Wednesday, September 2, 2015

Rick Rule On Why Asset Prices Have Remained Artificially High For So Long

Rick Rule began working in the securities industries 41 years ago. At 62 years old, he is one of the wealthiest (he is a billionaire) and knowledgeable people in the world regarding natural resource investing. In the quick segment below he talks about why he believes financial asset prices have remained artificially high for so long.

Monday, August 31, 2015

Jim Rickards: Poor Economic Data Means No Rate Hike In 2015

Wednesday, August 26, 2015

The Fed Is Trapped In A Corner: First Signal Of No September Rate Increase

William Dudley, a voting member of the Federal Reserve, said this morning "the case for a September rate hike is less compelling" and "I really hope we can raise rates this year." What changed from 10 days ago when every person in the world (including the Fed) was expecting a September rate increase? Stocks are down 10%.

As this saga unfolds more and more people will begin to understand the Fed is trapped in a corner. They know additional monetary easing (0% rates and potentially QE4) may, in the short term, push stocks artificially higher. They also know taking away the punch bowl and raising rates will temporarily crash the economy.

Dudley has already thrown up the white flag after a only a 10% fall in stocks. Perhaps the Fed can talk the market higher in the short term, but the real crisis will arrive when the Fed announces monetary easing and stocks continue to fall (remember they were easing policy from late 2007 through early 2009 as stocks fell during the entire time).

For more see: Governments & Central Banks Do Not Control Market Movement

Peter Schiff has more on the Fed's dilemma:

Tuesday, August 25, 2015

El-Erian: Asset Prices Must Revalue Back To Reality

The chief market advisor at Allianz and the former CEO of PIMCO speaks with Bloomberg about the process of repricing of assets down toward the real fundamental strength of the economy.

U.S. Stocks Slightly Cheaper But Still Ridiculously Expensive

The trailing 12 month Price to Earnings ratio on the S&P 500 has fallen from 18.5 to 16.75 over the last week. This means stocks have become less expensive relative to their earnings (lower priced stocks are more attractive to purchase for value investors).

Stocks are historically considered cheap when their trailing P/E ratio moves under 10 so we would need the S&P 500 to fall about 40% from here for stocks to provide a safe long term entry point. In addition, earnings would need to remain at the level they are today (price is only half the equation). If earnings fell (they are sitting at all time record highs), then stocks would need to fall significantly more than 40% in order to provide a safe, attractive entry point.

Just a quick big picture overview for those hunting for bargains in the United States after the recent decline. Save your time; they don't exist (yet).

Monday, August 24, 2015

Jim Grant On Artificial Global Asset Prices

Blood & Gore: Global Markets Crashing Everywhere

As I write this morning stock markets are selling off everywhere. China's market fell close to 9% overnight, U.S. DOW futures are down 600 points while most other global markets are down over 3%.

It's interesting listening to the media trying to figure out "why" stocks are down. "What was the one trigger that pushed us down?" Was it China? The Fed? Donald Trump?"

The reality is global stock markets have been trading at prices that do not reflect the economic strength of the economy that supports those prices. The global economy has been slowing down for some time now, but in many areas of the world (specifically the United States) people have not paid attention because the stock market was moving higher.

Many people wake up in the morning and check the markets. They see green and they assume everything is right in the world. They believe the market is a rational indicator of the current and future health of the economy.

The reality is the stock market is one of the most irrational gauges of the economy available, especially at the high and low extremes. The future growth potential for the U.S. and global economy was far better than the U.S. stock market reflected in 1982, and it was far worse than the U.S. market reflected a month ago.

There was not one "trigger" that pushed the markets lower over the past week. There is never one triggering event at a high (people are still trying to determine what it was in 1987, 2000 and 2007). Markets fall when prices become overvalued and people finally move toward a more risk averse mind set. Here are some thoughts from John Hussman from over the weekend.

"The way to understand the bubbles and collapses of the past 15 years, and those throughout history, is to learn the right lesson. That lesson is not that overvaluation can be ignored indefinitely – we know different from the collapses that have regularly followed extreme valuations. The lesson is not that easy monetary policy reliably supports stock prices – persistent and aggressive easing did nothing to keep stocks from losing more than half their value in 2000-2002 and 2007-2009. Rather, the key lesson to draw from recent market cycles, and those across a century of history, is this:

Valuations are the main driver of long-term returns, but the main driver of market returns over shorter horizons is the attitude of investors toward risk, and the most reliable way to measure this is through the uniformity or divergence of market internals. When market internals are uniformly favorable, overvaluation has little effect, and monetary easing can encourage further risk-seeking speculation. Conversely, when deterioration in market internals signals a shift toward risk-aversion among investors, monetary easing has little effect, and overvaluation can suddenly matter with a vengeance."

We know markets usually fall a lot faster than they rise, especially when everyone is on one side of the boat and there is heavy leverage involved. Is this the wash out moment to cleanse the mal-investment over the past 7 years? Will the Fed step in with an announcement to launch stocks higher into the realm of absurdity? I have no idea. What I do know is that U.S. stocks this morning are still a long, long way away from being undervalued. We'll see if the market can finally bring us back to a rational entry point for buying.

My guess is you are unlikely to see experts on CNBC today "so bullish it hurts."

Thursday, August 20, 2015

The Rise Of Currency Hedged ETFs

Money tends to follow and pile into the trade that is working now, at least in the short term. One of the best trades this year has been to purchase stocks in regions of the world still employing quantitative easing (Japan and Europe) with your currency position hedged. In other words, capture rising stock markets while protecting your exposure to their local currency declining in value against the U.S. dollar.

Investors have rushed into ETFs that employ this strategy. The following shows the rise of "currency hedged" ETFs, which reached $118 billion in size by July of this year. This is another great example of the extremely positive sentiment toward the U.S. dollar currently in place.

I personally do not like to buy into a trend that is already locked in place. I like to begin buying what I believe comes next (which usually means losses and the need for patience in the short term). I am looking toward emerging market bonds and currencies today; the part of the world everyone is running full speed away from.

Tuesday, August 18, 2015

History Shows The Fed Raising Rates Is Bearish For The U.S. Dollar

Market participants believe the Federal Reserve will increase interest rates at one of their remaining 2015 meetings, and many assume it will come in September. They also believe and are betting with their portfolios the rate increase will result in a continued move higher in the U.S. dollar index after the spectacular rally we saw from 80 up to 100 over the past year (see red line in chart below).

History shows the Federal Funds Rate does not correlate with U.S. dollar strength or weakness. Not only that, the last three times the Fed began increasing rates after an easing period the U.S. dollar index fell (see shaded areas below). The most notable period occurred in early 1990's when the Fed steadily increased rates from 3% to 6% and the U.S. dollar fell the entire time.

Does this mean this U.S. dollar will fall if the Fed raises rates this fall? No, it just means the act of tightening has no historical correlation on which way the index will move. The U.S. dollar index may very well continue its bullish march higher, similar to what occurred in the late 1990's after the initial brief decline (highlighted above).

I believe a rate increase by the Fed has been "priced in" with the massive move higher in the dollar over the last year. How the market will respond will be determined by what the Fed says comes next. There is a widespread bullish conviction the dollar will continue to move (much) higher from here. I like to take bets against those types of trades when I believe the underlying asset has long term fundamental flaws (the flaw being the United States is bankrupt backed by treasury I.O.U.'s which are backed by an electronic printing press).

There is also the outside possibility the Fed will not raise rates this fall. Should that occur, with every living person on the planet positioned and betting heavily on a rate hike (long the dollar), I believe you will see a significant decline in the dollar over the next 6 months as there will be a rush to unwind those bets.

I have already begun to move a portion of my U.S. dollar cash holdings into currencies that have been decimated, and I will continue to move more if the U.S. dollar strength continues.

See: Emerging Markets Destroyed & Hated: Buying Opportunity?

Sunday, August 16, 2015

What If Money Printing & Additional Supply Caused Bond Prices To Fall?

There is a consensus view around the world from market participants, governments, business leaders and everyday working citizens that the worst is far behind us. Many stock, real estate and bond markets around the world are sitting at or close to all time record highs. Simultaneously, commodities have crashed and fallen to 13 year lows. This is exactly the environment central banks and government leaders want for two main reasons:

1. Commodities make up a much lower percentage of the average citizen's balance sheet (usually 0%), while the big three (stocks, bonds, real estate) make up the majority. Individuals feel the "wealth effect" of rising financial assets which makes them more likely to consume more and stimulate the economy.

2. Commodities are the initial input price that makes up the cost of living (energy, food, clothing, etc.). Lower commodity prices provide individuals with additional money every month to spend or invest. They also lower the cost side of corporate balance sheets which pushes profits higher.

Asset prices rising (good inflation) and commodities falling (good deflation) create a nirvana for the financial markets and the economy. That is exactly what we have experienced since mid 2011.

Central banks have lived in a fantasy world since since 2011 where additional money printing has lowered bond yields, pushed up stock and real estate prices and pushed down commodity prices. This is why central banks are widely considered godlike creatures today. Their every movement, spoken word, or action is followed, studied and worshiped.

Over the last 35 years stocks, bonds and real estate have taken turns being the darling asset within investor's portfolio. I believe there will be a time at some point this decade when cash is the most coveted asset in the world. Many believe cash was the most valuable asset during 2008 when stocks and real estate were crumbling simultaneously, but what most forget is long dated U.S. treasury bonds rose by 27.1% that year and 22.5% in the fourth quarter alone!

People did not collectively rush to cash, they rushed to the safety of the U.S. government.

2008 marked the end of the worldwide real estate bubble and the beginning of the bubble in government bonds. Please understand I believe most real estate markets are once again sitting at incredibly absurd prices and will crash heavily during the next downturn, but they are not the main focal point of the current global asset bubble. Robert Shiller had the following to say in the third edition of his book Irrational Exuberance:

"During bubbles, it seems that the psychological ambiance is rather one of public inattention to the thought prices could fall, rather than firm belief that they can never fall."

For more on this see - Irrational Exuberance: Robert Shiller Discusses The Bond Bubble

While some people are (correctly) talking about a bond bubble; investors don't care. Holding 40%, 60%, 80% or more of your portfolio in government bonds is considered prudent asset management at a time when yields are sitting at all time record lows (bonds are prices higher and more dangerous than any point in history).

The coming decline in government bonds will be important for many reasons. Investors collectively believe if the economy slows down or the stock market falls, central banks will enter the market to "ease" monetary policy, which in today's 0% interest world means additional QE.

But how does that process look in a world where bonds are in a secular bear market? What if adding to the money supply made investors question the quality of the underlying currency of that bond market? What if adding additional government debt (adding to the supply of bonds) made investors question the price of the bonds they held? This will only occur when investors see bonds can lose principal, something that has not occurred on their 401k or balance sheet since 1982.

Investors have become so complacent they forget supply and demand fundamentals can even exist in the bond market. Remember when there was no price too high to pay for real estate in 2005 because there was a "limited" supply of land. Remember when there was no price too high to pay for technology shares in 2000 because there was a "limited" amount of shares available to purchase? Here's an excellent quote from David Einhorn on 25iq this week:

“At the top of the bubble, technology stocks seemed destined to consume all the world’s capital. It was not enough for all the new money to go into this sector. In order to feed the monster, investors sold everything from old economy stocks to Treasuries to get fully invested in the bubble. Value investing fell into complete disrepute.”

What's even more insane is there is no actual limit to the amount of bonds that can be issued. At least with real estate, bitcoins, tulip bulbs, etc. there are some actual supply constraints. In the bond (and stock) market, governments or corporations can create an unlimited amount of additional supply with a simple keystroke.

What if the next downturn is triggered by falling bond prices and the central bank and government responses (additional debt and printed currency) only push those bond prices down further, thus creating a reinforcing downturn in stocks and real estate which are currently artificially supported by artificially low interest rates? 

That last paragraph is so terrifying to most people they just say "that can never happen." Not only can it happen, it is the most likely scenario based on the current levels of global debt and price of financial assets (stocks, bonds and real estate) that reflect the belief debt and money printing only bring economic panacea with no consequences. When people ask, "what is the end game?" That's it. There will be generational opportunities to buy assets on sale during the coming panic and chaos.

Thursday, August 13, 2015