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This pages is not investment advice. The authors are not responsible for any losses arising from following any strategies described on this page. All investment advice must take into account the personal circumstances of the investor. The authors of this page do not know the circumstances of any person reading this page so are not in a position to offer advice, even if licenced to do so, which they do not claim to be.

There are many macro considerations to investment. This article notes and overviews some of them. Each is worthy of separate page.

Six great resources:
Business Cycle Monitor slideshows
D Short - Great historical charts and context
Mark J Lundeen articles
Yahoo International indexes with technical analysis
Incredible Charts ASX Share Prices

Consider changing your buy/sell/hold position when any of the following happen. If you expect a major decline the main countercyclical investments are long term government bonds (because interest rates are lowered in recessions) and sometimes physical gold (and sometimes gold futures). Also consider currency exposures - in a recession the US is often a strong safe haven and the AUD (Australian Dollar) weak as it is significantly weakened by falling commodity prices:

Big Cycle Buy/Sell Signals
Indicator Buy Sell Comment
PE (Trailing Twelve Months)
SELL
10, 11 or 12 20 or over Losses and dramatic reductions in earnings mean the PE has blown out to meaningless numbers eg 151. The PE could reduce through an increase in earnings, or through a fall in stock prices. At 20 Oct the PE on traiing twelve month earnings is 138.1 times - useless as an indicator. As PEs are partly dependent on the yields on alternative investments like 10 year bonds, the buy and sell indicators to the left are not particularly helpful for determining buy or sell for medium term cycles that occur within the longer term trends on which the Buy Sell numbers at left are based.
PE10 - Ten Year Trailing Earnings
SELL
10, 11 or 12 20 or over

20.1 at 30 October 2009
Shiller's analysis: Shiller's monthly real earnings have not been lower than for the month of December 2008 since August 1948.[1]
The PE10 yield based on Shiller's spreadsheet is 15.69 as at May 2009. A PE10 around 15 is not a clear signal either way. However D Short's analysis of PE10 raises two major concerns:
1) Every time the P/E10 has fallen from the first to the fourth quintile, it has ultimately declined to the fifth quintile and bottomed in single digits. This time we have not yet got to the fifth quintile nor to single digits.
2) Major secular declines have ranged in length from over 19 (sic - s/b 23) years to as few as three. Ignoring 1920 to 1935 when 3 out of 4 ups or downs were less than 6 years, all other ups and all other downs since 1885 have been longer than 15 years. The current decline is now in its ninth year, so could have another 4 to 14 years to go to get to single digits in the fifth quintile. There may be major rallies which don't reach the 2007 high between now and the secular bottom.


I am concerned that graphing Shiller's PE10 and index value is misleading. An alternative investment to shares is Government bonds, of, say, 10 year duration. Bond prices go up and down as long term interest rates change, just as the price of shares varies up and down at times. Bond yields have to be attractive taking into account the prevailing rate of inflation and inflation expectations. During the period 1972 to 90 inflation was relatively high (generally over 7.5%) but in recent years inflation has generally been below 3.5%. Bond yields (and the PE that can be derived from the yields) varied with inflation. If Bonds are yielding say 14 or 15% as they did in Australia at some point in the 1970's when inflation was high, shares must yield around the same, perhaps a bit lower because of expectations of capital gains to offset a slightly lower earnings yield, so PE of shares was around 7. So perhaps what matters is not the absolute level of Shillers PE10 but its relativity to say 10 year bond yields.


The 10 year average earnings used by Shiller at various year ends have been:
1990 33.18, 1995 34.23, 2000 43.91, 2005 51.91 and 2008 58.11
For the next 25 months the Shiller average will be dropping real earnings values in excess of 50, compared to the Dec 08 average of 58.11.
3 months after that it will go for 22 months dropping off real earnings below 40.
So, for 30 months the average earnings for Shiller's calculations are likely to be quite steady to falling as the real earnings dropping off are likely to be similar to, or maybe even higher than, the real earnings being added in, but after 30 months the Shiller average earnings should start to show a rapid increase as lower values of real earnings drop off the series.

PE10 Stocks to PE10 Bonds
Soft BUY
Consider buy when Bond PE10 (inverse of yield of a 10 year bond) is more than 1.1 times the PE10 of stocks. (valid since about 1960) Consider sell when Bond PE is less than 0.8 times the PE10 of stocks

At end 2009.12 the ratio was 1.26.

Consider the PE10 Stocks to PE10 Bonds in conjunction with price trends and other indicators.

After a severe stock market shock it would be expected to take some time for investors to accept a ratio less than 1 because of concerns of a double dip, emerging inflation and increasing interest rates.

There have been dramatic changes in this ratio over long periods of time. For most of the period before WW1 Bonds were highly favoured over stocks based on the comparative PE's or yields. There was great fluctuation from 1918 to 1959, the period of two world wars, a depression, the Korean War and the start of the Cold War. Since 1960 stocks have generally been preferred except at times of great bear markets.

Monthly level of PE10 Stocks to PE (Trailing 1 year) Stocks
Soft BUY
Consider buy when ratio exceeds 1 and declines compared to last month (consider using declines in 2 consecutive months to lessen whipsawing). Consider sell when ratio is below 1 and increases compared to last month (consider using increases in 2 consecutive months to lessen whipsawing).

At end 2009.12 the ratio was 1.04.

When earnings collapse the trailing 1 year PE increases dramatically but the PE10 moves only slightly by comparison. Similarly when earnings are increasing rapidly the PE movves quickly but the PE10 moves much more slowly. These differences in quantum of change for a single change in earnings mean that the relationship between the two PE's is not constant. This is most easily seen by graphing them using Shiller's spreadsheet data and using additional formulae in columns to the right, then graphing the results over time. Consider this indicator in conjunction with other indicators. In March 2009 the ratio was 8.1 and fell to 7.9 in April 09 - that fall was the buy signal to get back in to the market.

Yield curve
NOT A SELL
Historically low 3 month, 6 month, 1 year and 2 year rates Inverse: short (<3 month) term rates being higher than longer (10 or more years) rates This dynamic yield curve shows how stock markets move as yield curves change.
NY Fed Recession predictor
NOT A SELL
Chance extremely low (but this is its normal state so not really a good BUY indicator alone) Predicts recession The NY Fed's recession predictor has a good record since 1960 and is based on the spread between 3 month and 10 year treasuries.
10 Year rolling return including dividend
BUY
(But Check for 20 year rolling return.)
Negative Greater than 15% D Short analysis In the last 140 years there have only been a total of 19 years where if you bought during that year and held for 10 years you would have negative returns. 10 of those years were from 64 to 74. Another 5 were from 1908 to 1913. In April 2009 the return from an investment made 10 years ago is -5.9%, the lowest it has been in 140 years. While this actually says that the market has had a really big fall from 10 years ago - 10 years ago was the top of a huge bull market - it is also an indicator of the depth of the fall. The deeper the fall, the more likely it is to be a buying opportunity.
On the 20 year rolling return basis, it is not so clear. There have been 30 years where the 20 year returns are less than 5%. Of these periods, virtually every time the 20 year rate of return dipped below 5% it continued to fall until it got below 2%. At April 09 the 20 year rolling return has fallen to 4.8%. Does this mean that the market has to fall more over the coming few years to work out the excesses of the market?
Dow Yield
SELL
Greater than 6% Less than 3% (per Lundeen) (or should it be 3.5 when one sees how small a time yields have been less than 3%)


Annualized dividend yield on US S&P 500 is 2.19% and the indicated rate 1.97% (The indicated dividend is the estimate for the next four quarters, based on what was paid in the most recent period). 10 year US treasury bonds are 3.392% on 30 October 2009.
In Australia on 20 October the PE for Australian All Ordinaries was 14.46, the Dividend Yield was 3.73 and the yield on the 10 year government bonds was 5.45 on 3 November. %.45 as a PE is18.35. Shares are notionally cheaper than 10 year bonds on a PE basis, perhaps reflecting perceived risk of shares at present.

Based on Mark Lundeen's analysis Stock Market Earnings & Dividends - Wealth is Fragile in 2009, it's a "Policy Thing"
As at 09 May 2009 Average Dow yield is according to 3.11% (2.1% for S&P500, 0.76% for Nasdaq Top 100) IndexArb. US Treasury 5 year notes are 2.145%.
This has not been a good indicator since 1987. Anyone selling in 1987 would have missed two very big bull markets in the runs up to 2000 and to 2007. Was there a long lasting movement in the boundaries eg to Sell at less than 2% yield, buy at more than 4% yield? But then when people start saying it is different this time it is generally a bad sign for things to come in say 6 to 12 months!


Again, the yield needs to be related to long term bond rates applying at the given time. A 6% yield implies earnings of about 12% which implies bond rates of about 10% which is so far removed from today's market conditions as to be of limited use for meidum term cycles.

Moving averages
BUY for Investment (FROM ABOUT 20 JULY 09)
10 day moving average crosses higher than 100 day moving average OR 26 week crosses higher than 52 week OR 40 day crosses higher than 80 day 10 day moving average crosses lower than 100 day moving average OR 26 week crosses lower than 52 week OR 40 day crosses lower than 80 day. Google spreadsheet from which is updated regularly for signals from Tactical Asset Allocation for the Masses
Check some moving average timing updates from D Short.
Previous - Most rapidly developing markets (Asian and South American) have a buy on 50 crossing higher than 100 but developed markets (like US, Europe, Australia, New Zealand) don't.
You can monitor 50, 100 and 200 on Yahoo (just select region > index > more > technical analysis and then select the averages and term you want to watch, then bookmark the chart, then select the next region/index and do the same. eg Australia
Most developed markets do however have a buy on 40 crossing higher than 80.

Different combinations have greater risks of either
(1) being whipsawn lots for "small" amounts and losing through transaction costs on the one hand or,
(2) on the other hand, suffering large losses while waiting for the sell signal or missing large rises while waiting for the buy signal.
Mebane Faber's paper shows the benefit of moving averages.
The 52-week/26-week crossover looks especially interesting for long-term investors willing to check their holdings weekly according to Quantitative Chart Screening for Trends by Richard Shaw of the QVM Group.

Looking at the record of the 40 and 80 day moving averages as at 18 May 2009 (and showing the number of false buy signals since the 2007 top in brackets) the following countries indicated a buy in the last month:
Ireland (0), Sweden (0), Argentina (1), Brazil (0), Canada (0), Mexico (1), USA (0), Australia (0), China (0), Hong Kong (1), India (0), Indonesia (0), Japan (1), Malaysia (0), New Zealand (0), Singapore (0), Korea (1), Taiwan (1), Austria (2), Belgium (0), Denmark (1), France (1), Germany (0), Italy (0), Norway (2), Spain (0), Turkey (0), UK (1).
These two are not a buy as the 40 has not crossed to above the 80:
Netherlands (2), Switzerland (1),Choose the SMA's or EMA's you use carefully, backtest them to see what happens in volatile periods, particularly with whipsawing where frequent false signals are given when a market moves sideways, but with significant volatility. An example in Australia was 1988 to 1993. Remeber also that losses from whipsawing are realised and reduce the capital able to be reinvested. SMA has worked very well in the Japanese market since the peak in 1990, but is more problematic in generally rising markets with sideways volatile periods.
6 month trend (but give greater weight to other sell indicators)
BUY
trend is rising reasonably consistently trend is falling reasonably consistently

Perhaps a 3 or 4 month trend would be preferable to a 6 month trend, particularly around major turning points.

The market has a long term average 80% chance of going the same direction this month as it did last month according to Tom Forest

Relative market index
BUY
35% or more below last cyclical high (switch to watching moving averages when it gets below 19%) within 15% of last cyclical high or higher (switch to watching moving averages when it gets within 15%). Read note about Japan.

The market rarely falls more than 40% from the last high. The only major exception is the crash of 29 which was after the most dramatic rise in history and largely fueled by debt. Most major cyclical bottoms are after falls of 35 to 55%. See "Ranking Bear Markets" below.


After the busting of a major bubble a market may not regain anywhere near its peak before it crashes again. The Japanese market's descent from the highs of 1990 to its low in 2009 is a classic case.

Regression to mean
NEUTRAL to BUY
40% or more below the mean real inflation adjusted) trend line. 50% or more above the mean real inflation adjusted) trend line. The US stock market has only spent about 39 of the last 138 years more than 40% below the inflation adjusted mean when the official CPI statistics are considered. In May 2009 the market is barely above the long term official inflation adjusted mean, so it is not a clear buy signal.
However in 1982, the Bureau of Labor Statistics began incorporating changes to the Consumer Price Index (CPI), which is used to calculate inflation. Using a consistent methodology for inflation the market is 57% below the mean. It has only been more than 50% below the mean for 3 of the last 138 years. See this in chart form from D Short
Volatility 70% advance of decline days
CAUTION
No or very few days on which the stockmarket has 70% of stocks advance or decline. Frequent days on which the stockmarket has 70% of stocks advance or decline.


Mark J Lundeen shows that high volatility (2% movement either way days in an 8 count) and big ratios of advance or decline indicates a bear market. Lundeen article on Advance Decline ratio

Overbought/Sold (Percentage above/below 200 day sma)
CAUTION
DJIA was recently more than 15% above 200 day sma.
More than 15% above the 200 day SMA. Since 1968 it has been above 15% over only 15 times. It has been above 20% only 6 times, 5 out of the 6 in the period '68 to '88. Below the 200 day SMA. Since '68 it has been 20% below the 200 day sma only 6 times. There have been major buying opportunities when the market has only been oversold by 5%. On both the buy and sell sides you need to also look at whether the market is bouncing along a top after a long and large rise (or a bottom after a large fall), whether the 200 day SMA is rising, falling or flat and whether the yield curve has been falling, rising and /or flattening/inverting, and how long since a significant bear market (say about 20% or more fall).

Consider using a Stochastic indicator to assist in decision making.
Tobin q
SELL
below 0.6 above 0.9 Currently a sell as the measure is around 1.
A measure of the ratio of the stock market value to net corporate assets at replacement cost. A chart of the ratio does not show it to be a godd indicator for turning points in medium term (3 to 5 year) trends in stock markets. Another method of looking at Q is to plot it against it's own average. Based on this approach the US market is said to be overvalued 50% in July 2010. Smithers also plot Shiller's CAPE against its own average and come to a similar conclusion. http://www.smithers.co.uk/page.php?id=34
http://en.wikipedia.org/wiki/Tobin%27s_q
Forward PE
SELL
8 or less 15 or over The Forward PE takes into account earnings that do not include write offs and other adjustments included in reported earnings. Also forward earnings are closely correlated with mere extrapolation of recent earnings (adjusted a bit for unemployment and whether earnings are at historical highs). It is argued by John Hussman that PMI is a better indicator of future stock prices than analysts etimates of forward earnings. The long term average Price to Forward Earnings is 12
http://www.hussmanfunds.com/rsi/earnecondiverge.htm
PEG Ratio
SELL
below 1.0 above 1.5 The market as a whole is a sell, but this is really a stock picking tool based on assumed continuation of growth making up for a high PE ratio based on past earnings.
The PEG ratio can offer a suggestion of whether a company's high P/E ratio reflects an excessively high stock price or is a reflection of promising growth prospects for the company.
http://en.wikipedia.org/wiki/PEG_ratio

NB. Annual earnings are not necessarily a great indicator. In the early 30's markets rose as earnings fell. This affects annual PE's too, which is why Shiller uses 10 years earnings for a PE10 based on 10 years earnings. If earnings and PE seem out of kilter (too low compared to stock prices) they can come back into line from either rising earnings or a falling market. If the market is at historical highs it might be more likely the market will fall, if the market and earnings have had a very large fall, it might be more likely that the earnings might rise.



Valuation

A quote from John Hussman of Hussman Funds:
(START QUOTE)
Consider the following conditions: 1) market valuations above their historical norm by any amount at all - for example, a dividend yield on the S&P 500 anything less than 3.7%, and; 2) The 10-year Treasury bond yield and the year-over-year CPI inflation rate higher than their levels of 6 months earlier (regardless of whether their absolute levels have been high or low).

If you look at market history since 1940, this condition has been in effect nearly 20% of the time. Yet this set of factors alone has made an enormous difference in the returns achieved by the market. When the above conditions have been in effect at the same time, the S&P 500 has actually lost ground on a price basis, and has delivered an annualized return of just 0.28%. In contrast, when those conditions have not been in effect, the market has advanced at an average annualized rate of 14.94%. Of course, these averages mask a lot of volatility, but it is clear that even the most basic combination of low stock yields and rising yield pressures is hostile to total returns.

To the above conditions, if Treasury bill yields are also higher than 6 months earlier (again, regardless of the absolute level of yields), the annualized return drops to -0.83%. Add a discount rate higher than 6 months earlier, and the annualized return drops to -2.22%.

Now add overbought conditions (say, a 12-month advance in the S&P 500 of greater than 30%), and the annualized return turns sharply negative, to -39.17%. Overvalued, overbought, conditions with rising yield pressures are trouble. Given those conditions, excessive bullishness only worsens the situation. Now, this combination of conditions has never persisted for an entire year, so the actual loss sustained by the market is not so extreme, but suffice it to say that the typical loss has been in excess of 10%. Based on the current overbought status of the market, there are only three similar periods that we can identify in post-war data: August-October 1999 (which was followed by an abrupt air pocket of greater than 10%), September-October 1987 (no comment required), and September-December 1955 (which was followed by a 10% correction, a brief recovery, and a secondary decline to re-test the initial low). (END QUOTE) [2]




IntroductionEdit

As at 6 March 2009 we were in week 73 of a bear or super bear market. Falls in stockmarkets of over 50% since the peak are very common. The MSCI performance tables show every developed country has a fall in its stock market ranging from 40 to 77%. This was preceded by a boom in asset values for stocks, shares and commodities which was fueled by an explosion in private debt as evidenced by the growth in private debt and increasing ratios of debt to GDP and private debt to GDP for most developed countries. In Australia for example, the household debt binge, which began in 1991 in the depths of Keating’ recession, took the household debt to GDP ratio from 30% to a peak of 99%.[3]

The outlook in the real economyis well summarised by Jim Welsh of Welsh Money Management quoted in John Maudlin's Outside the Box issue of 4 May 2009.

Some Economic IndicatorsEdit

See the article by Eichengreen & O'Rourke originally entitled 'A Tale of Two Depressions" at:
http://www.voxeu.org/index.php?q=node/3421

Stock prices - many leading indicator series include the stock market as a leading indicator of economic conditions, but that's not much help if you are looking for a leading indicator of the stock market. When looking at aseries which claims to be a leading indicator it is important to know whether the rate of growth of stock prices is included in deriving the valuation of the indicator.

Composite Recession IndicatorsEdit

John Hussman used the following 4 indicators in 2007 as predictors of recession:

1) The "credit spread" between corporate securities and default-free Treasury securities becomes wider than it was 6 months earlier. This spread is measured by the difference between 10-year corporate bond yields and 10-year U.S. Treasury bond yields (or alternatively, by 6-month commercial paper minus 6- month U.S. Treasury bill yields). This spread is primarily an indication of market perceptions regarding earnings risk and default risk, which generally rises during recessions.


2) The "maturity spread" between long-term and short-term interest rates falls to less than 2.5%, as measured by the difference between the 10-year Treasury bond yield and the 3-month Treasury bill yield. A narrow difference between these interest rates indicates that the financial markets expect slower economic growth ahead. If the other indicators are unfavorable, anything less than a very wide maturity spread indicates serious trouble, regardless of unemployment, inflation, or other data.


3) The stock market falls below where it was 6 months earlier, as measured by the S&P 500 Index. Stock prices are another important indicator of market perceptions toward credit risk and earnings expectations. While the economy does not always slow after a market decline, major economic downturns have tended to follow on the heels of a market drop. Stock markets tend to reach their highs when the economy "cannot get any better" -- unemployment is low and factories are operating at full capacity. The problem is that when things cannot get any better, they may be about to get worse.


4) The ISM Purchasing Managers Index declines below 50, indicating a contraction in manufacturing activity. This index is strongly related to GDP growth, and when combined with the previous three indicators, has signaled every recession in the past 40 years. (In July 2010 John looked at the ECRI Weekly Leading indicator as a possible substitute for the PMI)

Individual IndicatorsEdit

http://www.businesscycle.com/resources/ ECRI Weekly Leading Index rarely if ever goes below about -5 without a recession occurring within a few months

Purchasing Managers Index (PMI)

Credit growth

Money supply Growth

M1 M2 M3 Velocity (a private M3 guesstimate as the US Government no longer publishes M3)

http://www.consumerindexes.com/ from Consumer Metrics

Baltic Dry Index of shipping rates for bulk dry goods (changes in effective capacity, mothballing old, or commissioning new, ships can also affect rates, not just underlying trade figures)

International trade

Shipping container movements through major ports

Changes in Job Adverts or employment

Retail sales (but when stores and chains are closing it inflates same store sales, so look at state sales taxes and adjust for changes in tax rates.)

Housing finance approvals, Housing approvals, Housing starts, Housing prices, Housing affordability

Office vacancies

Retail space vacancies

Housing vacancies

Interest rates

Inflation

Copper prices, Oil prices, Coal prices, Irron ore prices

Motor vehicles sales, particularly of domestically manufactured models

Change in growth or direction in fiscal budget

Hours worked

Average Weekly Earnings, Hourly rates, Overtime worked

http://www.businesscycle.com/resources/ ECRI Weekly Leading Index rarely if ever goes below about -5 without a recession occurring within a few months

Purchasing Managers Index (PMI)

Credit growth

Money supply growth: M1, M2, M3, Velocity, (M3 is a private guesstimate as the US Government no longer publishes M3)

http://www.consumerindexes.com/ from Consumer Metrics

Baltic Dry Index of shipping rates for bulk dry goods (changes in effective capacity, mothballing old, or commissioning new, ships can also affect rates, not just underlying trade figures)

International trade

Shipping container movements through major ports

Changes in Job Adverts or employment

Retail sales (but when stores and chains are closing it inflates same store sales, so look at state sales taxes and adjust for changes in tax rates.)

Housing finance approvals, Housing approvals, Housing starts, Housing prices, Housing affordability

Office vacancies

Retail space vacancies

Housing vacancies

Interest rates

Inflation

Copper prices, Oil prices, Coal prices, Irron ore prices

Motor vehicles sales, particularly of domestically manufactured models

Change in growth or direction in fiscal budget

Hours worked

Average Weekly Earnings, Hourly rates, Overtime worked

Basic Economic equations (identities)Edit

The thing to remember is that the government balance equals exactly $-for-$ (absolutely or as a per cent of GDP) the non-government balance (the sum of the private domestic and external balances). (G – T) = (S - I) + (M - X)

That means that, by definition, if imports and exports stay at the same level, all private saving (incl debt repayment) must be equlised by the government sector deficit. The balances are derived as follows. The basic income-expenditure model in macroeconomics can be viewed in (at least) two ways: (a) from the perspective of the sources of spending; and (b) from the perspective of the uses of the income produced. Bringing these two perspectives (of the same thing) together generates the sectoral balances.

From the sources perspective:
GDP = C + I + G + (X – M)
which says that total national income (GDP) is the sum of total final consumption spending (C), total private investment (I), total government spending (G) and net exports (X – M).

From the uses perspective, national income (GDP) can be used for:
GDP = C + S + T
which says that GDP (income) ultimately comes back to households who consume (C), save (S) or pay taxes (T) with it once all the distributions are made.

Equating these two perspectives we get:
C + S + T = GDP = C + I + G + (X – M)

So after simplification (but obeying the equation) we get the sectoral balances view of the national accounts.
(I – S) + (G – T) + (X – M) = 0

That is the three balances have to sum to zero. The sectoral balances derived are:

  • The private domestic balance (I – S) – positive if in deficit, negative if in surplus.
  • The Budget Deficit (G – T) – negative if in surplus, positive if in deficit.
  • The Current Account balance (X – M) – positive if in surplus, negative if in deficit.

These balances are usually expressed as a per cent of GDP but that doesn’t alter the accounting rules that they sum to zero, it just means the balance to GDP ratios sum to zero.

This is also a basic rule derived from the national accounts and has to apply at all times.

A recent Goldman Sachs pPaper says that:
Since the three sectors constitute a closed system, one sector’s borrowing must always be another sector’s lending. Hence, the three sectoral balances must sum to zero … private balance + public balance = CA balance.

So they wrote the identity as:
(S – I) + (T – G) = (X – M).
It doesn’t matter how you express it as long as you know what a deficit or surplus balance means.

From Bill Mitchell's derivation, we can also simplify the balances by adding (I – S) + (X – M) to get the non-government sector balance. Then you get the basic result that the government balance equals exactly $-for-$ (absolutely or as a per cent of GDP) the non-government balance (the sum of the private domestic and external balances).

(S - I) + (M - X) = (G – T)
If imports and exports stay the same, private saving must equal government deficits.

Acknowledgement: Bill Mitchell: http://bilbo.economicoutlook.net/blog/?p=10670#more-10670

Context of relative size of economies and growth ratesEdit

Major World Economies[4]
Rank in GDP Economy GDP (PPP) [5] % of World
EU as single unit
% of World
Countries
Growth 2008 (est) [6] Public Debt to GDP % 2007 [7][8] Private Debt to GDP % 2007 External Debt per Capita [9] [10] Current account balance
(% of GDP(PPP)) [11]
World 68,996,849 100 100 3.1
European Union 15,247,163 22.1 0.9
1 United States 14,264,600 20.7 20.7 1.1 60.80 292 [12] 44,651.12 -5.33
2 People's Republic of China 7,916,429 11.5 11.5 9.0 15.7 300.27 5.16
3 Japan 4,354,368 6.3 6.3 -0.7 170.4 17,489.81 4.96
4 India 3,288,345 4.8 4.8 7.4 58.2 195.54 -0.65
5 Germany 2,910,490 4.2 1.0 62.6 62,992.82 6.58
6 Russia 2,260,907 3.3 3.3 5.6 6.8 3,407.81 3.67
7 United Kingdom 2,230,549 3.2 3.2 0.7 47.2 146,687.09 -6.37
8 France 2,130,383 3.1 0.3 67.0 75,837.34 -1.63
9 Brazil 1,981,207 2.9 2.9 5.1 40.7 1,368.95 0.19
10 Italy 1,814,557 2.6 -1.0 103.7 38,698.60 -2.65
18 Australia 795,305 1.1 1.1 2.3 15.4 160 [13] 36262.24 -7.38
Top 10 74.70423468 62.54174738 62.6

Context of relative size of debt to GDP by sector of some major economiesEdit

Major World Economies Debt to GDP Position[14]
Country Government Households Non-Finance Finance Total Growth 2000-08
UK 52 101 114 202 469 10.2
UK adjusted 52 101 114 113 380
Japan 188 67 96 108 459 0.3
Spain 47 85 136 75 342 14.5
South Korea 28 80 115 108 331 10.8
Switzerland 37 118 75 84 313 4.5
France 73 44 110 81 308 7.7
Italy 101 40 81 77 298 6.3
US 60 96 78 56 290 8.1
Germany 69 62 66 76 274 2.5
Canada 60 84 54 47 245 6.1
China 32 12 96 18 159 15.1
Brazil 66 13 30 33 142 15.1
India 66 10 42 11 129 16.5
Russia 5 10 40 16 71 31.6
Australia 5.1 95.1 57.7 * 157.9 8
  • Australian figures from Prof Steve Keen (Debtwatch Blog: http://www.debtdeflation.com/blogs/) do not have breakdown between finance and non-finance business. The figure for Non-finance is therefore the figure for Business. Australian growth in total debt is not known but is an estimate pending final research.

IMF Sovereign Debt Analysis: The State of Public Finances Cross-Country Fiscal Monitor: November 2009Edit

The State of Public Finances Cross-Country Fiscal Monitor: November 2009[15]
Economy gross Debt Primary Balance Structural PB 1/ Structural PB in 2020-30 2/ Required adjustment between 2010 and 2020 2012 (My guesstimate - Not IMF)
Japan 227.0 -8.8 -6.9 6.5 13.4 244.60
Iceland 137.3 -2.3 0.4 4.8 4.4 141.90
Italy 120.1 -0.7 1.0 5.8 4.8 121.50
Greece 115.0 -2.0 -2.2 6.8 9.0 119.00
Belgium 102.7 -2.3 -0.4 5.3 5.6 107.30
United States 93.6 -8.1 -3.7 5.1 8.8 109.80
France 85.4 -6.2 -2.1 4.0 6.1 97.80
Germany 84.5 -2.3 -0.4 3.0 3.4 89.10
Portugal 81.9 -3.9 -2.9 3.6 6.5 89.70
United Kingdom 81.7 -10.9 -7.8 5.0 12.8 103.50
Canada 79.3 -3.5 -1.0 2.1 3.1 86.30
Ireland 75.7 -11.1 -8.2 3.6 11.8 97.90
Austria 74.9 -3.1 -2.1 3.1 5.1 81.10
Spain 69.6 -11.0 -5.8 4.9 10.7 91.60
Netherlands 68.8 -3.6 -2.1 1.4 3.5 76.00
Norway 67.2 8.6 9.2 10.5 1.3 50.00
Finland 48.1 -4.8 -2.3 0.5 2.8 57.70
Sweden 45.0 -4.5 -1.5 0.5 1.9 54.00
Korea 39.4 -1.0 0.3 0.4 0.1 41.40
New Zealand 30.2 -3.2 1.9 0.4 2.3 36.60
Denmark 26.9 -2.8 1.9 0.2 -1.7 32.50
Australia 22.7 -4.9 -3.4 0.3 3.7 32.50
The State of Public Finances Cross-Country Fiscal Monitor: November 2009[16]
Economy gross Debt Primary Balance Structural PB 1/ Structural PB in 2020-30 2/ Required adjustment between 2010 and 2020 2012 (My guesstimate - Not IMF)
Average (PPP-weighted) 102.1 -6.5 -3.3 4.5 7.8 115.10
G-20 Advanced economies 106.7 -6.7 -3.4 4.6 8.1 120.10
Higher debt 108.2 -6.9 -3.5 4.9 8.4 122.00
Lower debt 34.9 -2.9 -0.5 0.4 1.4 40.70

Investing at the top is a disasterEdit

There is virtually no point investing at the top of a bull market. Even the best performing sectors, economies and stocks fall during any significant global bear market. Even if some were not to fall, is there any reason to believe that you are the person who can pick them against the 10s or even 100s of thousands of professional economists and analysts?

Analyst buy and hold recommendations are highly unlikely to perform positively in a bear market. There are few examples of analysts correctly issuing a buy or hold recommendation during a bear market. Commentators like Jim Cramer on Money talk shows like CNBC can be very wrong in Bear Markets [17]

Crestmont's generation returns chart shows that even 20year rolling returns can be very small. Crestmont's secular bull and bear market profile chart allows you to see the PE ratios at the start and end of bull and bear markets.

Prieur du Plessis’s international investment blog has an article that provides further analysis and graphics support the idea that starting PE is important.

Grantham came to the conclusion that “the best case for caution and bearishness is value, which is a weak predictor of one-year returns, but a dynamic predictor of longer-term returns”.[18]


Consider increased exposure when the PE is 10, 11 or 12, consider reduced exposure when the PE is 20 or over.


20 Year Returns analysis[19]
Decile From % Return To % Return Decile Average Return Ave Begin PE Ave End PE PE Change Comment
1 1.2 4.5 3.2 19 9 -10 Buying at high PE's eg 19 and selling at low PE's kills your return
2 4.5 5.2 4.9 18 9 -9 When PE's are low eg 9 it is not a time to sell if you can avoid it.
3 5.2 5.4 5.3 12 12 0 March 09 the S&P is around 12 - you still need a high PE on exit to get better returns
4 5.4 6.0 5.6 13 12 -01 Some periods can provide reasonable return even when PE's fall slightly, because there has been strong nominal earnings growth
5 6.2 7.9 7.0 15 15 0 Even when PE's don't move you can get middle range returns
6 8.0 8.9 8.6 16 19 3 A small PE increase and good earnings growth gets you better than average returns
7 9.0 9.6 9.3 15 19 4 As the difference between entry and exit PE's increases postively you move into higher return deciles
8 9.7 11.0 10.4 11 20 9 Big increases in PE between buying and selling gets much better returns
9 11.5 11.9 11.7 12 22 10 The best returns come from buying at a time of low PE, selling at high PE having 20 years in and having good earnings growth
10 12.1 13.0 15.4 10 29 19 The very best returns come from selling out at very high PE's when you buy at low PE's and having had good earnings growth too


It is up to you aloneEdit

Even after dramatic bull and bear markets, so called conservative managed funds do not generally dramatically rebalance their portfolios from aggressive to defensive assets or vice versa, although they may rebalance their portfolios as described much further below. They maintain their declared stance quite consistently. You can't rely on the fund manager to save you. (Actively managed hedge funds and black box funds may be an exception to this but they have their own risks which are beyond the current scope of this article)

When the shape of the yield curve inverts (short term rates higher than long term) or moving averages cross (eg 30 crosses to below 90), or when the NY Fed predictor indicates a recession, you need to decide whether to change asset allocation by switching between funds or between options with a fund. If a downturn is signaled, think of moving from stocks to long term bonds. When rates have been dramatically cut and recovery looks likely, think of a move from long term bonds to cash, when the bottom seems assured, central banks have started "printing money" (increasing base money supply dramatically) and the moving averages (eg 30 and 90) have crossed again, think of the move from cash to stocks. Or just stay in bonds until it is time to move to stocks. Check how currencies have moved during the bear market and consider investing in stocks in the 2 or 3 economies that have suffered the largest fall in currency as well as stocks. As an example, sell Australian stocks at the top and invest in USD bonds, at the bottom come back into AUD stocks. This would have greatly enhanced returns in the 2007 to 2010 period.

Picking major transitionsEdit

Long term moving averages crossingEdit

Once a short term moving average (eg 10 to 30 days) crosses below a longer term moving average (eg 60 to 100 days) (try Incredible Charts as a way of seeing such averages) from above there is a about a one in two probability that a major bear market has started, based on examination of past trends. It is a good time to consider dramatically reducing exposure to shares or buying some form of protection against widespread falls in value. While there is about a one in two chance of being whipsawn (the averages soon cross back indicating a possible major bull period and requiring you to buy back in at prices higher than those at which you sold) the loss of opportunity from being whipsawn using such long moving averages is only about 10 to 20% of the loss that can occur in a major bear market. Unfortunately nothing is fool proof every time and the falls in 1974 were so fast and short lived that you probably would have got out at the bottom when the 20 went below the 100 and then missed the rebound until it was about half over and the 20 went above the 100.

Yield curve inversionEdit

The NY Fed has a recession predicting model based on yield curve inversion which has been quite a reliable predictor of recessions since 1960. See an animated yield curve for 2001 to Feb 2009 and Yield curve, below.

Monitoring you must doEdit

Every person with an investment portfolio exposed to shares whether directly, through managed funds, superannuation or other retirement savings products (eg 401k) should spend an hour a week

  1. looking at the shape of the yield curve compared to a month ago - is it moving toward or has it become inverse (moving towards inverse is a warning of possible future falls in the price of shares and a housing slow down). If it is becoming more steeply normal (normal is the opposite of inverse) as a result of interest rate cuts during a downturn it is an indicator that there might be a major buying opportunity within a 1 to 20 months and it is time to consider when you should start pursuing a dollar cost average investment strategy. It warns it is nearly time to unwind any short positions.
  2. checking charts with short and long term moving averages of major country and sector indices. You need two sets of moving averages, one set to warn you to move to checking every second day, the other set as your pre-determined action point

If the shape of the yield curve has changed from normal to inverse of vice versa or your "warning" averages cross you need to spend half an hour at least every second day watching for your pre-determined action signals. This could have to be done over a period of many months. If you have a large portfolio it is likely to be well worth while. If your portfolio is only a few thousand but likely to grow because you are young with a good income, you should do it anyway for practice and discipline that you will need later.

You need to then consider whether there are signs for a need to change asset allocation between aggressive (share) and defensive investments (short term cash at AAA or AA+ rated government regulated banks and short term government securities). More sophisticated and active investors should consider entering into other defensive arrangements (eg buy put options, short the major index). Aggressive active investors with an appetite for high risk could consider going short on a net basis, but with protection against a dramatic rise in markets.

Where we are in March 09 and how we got hereEdit

The great 1995 to 2007 asset price bubbleEdit

The great asset price bubble of the period 1995 to 2007 is well shown by a series of charts in the article A Rise Too Far? in FNArena News dated March 04 2008 By Greg Peel [20].

The great debt explosionEdit

The great debt explosion from 1995 to 2007 is well explained by a series of charts in the article The RBA doesn’t get it Published on March 3rd, 2009 by Steve Keen in Debtwatch[21]. The Chairman of the Federal Reserve (US) during virtually all that time was Alan Greenspan. The Chancellor of the Exchequer (UK) during virtually all that time was Gordon Brown of the Labor Party. The Treasurer (Australia) during virtually all that time was Peter Costello of the Liberal Party.

Bear Market comparisonsEdit

There is a helpful series of charts of major bear markets compiled by Mark J Lundeen at The 1929 & 2007 Bear Market Race To The Bottom Week 54 of 149 and at The 1929 & 2007 Bear Market Race to The Bottom Week 72 of 149[22]. See the index of articles by Mark J Lundeen Lundeen following the 07-09 bear market.[23]

Falls and risesEdit

A super bear is upon us[24]

At March 09, at 17 months (53% fall) of this bear market, we are in the 11th longest and 2nd deepest of 20 bear markets in 110 years. In 6 more months (a total of 23 months) this will be 17th longest bear market out of the 20. Only the Great Depression (89% fall, deepest) and 2000-2002 (39% fall, 12th deepest out of 20) will have been longer at 34 and 33 months respectively.

Bear Market Comparisons as at March 2009
Date Fall Length Month to match Rise Length Bottom shape
1901-03 -45 28 Feb 10 143 26 V
1906-07 -49 22 Aug 09 92 24 V
1916 -38 6 Apr 08 50 17 V
1919-21 -44 21 July 09 62 18 V
1929-32 -89 34 Aug 10 97 2 V
1937-38 -49 13 Nov 08 81 7 V
1939-40 -29 9 July 08 24 5 V
1940-42 -32 18 April 09 127 40 V
1946-46 -24 6 April 08 14 3 NON-V
1961-62 -29 7 May 08 50 43 V
1966-66 -28 8 June 08 35 26 V
1968-70 -36 18 April 09 52 11 V
1973-74 -45 22 August 09 80 21 V
1976-78 -28 17 March 09 25 6 V
1981-82 -25 15 Jan 09 68 16 V
1987-87 -41 2 Dec 07 103 29 NON-V
1991-91 -23 3 Jan 08 29 5 V
1998-98 -21 2 Dec 08 53 12 V
2000-02 -39 33 July 10 146 76 V
2007-2009 -53.4 17 Mar 09


Ranking bear marketsEdit

This table is as at 5 March 2009 when DJI closed at 6594.44, down from a high daily close of 14164.53 on 9 October 2007. This is now the third deepest market fall out of 9 in over 110 years. If 1937 to 42 is treated as two crashes as it is in the table above, then we are now in the second deepest crash in 100 years. The market (DJIA) has to fall only 8.1% from present levels to be the second worst crash in 110 years. It has to fall a further 76% to become the worst crash in 110 years.

Bear Market Comparisons
Date of bottom Fall % DJIA Level to match Points to fall from 5 Mar 09
1932 89 1551 5043
1896 57 6063 531
1942 51 6909 -315
1907 48.1 7318 -724
1938 46.94 7481 -887
1921 44.92 7766 -1172
1974 44.86 7775 -1181
1903 44.66 7803 -1209
2007 53.4 6594 0


Earnings rates in major cyclesEdit

Table from data at Secular Bull and Bear Markets by Doug Short.

The real fall in the current secular bear market since 2000 is the third biggest after the Great Depression and the 14 year 1968 to 82 secular bear market. However at 9 years this is still a relatively short secular bear cycle with only 1 (1929-32) shorter.

Real returns in major cycles
Year Milestone  % change No. of Years Real returns with divs Real returns - no divs Real returns with Divs x No of Years
1877 Low - - - -
1906 High 333 29 10.1 5.1 292.9
1921 Low -69 15 -2.0 -7.5
1929 High 396 08 28.4 21.9 227.2
1932 Low -81 03 -41.2 -44.9
1937 High 266 05 38.7 32.1 193.5
1949 Low -54 12 -0.8 -6.2
1968 High 413 20 13.3 8.8 266
1982 Low -63 14 -3.0 -7.0
2000 High 666 18 15.3 11.9 275.4
2009 Near Low? -58 09 -9.2 -10.8


Currency movements in bull and bear marketsEdit

The USD is the world's reserve currency. At times of economic and finanncial stress it generally strengthens against most other world currencies in a flight to safety. At the start of an upturn in markets after a global bear market, some other currencies are likely to rise at a much faster rate against the USD. For example at the peak of the 2007 Markets in late October 2007 1 AUD bought 0.93 USD. At the bottom of the bear market in March 2009 1 AUD only bought 0.60 USD. In USD terms the Australian stock market had fallen about 80%, as opposed to only 53% in AUD terms. Conversely at 14 April 2010 the AUD again bought 0.93 USD. so while the rise in the Australian stock market to 14 April 2010 was 61% in AUD terms, it was up over 130%.

An Australian investor who switched from the All Ords to USD cash deposit on 30 October and then switched back to the All Ords on 9 March 2009 and then switched back to USD cash on 14 April would have :

At end October 2007 for AUD100 he would have got USD 93
At 9 March 2009 for USD93 he would have got AUD 1.56 for each USD or AUD145
As at April 14 2010 that AUD145 in the Australian Stock market since 9 March 2009 would be worth AUD229
On 14 April that AUD 229 would buy USD212 at 0.93
Today the USD212 is worth AUD256

An investor with AUD 100 in the All Ords on 30 October 2007 who has just held his investment now has AUD65

The perfect switching strategy to USD cash and back twice would give you 3.9 times as much AUD now as a mere buy and hold strategy!

House prices tooEdit

Around 81% of countries recorded falls in the value of property in the final quarter of last year, compared with just 27% in 2007, according to estate agents Knight Frank. Latvia saw the steepest price slides on both an annual and quarterly basis, with homes dropping by 16% in the final three months of the year and plummeting by 33.5% during the whole of 2008. The Royal Institution of Chartered Surveyors said the Baltic States had seen the sharpest falls during 2008, with Estonia recording a 23% slide, closely followed by the UK with drops of 16% and Ireland with falls of 9%. The Institute said even countries which did not experience a house price boom, such as Germany and Austria, had been hit by the credit crunch. Some countries such as Spain whihc did not fall so much in 2008 are expected to have bigger falls in 2009. [25].

The picture is worse when one looks at the fall from peak to trough as shown by some markets in the US.

According to the S&P/Shiller House Price Index there has been an average price fall for houses of 26.7% across 20 cities (as at December 2008)[26]

The Composite 20 city index of house prices has fallen for 30 consecutive months and are back to their September 2003 level. S&P/Case-Shiller Home Price Indices Jan 2009

House price falls
US - scroll down to see US Other
US


US House price falls - April 06 to December 08
State City Fall %
AZ Phoenix 45.4
FL Miami 40.6
CA San Francisco 40.0
CA San Diego 39.0
CA Los Angeles 37.0
MI Detroit 35.6
FL Tampa 35.6
DC Washington 29.6
Composite 10 Composite 10 28.2
Composite 20 Composite 20 26.7
MN Minneapolis 26.4
IL Chicago 17.7
NY New York 15.0
MA Boston 13.7
GA Atlanta 13.5
OH Cleveland 13.4
CO Denver 8.8
OR Portland 8.4
WA Seattle 6.8
TX Dallas 5.4
NC Charlotte 0.3


Other Country House Price Falls [27]
Country Year on year (Q4 08) Quarter on quarter (Q4 08)
Latvia -33.50 -16.30
United Kingdom -14.70 -5.10
Iceland -14.00 -11.30
United States -12.10 -3.50
Ireland -9.10 -3.30
Estonia -7.50 -9.30
Norway -7.50 -6.20
Denmark -7.00 -5.10
Singapore -6.50 -6.10
Portugal -6.30 -1.00
Canada -6.20 -2.10
Austria -5.50 1.70
New Zealand -5.30 -0.10
Hong Kong -5.10 -12.80
Japan -4.50 -3.00
Malta -4.40 -1.70
Finland -3.30 -3.90
Australia -3.30 -0.80
Spain -3.20 -2.40
France -3.10 -6.50
Croatia -3.00 -1.20
Sweden -1.80 -3.40
Lithuania -1.00 -3.60
Germany -0.70 0.00
Luxembourg -0.30 0.10
South Africa 0.10 -0.20
Netherlands 0.90 -0.70
China 1.60 -1.10
Taiwan 1.90 -5.10
Philippines 2.70 -2.20
Cyprus 2.80 -1.60
Ukraine 3.90 -9.30
Hungary 4.60 0.50
Switzerland 4.60 1.20
Indonesia 5.20 0.60
Colombia 7.10 2.70
Jersey 10.40 -5.40
Israel 10.50 -1.20
Slovakia 10.90 -0.40
Bulgaria 12.50 -4.10
Czech Republic 19.60 0.20
Russia 19.70 -1.10
Dubai 59.00 -7.80


The cost of getting out of the messEdit

The amount of funds to be raised by Governments to get us out of the 2007-9 recession is astounding.[28]

The IMF estimates the increase in public debt by the G12 nations as USD 10.32 Billion. Rogoff and Rheinhardt estimate the increase in public debt in the 3 years after a banking crisis as 86%. The IMF estimates that the cost of the current crisis to the United States will eventually reach 34% of GDP or close to $5 trillion. However, the Obama administration, through its various implicit and explicit guarantees, is already using a number close to $9 trillion4. And Reinhart and Rogoff's historical average of 86% of GDP implies an ultimate cost of over $12 trillion! However, if you believe that IMF underestimates the true cost of this crisis, Reinhart and Rogoff offer a more realistic approach (see chart 8). Using their least costly case study (Malaysia 1997) as our best case scenario, the true cost comes to $15 trillion. If one uses the average of 86% instead, the cost jumps to a whopping USD 33 trillion. The total global assets under managment is estimated at USD 121 Trillion according to Wikipedia

The $64,000 question is: how can this be financed and by whom? Particularly when this is a global problem, not merely a single country, region or bloc with problems.

Will the yield requirements of investors be such that interest rates rise, thus limiting any recovery as shares and real estate have to compete with bond issuance for money flows. "Quantitative easing" or "printing money" seems a more likely route to liquidity to avoid the yield requirements of investors causing a requirement for higher yields/lower prices from alternative investments such as equities, real estate etc.

Charts graphs and tables of share market historyEdit

Yahoo has good financial pages with major indices and charts[29]
MSCI Barra has data and charts for major developed and developing markets[30]
Crestmont Research has a series of charts with historical data. [31]
dshort.com has some charts that highlight the real Dow (deflated for inflation) which are really scary. They indicate the possibility that we could only have come back to the long term real growth trend line and that there are long periods where the market was substantially below that line.

GurusEdit

Before following the the gurus, check and see if any of them are on the Forbes Rich list!!
Warren Buffet is, but see how much he has lost in the 2007-09 bear market!
No one is right all the time.
Commentators like Jim Cramer on Money talk shows like CNBC can be very wrong in Bear Markets [32]
Robert Shiller - Irrational Exuberance
McClellan Oscillator
10Greatest Stock Market Gurus

Economic cycleEdit

Public company earningsEdit

Lagging
Mark Lundeen states: "The amazing event of the Great Depression's stock market was the 12 month period from July 1932-33. What follows is fascinating market history! On 08-July-1933, the DJIA had bottomed at 41.22, for a total loss of -89.18% from its high of 381.17 on 03-Sept-1929. Look at what happened between July 1932 and July 1933 in the above chart within the box. The DJIA had its best year in history rising from 41.22 on 08-July-32 to 105.04 on 07-July-33 for a 12 month gain of 154.82%! And what were the DJIA's earnings doing during the Dow's best year ever? The Dow's earnings were either crashing or mired in negative territory. Any investor who waited until the Dow's earnings became positive missed the entire move, as the market went flat for two years when positive DJIA earnings were finally reported." [33]

Unemployment and jobless ratesEdit

Lagging
The unemployment rate normally only measures those who have registered and a re actively looking for work. Many middle class people are not eligible for unemployment benefits and so do not register. The jobless rate — in the US the percentage of males 25 to 54 years of age who, for whatever reason, do not have a job is often much higher. In the US as at 10 March 2009 the unemployment rate is nudging 9% but the jobless rate is nudging 11%. Unemployment and joblessness are lagging indicators. People are laid off as the recession really bites as firms typically try to keep employees on in case a downturn in sales is a short term aberration. Only once it is clear that a downturn will be longer lasting does retrenchment start and unemployment and joblessness rise.[34]

Yield curveEdit

Leading
A yield curve is a plot of the interest rates for loan securities issued by the same person for different maturities eg 3 months, 6 months, 1 year, 3 years, 5, 10, 20 and 30 years. Normally longer term interest rates are higher than short term interest rates. When short term rates are higher than long term rates the yield curve is described as inverted or inverse. An inverse yield curve often leads to an economic downturn and/or falls in stock markets.

See the animated yield curve at Stockcharts and watch how it is inverse in 2001 as the market peaks and then starts to fall significantly, gets normal in mid 2001 after the market has fallen significantly and the Fed eases, steeply normal in late 2002 early 2003 as recession bites. The market starts to rise and the yield curve moves up and gets less steep as the Fed tightens slightly, but goes inverse in mid to late 2006. The crash followed within about 15 months of the curve turning consistently inverse.

The New York Fed has a publication called "Probability of U.S. Recession Predicted by Treasury Spread". The NY Fed's model uses the difference between 10-year and 3-month Treasury rates to calculate the probability of a recession in the United States twelve months ahead. The NY Fed's model has accurately predicted the last 7 recessions, back to 1960.[35]

Interest ratesEdit

Bloomberg's rates page lets you view current rates and current yield curves for many countries. As at April 2009 medium to long term interest rates even for government risk have begun to increase as the likely future demand for funds by government through bond issuance sinks in to market commentators and investors. The rising term interest rates are not controllable by central banks in any meaningful sense at the proposed volumes. The rising rates reflect fear of inflation (unlikely risk in the 2 to 5 year time horizon due to existing substantial surplus capacity and a pool of un/underemployed) and the volume of demand around the globe as governments seek to finance stimulus packages. The rises in rates will have an impact on home loan rates, and fixed rate commercial and residential mortgage rates and on term commercial loans. 10 to 30 year bond holders in the US have suffered substantial per centage losses since mid April. Increases in long term rates for government loans will also put pressure on the stock market because of the bigger difference between stock yields and "risk free" return rate of 10 to 30 year bonds. In Australia, variable home loan rates have already started to rise as they are funded through a cocktail of funds of differing types and maturities. This may also begin to constrict supply and demand for home loans as affordability decreases.

Market cycleEdit

Are you proposing to invest after 10 consecutive years of growth or has there recently been a 50% fall in markets. Which is the riskier time to invest?
Has the great balance of economic news been very good for a long time?
Is there lots of "It's different this time because...." opinion?

Inventory cycleEdit

When sales slow at unexpected times of the year inventories build as forward orders have been based on a higher level of sales. When stock inventories begin to grow as a percentage of estimated short term future sales, not only are orders reduced, but carrying levels are reduced in absolute terms to meet the new lower level of sales. This de-stocking causes a slump in manufacturing, often requiring manufacturers to enforce production holidays or to close less economic plants and lay off workers. Economic activity cannot pick up until de-stocking is complete.

Vacancy ratesEdit

If vacancy rates are rising then stocks are likely to be too high to allow recent rates of construction activity to continue. There are different types of buildings / vacancy rates and not all rise at the same time. Hotels, residential apartments, freestanding homes, commercial office buildings (often multiple grades with different vacancy rates - eventually vacancies tend to move to lower grade buildings), factories, warehouses are examples. There can also be significant regional variances.

Housing stocksEdit

Housing stocks are similar to other stocks. If sales slow, often because interest rates go up and the yield curve inverts to fight inflation, stocks grow and production falls. If there are less new houses being sold there are also likely to be less sales of furniture, appliances, furnishings and less need for transport. If housing and commercial office space stocks are grossly excessive at the same time the danger of recession is dramatically higher.

Commercial office space stocksEdit

If commercial office space stocks are excessive the same thing happens as for housing stocks. If housing and commercial office space stocks are grossly excessive at the same time the danger of recession is dramatically higher.

Construction loan approvalsEdit

When loan approvals start to increase from a low base it is an indicator that there is likely to be an increase in economic activity in 3 months time. Loan approvals generally only start to fall once excessive stocks have become obvious or the economy has already started to slow (often because of an inverse yield curve) or loan default rates have started to increase on loans written in the last few years because credit standards had been allowed to slip too far (there was an increase in the proportion of sub-prime loans).

Building startsEdit

Building starts are highly unlikely to increase unless construction loan approvals have already started to increase.

ProductionEdit

As at March 2009 according to the article A Tale of Two Depressions by Barry Eichengreen and Kevin H. O’Rourke © voxEU.org world production is in a continuing decline as bad if not worse than the during the Great Depression of the 1930's when looked at on an index basis with the peak of production in 2008 being 100.

  1. World industrial production continues to track closely the 1930s fall, with no clear signs of ‘green shoots’.
  2. There are new charts for individual nations’ industrial output. The big-4 EU nations divide north-south; today’s German and British industrial output are closely tracking their rate of fall in the 1930s, while Italy and France are doing much worse.
  3. The North Americans (US & Canada) continue to see their industrial output fall approximately in line with what happened in the 1929 crisis, with no clear signs of a turn around.
  4. Japan’s industrial output in February was 25 percentage points lower than at the equivalent stage in the Great Depression. There was however a sharp rebound in March.

Transport activity and ratesEdit

As economic activity declines transport tonnages and rates decline. When de-stocking is complete, then transport tonnages begin to recover as a flow of goods resumes albeit at lower levels than at the peak. The [Baltic Dry Index] measures the demand for shipping capacity versus the supply of dry bulk carriers. The demand for shipping varies with the amount of cargo that is being moved. The Baltic Dry Index seems to be a slightly leading indicator of the stock market a significant amount of the time. It seems to have made a bottom in about December 2008/January 2009 at around 1050. The Shanghai Composite seems to have established a bottom about the same time, but not other stock markets. Whether these indicate a change in long term trend remains to be seen.

InflationEdit

Are there legislated inflation targets or ranges?
Is the central bank independent of government?
Is inflation under control and stable within any legislated targets? Australia has a relatively independent central bank with clearly identified inflation targets but the Reserve Bank didn't act strongly enough to keep inflation within the target range, but reacted strongly once it broke above the range, causing a dramatic increase in interest rates which hurt most home owners with mortgages.
Do inflation definitions include measures of asset price inflation? Has inflation been very high (>10%) for an extended period of time (>3 years) and prompted high interest rates which have caused a severe recession? If so as interest rates fall then capitalisation multiples will increase leading to potentially large increases in asset prices based on the transition to higher capitalisation multiples. At 10% the capitalisation multiple is 10, at 5% the capitalisation multiple is 20. If the multiple moves from 10 to 20 asset prices with a long income stream double. The same happens if the long term bond rate falls from 4% (x 25) to 2 (x 50).

Asset price inflationEdit

Most countries eliminate asset price inflation from their measures of inflation. They do this by substituting other measures for house prices. If rents are only rising slowly then reported inflation is low, even if house prices have doubled as a result of credit creation.

When looking at the return of various investments you can look at them on a "real" (adjusted for inflation) or nominal basis. The price of homes and the Dow in the US can be seen on a real basis from 1920 to June 2007 at iTulip Dow and Home Prices adjusted for inflation: 1924 - 2006. As at 1 March 2009 it would appear from the percentage fall in the Dow since 9 October 2007 that the Dow is about back to the long term 1.64% real return calculated by iTulip. Based on recent Case-Shiller data, home prices in the US may have further to fall. Both home prices but more likely the Dow can overshoot on the downside.

A March 2008 comparison of CPI deflated US and Australian house and stock market prices shows that Australian stock prices have not been as dramatically inflated as the US, but house prices have. Us house prices had clearly started to fall by March 2008, but Australian house prices had, after a pause in 2004 and 05, resumed rising through 2007 and 2008. This may imply that in spite of first home buyers grants and falling interest rates, Australian house prices still have some way to fall. [36].

The big difference between Australia and the US was a huge excess of new housing stock in the US which is now rapidly diminishing with the fall in construction, but foreclosure sales are keeping downward pressure on US house prices. [37]

Graphs show clearly the extent of the bubble in US stock and house prices and the Australian and US private debt which funded the asset price boom.[38]

Credit creationEdit

What is the rate of credit creation? How does it compare to the rate of population growth and the rate of inflation? Is it fuelling a boom in asset prices? Rapid credit creation might be sensible in a period of recession, but should reduce steadily once growth is restored, otherwise future stability is undermined and the seeds of the next boom (and bust) are sown.

Debt growth funding demandEdit

If debt is growing rapidly then it will be funding a larger portion of demand. Once debt has to stop growing, demand must also reduce.

Steven Keen (Debtwatch) says:
If we go back to 1994, when the current boom began, the increase in private debt over the year was about $32 billion, compared to (nominal) GDP in at the beginning of 1995 of $507 billion: even then, the increase in debt accounted for about 6.5% of total spending.

Thirteen years later(ed: 2008), the increase in debt over the year was $196 billion, compared to annual GDP of roughly $1,000 billion at the beginning of 2007. The increase in debt last year thus accounted for almost 16.5% of total spending.

How beautiful do you think the unemployment numbers would look if we reduced aggregate demand by 16%?[39]

But that is only no growth in debt. What happens if people and businesses seek to repay debt? What if debt reduces at 4% - Does this now mean that the fall in spending will be 20%? As Steve Keen of Debtwatch says in a recent satirical article about comparing Debt and GDP "rather than spending being augmented by additional borrowing, spending is now less than income as individuals (both firms and households) struggle to repay debts."[40]

Keen says: "Rudd’s stimulus package will inject $42 billion into the economy, but a 5% reduction in debt by the private sector will remove $100 billion from it. Even the slowdown in debt accumulation will swamp the government’s stimulus. In 2007-08, the last year of our debt bubble, private debt rose by $259 billion–adding 20% to aggregate demand. The fall of this to zero–a simple stabilisation of private debt–will remove 20% of demand from the economy. This is what is causing unemployment to explode now."[41]

DebtContibutionAndUnemploymentUsa090409

House price affordabilityEdit

Are median house prices an unusually high multiple of median earnings?
The long term multiple of median household income for house prices is 2.7. In 1998 it was only 2.4 times. In 2006 it was over 5 times. [42]
See Case-Shiller Index
"As of December 2008 , 18 of the 20 metro areas are in double digit declines from their peaks, with half posting declines of greater than 20% and four of those (Las Vegas, Miami, Phoenix and San Francisco) in excess of 40%."[43]
Real estate prices do fall!!

Credit qualityEdit

Are companies and people able to borrow more funds easily against recent large increases in real estate values where there has been no rezoning or refurbishment?
Are the requirements for saved deposits, documented sources of taxable income, proportions of income which can be borrowed, proof of earnings being relaxed by banks?

Asset complexityEdit

Are greater proportions of financial assets being packaged in more complex, less transparent ways?

Commodity pricesEdit

Are prices for commodities used in the manufacture of a large proportion of manufactures at record highs?
Has the oil price moved to record highs? Oil shocks were relevant in 1974 and 2007. Oil prices wnet up by about 130% from Jan 2006 to June 2008 [44]
Are commodity stocks high or low? and are they continuing to reduce or are they now increasing as new mines and wells come on stream or usage declines?

StrategiesEdit

The trend is your friendEdit

Only invest when there is a consistent uptrend established and bail out if there are xx days/weeks/months of the market closing below your entry price. Alternatively, invest or disinvest based on signal for changes in trend. Mebane T Faber suggests using a 10 month (200 day (20 trading days a month)) moving average compared to the end of month closing price. [45]

Faber mentions that in his book, Stocks for the Long Run, Jeremy Siegel (2008) investigates the use of the 200-day SMA in timing the Dow Jones Industrial Average (DJIA) from 1886 to 2006. His test bought the DJIA when it closed at least 1 percent above the 200-day moving average, and sold the DJIA and invested in Treasury bills when it closed at least 1 percent below the 200-day moving average. Faber says "He concludes that market timing improves the absolute and risk-adjusted returns over buying and holding the DJIA. Likewise, when all transaction costs are included (taxes, bid-ask spreads, commissions), the risk-adjusted returns are still higher when employing market timing, though timing falls short on an absolute return measure. Had the results included 2008 they would favor timing even more." Shorter length moving averages are whipsawn more, longer ones miss more of the rise and avoid less of the fall. See Faber's article Where the black swans lie for tables of returns for timing vs buy and hold including for some different asset classes.

Faber says: "..on average, the timing model increased returns by approximately 20%, decreased volatility by 20%, improved the Sharpe Ratio by 0.20, and reduced the maximum drawdown by nearly 50%. Put differently, in the five asset classes tested, the timing approach improves the results over buy-and-hold in each of the four metrics (return, volatility, Sharpe and drawdown) for each of the five asset classes. The timing model keeps the investor invested roughly 70% of the time. Approximately half of the trades are winners, and winning trades are nine times bigger than losing trades. Time spent in winning trades is roughly 20 months, compared to only three months for losing trades."[46]

Portfolio rebalancingEdit

Set an asset allocation between asset classes. EG 20% domestic shares, 20% global shares unhedged, 20% emerging markets unhedged, 20% long term bonds, 20% cash. As some investments increase or decrease in value the actual balances will change, changing your asset allocation. Assets which increased in price will go over their set allocation, assets which underperformed will go under their set allocation. Each say 3 months, rebalance the portfolio back to your set asset allocation percentages.

Dollar cost averagingEdit

Buy 100 dollars every month whether the market is up or down and irrespective of what you think will happen to the market next month or year

Buy and holdEdit

Buy quality stocks and never sell them. The share price history of General Motors shows the risk in this approach. The rolling 20 year returns from the US share market range from an annualised 1% pa for the 20 years ended 1949 to over 14% pa for the 20 years ended 1999. There are dramatic differences based on the height of the market at the time of investment. Very high PE ratio at the time of the investment is an indicator of returns over even 20 years being at the low end of the range.[47]

Bottom pickingEdit

Hold out of the market unless you are confident you are around the bottom of a bear market. If you are confident that it is the bottom, buy in big or use dollar cost averaging to reduce risk from further falls. Two adages against this approach are:

  1. it's time in the market, not market timing (but in Feb 09 the market is back almost to 1998 levels)
  2. no one rings a bell at the bottom - there are some times when the market has continued lower even after large falls. Look at a chart of the 1929 to 1932 crash and the bear market that ended in 1942. There are times it has rebounded very rapidly. Look a t a chart of the recovery after the September 1974 crash.

Stock pickingEdit

Pick the best stocks and invest in them. Generally this is in the stock market of your own country. This can be done on a "buy and hold" basis or it can be more actively managed.

Bottom up approachEdit

Find the best stocks and invest in them. It is too hard to understand what will happen in the economy as a whole.

Top down approachEdit

Find a good economy and invest in it. Most stocks and indices in that economy will do well - but it is a global economy and consider the currency risk. Once you have found a good economy, see if you can select the sectors which are most likely to do well. Within those sectors, which stocks will do best?

Fundamental analysisEdit

Fundamental analysis is doing detailed analysis of a large number of companies to identify which are likely to be the best investment

Technical analysisEdit

See charting

ChartingEdit

Technical analysis is looking at charts for patterns which indicate the likely direction of markets or stocks in the future. See one person's [top 10 technical indicators]

Moving averagesEdit

Look for crosses of moving averages. If the 10 day moving average has been below the 100 day moving average and crosses to be above it then it indicates a reliable uptrend has been established. The higher the number of days in the higher moving average the more of the upturn you are likely to miss. The shorter the moving averages you use the more likely you are to be whipsawn.

Currency riskEdit

If it is not your home country are you prepared to accept that your return in your home currency will be affected by currency fluctuations. Is your prima facie currency risk hedged?

Portfolio effectEdit

If you are invested 100% in the shares of 1 company and it goes bad you lose everything. Your risk is relatively high. If you are invested evenly in 10 companies in 10 different sectors of the economy across 10 different countries/currencies your risk (and expected returns over the long term) is low.

Asset allocationEdit

What proportion of your total assets are in each of cash, stocks, bonds, direct property, collectables, commodities and in what currencies? Should you be diversified across multiple currencies as well as multiple asset classes?

LeverageEdit

Leverage magnifies the losses and gains. If you borrow 50% to buy an asset worth 100 and it falls 50% you lose 100% of your investment. If it gains 10% and your interest cost is 5% you make 5 on 50 which is 10%, same as if you had no leverage. If it gains 20% and your interest cost is 5% you make 15 on 50 which is 30%. Borrowing against shares is doubly risky as the company in which you are purchasing equity already has borrowings or leveraging.


Stock market measuresEdit

Comparative rates of return with bondsEdit

The yield on short term government bonds of a low risk country are normally thought of as the risk free rate of return. If you invest in anything else your risk is increasing so you would expect to get a commensurately higher return over the long term. Shares have more risk so you would expect that capital growth plus yield on shares should exceed the yield on bonds in the long term. The more risk you are taking with any investment, the higher the rate of return you are looking to achieve. If dividend yields on shares are very low compared to bonds then there must be a big expectation of capital growth - this does not always happen eg look at comparative yields of bonds and shares at September 2007 and then look at what happened to capital growth - massive losses.

Dividend yieldsEdit

The after tax yield can be compared to the risk free rate of return - short term government paper or for consumers deposit rates in AAA rated banks.

The current (13 April 2009) DJIA Dividend Payout is $307.88. That yield's 3.84% on last Friday's closing price of 8017.59. If the 2007/09 Bear follows the historical pattern, and yields 6% on the DJIA, the current payout of $307.88 fixes the DJIA at 5131.26. That is a BEV valuation of -63.77%. The low to date on 6 March 2009 was a loss of 52.3%. The loss at 13 April is back to -42.6%.

When the Dow Jones dividend yield is less than 3% consider selling, when the Dow Jones dividend yield is greater than 6% consider buying. This is based on Mark Lundeen's Dow Jones Dividend yield analysis chart in his article Stock Market Earnings & Dividends - Wealth is Fragile in 2009, it's a "Policy Thing".

Price earnings ratiosEdit

You can't look at PE's in isolation. In isolation they are a virtually meaningless number. The PE ratios ignore the other competing opportunities for funds such as bonds, real estate etc. They ought not be looked at in isolation.

The PE is the result of dividing the price by the earnings. Because this is a backward looking measure it does not take into account a dramatic deterioration in earnings that has occurred after balance date. It also does not take into account cash flow, quality of earnings, riskiness of the business or balance sheet structure. The Price to Forward Earnings is a better indicator of the PE at which stocks are actually being bought. Different sectors often have quite different PE's. Mining exploration companies may have huge PE's as they have no significant earnings but may have issued very favourable exploration reports. Loss making companies don't have a meaningful PE as they don't have earnings.

In 1974 the price of the market was 7.3 times earnings. In the early 1990s recession for example, earnings fell 25% between 1989 and 1992, but the S&P 500 index rose 23% over the same period. Recent PE's from S&P are 30 September 07 - 19.42, 31 December 07 - 22.19, 31 March 08 - 21.90, 30 June 08 - 24.92, but these are historical backward looking PE's. Check what happened to 3 year interest rates and share prices since then.

Forward looking PE's of around 10 have generally been near a bottom. [48]

PE's have only been above 20 for about 9 of the 60 years between 1930 and 1990. However PE's have been above 20 for the whole period 1991 to 2007, 16 years. [49][50]

From 93 to 99 was a huge bull market and watching 30/100 moving averages would have kept you in the market most of the time during that bull run. The period from 1999 to 2001 would have been whipsawn many times, May 02 to May 03 would have kept you out of the market almost completely, May 04 to Oct 05 would be whipsawn, Nov 05 to Nov 07 would have been consistently in the market for a major bull run, and Nov 07 to the present you would have been almost entirely out of the market, being spared a near 50% loss of value. The November 08 30/100 cross would also have been confirmed by the inverse yield curve of about that time.

Capitalisation ratesEdit

Net tangible asset backingEdit

A dangerous measure when asset values are falling and book values have not been adjusted. Valuations supporting recently adjusted book values may be 6 months old by the time audited accounts are released.

Net operating cash flowEdit

You can only pay debts with cash. Cash can only be earnt, borrowed or raised by selling assets. A company can sell more shares. During a credit squeeze you can't borrow more and are likely to be asked to repay part of outstanding indebtedness. During a stock market crash it becomes difficult to issue new shares except at a significant discount to market. If operations don't produce positive net cash flow and new funds are not available, liquidity crises require assets sales at the worst time in the cycle.

Country riskEdit

Stage of developmentEdit

Does the country have well developed and stable institutions?
Is it a Developed Market or an Emerging Market economy? Morgan Stanley has indices for Emerging Markets as well as for Developed Markets. Some funds specialise in emerging markets. Brazil, Russia, India and China are emerging markets. The US, UK, Germany, Australia are Developed Markets.
Market or planned economy? US is a free market economy with relatively small government interference compared to North Korea which is a planned economy.

Sovereign debt ratingEdit

Is sovereign debt finely priced compared to eg the US and Germany?
What is the price of a credit default swap for sovereign with 5 and 10 years to maturity?
Is previously issued debt stock trading at a big discount to par value reflecting a real risk of default?
Has the country ever defaulted eg Russia and Argentina.
Given the reputed lack of reliability of ratings agencies in assessing the likelihood of loss on financial products over the last one should consider the cost of Credit Default Swaps ("CDS") on sovereign debt as at least a partial indicator of sovereign debt default risk. See US CDS above 100bps: it’s a MAD MAD MAD MAD World! for some analysis of CDS and their pricing.[51]

Political riskEdit

Is the country likely to remain politically stable for your investment horizon?

Population growthEdit

A stable population generally means lower growth rates. Europe and Japan

DemographicsEdit

An aging population generally means lower growth rates. Europe and Japan.

Household indebtednessEdit

Highly indebted households have limited capacity to borrow and spend more and are highly subject to movements in interest rates - monetary policy. US and UK

In Australia, the household debt binge, which began in 1991 in the depths of Keating’ recession, took the household debt to GDP ratio from 30% to a peak of 99%, from which it is now falling.[52]

Government indebtednessEdit

What proportion of GDP is government indebtedness?

Debt to GDP ratioEdit

The debt to GDP ratio: What proportion of GDP is total indebtedness?
During the period 1985 to 2008 total total credit-market debt(or “credit”) in the U.S. to GDP (or Gross Domestic Product) on a percentage basis rose from 160% to 340 \% of total GDP [53]

External Debt
Rank Country External Debt - (million US$) External Debt Per Capita (US$) External debt (% of GDP)
8 Switzerland 1,340,000 509,529 441.95
6 Ireland 1,841,000 448,032 960.86
2 United Kingdom 10,450,000 189,855 376.82
10 Spain 1,084,000 176,019 79.65
5 Netherlands 2,277,000 136,795 352.75
9 Belgium 1,313,000 126,202 348.74
11 Italy 996,300 124,049 55.35
18 Norway 469,100 98,530 190.23
14 Austria 752,500 90,289 233.70
17 Denmark 492,600 89,853 242.30
16 Hong Kong 588,000 84,445 200.48
4 France 4,396,000 68,183 211.86
15 Sweden 598,200 65,048 176.72
3 Germany 4,489,000 54,604 159.92
21 Finland 271,200 51,073 143.95
7 Japan 1,492,000 45,287 34.93
1 United States 13,703,567 42,343 99.95
12 Australia 826,400 38,798 106.91
13 Canada 758,600 35,574 59.69
29 Argentina 135,800 14,229 25.80
30 Hungary 125,900 12,200 65.68
22 Turkey 247,100 7,106 28.94
26 Poland 169,800 4,927 27.25
25 Mexico 179,800 3,207 13.29
20 Russia 356,500 2,500 17.00
23 Brazil 229,400 1,234 12.41
24 South Korea 220,100 1,234 18.25
19 China 363,000 271 5.11
28 Indonesia 140,000 146 16.59
27 India 149,200 130 5.03

[54]

Financial systemEdit

Are the banks tightly regulated with clear capital adequacy requirements? Are banks required to be widely held? Are banks too big to be bailed out eg Iceland's major bank had grown internationaly and was so big the Iceland government couldn't save it without bankrupting the country? Are there state owned banks that are politically influenced?

Investment regulationEdit

Is mark to market required for financial assets? Is there an independent securities regulator? Does the regulator have a record of successful enforcement? Are penalties for insider trading significant?

CorruptionEdit

What rating does the country have on the corruption index?

Freedom of the pressEdit

Is there a free press? Is there freedom of information?

Budget outcomeEdit

Does the government sector run an overall surplus or deficit?

Wealth distributionEdit

Is wealth distribution broader or narrower than the Pareto principle?

Current accountEdit

Does the country have a current account deficit or surplus?

Balance of tradeEdit

Does the country export more than it imports. China does and has a surplus. The US doesn't and has a deficit.

Debtor or creditor nationEdit

US is a major debtor. China is a major creditor, it holds lots of US bonds.

Boom bust cycleEdit

Is there a repeated pattern of booms and busts?

Debt productivityEdit

In late 2008 the US debt was 4 times GDP. From 1952 to 1972 debt was less than 1.5 times GDP. [55]

Country tableEdit

Country comparison
Country Market Status Debtor Market freedom 5 year GDP growth
US Developed Debtor 0.8 2
China Emerging Creditor 0.3 9


ReferencesEdit

  1. http://www.econ.yale.edu/~shiller/data/ie_data.xls Shiller accessdate=14 March 2009
  2. http://www.hussmanfunds.com/wmc/wmc100308.htm The Rubber Hits the Road - 8 March 2010
  3. http://www.debtdeflation.com/blogs/2009/03/05/after-our-economic-dunkirk/ After our Economic Dunkirk
  4. http://en.wikipedia.org/wiki/List_of_countries_by_GDP_%28PPP%29
  5. http://en.wikipedia.org/wiki/List_of_countries_by_GDP_%28PPP%29
  6. http://en.wikipedia.org/wiki/List_of_countries_by_GDP_%28real%29_growth_rate
  7. http://en.wikipedia.org/wiki/List_of_countries_by_public_debt
  8. http://www.finfacts.ie/irishfinancenews/article_1016894.shtml
  9. https://www.cia.gov/library/publications/the-world-factbook/rankorder/2079rank.html
  10. http://en.wikipedia.org/wiki/List_of_countries_by_population
  11. http://en.wikipedia.org/wiki/List_of_countries_by_current_account_balance_as_a_percentage_of_GDP
  12. http://www.debtdeflation.com/blogs/2009/12/01/debtwatch-no-41-december-2009-4-years-of-calling-the-gfc/
  13. http://www.debtdeflation.com/blogs/2009/12/01/debtwatch-no-41-december-2009-4-years-of-calling-the-gfc/ Steve Keen's Debtwatch 2007
  14. http://www.mckinsey.com/mgi/reports/freepass_pdfs/debt_and_deleveraging/debt_and_deleveraging_full_report.pdf McKinsey Exhibit 7
  15. http://www.imf.org/external/pubs/ft/spn/2009/spn0925.pdf IMF STAFF POSITION NOTE November 3, 2009 SPN/09/25
  16. http://www.imf.org/external/pubs/ft/spn/2009/spn0925.pdf IMF STAFF POSITION NOTE November 3, 2009 SPN/09/25
  17. http://www.myprops.org/content/Jim-Cramers-2009-Predictions-vs-Actual/ Jim Cramer's 2009 predictions
  18. http://investmentpostcards.wordpress.com/2007/06/05/us-equity-returns-what-to-expect/
  19. http://www.crestmontresearch.com/pdfs/Stock%2020%20Yr%20Returns.pdf
  20. http://www.fnarena.com/index2.cfm?type=dsp_newsitem&n=7827D1BE-1871-E587-E1FD5FCB5C217E7F A Rise Too Far? in FNArena News dated March 04 2008 By Greg Peel
  21. http://www.debtdeflation.com/blogs/2009/03/03/the-rba-doesnt-get-it/ The RBA doesn’t get it Published on March 3rd, 2009 by Steve Keen in Debtwatch
  22. http://www.gold-eagle.com/editorials_08/lundeen022809.html The 1929 & 2007 Bear Market Race to The Bottom Week 72 of 149
  23. http://www.gold-eagle.com/research/lundeenndx.html index of articles by Mark J Lundeen Lundeen following the 07-09 bear market
  24. http://www.equitiesmagazine.com/article_winners_and_sinners_1208.php A super bear is upon us
  25. http://www.belfasttelegraph.co.uk/business/business-news/uk-house-price-falls-among-steepest-in-the-world-14213515.html
  26. http://www2.standardandpoors.com/portal/site/sp/en/us/page.topic/indices_csmahp/2,3,4,0,0,0,0,0,0,0,0,0,0,0,0,0.html
  27. http://www.knightfrank.co.uk/press/Knight-Frank-Global-House-Price-Index-Q4-2008.aspx Knight Frank Global House Price Index - Q4 2008
  28. http://www.investorsinsight.com/blogs/john_mauldins_outside_the_box/archive/2009/05/11/the-33-000-000-000-000-question.aspx Niels C Jensen writing in the May 2009 Absolute Return Newsletter
  29. http://au.finance.yahoo.com/intlindices?e=asia
  30. http://www.mscibarra.com/about/indexdata_tou.jsp?/products/indices/stdindex/performance.html
  31. http://www.crestmontresearch.com/content/market.htm Crestmont charts
  32. http://www.myprops.org/content/Jim-Cramers-2009-Predictions-vs-Actual/ Jim Cramer's 2009 predictions
  33. http://www.gold-eagle.com/editorials_05/lundeen110807.html Stock Market Historical Valuations 1925 to 2007 - Part 2: Stock Earnings & Dow Jones Industrial Average accessed 13 April 2009
  34. http://www.incrediblecharts.com/tradingdiary/2009-03-10_economy.php#labor Are You Unemployed Or Are You Jobless?
  35. http://seekingalpha.com/article/118339-end-of-the-recession-in-2009 End of the Recession in 2009?
  36. http://www.fnarena.com/index2.cfm?type=dsp_newsitem&n=7827D1BE-1871-E587-E1FD5FCB5C217E7F A Rise Too Far?
  37. http://www.rba.gov.au/Speeches/2009/sp_ag_180209.html The Global Outlook by Malcolm Edey, Assistant Governor (Economic) at Committee for Economic Development of Australia (CEDA) Economic and Political Overview 2009 in Sydney on 18 February 2009
  38. http://www.debtdeflation.com/blogs/2009/03/03/the-rba-doesnt-get-it/ The RBA doesn’t get it
  39. http://web.archive.org/web/20080511152722/http://www.debunkingeconomics.com/debt/KeenDebtABC_Online200702.pdf The elephant in Australia's economic living room
  40. http://www.debtdeflation.com/blogs/2009/03/14/rory-robertson-designs-a-car/ Rory Robertson designs a car accessdate=15 March 2009
  41. http://www.debtdeflation.com/blogs/2009/04/09/whod-a-thought-it-unemployment-leaps-05-in-a-month/ Who’d a thought it? Unemployment leaps 0.5% in a month accessed 08 April 2009
  42. http://www.comstockfunds.com/files/NLPP00000/377.pdf
  43. http://blogs.wsj.com/economics/2009/02/24/a-look-at-case-shiller-numbers-by-metro-area-6/
  44. http://investing.thisismoney.co.uk/companyresearch/100815/Brent_Crude/company_charts.html Brent crude
  45. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=962461 accessdate=7 April 2009
  46. A Quantitative Approach to Tactical Asset Allocation Mebane T. Faber May 2006, Working Paper Spring 2007, The Journal of Wealth Management February 2009, Update Available from http://papers.ssrn.com/sol3/papers.cfm?abstract_id=962461
  47. http://www.crestmontresearch.com/pdfs/Stock%2020%20Yr%20Returns.pdf RETURNS OVER 20-YEAR PERIODS VARY SIGNIFICANTLY
  48. http://publications.fidelity.com/investorsWeekly/application/loadArticle?pagename=IW081121MAREmarket
  49. http://publications.fidelity.com/investorsWeekly/application/loadArticle?pagename=IW081121MAREmarket Fidelity article on PE
  50. http://publications.fidelity.com/investorsWeekly/GetPdf.dyn?pdf=MARE_Exhibit2 Fidelity PE Chart
  51. http://www.acredittrader.com/?p=81 US CDS above 100bps: it’s a MAD MAD MAD MAD World!
  52. http://www.debtdeflation.com/blogs/2009/03/05/after-our-economic-dunkirk/ After our Economic Dunkirk
  53. http://www.chrismartenson.com/blog/crisis-explained-one-chart-debt-gdp/11570 The crisis explained in one chart: Debt-to-GDP
  54. http://en.wikipedia.org/wiki/List_of_countries_by_external_debt List of countries by external debt
  55. http://www.comstockfunds.com/files/NLPP00000/374.pdf

See alsoEdit

Other Wikia pages that may be of interest include:
Online market data
Shadow The Shadow Screen is a screen focusing on MicroCap stocks that the American Association of Individual Investors believes will tend to outperform the market.
S&P 4 Star Growth This screen focuses on the Standard and Poors universe of stocks, and in particular focuses on the use of their star rating system, with extra restrictions to keep things manageable.

Archive Current ThinkingEdit

As At 17 July 2010

Exposure: 30% in stock market through emerging, commodity, Australian and international funds, 70% mixed bonds (plus Australian real estate exposure)

Summary: Economic fundamentals have turned down, debt and deficit levels are hotly debated, market is a bit volatile and many markets have death crosses 50/200. GDP growth remains positive in many major markets, but slowing seems inevitable and double dips are possible if not probable.

I am concerned about slowing in economic indicators such as ECRI Weekly Leading Index, various PMI's (Purchasing Managers Index) and the rise of deficit hawks and austerity programs including the UK, and the run off of stimulus.

Price action seems to indicate weakness and many markets have over the last few weeks had falls and "death crosses" (50SMA crosses below 200 SMA. Care needs to be taken with whipsawing, particularly with longer SMA's.

The Aussie seems to be entering a declining trend, or trending sideways in a volatile range. The Euro seems to be mounting a recovery rally relative to the USD, but how long will it last? The EURO zone seems to be unlikely to continue in the long term as some countries (Club Med or PIIGS) do not have the same values/temperaments as the Northern Europeans. This lower productivity and work input means that with a fixed currency beyond their control (the Euro) the countries with lower output per capita and lower exports need to enforce internal adjustment rather than letting exchange rates perform external adjustment.

US Housing may be experiencing a further decline as tax credits are withdrawn and "traffic" declines while ARM's are resetting rates but also moving to Principal repayment.

Household debt remains extremely high as a percentage of GDP in most developed countries although there is some evidence of deleveraging. Sovereign debt is also high in most developed countries.

In the US, the AIG bail out and bank bailouts have protected bondholders and the Too Big To Fail syndrome has protected banks, or at least their bondholders and counterparties. The provision of liquidity has also protected shareholders who would otherwise have lost everything as lost liquidity destroyed solvency. The ratings agencies are essentially unreliable for any predictive purpose based on their sovereign and banking failures. Many US states are in deep trouble and cutting work forces. Low retirement ages and generous defined pensions are coming under attack. The US housing market may well be being impacted by demographics as the baby boomers arrive a downsizing time. There has been a dramatic fall in the 10 year treasury note from 4 to 3%. This has made shares relatively the most attractive since 1960 at double the earnings yield of the 10 year note interest rate, however there are many deficit hawks who say that the 3% rate is unsustainable. However during Japan's deleveraging real long term interest rates have been below 4% for over 15 years. US U6 un and under employment remains above 16%. Spain has 20% unemployment. There seems to be less concern about inflation now than several months ago and deflation is the near term worry. During deflation real bond yields are higher than nominal bond yields, but share prices may fall. The US has also been preoccupied with the BP gulf oil spill which has had a dramatic effect on the gulf states tourism and fishing industries and some say real estate near the coast. The Gulf environment is being decimated.

There are doubts about China's growth being sustainable at current levels and this flows to commodity prices. There is also said to be a real estate bubble with whole cities as ghost towns and no secondary sales and with very poor qualtiy construction which will not last as it does in Western cities.The Baltic index has had a huge fall but this my be partially attributable to the introduction of new net capacity ordered in 2007.

Eastern Europe is facing major problems because of foreign debt denominated in foreign currencies having dramatically increased due to falls in many domestic currencies.

If anything I would like to reduce exposure to the AUD by currency swaps as if the international markets fall further to September/October as I expect them to, the AUD will likely also fall. I cannot do this at present as most of my investable funds are in superannuation or real estate.

It is tempting to sell a low yielding but pre capital gains tax residential investment in Australia and to invest in the US housing towards the end of this year. While further falls are possible in the US, the market does appear to be trying to form a bottom. Australia is sometimes said to be in a bubble and median house prices are a very high multiple of median incomes. Affordability has recently declined as interest rates have increased.

As at 17 March'10

In November I reduced exposure to shares (40%) (particularly geared equities) and increased exposure to bonds (45%). Cash like is 15%. I continue to maintain my long term direct property holding outside of super, although at 9 times median income Sydney has potential for slow growth (ameliorated by a shortage of housing).

Most stock markets have been moving sideways or down since either November or January. Most have recently reverted to a BUY/HOLD position based on Index > 50 > 100 > 200 with 50 heading up. Greek debt crisis appears to being managed. China is close to being in a downtrend. Spain has suffered a major fall based on sovereign debt concerns but the re-rating may be over. Total, Consumer, Government and External Debt and government deficits have been a hot topic as has the USD/China exchange rate and the state of the Chinese economy. The US economy shows some signs of improvement but a second wave of mortgage resets and reduction of stimulus leave many concoerned about a potential double dip.

Debate about the importance of government and external debt range from the ratings agencies who are threatening downgrades of US and UK sovereign debt if certain thresholds are crossed to economists who maintain that sovereign debt denominated in the domestic currency does not matter as under a fiat currency goverenments can create money to pay interest, although the impact on currency doesn't seem to be considered seriously by such economists, nor the problem of fixed exchange rates like the China/USD exchange rate whereby no matter how much the US debases its currency it cannot reduce Chinese advantage without resorting to tariffs against China. Not everyone can debase the currency to have an export led recovery at the same time!

The EUR and GBP have reduced substantially against the USD and AUD. The AUD is very high against USD, EUR GBP, CHF and Indian Rupee (INR), but less so against JPY, Thai Baht (THB) and Indonesian Rupiah (IDR). This raises the question of changing some assets to increase FX exposure to reduce AUD exposure now that the AUD is so high.

Economies and markets seem finely balanced between
1) deficit and sovereign debt reduction, withdrawal of stimulus, reduction in Quantitative Easing, a perceived need to raise interest rates to "normal" levels, possible emergence of inflation and rising commodity prices on the one hand, and
2) fear of a double dip, concern about high un/under employment, falling real estate prices on the other.

This recovery in stock market is still one of the fastest in modern times. In Australia after 260 days from the bottom, the market has increased a greater percentage from the bottom level (60% peak in Jan 2010 after 217 days) than any of the other 5 recoveries since and including 1987. The 1991 recovery only lasted 207 days before commencement of the next 20% fall in 1992/3. Only the 1992 recovery got higher in percentage gain terms than the current recovery in less than 550 days. The 1992 recovery reached a high of 72% increase from the trough after 308 days before commencing the next 20% fall. The 1995 recovery took 1792 days to get 88% increase, while the recovery from 2003 took 1180 days to increase 156%. In hindsight the continued stimulus of low interest rates during the later stages of this recovery is often criticised.

Most likely scenarios include:

1. Normal recovery cycle to a new market high over 2.5 to 5 years, gradual increases in short and ultimately long term interest rates leading to bond losses as stock markets continue to rise. This is partly fed by growth in manufacturing output to replenish inventories.
Likelihood: Unfortunately given the gross US housing oversupply when shadow inventory is included and the inability of consumers to fund increased spending through debt, this scenario is unlikely.
Strategy: Buy shares, sell bonds and gold.

2. Japanese style long term market downtrend over a further 10 to 15 years as US deals with retracement of the credit bubble, 16% U-6 unemployment, negative equity of 30% of mortgagors and hiding of bank insolvency through abandonment of mark to market and huge government losses on Fannie, Freddie and assets bought from banks in 2008/9. See  http://www.dshort.com/articles/2009/Japan-US-bubbles-and-deflation.html
Likelihood: Most probable given unsustainability of past growth of US consumer, recent growth of government debt and possibly total debt, but this is the most politically difficult outcome.
Strategy: be prepared to sell equities and buy long bonds in USD and EUR when SELL signals given, any time but probably within 3 to 12 months

3 Money supply, interest rate and stimulus driven inflation as a cure for unemployment, US Debt to GDP ratios and to reflate real estate values, commodities and shares but at the expense of falling USD and further debasement of savings as opposed to "investment".
Probability: Politically most palatable to the electorate and wealthy elites who fund politicians.
Strategy: Invest in hard assets and stocks. Commodities and gold increase in USD terms, but not necessarily in currencies like AUD which likely rides a commodity boom. Don't hold cash. Bonds at risk both from currency debasement and as inflation rises above target range and interest rates follow slowly.

Investments: Under review - should I increase equities to gain likely next leg up given recovery is barely 6 months old and reduce bonds at risk from increasing rates as economy continues in recovery? Given recent strength of AUD should any increase in equities be in unhedged global equities?

Conclusion: No decision yet


ExplodingMoneyBases


As at 4 Jan '10

The speed of the recovery in the ASX isby far the fastest of all recoveries since 1984 in terms of percentage gain in 201 days - 55%.

Even if increases in government debt totally offset consumer deleveraging (but did not increase total debt) the failure of consumers to increase debt would mean that the rte of growth would be significantly lower than since 2003 (Steve Keen's Debtwatch).

Most likely scenarios include:

1. Normal recovery cycle to a new market high over 2.5 to 5 years increases in long term interest rates leading to bond losses as stock markets continue to rise. This is partly fed by growth in manufacturing output to replenish inventories.
Likelihood: Unfortunately given the gross housing oversupply when shadow inventory is included and the inability of consumers to fund increased spending through debt, this scenario is unlikely.
Strategy: Buy shares, sell bonds and gold.

2. Japanese style long term market downtrend over a further 10 to 15 years as US deals with retracement of the credit bubble, 16% U-6 unemployment, negative equity of 35% of mortgagors and hiding of bank insolvency through abandonment of mark to market or huge government losses on Fannie, Freddie and assets bought from banks in 2008/9. See  http://www.dshort.com/articles/2009/Japan-US-bubbles-and-deflation.html
Likelihood: Most probable given unsustainability of past growth of US consumer and total debt, but this is the most politically difficult outcome 
Strategy: be prepared to sell equities and buy long bonds within 6 to 18 months

3 Money supply driven inflation as a cure for US Debt to GDP ratios and to reflate real estate values and shares but at the expense of falling USD and further debasement of savings as opposed to "investment".
Probability: Politically most palatable to the electorate and wealthy elites.
Strategy: Invest in hard assets and stocks. Commodities and gold increase in USD terms, but not necessarily in currencies like AUD. Don't hold cash. Bonds at risk as inflation rises above target range.

Invetments: Under review - should I increase equities to gain likely next leg up given recovery is barely 6 months old and reduce bonds at risk from increasing rates as economy continues in recovery.

Conclusion: No changes made in investments at Jan 10


As of 1 November 2009:
Since the bottom in early March most markets rallied to 16 October and volatility decreased dramatically. From 16 to 30 October the markets have fallen about 5% and volatility increased.

  1. US S&P 500: 6765 on 6 March to 10979 on 19 Oct and 4214 on 30 Oct, up 62.3%or 96%pa
  2. Australian All ordinaries: 3117 to 4687 on 16 October and 4647 on 30 October, up 49.1% or 75% pa
  3. Japanese Nikkei: 7055 to 10640 on 26 August and 10035 on 30 October, up 42.2% or 65% pa
  4. German DAX: 3666 to 5854 on 14 October and 5395 on 30 October, up 47% or 72% pa
  5. British FTSE: 3512 to 5243 on 19 October and 5045 on 30 October, up 44% or 67% pa
  6. Chinese Shanghai: 1720 on Nov 3 2008 to 3471 on 4 August 2009 and 2996 on 30 October, up 74% or 75% pa
  7. Ten out of 12 major equity indices I watch have breached their 50 day moving averages from above within the last 5 days and remain at about the level of that average.

This is has been a very fast recovery in stock markets, reflecting the vast stimulus spending, quantitative expansion and zero interest rate policy being followed in some major economies.
The market is presently more than 15% above the 200 day moving average which is a warning sign that a fall or sideways consolidation is likely.
Official interet rates have risen in Australia and a further rise is expected on 3 November.
Some stimulus measures are reducing notably "Cash for Clunkers" in the US and Insulation and First Home Buyers grants in Australia and the US (which primarily serve to inflate prices of existing realty as they are not limited to new home construction). There remains a huge shadow inventory of residential property in the US owned by banks or in default more than 60 days US Unemployment, underemployment, numbers of people on food stamps, crdit card charge offs and consumer debt ratios are all at and all time highs. The US consumer spending is 12 to 17% of the global economy. . Debt to GDP ratios in the US in particular, but also in many other developed countries are at all time highs and cannot be sustained at these levels. The AUD has risen dramatically:

  1. EUR/AUD: from 49 in Dec 08 to 62 EUR at 30 Oct 09, a rise of 27% or 30%pa
  2. GBP/AUD: from 55 in Oct 08 to 55 GBP at 30 Oct 09, a rise of 45% or 43%pa
  3. USD/AUD: from 62 in Nov 08 to 90 GBP at 30 Oct 09, a rise of 45% or 48%pa

and is in the top 10% of it's range against many currencies over 10 years, although it is about the middle of its range against the JPY Yen.

There are risks of a double dip recession through deleveraging outweighing stimulus or of a significant correction due to the overbought nature of a market which has enjoyed a rapid rise. There are also risks for the AUD. My portfolio has been aggressive since mid march including geared shares which have doubled in value and increased as a percentage of portfolio.
I am also way outside the old rule of thumb of 100 less your age in equities at 90% rather than 43%.

My research using Mark Lundeen's BEV charts formula in Excel is that falls of 4% during bull markets are very common, of 6% common, of 8% not all that uncommon and occasionally there are falls ranging up to 19% (bear markets are 20% falls) which are ignored when talking of bear markets. The developed country markets have in the main recovered and are now at 2009 highs and again 35% above the 2009 bottom.

I have realised that I do not want to suffer a major loss where I can't at least reinvest substantially and so want reduced equity exposure, increased cash and gov't securities. I would rather miss out on some gains that risk prejudicing the next 20 years income even if the chances are 60/40 in favour of continued market rises (60/40 is the long term ratio of up to down years!!)

On 2 November I rebalanced to:
Cash         18.1
Fixed Int    45.9
Equities     35.5
Other          0.5
               100.0
100-Age (57)                        43.0
Equities over/(under) weight    -7.5
   
AUD    55.4
FX       44.1  (Split between equities and fixed interest and varying with the decisions of the fixed interest fund manager.)Other     0.5

While I will undoubtedly regret missed gains, it will be nowhere as much as I would regret a period of 1910 to 20, or '29 to '33, or '37 to '42, or '46 to '50, or 73 to '83, or 2000 to 2003 or 2008 to 2009 now that I will be reducing the amount left in the game as I withdraw living expenses each year.

The 100 - age in equities I regard merely as a flexible guide to moving to a less volatile portfolio as one is in less of a position to ride out a deep downturn in markets.

I would prefer to reduce AUD exposure and Equity exposure without taking on Fixed Interest exposure, but the funds available through my super do not seem to allow an efficient other method.

==Edit

20 July 2009Edit

As of 20 July: There has been a correction of about 7% to the rally since the 6 March bottom which had me on the verge of selling, but the markets didn't breach the 200 day moving average or my trigger point. My research using Mark Lundeen's BEV charts formula in Excel is that falls of 4% during bull markets are very common, of 6% common, of 8% not all that uncommon and occasionally there are falls ranging up to 19% (bear markets are 20% falls) which are ignored when talking of bear markets. The developed country markets have in the main recovered and are now at 2009 highs and again 35% above the 2009 bottom.

Bullish: Many markets have seen the 100 day sma cross above the 200 day sma, even in the slower recovering developed anglo and European markets. This has caused many who follow follow 10 and 12 month sma's to move to "all in" positions. I also perceive that Australia could gradually de-couple from the US based on two things:
1. we have lots less government debt than the US, so can sensibly fund infrastructure by government debt and the beneficiaries of the infrastructure pay off the debt.
2. China's domestic growth helps Australia, but not the US other than indirectly if Chinese sell USD assets to fund Chinese growth, driving down the US dollar and stimulating real economic activity in the US.

Bearish: Nouriel Roubini (who with Steve Keen, Robert Shiller and a very few others forecast the US housing and stock market crash) points out the cleft the authorities are in with high debt, debt and "printed money" stimulus, high un and underemployment reducing household income in the US which is likely to further reduce consumption and house prices.[1]. While Japan's growth is threatened by an aging population and excessive government debt [2] China's growth will likely more than offset this.

On balance I will stay about 90% invested mainly in the Australian market but with some international exposure and commodity stocks exposure. However I am watching like a hawk for sell signals on the 200 sma and the 200/100 sma cross and will be regularly setting notional stop loss action points. I can see 50% risk of a 50% downside within 2 years,[3] and also a 50% chance of a higher market, as much as a further 40% within 2 years - all that expansion of the money supply has to go somewhere! There is a chance of getting whipsawn on the 100/200 sma's and that happened in the early 1930's, but that to me in my circumstances (about to retire) is a lesser evil than taking a 50% fall from where we are now.

I continue to hold ungeared investment property in Sydney based on tight supply and low rates making property affordable, although increasing unemployment creates risk. If value fall significantly (30%),as in the US, I will then gear up to buy more. Transaction costs and rental income mitigate against selling in fear to re-buy a different property later.

Periods of apparent sideways volatility are, after adjustment for inflation, periods of substantial real loss.

24 May 2009Edit

As at 24 May the major factors influencing my thinking are:
"Bearish'

  1. total private and public indebtedness of major economies is only going to increase as governmetns continue to stimulate their economies by borrowing to fund deficits. These debt levels apear to be at the limits of sustainability already.
  2. private debt in major economies appears to be at the limit of sustainability and so credit fuelled consumer demand at anywhere near previous levels appears unlikely, reducing demand and the rate of economic growth when it finally resumes at lower levels or output.
  3. the market had risen about 33% from its March lows and some stocks like major US banks have tripled in price, so the market may have gotten too far ahead of the real economy
  4. borrowing requirements of governments will raise long term interest rates, increasing cost of private investment and consumption. 8 June Addition: Feb 2036 4.5% bonds have had effective yields rise from less than 2.75% in Dec 08 to more than 4.5% in June 09 for a loss of over 20% in value. And the government borrowings for stimulus have only just started!
  5. unemployment continues to rise reducing demand and increasing fear and saving
  6. dividend yields have fallen back as the market has risen, but there is a real risk of further dividend cuts as the recession continues and near-current levels of activity become the new normal as private borrowing for consumption reduces/ceases or consumers repay debt. eg how long before we see the 2006-7 level of car sales again?

Bullish

  1. 40 day moving averages are crossing above 80 and in emerging markets 50 day averages are crossing above 100. These buy signals rarely cause whipsawing (but it can lose lots of money when they do eg in the mid 30's and mid 40's)
  2. "quantative easing" ("printing money") will debase the currency of those countries that engage in it and as this is mainly major economies the likely resultatnt devaluation will reduce their external demand as imported goods rise in price, however it will stimulate jobs in the domestic economies as imports are replaced. Countires which can't replace imports eg oil importers face larger problems as the increased prices of price inelastic imports reduces spending power available to other sectors of the economy. (does this explain the US's emerging concern about oil dependency, reduced fuel consumption and commencing a transition to hybrid and electric vehicles?)
  3. interest rates are so low that there is no real return in holding monetary assets and the big falls in long term bond yields appear to be over as government borrowing requirements to fund stimulus are calculated.

On this basis I am continuing to switch to stock market investments (being heavily into stocks has recently been a very successful strategy), but I am watching for sell signals from the 40/80 and 50/100 and will dramatically reduce exposure if I see sell signals.

I am going to start researching periods where markets spent many years trading between ranges in up, sideways or down patterns but without dramatic growth and looking at which moving average crosses gave effective signals without excessive whipsawing. Examples are:

  1. (not doing this now as data too hard to get) Dow from 1905 to 1920,
  2. Dow from March 32,
  3. Nikkei from March 92,
  4. Nasdaq from March 2000,
  5. S&P 500 from 1966 to 1983.

9 April 2009Edit

As at 9 April 2009, although I am worrying about:

  1. the risk of further falls as debt can't increase the way it has over the past 10 years
  2. growth being stifled for the next 10 years in developed countries,
  3. that unemployment is going to rise significantly over 09,
  4. that Eastern Europe is a real mess and the extent might not be fully disclosed yet
  5. that earnings may continue to fall as at the June and maybe even December '09 half years,
  6. the market having risen over 20% since 9 March 2009 (technically commencing a bull market)
  7. unemployment still rising dramatically in most major economies
  8. private debt stabilisation alone taking 20% out of demand in the Australian economy (and similar in USA and many other major economies)
  9. fear of unemployment reducing demand and causing an increase in savings, reducing debt, deleveraging and consequently reducing demand even more than 20%
  10. government stimulus and borrowing being swamped by the private deleveraging due to the relative proportions of the private and government sectors (about 25 to 75 or 3:1 in Australia)

I also think:

  1. it is not a good idea to bet that things can get forecast to be dramatically worse than they are currently being forecast,
  2. all the fears above could well be forecast and priced in already
  3. that as this is already the second worst crash in a hundred years in terms of stock price falls and probably house price falls that the chances of markets getting much worse than their 9 March lows are low?
  4. that it far more likely that Governments would run the printing presses and inflate their way out of it, rather than run the risk of another great depression
  5. that a lot of the stock overhangs in US houses and vehicles around the world are greatly reduced,
  6. that current production rates for houses, apartments, commercial buildings, cars and major appliances are now at dramatically lower levels than the averages for the last 5 years so deleveraging is already priced in and
  7. some physical economy sectors are showing a flattening out
  8. the dramatic explosion in money supply in the G4 may ultimately offset private deleveraging to a much greater extent than public borrowing and expenditure
  9. the Shanghai composite 30 day EMA has broken to the upside of the 100 day EMA

and as I am looking at holding share market funds for 5 or more years and as I am concerned as much about not getting more cash in before the market recovery as I am about the market going down before it recovers, it still looks sensible time to continue dollar cost averaging that part of my portfolio that is "near cash" into shares. I implemented a strategy of allocating 10% of cash and bond assets available to be held in stocks for 5 years into each month from March 09 to December 09, setting a date on which to buy each month and not buying other than on that unless the 100 day moving average crosses above the 30 day moving average in which case I may buy and extra month's stock and having nothing for December 09. So far I have benefited from this strategy as I caught about half of the rebound after 9 March with the new investment (and 100% of it with the previously invested amount. If after I have invested for another 4 months the market has not had the 30 day moving average cross above the 100 day ma I will stop and only invest the remaining 50% after the cross takes place. I am diversifying my portfolio by making my next purchase in a developing markets fund, particularly as the Shanhai composite has had the 30 day ema cross above the 100 day ema.

With the recent explosion in the money supply there is a reasonable expectation of asset price inflation. Compare the money creation in the last 6 months to that in 2002. The expansion is 10 times as great for the US now compared to 2002. Now could be the time to buy selectively asset classes which have fallen dramatically in value. If inflation is going to be the outcome of the money supply explosion, it is time to move out of cash, buy physical assets that are not still priced in a bubble and borrow to do it. Whether it has any effect on real GDP is another matter. Is this a welcome to Europe in the 30's?

5 March 2009Edit

As at 5 March 2009, although I am worrying about the risk of further falls as debt can't increase the way it has over the past 10 years so growth will be stifled for the next 10 years in developed countries, that unemployment is going to rise significantly over 09, that Eastern Europe is a real mess and the extent might not be fully disclosed yet and that earnings may continue to fall as at the June and maybe even December '09 half years, I also think that it is not a good idea to bet that things can get forecast to be dramatically worse than they are currently being forecast, so all the bad news could well be forecast and priced in already. As this is already the second worst crash in a hundred years in terms of stock price falls and probably house price falls what are the chances of it getting much worse? What are the chances of this being another great depression? Isn't it far more likely that Governments would run the printing presses and inflate their way out of it, rather than run the risk of depression? Also a lot of the stock overhangs in US houses and vehicles around the world are greatly reduced, and current production rates for houses, apartments, commercial buildings, cars and other major appliances are now at dramatically lower levels than even the averages for the last 5 years.

As I am looking at holding share market funds for 5 or more years and as I am concerned as much about not getting more cash in before the recovery as I am about the market goging down before it recovers, it looks like a sensible time to start dollar cost averaging that part of my portfolio that is "near cash" into shares. I am considering a strategy of allocating 10% of cash and bond assets available to be held in stocks for 5 years into each month from March 09 to December 09, setting a date on which to buy each month and not buying other than on that unless the 90 day moving average crosses above the 30 day moving average in which case I may buy and extra month's stock and having nothing for December 09. If after I have invested for 5 months the market has not had the 30 day moving average cross above the 90 day ma I will stop and only invest the remaining 50% after the cross takes place. A more conservative strategy might be to wait until June to start or to only commit 5% per month, taking you out until October 2010 for your last investment. After a few months I will look at whether the purchases should be in Aussie stock/super funds, International and later whether the purchases ought be in Developing markets and commodities.

With the recent explosion in the money supply there is a reasonable expectation of asset price inflation. Compare the money creation in the last 6 months to that in 2002. The expansion is 10 times as great for the US now compared to 2002. Now could be the time to buy selectively asset classes which have fallen dramatically in value. If inflation is going to be the outcome of the money supply explosion, it is time to move out of cash, buy physical assets that are not still priced in a bubble and borrow to do it. Whether it has any effect on real GDP is another matter. Is this a welcome to Europe in the 30's?

ExplodingMoneyBases
  1. http://www.rgemonitor.com/roubini-monitor/257274/mounting_job_losses_will_hurt_consumption_housing_banks_balance_sheets_public_finances_and_lead_to_protectionist_pressures Roubini on mounting job losses impact
  2. http://www.frontlinethoughts.com/printarticle.asp?id=mwo071009 The land of the setting sun
  3. http://www.dshort.com/charts/mega-bear-2000-comparisons.html?mega-bear-2000-quartet-real-extended Dshort Inflation adjusted chart of major crashes

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