by Gary North
by Gary North
The phrase, "blood in the streets," refers to economic panic. Wise investors say they will buy stocks when there is blood in the streets. This means panic. It refers to a final sell-off, when fear trumps greed.
We are nowhere near that stage today.
What about a bull market? The Dow Jones Industrial Average peaked at 14,000 in October 2007. How long will we have to wait for (say) Dow 17,000 — twice what it is today?
Let me review a long-forgotten time period. On February 6, 1966, the Dow Jones Industrial Average exceeded 1,000 briefly and closed just below 1,000. It then started down. It closed at 777 on August 13, 1982. During that time, consumer prices tripled. So, the comparable Dow figure was about 260.
Yes, there had been dividends, but these were taxed as ordinary income. Top marginal tax rates were 70% until 1981. So, the stock market was a gigantic sinkhole for 16 years. It lured in the suckers by going up and down, but through the Presidencies of Johnson, Nixon, Ford, and Carter, the stock market went down.
The supposed experts in the stock market today are bullish. This is the report of Mark Hulbert, who makes his living by reading investment newsletters and reporting on them. (If I believed in reincarnation, I would conclude that Hulbert was a very bad person is his previous life . . . or else a very good tortoise.)
The Dow Jones Industrial Average closed at 7,552 on November 20. Experts are now saying that this was the bottom. Hulbert offered this analysis on January 6.
To give you an idea how quickly this emerging consensus has been formed, consider the Hulbert Stock Newsletter Sentiment Index (HSNSI). This index represents the average recommended stock market exposure among a subset of short-term stock market-timing newsletters tracked by the Hulbert Financial Digest.Hulbert says that he is skeptical that this is a new bull market. There are too many bulls in the newsletter industry. They switched from bears to bulls too fast.
On Nov. 20, HSNSI closed at minus 18.9%, which meant at that time that the editor of the average short-term market timing newsletter was recommending that his clients allocate 18.9% of their equity portfolios to shorting stocks. As of Tuesday night, in contrast, the HSNSI stood at 43.5%, or 62.4 percentage points higher.
Blood in the streets? In the big banks, yes. In the financial services industry, yes. But not where the investing public lives. Not yet.
Most stocks are owned by retirement funds, mutual funds, and individual investors. Most Americans do not have retirement programs. Only about 20% invest in stocks directly. The general public does not shape the capital markets directly. Then who does? People with discretionary income. So, I like to find indicators for how well they are doing.
Here is one indicator I watch: yuppie restaurants. These became upscale family restaurants when the yuppies got married. This shift in marketing began over 20 years ago. I mean places like Chili's, Red Lobster, Olive Garden, and TGI Fridays. There are places nobody needs to go to eat a meal. They are social gathering places. They are family restaurants for people with extra money. It's not like going to lunch at McDonald's to save time. It's a way to pay more than you need to in both money and time. Bennigan's went bust last August, but I have thought Bennigan's stank for two decades. I stopped going there 20 years ago when, every time I ordered a particular Mexican meal, it was cold.
Consider Chili's stock. It has the best ticker symbol on the New York Stock Exchange: EAT. It was $15 a year ago, $24 last June, $22 in September, a little under $5 in December, and is now a little over $10. In other words, it crashed for two months. It has come back. A similar pattern exists for Darden, which owns Red Lobster and Olive Garden. Its symbol is DRI. It was at $38 last May, bottomed at about $13 in November, and is at $26 today.
The American investing public is not in panic mode or anything like it. Yes, they are discouraged. They have seen their investments fall. If they were willing to face reality, they would conclude that they will not be able to retire. They would be saving like mad. But they aren't. In the second quarter of 2008, there was a reversal of the trend, which was zero household thrift or even borrowing. That has changed. American households are now saving, at maybe 3%. This is not where it ought to be: at least 10%, where it was in 1982. But there has been a reversal.
They are not cutting back on entertainment spending. If the economy were in a serious crisis, middle-class family restaurants would be upper middle class. They would be nearly empty except for singles on the weekends. They would be on the road to Benniganland.
A stock market bull would conclude that happy days are here again, and never really departed. "The recession has been long, but it is not deep. It will be over soon."
Is the crisis over? Was it merely a matter of a few bad months for restaurant shares? I don't think so.
ENGINES OF GROWTH
The stock market bull should be able to identify sectors that are ready for a major turnaround. What might these be?
The experts are silent. They tell us that stocks in general are going to rise. This means that the economy in general is going to rise. But business sectors do not rise at the same rate. Some begin rising first. So, which sectors are these?
The interviewers on Tout TV and in the investment magazines are always trying to get something specific out of the experts who are silly enough to consent to an interview. "Which stocks should people be buying?" They asked this in late 2007, and everyone had lots of suggestions . . . most of them wrong. These days, they are almost closed mouth. They are all tentative. They just aren't sure.
How can the stock market in general rise unless some specific stocks rise faster than others? Which are these? Nobody knows.
Then why should we believe that the market indexes will rise?
These people think in aggregates. "A government deficit in general will push up the economy in general leading to stock market increases in general." Yet it is relative prices that matter — in every area of the capital markets.
If the economy has bottomed, then we should buy financial shares. These have been hammered. A few speculators are saying this. But which financial institutions? Are all of them out of the woods? Or is there another Wachovia on the horizon? Another Washington Mutual? Another Citigroup in need of a bailout?
If the financial sector is about to rebound, why are we still being told that banks will not lend? If the bankers are in panic mode, where will they invest any new money? Treasury bonds? Probably. But how does that get the economy booming again?
As I have said repeatedly, Nancy Pelosi will be the ramrod of Keynesian deficits this year. Obama will not set the agenda. Over the weekend, he said as much. In a Sunday interview with George Stephanapoulus on ABC TV, he said he will not dictate to Congress. It will be a joint effort.
Consumer confidence is low, but consumers are still spending. They have not yet begun to stop all new discretionary spending. They will. First, this recession must get worse. Unemployment must rise. They will.
The pundits before said unemployment might rise to 8%. Now, with unemployment at 7.2%, they say it may peak at 9%. When it is at 8%, they will predict "over 9%." The really gutsy ones will say 10%.
I have been saying 10%. It may go higher.
The consumers cut back at Christmas. The experts said this would happen, but there was actually a decline over 2007, which was not expected. The discounts were not enough. Now the bills for December are coming due. This month will be the month when consumers finally say, "We've got to cut back." It's like saying on January 2, "I've got to take off ten pounds." It's easier said than done. If they are serious, January will be a bad month for retail sales, and February will be worse.
The word on the state of manufacturing in December is grim. This is from the Institute for Supply Management. The situation is worse than anything since 1980, and before that, we have to go back to 1949 to find anything comparable.
Consider Ford Motor Company, the sole member of the Big 3 that did not take funding from the government. Ford's senior economist says that the forecasts on falling car sales are "a little below us." Then where is the good news? The coming stimulus, she says. But why should anyone buy a new car with any tax rebate? Because the average age of a car on the road is nine years, she says. "There is replacement demand out there that is being put off. There is an economic cost to operating an older vehicle."
So, I went to Google and looked up "cars," "average age," and "wiki." I got to "Passenger Vehicles in the United States." There, I learned that the median car age was 8.9 years in 2005. So, there is no significant different between then and now.
Is this woman serious? Does she believe that anything has changed in terms of the age of cars? Doesn't she know, as the Wiki article reports, that median age has increased for a decade? People drive their cars longer.
Does she want us to believe that paying (say) $2,000 a year in repairs is a burden, but paying $17,000 to $37,000 for a new car isn't? What kind of fantasy world is she living in?
The automobile market is in a depression — the word she says she does not want to use. It does not matter what her vocabulary preferences are, the auto market is in a worldwide depression except in China, where sales are still rising at 6% — lower, but positive.
The auto market is rivaled by the housing market. Mortgage rates are falling, but the money is being loaned mainly to people with good credit who are re-financing their homes. A re-financing loan does nothing to increase the sale of homes.
How bad is the housing market? Bad, and getting worse. One site covers this best, Patrick.net. From all over the country, Patrick posts articles on housing. I think it is safe to predict that housing prices nationally will fall another 20%. It depends on the region. But with a major recession in progress and no light at the end of the tunnel for 2009, what else should I predict? The housing market is not expected to recover until sometime in 2010. The optimists hold this view. The pessimists stretch it out to 2012.
There is no panic yet. There is no blood in the streets. There will be. Be patient.
Red ink is everywhere, all over the world. Governments are running huge deficits, though none so huge as the United States. Central banks are buying debt of all kinds and thereby are expanding their balance sheets. These serve as legal reserves for the commercial banks. This high-powered money will be used by the banking system to make loans. The money will be lent. Bankers pay interest to depositors. They must earn interest.
The result will be monetary inflation, which will produce price inflation. Consumers today are cutting back. They are adding to their savings, slowly. They are putting money into banks. This will force bankers to lend.
At some point, probably before 2009 is over, price inflation will revive. The only way that Keynesians think is "deficits," and then they look for lenders. This means central banks. Today, they worry about price deflation. They do not worry about the consequences of vast increases in the monetary base.
Economists of every school except the Austrian School are recommending huge public spending programs. At the most recent annual meeting of the American Economic Association, where academic economists meet to try to get better jobs and listen to boring lectures, the message was clear: spend, spend, spend. The New York Times reported:
At their last annual meeting, ideas about using public spending as a way to get out of a recession or about government taking a role to enhance a market system were relegated to progressives. The mainstream was skeptical or downright hostile to such suggestions. This time, virtually everyone voiced their support, returning to a way of thinking that had gone out of fashion in the 1970s.
"The new enthusiasm for fiscal stimulus, and particularly government spending, represents a huge evolution in mainstream thinking," said Janet Yellen, president of the Federal Reserve Bank of San Francisco. She added that the shift was likely to last for as long as the profession is dominated by men and women living through this downturn.
There will be no criticism from economists about the $1 trillion Federal deficit, any more than there has been criticism of the trillion dollars in new monetary base expansion created by the Federal Reserve System.
Red ink is being funded by green digits. The Federal Reserve System has pulled out the stops. The Federal government has, too.
Red ink is flowing because politicians, economists, and central bankers believe that boondoggles are better than unemployment. They believe that fiat money is a substitute for capital creation. Capital creation requires increased thrift, and we have been told by Keynes that thrift is destructive in a recession, let alone a depression. We must spend ourselves into prosperity.
It will not work. The unemployment rate will rise, home prices will fall, sales of new cars will fall, and the manufacturing sector will continue to decline.
At some point, there will be blood in the streets. Investors will give up hope of ever getting their money back in the stock market. That will be a time to buy . . . Asian stocks.
The bulls think that the worst is behind us. But they cannot point to any sector of the economy and say, "That's the engine that will pull us out of the recession." There is vague confidence that the market will rise, but no confidence that the sectors that provide job growth will rise. So, they want public works projects as a stop-gap. This is a replay of the Great Depression. It took World War II to persuade people to put up with price controls, thereby allowing the FED to inflate.
What will it take this time?
January 14, 2009
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