The Market Ticker
Commentary on The Capital Markets- Category [Market Musings]

That's simple -- when the smallest hint of stopping the robbery -- in this case, credit emitted by those with no ability to pay causes said market to collapse by upwards of 7% in a single day.

That's what happened last night in China, and it leads one to ask: Are you really dumb enough to think this is local to China?

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Go read this Ticker again.

Then think on the following:

  • Most of the employment improvement since the 08 crash has been in the energy sector, net-net.  This is particularly true if you look at employment ex-McJobs (low-paying, part-time work.)

  • The S&P 500's energy sector is about 10% of the index.  Those firms are going to miss, and most will miss badly.  A material number of them are likely to have negative earnings (and maybe by a lot in the current and forward quarters.)

  • Saudi Arabia and the UAE have said they will not protect oil prices.  They appear to mean it.  The UAE recently said that our shale and fracking production needs to be "curbed"; the way to do that is to make it uneconomical.  Of course if that causes bankruptcies, well, too damn bad.

  • Most of these firms and the governments in the vicinity of their projects have entered into commitments to spend money that can only be generated by profits and taxes if oil is around $100/bbl.  It's currently less than half that.  Good luck with those plans.

  • Nobody does this sort of spending with cash any more -- they all borrow the money, and most of it has already been borrowed.  Worse, nobody ever bothers to repay borrowings any more -- they just roll it over and increase the amount.  This is going to get very amusing when the cash flow is revealed to be insufficient....

The entire premise of the market has been easy money and more credit leading to financial engineering.

When the backing for that credit turns into a puff of smoke what floor is present under the market?

None!

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The pump-monkey crap is out on full display today.  Don't be fooled -- you're fixing to take a terrible beating if you don't pay attention.

Here's reality: Paper gains, that is, the balance in your account when it is comprised of stocks or other securities, are not real any more than your claimed "value" in your house is.  Your "holdings" of such assets are worth exactly zero until a willing buyer shows up and exchanges that holding for cash.

I know, you'll protest, the prices are shown every single day on your TeeVee.  Uh huh.  Sure they are, and they're valid at that instant in time too.  But that instant in time is of no value to you because you're not selling at that instant in time.  That is, you're seeing what someone else exchanged for similar kind and quantity, not what you will receive.

There is no way to know the latter other than to actually make that exchange.  The market rises because people believe that when they desire to make the exchange that same value, or more, will be given.

That belief has no foundation in fact; it is nothing more than faith.

The problem with such faith is that it relies on continuation of the conditions that have made the past happen.  As this article points out there's a demographic problem staring us in the face -- the next generation, which must buy those assets in order for prices to continue to rise, have had their cash flow severely damaged by "pull forward" game such as college debt.

So as far as that article goes, it's good.  But it, like most of the others, miss the biggest issue of all -- the secular trend in interest rates that has now ended.

This is not to argue for much higher rates, or even higher rates at all.  It is, however, a fact that rates cannot continue to fall and thus power ever-larger amounts of borrowing at fixed or declining coupon payments -- and that, more than anything else, has driven asset price appreciation whether it be in stocks, homes or anything else.

Without that the prospect of "forward P/Es" becomes meaningless; there is no "growth" other than actual organic expansion of business -- a trend driven primarily by productivity improvement.  And that has a historical basis of about 3% including the crazy expansion years (such as the 1990s when the Internet was introduced.)  Ex those "burst" periods it's closer to 2%.

Is a P/E of 16 (or 25, or whatever, depending on how you're computing it and over what timeframe) reasonable?  No, it's not if you can't use ever-falling rates to take on more financial leverage and thus expand the top line in that fashion by cooking the books.

This is the fallacy of the message.  Whether 2015 is the year that it all comes apart is an unknown.

That it must do so on a mathematical basis, however, is and when (not if!) it does asset prices are likely to contract by 50-70% -- or more.

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Hoh hoh hoh....

Blackrock, like most asset managers, puts forward a year-end review and forward look.  This one's pretty decent, generally speaking.  But you have to read these things for content, and remember that Blackrock is selling something -- themselves, or more-specifically, their management services.

There's a real problem in here and unfortunately Blackrock identifies the what and how but not the why:

Corporate earnings are a key risk. Analysts predict double digit growth in 2015, yet such high expectations will be tough to meet. Companies have picked the low-hanging fruit by slashing costs since the financial crisis. How do you generate 10% earnings-per-share growth when nominal GDP growth is just 4%?

It becomes tempting to take on too much leverage, use financial wizardry to reward shareholders or even stretch accounting principles. S&P 500 profits are 86% higher than they would be if accounting standards of the national accounts were used, Pelham Smithers Associates notes. And the gap between the two measures is widening, the research firm finds.

Remember that there are multiple people that have and do claim that this 10% EPS growth is "normal."  They're wrong and they've always been wrong -- intentionally wrong.  This is pretty-much the definition of a con job -- knowingly putting forward something that happens to have a historical basis but intentionally omitting why it happened, particularly when it can't happen any more.

What led to this 10% EPS growth?  The components are pretty simple if you remember that EPS growth is stated in nominal dollars:  GDP expansion (nominal) + productivity growth + financial leverage increase.

The problem is that you have to back out financial leverage increasethat is, the expansion of systemic debt in the currency irrespective of the issuer, in order to find real GDP expansion.  

This is a basic principle of algebra and equations, which always balance.  Since GDP is stated in "dollars" one must adjust the "growth" for the number of dollars that exist.

When you do this what you find is that there has been no expansion at all over the last 30 years; it has all been debt.

This in turn means that the entire "bull market" since 1980 has all been debt-fueled rather than production fueled.  It is by definition a ponzi scheme; in order for it to continue the issuance of that debt must continue at an exponentially-expanding rate and in order for that to be possible rates must continue to fall so that you can refinance existing debt, take on more and yet pay the same coupon expense.

For the last 30 years this has been a secular trend.  But all trends must eventually end, and zero is one of those boundaries that is pretty firm.  As has been said by many with regard to a particular stock's potential price there is very strong support at zero.

The same is true for interest rates.  And as rates approach zero the leverage returned from borrowing goes parabolic.  This is the part of the curve we are now in -- the terminal part.

Exactly where does it break and reverse?  Nobody knowsbut if you're looking for a reason to be "in" right now you're frankly quite nuts.  If you believe the S&P earnings figures then you also have to believe the other government numbers, including the inflation numbers.  Why take the risk of being on the wrong end of that cusp if your money is not being eroded by inflation?

The higher something is pumped in this fashion the more catastrophic the collapse.  80 or even 90% collapses in stock prices are not that unusual, and 50% declines are utterly common.  One must look at horizons; it's all fine and well to say that "over time stocks return more" but this assumes you don't need the money during one of the declines!

If you're that good at planning what's on tap for your life and capital requirements then have at it, but right now you're not being paid for the risk -- a level of risk that's materially higher today than it was in 1999 -- or 2007.

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At least in the "currency" realm, was clearly was to buy that dogsqueeze known to me as Bitcon.

Boy oh boy do you have a hell of a loss.  You pretty much couldn't do worse than buy it on the first day of the year either; the price has essentially collapsed from right near $1,000 each to just over $300 today with just enough of a pump around mid-year to give you some hope of recovery.

PS: How come all those folks who said you were going to make a fortune buying what amounts to nothing with real currency have shut up of late?  Where'd all those pump-monkeys go?

smiley

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