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!

You may have noticed that our so-called “semiannual” funding drive, which started sometime in the summer if memory serves, has seamlessly segued into the winter. In fact, the year is almost over! We assure you this is not merely evidence of our chutzpa; rather, it is indicative of the fact that ad income still needs to be supplemented in order to support upkeep of the site. Naturally, the traditional benefits that can be spontaneously triggered by donations to this site remain operative regardless of the season - ranging from a boost to general well-being/happiness (inter alia featuring improved sleep & appetite), children including you in their songs, up to the likely allotment of privileges in the afterlife, etc., etc., but the Christmas season is probably an especially propitious time to cross our palms with silver. A special thank you to all readers who have already chipped in, your generosity is greatly appreciated. Regardless of that, we are honored by everybody's readership and hope we have managed to add 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:

  • How to Stick It to Your Banker, the Federal Reserve, and the Whole Doggone Fiat Money System
      Bernanke Redux Somehow, former Federal Reserve Chairman Ben Bernanke found time from his busy hedge fund advisory duties last week to tell his ex-employer how to do its job.  Namely, he recommended to his former cohorts at the Fed how much they should reduce the Fed’s balance sheet by.  In other words, he told them how to go about cleaning up his mess.   Praise the Lord! The Hero is back to tell us what to do! Why, oh why have you ever left, oh greatest central planner of all...
  • India: Why its Attempt to Go Digital Will Fail
      India Reverts to its Irrational, Tribal Normal (Part XIII) Over the three years in which Narendra Modi has been in power, his support base has continued to increase. Indian institutions — including the courts and the media — now toe his line. The President, otherwise a ceremonial rubber-stamp post, but the last obstacle keeping Modi from implementing a police state, comes up for re-election by a vote of the legislative houses in July 2017.  No one should be surprised if a Hindu...
  • Moving Closer to the Precipice
      Money Supply and Credit Growth Continue to Falter The decline in the growth rate of the broad US money supply measure TMS-2 that started last November continues, but the momentum of the decline has slowed last month (TMS = “true money supply”).  The data were recently updated to the end of April, as of which the year-on-year growth rate of TMS-2 is clocking in at 6.05%, a slight decrease from the 6.12% growth rate recorded at the end of March. It remains the slowest y/y growth since...
  • What is the Buffet Indicator Saying About Gold?
      Chugging along in Nosebleed Territory Last Friday, both the S&P 500 and the Nasdaq composite indexes closed at record highs in the US, with the Dow Jones Industrial Average only a whisker away from its peak set in March. What has often been called the “most hated bull market in history” thus far continues  to chug along in defiance of its detractors.   Can current stock market valuations tell us something about the future trend in gold prices? Yes, they actually...
  • The 21st Century Has Been a Big, Fat Flop
      Seeming Contradiction CACHI, ARGENTINA – Here at the Diary we have fun ridiculing the pretensions, absurdities, and hypocrisies of the ruling classes. But there is a serious side to it, too. Mockery makes us laugh. And laughing helps us wiggle free from the kudzu of fake news.   Is it real? Is it real? Is it real? Above you can see what the problem with reality is, or potentially is, in a 6-phase research undertaking that has landed its protagonist in a very disagreeable...
  • A Cloud Hangs Over the Oil Sector
      Endangered Recovery As we noted in a recent corporate debt update on occasion of the troubles Neiman-Marcus finds itself in (see “Cracks in Ponzi Finance Land”), problems are set to emerge among high-yield borrowers in the US retail sector this year. This happens just as similar problems among low-rated borrowers in the oil sector were mitigated by the rally in oil prices since early 2016. The recovery in the oil sector seems increasingly endangered though.   Too many oil...
  • Will Gold or Silver Pay the Higher Interest Rate?
      The Wrong Approach This question is no longer moot. As the world moves inexorably towards the use of metallic money, interest on gold and silver will return with it. This raises an important question. Which interest rate will be higher?   It’s instructive to explore a wrong, but popular, view. I call it the purchasing power paradigm. In this view, the value of money — its purchasing power —is 1/P (where P is the price level). Inflation is the rate of decline of...
  • Rising Oil Prices Don't Cause Inflation
      Correlation vs. Causation A very good visual correlation between the yearly percentage change in the consumer price index (CPI) and the yearly percentage change in the price of oil seems to provide support to the popular thinking that future changes in price inflation in the US are likely to be set by the yearly growth rate in the price of oil (see first chart below).   Gushing forth... a Union Oil Co. oil well sometime early in the 20th century   But is it valid to...
  • Warnings from Mount Vesuvius
      When Mount Vesuvius Blew   “Injustice, swift, erect, and unconfin’d, Sweeps the wide earth, and tramples o’er mankind” – Homer, The Iliad   Everything was just the way it was supposed to be in Pompeii on August 24, 79 A.D.  The gods had bestowed wealth and abundance upon the inhabitants of this Roman trading town.  Things were near perfect.   Frescoes in the so-called “Villa of the Mysteries” in Pompeii, presumed to depict scenes from a...
  • A Bumper Under that Silver Elevator – Precious Metals Supply and Demand
      The Problem with Mining If you can believe the screaming headline, one of the gurus behind one of the gold newsletters is going all-in to gold, buying a million dollars of mining shares. If (1) gold is set to explode to the upside, and (2) mining shares are geared to the gold price, then he stands to get seriously rich(er).   As this book attests to, some people have a very cynical view of mining...  We would say there is a time for everything. For instance, when gold went ...
  • Silver Elevator Keeps Going Down – Precious Metals Supply and Demand
      Frexit Threat Macronized The dollar moved strongly, and is now over 25mg gold and 1.9g silver. This was a holiday-shortened week, due to the Early May bank holiday in the UK. The lateral entrant wakes up, preparing to march on, avenge the disinherited and let loose with fresh rounds of heavy philosophizing... we can't wait! [PT]   The big news as we write this, Macron beat Le Pen in the French election. We suppose this means markets can continue to do what they wanted...
  • The Knives Come Out for Trump
      A Minor Derailment GUALFIN, ARGENTINA – Yesterday, stocks fell. And volatility shot up.   When too many people have too many knives out at once, accidental cubism may result   Reports Bloomberg:   The Dow Jones Industrial Average tumbled more than 370 points, Treasuries rallied the most since July and volatility spiked higher as the turmoil surrounding the Trump administration roiled financial markets around the globe. Major U.S. stock indexes...

Support Acting Man

Austrian Theory and Investment

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