognize offsetting losses–from early September through mid-October.

That’s what I think is going on now.

There are much bigger issues in play, unfortunately. But I don’t think Wall Street has yet begun to factor the election results (which I think will be crucially important) into stock prices. My reading is that today’s prices are saying things will pretty much go on as they have been over the past four years. I think that’s the least likely outcome.

How so?

As the Bloomberg news service points out, Trump has been “outthought and outplayed” at every turn by China. He has brought the US economy to a standstill; the country continues to be deeply wounded by his coronavirus bungling, while China is already well into recovery; foreign students, tourists, scientists (those who are not turned away at the border) no longer find the US attractive because of civil unrest caused by Trump’s white racism, plus the high risk of coronavirus infection; tariff wars have left the farm economy in a shambles; despite his rhetoric, the trade deficit with China is significantly larger today than when Trump took office; government debt is ballooning into dangerous territory; his brainstorm of denying US tech firms access to the world’s largest market for their products has given renewed energy to China’s domestic tech research. All in all, an economic train wreck. This is basically Trump’s business career, only writ large–the sole reason to believe he’s not more than a “useful idiot”.

His re-election would mean Americans are ok with becoming a white supremacist banana republic. Emigration of the best and the brightest–something I could never have dreamed of seeing–might surge, except that Trump’s coronavirus mess means other countries will hesitate to accept us.

A Biden victory would mean beginning the painful process of repairing the epic economic damage Trump has done. The “flight capital” market would probably be over (with GM-Nicola possibly being the new AOL-Time Warner). I’m not sure what would replace it, though, other than that air would likely start to come out of tech stocks. (“Concept” or early-stage stocks would be the the worst casualties, but their decline would tend to pull down stalwarts like MSFT along with them.

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