Marginal Activities

The S&P 500 has fallen 7.37 percent so far this year.  What to make of it? Naturally, some people find falling stock prices to be unpleasant.  Others find them distressing.  Another way to look at falling stock prices, however, is like a high-fiber diet.  The effect is necessary to a healthy functioning system.

The simple fact is that stock prices, fueled by speculative liquidity, have long since outrun the real economy.  The disconnect between the two has been widely observable.  The economy’s lagged, incomes have stagnated, yet stocks have soared.

 

1-Wilshire and GDP from 2009Wilshire Total Market Index vs. GDP since 2009 (01/01/2009 = 100). The market’s capitalization vs. GDP has been soaring ever since the adoption of the full-fledged fiat money system – and the gap between the two has never been wider than at the 2015 stock market peak – click to enlarge.

 

Thus the present, ever so slight reduction in liquidity, and the subsequent lowering of stock prices, has a cleansing influence.  For it will serve to eliminate marginal businesses, and trim the fat from larger businesses. Consequently, business owners, managers, and workers of marginal undertakings will have to redirect their efforts into something new…something that’s of greater value.

For example, Walmart recently announced it would be closing 269 stores and laying off 16,000 workers.  Obviously, we don’t wish any harm to hard working Walmart employees.  But we’re also confident many of these 16,000 people will now find a new, more meaningful, and more prosperous purpose in life.

Though it can be painful at times, eliminating and minimizing wasteful activities is how the world becomes more affluent.  On the other hand, propping up negligible endeavors with cheap credit ultimately subtracts wealth from the world.

 

Mean Reversion

How much more stocks will fall, no one really knows for sure.  Perhaps they’ve already fallen as far as they will.  But we wouldn’t bet our life savings on it.

This is merely conjecture, of course.  But we do recognize that even with the 7.37 percent drop year-to-date, the S&P 500’s Cyclically Adjusted Price Earning (CAPE) Ratio is 23.97.  We also recognize that the CAPE Ratio’s mean, going back to 1881, is 16.65.

 

2-PE10-STD-Geo-MeanIn terms of the P/10, this is one of the most overvalued markets since 1880 (in fact, it is in the 92nd percentile of the entire data series – only the peaks of 2007, 1929 and the tech bubble were even more overvalued) – click to enlarge.

 

On top of that, we understand that valuations always revert back to their mean eventually.  Similarly, we know that when reverting back to their mean, valuations often overshoot not only to the upside; but to the downside too.  This is how an average is formed.

Certainly, there are countless ways for valuations to come down.  One obvious way is for corporate earnings to increase.  Another way is for share prices to decrease.

From what we gather, fourth-quarter earnings for S&P 500 companies are expected to fall 6 percent year over year.  What’s more, this is the third consecutive quarter that earnings have fallen on an annual basis.  Thus, it seems likely, that for stock valuations to get anywhere near their historical average, share prices will need to go down much, much more.

These are some simple facts regarding stock valuations as we understand them.  Don’t listen to us, if you don’t agree with them.  For there’s plenty out there that we don’t agree with.

 

3-Wilshire and GDP from 1980A longer term chart of the Wilshire vs. GDP – indexed to 100 as of 01/01/1980 – this shows how enormous the divergence has recently become – click to enlarge.

 

Something’s Gone Horribly Awry

For instance, we don’t agree with the illusion and degradation of prosperity that’s readily visible to us as we make our way through our daily rotes in downtown Los Angeles.  There are tall shiny buildings, sleek new cars, and chic restaurant fronts up 5th Street and Grand Avenue.

Then, several blocks down 5th Street, at San Pedro Street in Skid Row, there are sidewalk tents, concrete ruble, and multitudes of empty stomachs outside the collection of of rescue missions.

 

skid rowA part of skid row in downtown LA

Photo credit: Lawrence K. Ho

 

Clearly, something’s gone horribly awry.  Hard work, perseverance, and ingenuity likely have something to do with the shiny streets.  Conversely, sloth, drug abuse, and mental defectives likely have something to do with the blighted streets.  But we also have an inkling that 20 years of activist Fed policy has left its marks all over both.

No doubt, the collection of shiny skyscrapers has sprouted up over the years thanks to the fertilizer of cheap credit.  At the moment, Korean Air / Hanjin Group is financing construction of The Wilshire Grand Tower.  When it opens its doors in 2017, it will be the new tallest building in Los Angeles and the tallest building west of the Mississippi.

Our friend Pater Tenebrarum of Acting Man, recently explained how the construction of marque skyscrapers coincides with the late stages of an artificial, central bank induced, boom.  The Wilshire Grand Tower will forever be a monument to ZIRP.

At the other extreme, it may be unclear upon first glance how the Fed’s artificially cheap credit has wrought abject poverty.  Ironically, John Maynard Keynes, the godfather of modern day economic intervention by governments, provided one of the better, succinct explanations of this hidden and insidious relationship. Thus we’ll close with an excerpt of Keynes from The Economic Consequences of the Peace, written in 1919.

 

peaceBefore Keynes became a Keynesian, he wrote this….

 

“Lenin is said to have declared that the best way to destroy the capitalist system was to debauch the currency.  By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens.  By this method they not only confiscate, but they confiscate arbitrarily; and, while the process impoverishes many, it actually enriches some.  The sight of this arbitrary rearrangement of riches strikes not only at security, but at confidence in the equity of the existing distribution of wealth.

“Those to whom the system brings windfalls, beyond their deserts and even beyond their expectations or desires, become “profiteers,” who are the object of the hatred of the bourgeoisie, whom the inflationism has impoverished, not less than of the proletariat.  As the inflation proceeds and the real value of the currency fluctuates wildly from month to month, all permanent relations between debtors and creditors, which form the ultimate foundation of capitalism, become so utterly disordered as to be almost meaningless; and the process of wealth-getting degenerates into a gamble and a lottery.

“Lenin was certainly right.  There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency.  The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose.”

 

Charts by St. Louis Fed, Doug Short/Advisorperspectives

 

Chart and image captions by PT

 

M N. Gordon is the editor and publisher of the Economic Prism.

 

 
 

Emigrate While You Can... Learn More

 
 

 
 

Dear Readers!

It is that time of the year again – our semi-annual funding drive begins today. Give us a little hand in offsetting the costs of running this blog, as advertising revenue alone is insufficient. You can help us reach our modest funding goal by donating either via paypal or bitcoin. Those of you who have made a ton of money based on some of the things we have said in these pages (we actually made a few good calls lately!), please feel free to up your donations accordingly (we are sorry if you have followed one of our bad calls. This is of course your own fault). Other than that, we can only repeat that donations to this site are apt to secure many benefits. These range from sound sleep, to children including you in their songs, to the potential of obtaining privileges in the afterlife (the latter cannot be guaranteed, but it seems highly likely). As always, we are greatly honored by your readership and hope that our special mixture of entertainment and education is adding a little value to your life!

   

Bitcoin address: 1DRkVzUmkGaz9xAP81us86zzxh5VMEhNke

   
 

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • factoryA Striking Chart
      The Economy and the Stock Market As long time readers know, we are always paying close attention to the manufacturing sector, which is far more important to the US economy than is generally believed. In terms of gross output it is the largest sector of the economy, and it should of course be obvious that saving, investment and production are the only ways to create wealth.   What's left of the Brooklyn Domino Sugar Refinery. Photo credit: Paul Raphaelson   Contrary...
  • trump-putin-1024Trump and Putin Narrowly Escape Assassination Attempt
      The Gloves are Coming Off First a little bit of recent history. Readers are probably aware that some questions about the occasionally malfunctioning Deep State android... no, wait, we'll start again. Questions have recently been raised about the health of presidential candidate Hillary Clinton by various “alt-right” tinfoil hat-wearing conspiracy theorists, such as this one.   The monsters are normally hiding under Hillary's bed, but lately they have come out into the open...
  • historical-photos-pt9-pepsi-factory-baltimore-1956-aUS Economy - Curious Pattern in ISM Readings
      Head Fake Theory Confirmed? This is a brief update on our last overview of economic data. Although we briefly discussed employment as well, the overview was as usual mainly focused on manufacturing, which is the largest sector of the economy by gross output.   Pepsi factory in Baltimore, 1956 Photo via pinterest.com   Readers may recall that we have pointed out for some time that there was quite a large gap between the data reported in regional Fed manufacturing...
  • swing-voterWhy the Fed Destroyed the Market Economy
      What Have You Done for Me Lately? Swing voters are a fickle bunch.  One election they vote Democrat.  The next they vote Republican. For they have no particular ideology or political philosophy to base their judgment upon.   The primacy of the wallet.   They don’t give a rip about questions of small government or big government.  Nor do they have any druthers about the welfare or warfare state. In effect, they really don’t care.  What’s important to the...
  • time-wastersHow is Real Wealth Created?
      An Abrupt Drop Let’s turn back to our regular beat: the U.S. economy and its capital markets. We’ve been warning that the Fed would never make any substantial increase to interest rates. Not willingly, at least.   Groping in the dark, Yellen-style   Each time Fed chief Janet Yellen opens her mouth, out comes a hint that more rate hikes might be coming. But each time, it turns out that the economy is not as robust as she had believed... and that a rate hike isn’t...
  • wallet-367975_960_720Janet Yellen’s Shame
      Playing Politics In honest capitalism, you do what you can to get other people to voluntarily give you money. This usually involves providing goods or services they think are worth the price. You may get a little wild and crazy from time to time, but you are always called to order by your customers.   In the market economy, consumers reign supreme. There is no such thing as a “lost” vote in the marketplace; every penny spent affects production. Mises noted: “Consumers...
  • warren-buffett-gold-coinGet Ready for a New Crisis – in Corporate Debt
      Imposter Dollar OUZILLY, France – We’re going back to basics here at the Diary. We’re getting everyone on the same page... learning together... connecting the dots... trying to figure out what is going on.   The new three dollar bill issued by the Apprehensive States of America.   We made a breakthrough when we identified the source of so many of today’s bizarre and grotesque trends. It’s the money – the new post-1971 dollar. This new dollar is green. You...
  • 4-ip-and-non-def-capital-goods-ordersThe Economy, the Stock Market and the Fed
      John Hussman on Recent Developments We always look forward to John Hussman's weekly missive on the markets. Some people say that he is a “permabear”, but we don't think that is a fair characterization. He is rightly wary of the stock market's historically extremely high valuation and the loose monetary policy driving the surge in asset prices.   The S&P 500 Index and the NYSE advance-decline line. Most market internals weakened steadily until early February 2016, but...
  • silkroadHanjin Marooning in San Pedro Bay
      Global Trade Reversal Expansions and contractions in global trade have played out over long secular trends for thousands of years.  The Silk Road, for example, was established by the Han Dynasty of China in 130 BC, and allowed for continuous trade between East and West for nearly 1,600 years.  In addition to economic trade, the Silk Road was also a conduit for culture and knowledge among its network of civilizations.   A map of the main ancient Silk Road - click to...
  • voltaireGreat Causes, a Sea of Debt and the 2017 Recession
      Great Cause NORMANDY, FRANCE – We continue our work with the bomb squad. Myth disposal is dangerous work: People love their myths more than they love life itself. They may kill for money. But they die for their religions, their governments, their clans... and their ideas.   Famous French hippie and author Voltaire. He wears the same sardonic grin in every painting, whether he's depicted at a young or an old age, doesn't matter. His real name was François-Marie Arouet; he...
  • wilsonand-morganThe Donald Versus Killary: War or Peace?
      War: A Warning from the Past Although history does not exactly repeat itself, it does provide parallels and sometimes quite ominous ones.  Such is the case with the current U.S. Presidential election and the one which occurred one hundred years earlier.   The Donald probably has the better slogan...   The dominating question which hung over the 1916 campaign was whether the country would remain neutral in regard to the horrific slaughter which was taking place on the...
  • hittite-leftoversA Rift in the Space-Time Continuum
      Weird and Unnatural NORMANDY, France – First, a quick look at the markets. The Dow bounced on Monday, recovering 239 points of the nearly 400 it lost on Friday. Why the comeback?   FOMC member Lael Brainard: her comments on Monday were touted as the “reason” for the stock market recovering half of Friday's losses. We suspect the real reason is the triple witching on Friday... Photo via twitter.com   The financial press has a ready answer: “Stocks gain...

Austrian Theory and Investment

Support Acting Man

Own physical gold and silver outside a bank

Archive

j9TJzzN

350x200

Realtime Charts

 

Gold in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Gold in EUR:

[Most Recent Quotes from www.kitco.com]

 


 

Silver in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Platinum in USD:

[Most Recent Quotes from www.kitco.com]

 


 

USD - Index:

[Most Recent USD from www.kitco.com]

 

THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

 
Buy Silver Now!
 
Buy Gold Now!
 

Oilprice.com