Monday, February 23, 2009

Not Capitulation, DEFLATION

It is not the bottom Fred. There isn't any capitulation because there isn't any money. It doesn't occur to you guys that there isn't any money on the sidelines. At least not the expanding amount of money that is needed to inflate asset bubbles. We ripped a hole in the last bottom today. The problem is that the players are all in and those that stayed in are now watching their surplus retirement go away. I tried to talk some guys into selling out when it rebounded in October, telling them it was going to be their last chance. Look at the history of depression markets and deflation markets. [b]THE HALFWAY POINT BECOMES THE TOP FOR AROUND 20 YEARS[b]. Take a look if you don't believe me. 1937, the Dow made the 50% point then it sunk back into the abyss. You have to remember that FDR had the mechanism at his disposal of devaluing gold by decree then and the changing of the money. We are beyond the last change unless you want to consider wholesale printing without the acquisition of assets, which would totally deflate the system through the abandonment of the dollar around the world. Once money becomes worth less than the ink on some of the bills, it ceases to be a money supply. You can't defeat deflation in this manner, only destroy what is left of the economy. But, back to the market. We didn't get back to the 1/2 way point until the 1950's after that. If you look at Japan, it is now at a new low. It hit the 1/2 way point a couple of times in the mid and late 1990's. The second time actually caused a Super Cycle Bear like Robert Prechter to consider the Japan bear over while the US bear was beginning. At least that is what I recall reading. In any case, we are at a low after 19 years and it is 1/3 the 1/2 way point almost. You are looking at the top here.

It doesn't occur to anyone in bull land that the entire market of the past 20 years was one inflationary fiasco, built on an almost impossible level of debt, created in a time when the banking system was based totally on debt and the reserve currency of the world had created such a money supply that the entire world could participate. This game was up in 2000. In 2000, the US stock market hit a valuation of roughly 200% of GDP. Never had a US market reached over 80% of GDP. The US market was almost priced high enough to encompass what the entire world market should have been worth. But, we had bubbles in China and Europe as well. The housing bubble was the only thing that put the extra 7 years on that boom. As much as some people would like to blame the 2000's housing bubble, it saved us from collapse then. In fact, it was the actions of FNM and FRE in the 1990's that created the entire game, issuing high powered money in sums never imagined before. Go back and check if you don't believe me because I have been reading about this game for 9 years now and nothing about this is a surprise to me. FNM and FRE created this mess and you see the politicians all the time try to sweep this away. The US government is 20% of GDP and we had a stock market increase a full 100% against GDP in the 1990's. This meant the US government took in an entire years extra income out of the bubble. That is why it appeared we were going to have surpluses as far as the eye could see, because they projected the trend to continue and trends like this can't continue.

The problem is debt and the only solution is more debt. The reason Japan hasn't ever recovered is because their government debt merely replaced their private debt and the assets deflated all the same, meaning the private side can't inflate on its assets. We are about to see what a real depression is like in Japan as there is now a deflated US bubble as well. There is a lot of play on a China rebound now. There are a lot of Chinese assets that need to be liquidated so they need to interest a few fools into buying some of them. It really doesn't matter that maybe they only unload an excess $50 to $100 billion. That amount of money beats zero and is as much as any corporation in the world is going to earn over the next 5 years, unlike the previous 5. Remember, Citi was the most profitable company in the world in the early part of this decade.

The measurement for this decline is sub 5000 this time. It won't be the last, as this is going to be an extended wave that goes on another year and a half. We are only 16 months into something I believe is going to last around 34 months. And, the more debt they create trying to stop this, the longer this mess is going to last. It is clear that we are going back to gold and silver because people are going to have to find anything they can to exchange between themselves and the paper money is going to consume itself.

The best thing that could happen would be that the government help those that go bust to the point they lose their entire support to survive and liquidate the entire mess. Cash exchanged for assets to liquidate debt no longer exists and the loss is then taken. Not only is the money supply too large as it presents an unextinguishable liability as long as they try to preserve it, standing in the way prevents the wiping out of the bad debt which prevents the economy from beginning anew.

My point is this is an unwiding of what created the bull in the first place. This isn't a lack of confidence, but a mathematical equation reversing itself out of natural limitations. As such, we have a downtrend that will continue. There hasn't been a steady downtrend like this since 1930-1932, which should tell you something. It takes effective credit expansion to push markets upward and we are in the midst of a contraction that no one can do much about. The system is a black hole and it is going to consume every extra dime thrown into it.


garyalan said...

mannfm11, Great Post. I find your argument well thought out and written. I am not sure that our political operators are knowledgeable enough not to destroy what remains of our economic system by the careless printing of FRNs. I am betting that this will eventually be the case, and am moving to holding real assets. I don't think that many Americans can imagine the stock market deflation you propose. I clearly see your argument from a dividend point of view. That was also a very well written article. I think the politicians will prop up the market to prevent it from falling back to the 1987 level. Eventually if enough federal debt keeps getting rolled over the market levels will be supported from raw inflation, at the price of increasing the cost of energy and food.

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