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Musings Report 2022-47 11-19-22 Time to Get Out of Dodge?
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For those who are new to the Musings reports: they're a glimpse into my notebook, the unfiltered swamp where I organize future themes, sort through the dozens of stories and links submitted by readers, refine my own research and start connecting dots which appear later in the blog or in my books. As always, I hope the Musings spark new appraisals and insights. Thank you for supporting the site and for inviting me into your circle of correspondents.
Time to Get Out of Dodge?
Is it time to get out of the stock market? There's a solid case for the answer being "yes."
The bullish case for stocks and bonds boils down to this one claim: the Federal Reserve will have to "pivot" from raising rates and reducing financial liquidity (what I call call "free money for financiers") to reducing rates and "printing" money again (increasing liquidity).
This claim is based on two assumptions:
1) inflation was driven solely by Covid-lockdown stimulus and supply-chain disruptions, and these are dissipating. Inflation will drop dramatically going forward, so the Fed can "pivot" away from fighting inflation.
2) The 2020s are a continuation of the Bull Market that started in 1981, a multi-decade era in which Big Tech leads the market ever higher, and low interest rates, low inflation, hyper-financialization and hyper-globalization drive stable growth of credit, consumption and profits.
In my view, both assumptions are false.
The trend / cycle has turned, and inflation is systemic due to structural scarcities / depletion and the higher costs of reshoring, friend-shoring, re-industrializing, etc., and the decline of globalization's deflationary impulse.
The Fed has very little control of these structural sources of systemically higher costs. Their only lever of control is to increase the cost of capital / credit, which adds an inflationary source to the other structural sources.
As I've endeavored to explain, no cycle or trend lasts forever, and the 40-year uptrend has ended. Now a different cycle and trend is developing.
The basic reason is diminishing returns: a little credit injected into a credit-starved economy can have a dramatic impact on growth and prosperity.
But shoving more credit into a debt-saturated economy will have no positive effect at all. Rather, since all debt accrues interest, it has a negative effect by reducing disposable income via bigger interest payments.
Introducing some globalization (competition and new products) into a stagnant, sclerotic economy can boost growth and prosperity, but pushing hyper-globalization in an economy already hollowed out by globalization won't have any positive effect at all.
That's were we are: the status quo "solutions" remain financialization (The Fed Will Save Us) and globalization (find a cheaper place to exploit labor and stripmine the Earth).
Due to diminishing returns, financialization and globalization are now problems, not solutions. We can't indebt / exploit our way out of the holes dug by financialization and globalization.
The Bear case is based on the fundamentals of a slowing global economy that can't be saved by increasing financialization and globalization and the impacts of higher costs due to scarcities, depletion, higher costs of capital and de-globalization / reshoring.
The 40-year long Bull market was based on costs continually dropping due to technology, financialization (declining interest rates) and globalization, and expanding workforces, production and consumption.
These trends have reversed. Costs are rising, technology is no longer leading growth, globalization is ebbing, workforces are shrinking and consumption is constrained by scarcities, depletion and higher costs..
The status quo (growth at any cost) has no solutions. Its "solutions" (doing more of what's failed) only exacerbate the The End of Growth.
The Bear case also has a technical-analysis facet.
Many analysts have noted discrepancies in various financial indicators. For example, the VIX is the "fear indicator," and it hasn't spiked to levels that reflect capitulation / liquidation--i.e., a tradeable bottom.
Sentiment is supposedly bearish but few have actually sold.
Speculative fever is still running hot. As a good friend pointed out, when speculations such as dogecoin (with no utility other than speculation) are still worth billions of dollars, the collapse of speculative frenzy that marks market bottoms is nowhere in sight.
Instead, reliable indicators such as bullish percent (BPSPX) and the percentage of stocks above their 150-day moving average (SPXA150R) are back to the highs recorded in the complacent Bull market of 2020-2021.
Consumers have borrowed money to fund their spending as inflation chewed up the purchasing power of their earnings, and this eventually forces a reduction in spending when they run out of credit and/or more of their income is devoted to higher interest payments.
The "money creation machine" of the housing bubble has popped due to the return of mortgage rates to historic norms (6.5% to 7%).
Labor shortages due to demographics are pushing wages and benefits higher.
How can companies increase profits as sales slow, costs soar and consumers are tapped out? The short answer is they can't.
Their only response is to lay off workers to reduce costs or in the case of small business, close their doors. This reduces earnings and consumption.
A factor that I see as woefully under-appreciated is the End of Speculative Fever. Much of the stock market gains of the past two decades have flowed not to real improvements in productivity but speculations founded on the recruitment of a "greater fool" to pay more for an asset than the current owner.
As I explained in my blog post on FTX, I doubt the consequences of the fraud end in a few days and limited losses.
Legal speculation dependent on extreme leverage and mismatches of duration, liquidity and risk are just as prone to collapse as fraudulent leverage and mismatches.
Once the herd mood shifts from greed / complacency to fear, liquidity dries up and sellers can no longer find buyers.
This was Alan Greenspan's mea culpa after the 2008 Global Financial Meltdown. He admitted the Fed assumed markets would always remain liquid. But in panics, few are willing to buy on the way down, and those who try are quickly wiped out.
Once buyers get skittish they vanish. With liquidity gone, markets crash.
Complacency and speculative fever remain firmly in place. The classic signals of a tradeable bottom--a spike in VIX to 80, 90 or 100, a capitulation that transforms speculative fever into fearful caution--have not happened.
That's the fundamental case for exiting the stock market for the relative safety of cash or short-term Treasury bonds.
The Bullish case rests entirely on the assumption that the Fed can flip a switch and the 40+-year Bull market will resume.
In my analysis, this is a fatally flawed misreading of structural trends and cycles.
Highlights of the Blog
FTX: The Dominoes of Financial Fraud Have Yet to Fall 11/16/22
Where Crypto Went Wrong 11/15/22
Asymmetries, Distortions and Denial 11/14/22
Best Thing That Happened To Me This Week
My book on self-reliance in the 21st century continues to sell. I hold a faint hope that maybe I've finally hit on a topic that may eventually blossom into a mainstream trend.
From Left Field
NOTE TO NEW READERS: This list is not comprised of articles I agree with or that I judge to be correct or of the highest quality. It is representative of the content I find interesting as reflections of the current zeitgeist. The list is intended to be perused with an open, critical, occasionally amused mind.
Neandertals And Humans Met Way Earlier Than We Thought (via Paleo Trader) (8:26 min) -- reflects how natural selection works....
FTX Post-Mortem -- worth a careful read....
Timelapse shows Italian glacier melting at a record pace (via James C.)
Traditional Yakut Music with Animal and Nature Sounds by Yuliyana (3:20) (via John F.)
The Hedgehog and the Fox
There Really Is No Middle Class Any Longer
China Is About to Fall Into the Middle-Income Trap (WSJ.com)
How To Protect The Economy When It Becomes Too Hot To Work
"Against stupidity the gods themselves struggle in vain." Schiller's play Die Jungfrau von Orleans.
Thanks for reading--
charles |
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