Investing strategies and secular bear markets

**Mick100** · 06-06-2008, 10:55 AM

The Stock Market’s Secular Trend

Steve Saville

Below is an extract from a commentary originally posted at www.speculative-investor.com on 25th May, 2008.
This is a topic we've covered numerous times over the years, but it's so important that we are re-visiting it in today's report.
There's a big difference between a stock market that's rising in real (purchasing power) terms and one that's only rising due to currency depreciation. The reason is that a smart person invests to obtain more purchasing power, not more money. To put it another way, the amount of money you have is meaningless; what matters is the amount of purchasing power you have. At this time, for example, someone with a net worth of 100 million Zimbabwe dollars would be considered poor whereas someone with a net worth of 100 million US dollars would be considered rich; but if the US$ continues to lose purchasing power then at some point in the future a person with a net worth of 100 million US dollars will not be considered rich.
Further to the above, the stock market's secular trend can't reasonably be determined by referring to nominal price changes. In particular, just because the stock market happens to be making new highs in nominal price terms doesn't mean that a secular bull market is in progress. If it did -- that is, if the main consideration was the nominal price change -- then the richest people in the world today would be those who invested in the Zimbabwe stock market five years ago.
As discussed in many previous commentaries, the best way to 'see' the US stock market's secular trend is to look at a long-term chart of either the market's valuation (price/earnings ratio) or the market's performance relative to gold. As illustrated by the following chart-based comparison of, from top to bottom, the S&P500 Index, the earnings of the S&P500 Index, the S&P500's price/peak-earnings ratio, and the Dow/Gold ratio, over the past 80 years these alternative ways of ascertaining the stock market's real long-term trend have always yielded the same result.

The reason why the stock market's REAL long-term trend is so clearly defined by long-term trends in valuation and performance relative to gold is that investors, as a group, will invariably pay less for earnings that are perceived to be artificially boosted by inflation than for earnings that are perceived to be the result of real (sustainable) growth. Notice, for example, that the S&P500's earnings grew just as rapidly during the secular bear market of 1966-1982 as during the secular bull markets of 1942-1966 and 1982-2000. The difference is that during 1966-1982 there was increasing recognition of an inflation problem, leading to the compression of price/earnings multiples and dramatic weakness in the stock market relative to gold.
Nobody can make predictions with absolute certainty because the future is unknowable, but the performances of the S&P500's price/earnings ratio and the Dow/Gold ratio constitute very powerful evidence that a secular bear market commenced during 1999-2001 and is not yet close to being over.
June 2, 2008
Regular financial market forecasts and
analyses are provided at our web site:
http://www.speculative-investor.com/new/index.html

Mick comment:
this article point out what winner has been saying - even if earning hold up or continue increasing, PE's still fall during secular bears so share prices go sideways.
Better make sure your in the right sectors (food , energy, PM's) because the rest of the share market is probably going to go sideways for a long time - like 10-15 years
,

**Lizard** · 27-06-2008, 04:56 PM

Originally Posted by Lizard

NZX - If we are playing "guess the bottom" I have a level at the mid 3700's as next in line to provide an decent reversal. There is a more scary scenario which sees 3120 ish for the low - funny, that seems hard to imagine, but still less than a 30% fall off the high.

That 3120 ish is a bit less hard to imagine now than it was back in early January when the above was posted. To be honest, I'm feeling a bit less sanguine about it being the ultimate "scary scenario" low. More scary ones spring to mind...

... still, if we're going to play "guess the bottom" (which I know we all shouldn't do) and buy stocks, I am thinking next week might bring some opportunities - most of the buys I made on previous dips seem to be still in profit, so I'm willing to give it a small go.

Not expecting another bull market in a hurry though.

**Kookaburra** · 08-07-2008, 01:11 PM

This is what I think we are up against and my reason to stay out of this bear market, at present lacking the skills to short successfully.

COMMENTARY: THE WEEKEND INTERVIEW

Theodore J. Forstmann
The Credit Crisis Is Going to Get Worse

By BRIAN M. CARNEY
July 5, 2008; Page A9

New York

Twenty years ago, Ted Forstmann contributed a scathing – and prescient – op-ed to this newspaper warning that the junk-bond craze was about to end badly: "Today's financial age has become a period of unbridled excess with accepted risk soaring out of proportion to possible reward," he wrote in October 1988. "Every week, with ever-increasing levels of irresponsibility, many billions of dollars in American assets are being saddled with debt that has virtually no chance of being repaid."

Ismael Roldan Within a year, the junk-bond market had collapsed, and within 18 months Drexel Burnham Lambert, the leading firm of the junk-bond world, was bankrupt. Mr. Forstmann sees even worse trouble coming today.
For a curmudgeon, he is a cheerful man. When we met for lunch recently in a tony midtown restaurant, he was wearing a well-tailored suit, a blue shirt and a yellow tie. He spoke with the calm self-assurance of someone who has something to say but nothing left to prove.
"We are in a credit crisis the likes of which I've never seen in my lifetime," Mr. Forstmann warns. He adds: "The credit problems in this country are considerably worse than people have said or know. I didn't even know subprime mortgages existed and I was worried about the credit crisis."
Mr. Forstmann denies being an expert in the capital markets. But he does have some experience with them. He was present at the creation of the private-equity business. The firm he co-founded, Forstmann Little, rode the original private-equity boom in the 1980s while skirting the excesses of the junk-bond craze in the later years. It was for a time the most successful private-equity firm in the world, renowned for both its outsize returns and its caution. For two years after Mr. Forstmann wrote his 1988 op-ed, Forstmann Little sat on $2 billion in uninvested funds, waiting for the right opportunities. Savvy investments in Dr. Pepper and Gulfstream, among others over the years, helped make Mr. Forstmann a billionaire.
These days, he devotes most of his professional attention to IMG, the sports and entertainment agency. But the economy has him worried.
Mr. Forstmann's argument about the present crisis starts with the money supply. After Sept. 11, 2001, the Federal Reserve pumped so much money into the financial system that it distorted the incentives and the decision making of everyone in finance. He illustrates this with what he calls his "little children's story": Once upon a time, when credit conditions and the costs of borrowing money were normal, the bank opened at 9:00 a.m. and closed at 5:00 p.m. For eight hours a day, bankers made loans and took deposits, and then they went home.
But after 9/11, the Fed opened the spigot. Short-term interest rates went to zero in real terms and then into negative territory. When real interest rates are negative, borrowing money is effectively free – the debt loses value faster than the interest adds up. This led to a series of distortions in the financial sector that are only now coming to light. The children's story continues: "Now they [the banks] have all this excess money. And they open at nine, and from nine to noon or so, they're doing all the same kind of basically legitimate things with it that they did before."
So far, so good. "But at noon, they have tons of money left. They have all this supply, and the, what I would call 'legitimate' demand – it's probably not a good word – but where risk and reward are still in balance, has been satisfied. But they're still open until five. And around 3:30 in the afternoon they get to such things as subprime mortgages, OK? And what you guys haven't seen yet is what happened between noon and 3:30."
Straightforward economics tells us that when you print too much money, it loses value and prices go up. That's been happening too. But Mr. Forstmann is most concerned with a different, more subtle effect of the oversupply of money. When it becomes too plentiful, bankers and other financial intermediaries end up taking on more and more risk for less return.
The incentive to be conservative under normal credit conditions is driven in part by what economists call opportunity cost – if you put money to use in one place, it leaves you with less money to invest or lend in another place. So you pick your spots carefully. But if you've got too much money, and that money is declining in value faster than you can earn interest on it, your incentives change. "Something that's free isn't worth much," as Mr. Forstmann puts it. So the normal rules of caution get attenuated.
"They could not find enough appropriate uses for the money," Mr. Forstmann says. "That's why my little bank story for the kids is a fun way to put it. The money just kept coming and coming and coming and coming. What are you going to do with it? IBM only needs so much. The guy who can really pay his mortgage only needs so much." So you start thinking about new ways to lend the money, which inevitably means riskier ways.
"I don't know when money was ever this inexpensive in the history of this country. But not in modern times, that's for sure."
Combine this with loan syndication and securitization, and the result is a nasty brew. Securitization and syndication allow the banks to take the loans off their books and replenish their capital. They then use this capital to make new loans, which they securitize or syndicate and sell to the hedge funds, which buy them with the money they borrowed from the banks. For a time, everyone makes money.
In fact, for six years, a lot of people made a lot of money in this environment. So much money that, as Mr. Forstmann notes, the price of admission to the Forbes 400 list of the richest Americans has gone from $500 million 10 years ago to over $1 billion today. (Mr. Forstmann was bumped from the list two years ago, his reported 10-figure net worth no longer enough to keep pace.)
At the same time, both the size and the number of hedge funds and private-equity funds have ballooned. "I used to have one of the biggest private-equity funds in the world," he says matter-of-factly. "It was, I don't know, $500 million or a billion dollars. If you don't have a $20 billion fund now, you're kind of a [nobody]," Mr. Forstmann says. (The term he used to describe those of us without $20 billion PE funds was both more colorful and less printable than "nobody.") "And so what does that tell you?"
Mr. Forstmann hasn't raised a new fund in four years. But he doesn't blame the hedge funds or the private-equity funds – they are not the villains in his story. "Fundamentally, I don't see them as a cause," he says. "Obviously the proliferation of hedge funds and private-equity funds has created its own dynamic. But this proliferation is simply a result of the vast increase in the money supply."
Mr. Forstmann has been around a long time, so he's seen a lot. But is it possible that he's simply fallen behind the times? By his own description, he's a bit of a figure from another age – "a bit like Wyatt Earp in 1910."
But it would be a mistake to dismiss Mr. Forstmann's pessimism too quickly. After all, he knows something about both credit and crises.
"You've got [Treasury Secretary Henry] Paulson saying 'Oh, you see the good news is it's over.'" The problem, according to Mr. Forstmann, is that it's far from over. "I think we're in about the second inning of this." And of course, the credit crisis wasn't even supposed to last this long. "This all started in August [of 2007], and it was going to get cleared up by October. It hasn't gotten cleared up at all."
One reason is that the proliferation of new financial instruments has left the system more closely intertwined than ever, making a workout, or even a shakeout, much more difficult. Take what happened to Bear Stearns. "What should the health of one brokerage firm in America mean to the entire global financial system? To an ordinary person, probably not much. But in today's world, with all the interdependence, a great deal."
This circular creation of new credit, used to buy more newly created debt, all financed by ultracheap money and all betting with each other, has left the major firms hopelessly intertwined. "It's very interrelated," he says, locking his fingers together. "There's trillions and trillions of dollars that slosh around between all these places and if one fails . . ." He doesn't finish the thought.
Early in our conversation, Mr. Forstmann describes his conversational style as "Faulknerian." The word fits. He jumps between thoughts, examples and anecdotes in a pure stream of consciousness. One such aside is about Warren Buffett and the rule of the three "I"s.
"Buffett once told me there are three 'I's in every cycle. The 'innovator,' that's the first 'I.' After the innovator comes the 'imitator.' And after the imitator in the cycle comes the idiot. Which makes way for an innovator again." So when Mr. Forstmann says we're at the end of an era, it's another way of saying that he's afraid that the idiots have made their entrance.
"We're in the third 'I' for sure," he interjects an hour after first introducing the "rule." "And that always leads to something. Innovators don't just show up. Some disaster takes place because of the idiots, and then an innovator says, oh, look at this, I can do this, that or the other thing." That disaster is now.
In other words, "In order to fix what's going on in the United States there's going to have to be a certain amount of pain. The market's going to have to clear somehow. . . and it's hard for me to believe that it gets fixed without" upheaval in the financial system, the economy and the country as a whole. "Things are going to fail. Enterprises are going to fail. The economy is going to slow," he warns.
To be clear, although Mr. Forstmann talks about "fear and greed" getting out of whack, his is not a condemnation of "greedy speculators" or a "culture of greed" or any of the lamentations so popular among the populists in Washington. It is a diagnosis of the ways in which the financial sector responded to a government policy of printing money that was free, or nearly so. "The creation of much too much money caused all of this excess," he says. In other words, his is not an argument for draconian regulation, but for sound money.
Nor does he blame Alan Greenspan, even though he argues that this all started with the dot-com bubble and 9/11. "Greenspan," he allows, "had really tough decisions to make, so I don't think it's a black-and-white kind of thing at all." It was, and is, rather, "a case of first impression." Mr. Greenspan, he says, admits that he was "totally sure" that what he was doing was right. But he had "no idea what the consequences [were] going to be."
According to Mr. Forstmann, we are now living with those consequences. And the correction has only begun.
Mr. Carney is a member of the editorial board of The Wall Street Journal.

**Dr_Who** · 08-07-2008, 07:37 PM

There is talks that the US could possibly go into depression.

**shasta** · 08-07-2008, 07:59 PM

Originally Posted by Dr_Who

There is talks that the US could possibly go into depression.

Hopefully ADY's supply of Lithium can come in handy, if that happens...

Only a short trip from Argentina

**Kookaburra** · 09-07-2008, 12:59 PM

Originally Posted by shasta

Hopefully ADY's supply of Lithium can come in handy, if that happens..

Put it in the water supply and it should reduce the problem of bubbles as well.

**dumbass** · 10-07-2008, 08:26 PM

here's my look at the sp500 from predominately an elliot wave perspective.

Elliot wave is particularly good for analysis of the big picture allowing some reasonable long range targets.
i have spent alot of time looking back in the historical charts at previous bear markets and drawn the following conclusions mainly based on elliot wave guidelines

looking from recent bull market wave starting in 2002, there has been 5 waves up (NUMBERS ON CHART) with the 5th wave posting an extended wave (ROMAN NUMERALS)

when a 5th wave extends the market will frequently retrace the complete 5th wave extension IE WILL RETRACE TO END OF WAVE 4

this sets up a bear market target to the 4th wave completion 1060 area posted in aug 2004
this is also the 61.8 retracement of the complete 5 waves up from 2002

this is also equivalent to A wave = C wave (frequent occurence)

I believe the fed will play a major part in the progress of this bear market as they have done in most major corrections in the recent past and possibly there actions may create rallys and even precipitate a bottom.
they took aggresive action in market at 1370 and again at 1270 marked in red which created strong rallys

possible the next level they may deem as critical is 1170 ( 50 % retracement )

and then 1070 ( 61.8 retracement ) which i believe may be the bottom

the fed have always seemed to have a slant towards maitaining the equity markets at all cost , obviously this would come at the expense of the US dollar which i believe is going to hell and that does not appear to be a concern for them

so watch out for those emergency measures and possible rallys but im still trading from the short side