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Musings Report #30 7-26-14 Investment/Market Outlook: Why I Bet on a Decline
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Investment/Market Outlook: Why I Bet on a Decline
There's an interesting divergence between finance (credit, leverage, official support of markets) and economic activity: on the surface, economic data is positive (unemployment is low, jobs are being added, corporate profits are strong, China is still growing, the EU is “recovering”, etc.) so there is no apparent fundamental reason for a decline in the stock market. But this “good news” has been constructed by 1) statistical sleight of hand (ginned-up unemployment and GDP numbers, etc.) or 2) an extraordinary expansion of credit, central bank support and systemic risk.
Those looking for fundamental economic reasons for a decline find none: all the data is positive. Those looking at monetary policy see the Fed tapering as having no ill effect. But anyone looking at the risk piling up in the credit system that underpins all the “good news” sees parallels with previous downturns.
Meanwhile, the ‘don’t fight the Fed” crowd seems not to notice that the Fed has tapered its monetary support of the stock market (QE) from $85 billion/month to $35 billion/month–-from $1 trillion a year to "only" $400 billion--an annual reduction of $600 billion. The Fed has further telegraphed that it plans to end the bond-buying program completely in October.
The initial taper from $85B/month to $75B/month caused periphery markets to roll over last year, and while weakness typically spreads from the periphery to the core, so far the core markets are remarkably buoyant.
So while there appears to be no fundamental reasons for a decline, it’s a matter of what we’re looking at as "fundamental": finance or economic data. If credit and risk are fundamental, then the market can drop despite all the ‘good news’ the financial press highlights.
The actual mechanism is simple: once a few participants get worried the money they loaned/invested can't be recovered in full, they sell their investment (go to cash), or call the loan. This response to heightened systemic financial risk can spread very quickly as marginal participants are unable to pay off their margin debt and leveraged loans once valuations decline even marginally.
Doug Nolan describes this divergence very ably (via U. Doran):
"Conventional analysis holds that the real economy drives the performance of the markets. During bull markets, pundits fixate on every little indicator supposedly corroborating the optimistic view. These days, the bulls trumpet strong underlying profit growth as supporting ever higher stock prices.
Especially in this Age of Unfettered Finance, I’m convinced that the “financial sphere” commands the “economic sphere.” Profits are generally a byproduct of strong underlying growth in finance – hence a lagging indicator. Corporate earnings will appear absolutely stellar at market peaks – as Credit flows freely and financial conditions remain ultra-loose.
Today’s consensus view holds that the economy and markets are sound – robust even. The economy is finally emerging from a difficult post-Bubble period, with the markets appropriately valued based on improving fundamentals. We are assured by central bankers and pundits alike that markets have not succumbed to yet another Bubble.
Similar to 1929, everyone has become numb to the scope of Credit excess, speculative leveraging and economic maladjustment."
I won't reveal the actual trades I've placed betting on a market decline in the next 3 weeks because somebody might follow me into risky bets. But my gut feeling is the risk/return favors a downturn of some sort over another melt-up advance.
There are two risks to betting against a market that hasn't declined in a meaningful way in 80 months: any dip may be immediately bought, or the VIX may skyrocket as punters panic and that rise in volatility could stifle the decline before it can get any traction.
Always do your own due diligence, always keep your risk and exposure within strict limits, always plan your trade and trade your plan. If you can't do these three essentials, don't make any bets in any market--stay completely out and preserve your capital.
Here are two charts to consider: one makes the Bullish case, the other the Bearish case. Are both equally likely /unlikely?
Cultcha/Culture
The Avett Brothers - Spanish Pipedream - (3:04) songs of John Prine "blow up your TV, eat a lot of peaches..."
A Man Vanishes (Shôhei Imamura) -- review of an under-appreciated classic Japanese film from the 1960s.
Dual at the Mall (2:40) Amusing depiction of escalation/retaliation in a car-centric setting.
ERNEST HEMINGWAY’S READING LIST FOR A YOUNG WRITER, 1934 (via Nina)
Asian Vitruvian Man - a.k.a. Ring Man--acrobatics with a giant hula-hoop
Ten taboo-breaking movie love scenes - some weird choices....
Summary of the Blog This Past Week
Our Peach Pie Workshop 7/26/14
Are We Addicted to Failure? 7/25/14
The Rot Within, Part III: Our Political Order Is Defined by Favoritism and Extortion 7/24/14
The Rot Within, Part II: Inflation Is Not "Growth" 7/23/14
The Rot Within, Part I: Our Ponzi Economy 7/22/14
The Insiders' Case for a Stock Market Mini-Crash 7/21/14
The Ponzi Economy entry drew a large audience; Part II took the most work; I thought Part III and "addicted to failure" were close to the bone....
Best Thing That Happened To Me This Week
Eating another fresh peach pie right out of the oven--I can't help it, it's a highlight....
Market Musings: Links
Here are a few links to stories examining the weakening underpinnings of the great Bull Market:
Bulls Take Notice - Caution Suggested as Credit Markets and Equity Markets Diverge (via U. Doran)
Weekly Market Summary - The Fat Pitch
Code Red In High Yield - Investors are positioning in a risk they may not fully understand.
Can Earnings Get Better Than This? (Tom McClellan)
Real Retail Sales Per Capita: Another Perspective on the Economy -- broken down per person, they're not so hot...
Debt: Eight Reasons This Time is Different -- but it's always different this time, right?
volume and stock buybacks -- borrow money for nothing and buy back shares...
These 23 Charts Prove That Stocks Are Heading For A Devastating Crash - or at least a decline of some sort...
From Left Field
The Publishing Business Is In Crisis - female writer lays it out from the content-creator's POV... this is why I self-publish--with conventional publishers, you lose all control....
Time to save Market Basket (via Mike D.) -- interesting battle between owners of a local Northeast supermarket chain, one side supported by the employees, the other by family members seeking higher profits...
What Predicts Success? It's Not Your IQ - no surprise here...
In a Subprime Bubble for Used Cars, Borrowers Pay Sky-High Rates - marginal borrowers default first, toppling the dominoes...
Millennials' Political Views Don't Make Any Sense: That's not a harsh assessment. It's just a fair description.
Suicide By Drought: How China is Destroying Its Own Water Supply - kill all the pikas, and Mother Nature takes revenge...
The Price of Poverty: Psychology and the Cycle of Need - rare look at the psychology of poverty...
Open Source ‘Solar Pocket Factory’ Can 3D Print a Solar Panel Every 15 Seconds -- I am skeptical of this claim but it's worth a look...
Satellite Study Reveals Parched U.S. West Using Up Underground Water -- when will we get serious about conservation?
The ship that totally failed to change the world (via Joel M.)
A World Burns in Silence -- northern hemisphere forest/tundra fires....
The most important battle you've probably never heard of (via Joel M.) - I hadn't; fascinating history lesson, highly recommended
If the freedom of speech is taken away then dumb and silent we may be led, like sheep to the slaughter. George Washington
Thanks for reading--
charles |
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