WHITNEY TILSON: WELCOME TO “MUDDLE-THROUGH”

Whitney Tilson of T2 Partners says the global economy is set to “muddle through” as the excesses of the last few decades are worked off.  Tilson detailed his macro outlook in his most recent investor letter for August.  Tilson believes the worst of the credit crisis is behind us, however, the heavy lifting is not over yet.  Tilson is very concerned about the macro risks, particularly the sovereign debt crisis in Europe and US housing.  Tilson says the US housing market has already started to double dip:

“We think we have gone through the most difficult economic period in the United States and the world since the Great Depression. We think the worldwide debt bubble — this was not just a US housing crisis or bubble, but a worldwide debt bubble — was unprecedented in the degree of depravity that took place, in the amount of leverage that built up in the system all over the world, and we’re very skeptical that we have somehow successfully managed our way through the aftermath of that bubble and that everything is rosy now.

We think the aftermath of this bubble will be with us for many years and that will continue to cause disruptions and turmoil in various markets. The sovereign debt crisis in Europe is a good example of that just in the past few months; we think the US housing market is already in a double dip right now, though because there is a lag in the data, most people haven’t yet realized it. We don’t think it’s going to be anything like the first dip, which really took world economy over a cliff, but there are 7 million people not paying their mortgages right now and we have not resolved that problem and that’s going to continue to be a headwind for our financial system. There are probably six or eight major risk factors, two of which are the sovereign debt issues and the US housing market. These make us very nervous and we don’t know how it’s going to play out (and we’re skeptical that anyone knows how it’s going to play out), so in light of these major problems, we think it’s wise to be prudent.”

Tilsons’s prudent macro outlook has him relatively risk averse when it comes to the equity markets.  Tilson believes there is a high probability of a muddle-through economy, but also acknowledges some chance of a more severe downturn that could send stocks 20% lower.  Ultimately, the highest odds are a sideways economy and an equity market that goes nowhere for 5 years:

“If stock prices are very low and are pricing in a worst-case scenario as they were in March of 2009 for example, we’re very happy to invest aggressively on the long side even in light of tremendous uncertainty as long as we think we’re getting paid for that risk. The problem is that, even after the latest pullback in the US stock market, the S&P 500 is still up nearly 60% from its lows in early March of 2009. We think today the market is still priced for a fair amount of optimism.  We’re hopeful that a scenario develops where we get a V-shaped economic recovery where unemployment falls substantially, in which case stocks today are probably cheap, but I’d say there is only 20% chance of that scenario. We think there is a 50% chance of a scenario we would call a muddle-through economic situation, where unemployment remains persistently high and economic growth is 0% to 2% compounded for the next five years. In this case the stock market’s probably not going anywhere for another five years. Finally, we think there’s at least a 20% to 30% chance of a double-dip recession of some magnitude where the stock market could fall another 10% to 20% from here.”

Source: T2 Partners