“Who could have ever seen this coming?, many are commenting. Certainly even the highly esteemed Alan Greenspan, one of the chief contributors of our current economic situation, admitted to Congress this week that he could never believe that corporate executives would not act in the best interests of corporate shareholders. In essense, he suggested that capitalism really doesn’t work. Corporate execs can’t be trusted and that more regulation is needed.
Unfortunately, no amount of regulation can restrain the basic human emotion of greed. So many are guilty of this, not just the ultra rich who have amassed huge fortunes over the past few years at the expense of the rest of us. Both the stock and housing markets witnessed huge explosions in value over the past few years as eager investors (people like you and me) piled into these “get rich quick” opportunities. Manias have been and will continue to be with us forever.
LOOKING BACK
Several years ago, I found myself so confused with the market actions. In my newsletters, I described it as The Tale of Two Markets. It was the best of times (Stock market makes new highs) and the worst of times (Bond market makes new highs). It’s a horrible position to be in if you are a conservative investor. After all, one diversifies using stocks and bonds in order to get a moderate return over time. The theory is that if the economy is strong, the stock market will go up and so will the demand for money. This tends to increase interest rates and lower bond prices. Just the opposite should occur in a weak market. Stock prices and business activity will fall, reducing the demand for money and as a result, lower interest rates and higher bond prices. It’s ideal to have investments that are not correlated to smooth out your investment return over time.
In 2005, I pointed out in the initial blog, how stock prices were not following expected patterns. One could expect to see correlation between stock prices, interest rates and the dollar. It did not make sense that with bond prices hitting higher and higher highs that stocks would continue to rise. Many said that in reality, lower interest rates were not reflecting a weak economy and that there were other causes of demand that led to lower interest rates. And for sure, I could see some logic in that considering that we now purchase everything from China, India or other places abroad. Where else can these countries put their US Dollars other than back in the US, with government guaranteed debt? I cringe at the thought that keeping your money with the US Government, a country with what $10 trillion in debt now? is the safest bet.
The other day, I was discussing current economic analysis with an associate and I remembered that I had written this blog some time ago and yes, things were starting to play out as I had envisioned. It led me to review my idea that the interest rates and stock market should be correlated.
If you were to review a ten year weekly chart of the 10 year note (TNX) compared to the S&P Index, you could see that in the period from 1999 through 2004, interest rates and the S&P moved quite nicely in a similar pattern. But then, the S&P started moving well ahead of interest rates. What is most surprising is to see where the S&P is now in relation to the interest rates. Right back in line. Does this mean that perhaps markets are starting to align and that the massive stock market fall is near to an end?
In 2005, my projection of 6,500 was based on the failure of the Dow to make new highs. When stock prices ultimately advanced to new highs, the next logical pattern to consider was the Head and Shoulders. With such a solid neckline building below the 8,000 level, it’s been obvious to see that there should be considerable support here.
In times of normal markets, one could expect a somewhat symetrical pattern to unfold and after some support in the 7,600 – 8,000 range, a rally would occur moving the Dow back to the 11,000+ levels. But these are no ordinary “Normal” times. The “powers that be” have managed to prevent market meltdowns after the Asian Contagion, the Long Term Capital debacle, the Dot Com collapse and other bubbles. And while the markets were able to avoid dramatic corrections, it’s possible that the corrective actions taken by the Fed and other elements of government have only delayed the inevitable. It’s always possible that the market will blow through support, really stunning everyone.
While I expect the market to find support at the Head and Shoulders formation neckline, around 7,600 or so; the financial situation is really quite ugly and still, few are willing to admit it. Has the US yet acknowledged that we are in a recession? I do believe that the mere mention of the term by a Fed official recently sent the stock market into a tizzy. What will happen when the government finally admits that things are really as grim as many are beginning to perceive????
Another point of concern is the complacency of investors. No one appears to be really “bailing out.” So many have said that “I’m in it for the long-term.” Or, “it will come back, it always has.” It also seems that each day, a key stock market television station interviews a prominent floor trader who is continually looking for the “blow off” – Capitulation! The grim looking floor trader appeared to be in dismay on Friday when, although pre-market futures went limit down and stopped trading, that the Major indices, once the equity market opened, did not follow suit. He may be waiting for a long time for capitulation. It seems that many are just closing their eyes, expecting things to normalize and the stock market to rebound. Hasn’t it always done so? Bit what if it keeps going down? Will there be some point when the market “capitulates?” Will it be at 5,000? 3,500? Or as one bloggist who correlates the market based on the price of gold writes - 770?
WHAT’S IN STORE FOR US?
I am convinced that the government’s attempt to bail out companies that have made massive mistakes further compounds the inevitable catastrophe. Although the Fed has managed to “save us” from other potential disasters in the past, the extent of the problem has yet to be seen. In the end, they are just delaying the inevitable. The banking system may possibly collapse and the government will have to nationalize.
Just look at the AIG situation. Already, they have run through the $90 billion that the government put up to save them. They need much more. It appears that other insurance companies are in a precarious position. How will they possibly be able to support their guaranteed annuity products if the market fails to recover? I’ve got to believe that a chart that look like this could be telling us that there is danger ahead.
WHERE IS THERE OPPORTUNITY
In my previous writings, I’ve mentioned the futures market as a prime market to protect yourself from market catastrophe. If I were a person of significant wealth, I would hedge off my stock market positions, reducing or eliminating any further risk I might have. Once the dust settles, I would reevaluate market conditions and lift my hedges.
I’ve also been a long time fan of Jim Rogers. Rogers identified, well in advance, the huge opportunity that commodities offered. He still advocates agriculture products as well as precious metals despite their current weakness.
It’s really important to work with an advisor who has knowledge and experience in all kinds of markets: stocks, bonds, options, futures and others. The world is too complex now and those holding significant wealth need to employ all investment and risk management tools available.
