March 5, 2009
just in: Thomas Kostigen's Ethics
Monitor: The $700 trillion elephant in the room. (Derivatives)
markets fell sharply today, erasing yesterday's gains and plumbing new
yesterday, fell 54.15
today to close at 1,299.59,
or about 14
above its intra-day low last November. (The Dow and S&P 500 indices
have already penetrated their November intra-day lows.). The Dow,
having gained 149.82
yesterday, shed 281.4
points or 4.09%
today to close at 6,594.
yesterday, ended down 30.32
a barrel, while gold added $21.10
to settle at $927.800.
which certainly seems like a complacent response in the light of
today's new lows.
The market indices are now between 56% and 57% below
their 2007 highs. You have to look back to the 1930's to find this great a
percentage loss in these indices.
Peter Eliades' model is pointing toward a Dow bottom of
4,000 or lower: Peter Eliades on why 4,000 could be next for stocks.
He doesn't present this as any kind of sure thing... just where his model
is pointing. He argues that the market is telling us that there's worse
economic news ahead. He likens the present situation to that in early
1931. He's recommending a 10%-13% position in gold.
I've wondered if the impending bankruptcy of Citi and
the Bank of America won't free up the government to temporarily
nationalize these banks. Investors have already lost practically
everything they invested in these two banks. A taxpayer takeover shouldn't
cost them much more than they've already spent.
Peter Brimelow latest article is entitled: Veteran bear says the end is nigh - and that's good.
The "veteran bear" is Walter Rouleau who has been publishing his
"Growth Fund Guide" (GFG) monthly since 1968. GFG is saying
that, historically, the super bear market might have a possible low during
the latter half of 2009 or 2010. I don't know whether Mr. Rouleau is
saying that there will be a cyclical bear market low during the next year-
and-a-half, or whether he thinks that the super-bear market bottom will
occur then. But Peter Brimelow quotes Mr. Rouleau as saying, "Recent
price action seems to suggest that we could see one or more declines and
advances that could rhyme with [the 1929-32 bear market]".
GFG is recommending positions in gold and in Asia.
An horrendous bear market bottom was reached in 1932,
when the Dow fell from its high of 381 in the summer of 1929 to 41 in the
summer of 1932... a 9-to-1 decline. However, this was not the bottom of
the super-bear market that began in 1929. That didn't occur until 16 years
later, in 1948.
(The super-bear market bottom that occurred in 1948 was at
a much higher level of the Dow than the 1932 cyclical bear market bottom.
In the other two super-bear market bottoms in 1921 and 1982, the
inflation-adjusted final low was the bottom for that particular super-bear
market rather than at some time.) The parallel today would be a Dow
Jones Index level of around 1,600 in the latter half of next year. Nobody expects
that to happen, but of course, in 1931, nobody expected that the Dow would
bottom at 41 in 1932.
The Dow rebounded to 200 in 1936, approximately
quintupling from its 1932 nadir. It might have
continued to climb if FDR hadn't begun worrying about the budget deficits
he was generating, and hadn't cut back on the New Deal, plunging the
country back into the Depression.
One major difference between the Great Depression and
the present situation is that the Great Depression began in 1929 when the
stock market peaked, whereas the current decline began after 7˝ years of
super-bear market that began when the markets peaked in March, 2000. Have
we been in a super-bear market since 2000? Here are the numbers.
The S&P 500 hit an intra-day high of 1,553 on March
20, 2000, and an intra-day high of 1,576 on October 8, 2007. In the
meantime, we had about 21% inflation over the 7˝-year period. Dividends
on the S&P 500 probably averaged no more than 2% over the interval,
leaving us, if we had bought and held the S&P 500 index over the
period, at or slightly behind where we would have been if we had put our
money under our mattresses (and behind where we would have been if we had
invested in CDs).
The Dow topped out at an
intra-day high of 11,750 on January 10, 2000, and it hit 14,198 on October
8, 2007, a gain of about 21%. Correcting for the 21% inflation between
March, 2000, and October, 2007, The 14,198 Dow level in 2007 would
have been equal to the 11,750 Dow level in 2000. Adding in dividends,
buy-and-hold investor in blue-chip stocks would have experienced a modest gain.
Composite peaked at 5,133 on March 8, 2000, and at 2,862 on October 29,
2007. We don't even need to run a calculation to decide that peak-to-peak,
the NASDAQ would have lost 35%-40% for a buy-and-hold investor after
adding in dividends and correcting for inflation. (The reason is that the
dot.com bubble stocks were almost entirely listed on the NASDAQ exchange,
so the NASDAQ Index took a terrible hit when that bubble burst.) And of
course, all of this is before the current market decline reduced the
popular indices to less than half their October, 2007, values. So I think
it's reasonable to conclude that we are
currently immersed in the predicted 2000-to-2014-2018 super bear market.
If past is prologue, then for the next 5-to9 years, buy-and-hold investors are probably going to get
If the next super-bull market begins in 2014 to 2018,
the markets might be expected to pole-vault upward, making up for lost
time, with an average annual 13%-to-14% inflation-adjusted total rate of return over a
16-or-so year period (until 2030-to-2032?) to make up for lost time. (Given a 3% average annual
rate of inflation, this would amount to a an average annual 16%-to-17%
absolute total rate of return.) (Since the total rate of return includes
dividends, the average annual rate of rise of the stock market might be a
few percent less than the total rate of return, or something like
13%-to-14% per year if I assume that dividends approximately offset
We can see this quantitatively in Jeremy Siegel's famous chart
that shows that the stock market has averaged a rate of return of about 7%
per year since 1801. If it falls 40% below its long-term total return as
it did in 1982, at the beginning of the 1982-1999 super bull market and it
ends 85% above the trend line as it did in 1999, then it will have ranged
from 60% of trend line to 185% of its trend line, or over a range of about
3:1 spread out over a 17-year period, or about 6.8%-7% per year more than
the 7% per year that is the long-term average in Dr. Siegel's chart,
yielding the 13%-to-14% inflation-adjusted rate of return cited above.
Other deviations from the chart's trend line include
41% below the trend line in 1974, 42% below the trend line in 1932, 80%
above the trend line in 1968, and 87% above the trend line in 1928.
Given a reading of 87% above the trend line in 1928 and
a reading 42% below the trend line in 1932, we're led to a ratio of 1.87 divided by
0.58 between the 1928 Dow valuation and the 1932 bottom, or about 3.22-to-1. This is a far
cry from the 9-to-1 ratio between the summer, 1929, Dow peak of 381 and
the summer, 1932, trough at 41. Part of the discrepancy probably lies in
the fact that Dr. Siegel's numbers were annual readings rather than
readings taken at stock market extremes. Another factor may have been the
fact that dividends became a much larger fraction of the total returns as
the Dow fell to 41. A third factor might have been that a
modest level of deflation existed between 1928 and 1932.
It might be worth mentioning that these timetables are
calibrated for the U. S. stock market, and not necessarily for non-U. S.
And I realize that there are no iron-clad guarantees
that the future will unfold like the past. Predictions like these make
tacit assumptions about geopolitical stability and other conditions.
(Early Afternoon): To
the GM bankruptcy warning (GM, auditor express doubts over survival; shares skid below $2)
must now be added the impending bankruptcy threat for Citi and Bank of
America: Citi falls below a buck a share,
Bank of America are sliding toward oblivion.
the markets rose yesterday upon the announcement of
a $585 billion stimulus plan in China, and investors' assumptions that
this would be followed with additional stimulus measures, and they fell
today when Chinese premier Wen Jiabao failed to present anything more in a
follow-on speech given today.
Also, GM expressed doubts today over its ability to survive as a going
concern: Still weighing economic stimulus,
U.S. futures slip after China disappointment, GM warning.
Krugman's most recent commentary, Permanent Link to Return of depression economics,
endeavors to explain graphically why we need a fiscal stimulus program in
addition to the Fed's traditional recession-fighting tool of lowering
interest rates. He's aiming this at Joe Scarborough, a former
Congressional Representative from the state of Florida and currently the
host of an MSNBC TV program called, "Morning
who's comparing this current unemployment rate in this current
deflationary recession with the 1975 and 1982 inflationary recessions, and
asking why the government needs to do anything other what it did in 1975
and 1982--namely, lower interest rates. This has come after Dr. Krugman
explained to Mr. Scarborough in this
roundtable interview why the current situation is unparalleled since
the 1930's. And here's the graph that tells it all at a glance:
(2) In Permanent Link to Highly inaccurate,
Dr. Krugman shares an "End is Near" cartoon in which he and Paul
Voelcker are caricatured. He asks, "But where is Nouriel?" [Roubini]
(3) In Permanent Link to Marginal marginalizers,
he recalls the Bush Adminstration's tactic of labeling as left-wing fringe
talk anything that questioned the Administration's economic agenda.
(4) In Permanent Link to How many
banks?, he questions Treasury Secretary's Tim Geithner's claim that
the U. S. has too many banks to nationalize banks. Dr. Krugman observes
that the four biggest banks possess 64% of the assets of U. S. commercial
(5) In Permanent Link to Roots of evil (wonkish),
he takes issue with Greg Mankiw, the Bush Administration's chairman of the
White House Council of Economic Advisors, who challenges the current
Administration's prediction of rapid growth in the recovery phase of our
economic meltdown. Dr. Krugman demurs, arguing that the "unit
root" model that Dr. Mankiw is using doesn't apply in the
present situation. There can be a rapid rise in GDP when demand eventually
materializes again because there is adequate (and unused) industrial
capacity in this recession to permit a rapid ramp-up.
(6) In Permanent Link to Hey, who you callin’
neo-Wicksellian? (wonkish), he observes that "once
you've pushed the short-term interest rate down to zero, money becomes a
perfect substitute for short-term debt.
And any further
increase in the money supply therefore displaces an equal amount of debt,
with no effect on anything. Period, end of story."
He mentions two additional steps that the Fed might take: buying long-term
debt (e. g., troubled mortgages) or risky assets, but this will help only
some risk off the private sector’s hands".
But these moves would have nothing to do with increasing the money supply
(7) Permanent Link to Cold,
this goes on much longer, I think I might give it all up, move to the U.S.
Virgin Islands, and start a Ponzi scheme."
(8) In Permanent Link to All your downside are belong to us,
he's challenging the Administration's moves that rescue American
International Group's shareholders without providing us taxpayers who are
footing the bill any information regarding what we're getting for our
(9) In Permanent Link to Imaginary notches,
he explains what every taxpayer should know: that "your
income tax doesn’t suddenly shoot up if your taxable income rises one
penny into a new bracket."
Only that part of your taxable income that lies above the threshold at
which the higher tax rate starts is subject to the higher tax rate.
(10) In Permanent Link to Zombie financial ideas,
he calls attention to the fact that every proposal the Treasury Department
is floating involve bailing out the bank-stock shareholders at the
taxpayers' expense. He ends it with, "And
the insistence on offering the same plan over and over again, with only
cosmetic changes, is itself deeply disturbing. Does Treasury not realize
that all these proposals amount to the same thing? Or does it realize
that, but hope that the rest of us won’t notice? That is, are they
stupid, or do they think we’re stupid?",
and concludes with the editorial comment, "I
don’t know which possibility is worse".