Are Stocks About to Crash?
The 'Dog Days' continue. Not much action on Wall Street. Everything is on hold. The future will have to wait.
But - taking a wild guess - when history starts up again we will see that:
• The bond market topped out in May. Since then, bondholders have lost a lot of money. And people who depend on low bond yields - debtors, the US government, pension funds - should be getting muy nervioso.
- The gold market bottomed out in July. Now, it's bouncing around off the bottom.
• The stock market is topping out right now.
Maybe that will turn out to be true. Maybe it won't. But dear readers are advised to believe it - until proven otherwise.
Because the risk is that, this autumn, stocks and bonds will drop - heavily. The stock market, for example, began a major decline in January 2000. But it has never completed its rendezvous with destiny. At real stock-market bottoms, you can buy leading stocks for five to eight times earnings. And you can buy the whole Dow group for just one or two ounces of gold. That dark bottom has been postponed twice - each time by massive intervention on the part of the feds, first following the mini-recession of 2001, second following the deleveraging crisis of '08-'09. But you can't put off destiny forever. The final bottom still lies ahead.
Trends in the bond market are even slower to develop and more important. The last bottom in yields (top in bond prices) occurred in 1946. Then, yields rose for the next 34 years. Now, it appears we are past the bottom and headed for a new high in yields, which may not arrive until 2047.
It may be a long way off, or right around the corner. Either way, it will be hell getting there. The Detroit pension disaster is just the first of many. Wait until long-term interest rates hit 5% or 10%. How many companies, cities, and pension funds will still be solvent? We'll see!
But wait. You don't think the Fed will sit on its hands and let the markets take over, do you? When stocks and bonds fall, you can expect Bernanke - or whoever has taken his place (still, no call from Mr Obama!) - to panic, just like they did in '08-'09. Taper off? Forget it.
Let's review the basics: In 1971, the US switched from modern, bullion-backed money to a primitive credit-based system. Bullion keeps debt under control. A credit-based system is more flexible, more accommodating. Since then, credit has gone through the roof. The US economy expanded, but the expansion was driven not by increases in real productivity and higher ways, but by increases in debt.
Naturally, you can't expect a debt-driven expansion to last forever. The private sector reached its limit in 2007. It couldn't take any more debt. A correction began, wringing excess debt out of the system by means of defaults, bankruptcies, and write-downs. The feds panicked, offering more credit on even better terms - zero interest rates, guarantees, bail-outs, etc.
Most of this new credit has gone to...you guessed it...the feds and their favourite zombies - Wall Street, the National Security Agency (NSA), education, health, food-stamp recipients and the disabled. But this kind of resource allocation doesn't create productive jobs or increases in real income. That's why, five years into a 'recovery' and we still have three million fewer jobs than we did when the crisis began (despite population growth of an additional eight million). And it's why the average person - according to our simple math - has less purchasing power today than he did during the Eisenhower administration.
The real economy is not helped by trillions of new funny money credits. But the people who get the loot love it. Who are these people?
Forbes:
'The best chance of becoming Super Rich is to be one of the highest paid hedge fund masters of the universe. In 2010 the top 25 hedge fund managers combined earned roughly 4 times as much ALL 500 of the CEOs at the top of the 500 giant corporations that make up the S&P 500 index. The average pay of these 25 hedge fund managers was $134 million in 2002, peaked at over $1 billion in 2007 and was sliced to a measly $537 million in 2012.
'Private Equity is your next best shot at becoming a Forbes billionaire. Private equity fees have averaged $34 billion a year in the period, 2005 to 2011. And in 2012 the three founders of Carlyle each received a distribution of $300 million; while the founder of Blackstone got over $200 million, and Henry Kravis and George Roberts of KKR each received more than $130 million.
'Like these financial investors of huge pots of money, becoming far more Super Rich than the other 300 million Americans requires an education and training that "raises the productivity of skilled workers relative to unskilled workers," let's say in computers and information technology, and on a giant global scale, say economists Steven Kaplan of Chicago's Booth School of Business and Joshua Rauh of Stanford Graduate School of Business.'
Hedge funds have nothing to do with productivity in the traditional sense. Productivity has to do with output, not the ability to invite investors into your casino in exchange for a big share of their winnings (and none of their losses).
As long as the Fed is flooding the markets with cheap credit and financial assets are rising these investors are happy to pay exorbitant fees to hedge fund managers. They won't be so happy if our predictions one, two, and three turn out to be correct.
Few hedge funds are actually hedged. Instead, they have been weakened by their own go-go incentives. Take a big gamble? Why not? The hedge fund manager figures that if the fund makes a big profit, the investors will think they are geniuses and the manager will get a big chunk of their money. If the fund loses a lot, well the poor schmucks should have known better!
Regards,
Bill Bonner
for The Daily Reckoning Australia