What Bull Market? A Closer Look at the Most Recent “Bull” Run

“All great inflations end with the acceptance of real money—gold—and the rejection of political money—paper. The stage is now set; monetary order is of the utmost importance. Conditions are deteriorating, and the solutions proposed to date have only made things worse. Although the solution is readily available to us, powerful forces whose interests are served by continuation of the present system cling tenaciously to a monetary system that no longer has any foundation. The time at which there will be no other choice but to reject the current system entirely is fast approaching. Although that moment is unknown to us, the course that we continue to pursue will undoubtedly hurtle us into a monetary abyss that will mandate a major reform.” (Rep. Ron Paul & Lewis Lehrman, The Case for Gold: A Minority Report of the United States Gold Commission, The Ludwig Von Mises Institute)

The “Bull Market” in stocks which began in 2002 and ended in March of this year was an illusion caused by a weakened U.S. dollar, massive price inflation (ie real estate, stocks, commodities) and historically low interest rates which caused a sea of cash and liquidity to drive up asset prices.

If we can remember back to early 2001, Greenspan was extremely worried about deflation. With Japan’s deflationary crisis still fresh in his mind, Fed Chairman Alan Greenspan began an aggressive rate reduction campaign. After all, one way to fight deflation is to cause inflation–which he succeeded in doing.

Historically low rates encouraged borrowing and spending and discouraged saving. People were using there homes as an ATM machine and spending this newly found “wealth” on cars, more homes, and yes, the stock market. At the same time the U.S. savings rate turned negative in 2005 for the first time since the great depression. In 2006, we managed to repeat the rare accomplishment of having 2 consecutive years where the US consumer spent more than he made!

The following chart shows the yield on the 3 month treasury bill. Notice the drastic change from 6.5% in 2001 to 0.90% in 2003. In 2 years rates were reduced by 90%!!! If that won’t make the price of your Miami condo double then I don’t know what will! Also take notice that through the 1990s bull market, rates were sideways or range bound.

There’s one economic problem with people borrowing and spending their new found money–There’s a lot more dollars flooding the market. If you increase the supply of good X, you’d expect the value of good X to decline. That’s precisely what happened to the U.S dollar. The chart below illustrates how the value of that one-hundred dollar bill that was in your pocket in 2002 was worth only $66 or so in 2005 (33% depreciation). Again, also take notice of how the US dollar climbed through the bull market of the 1990s.

(It amazes me how people believe the fed will begin lowering rates again now…The dollar will not support it)

Below is a chart which better illustrates the stocks market and US dollar relationship through the 1990s and 2000s.

Let’s now examine the bull market of the 1990s (a real bull market) and compare it to the 2002-2007 “Bull”.

Below is a chart of the 1990s bull market. The pink line is the price (Cash terms) of the Dow 30 and the dark line is the Dow 30 in terms of gold (Real terms). In a true bull market, you’d expect both of these lines to rise with one another, which it did in the 90s. After all, if we are making new highs in cash terms, we should be doing the same in real terms.

The illusionary bull market of 2000s shows a much different picture. As the Dow 30 continued making new highs in cash terms, it was making new lows in real terms.

In the 1990s, as the Dow 30 was making new highs in terms of cash, as well as in terms of barrels of oil, which can also be used to measure real, or inflation-adjusted terms. Also notice that in 1999 a warning sign was given in real terms, and of course, we all remember what happened in 2000.

Same relationship through the 2000s but a much different picture.

In fact, if you look at the Dow 30 average in terms of anything other than the US dollar, you would think that the bear market, which began in 2000, still hasn’t ended. In real, or inflation adjusted terms, IT HAS NOT!

In all examples listed above the Dow Jones Industrial Average has been declining in real terms since 2000. This past bull market was nothing more than a hoax, or manipulation of prices, caused not by growing the values of assets in real terms but by diminishing the value of what we use to buy the asset–The US dollar.

With the Dow breaking down this year in cash terms, an overspent US consumer with no more equity left to pull out of their homes, and a fed chairman who can not come to the rescue (without causing a currency crisis), I sense major trouble ahead.

There is, however, a silver lining in this cloud. With the coming of inverse ETF’s, you can make money as the stock market declines. Below you’ll see the charts for QID (Twice the inverse, or opposite of the NASDAQ 100), and DXD (Twice the inverse, or opposite of the Dow 30). Oh by the way–they’re breaking out!

Comments

[Malkiel:]

"Economic health" is a temporary condition that happens from time to time, not a lengthy steady state that any national economy has ever been able to manage its way into through deliberate effort. The streakiness of runs of economic good times and stock market pricing don't make them false or illusional, merely difficult to sustain without corrections.

Most gold shills don't go through all the trouble to construct such an entertaining narration to cover their sales pitch. The sum total of all the ignored factors, like the international economy, access to commodity pricing through ETF's, and the waves of retirement funds washing into the US stock market, will color the story differently. Does that make current conditions "false", or merely different? And what about the school of thought that says that dollar devaluation is the only reasonable strategy to get us out of our trade deficit with minimal damage to the economy? Is that a "corrupt" calculation creating a "false" dollar valuation, or a normal condition that one side in a market relationship will always be burdened with?

2007 Apr 02 11:01 AM

[Tom B:]

Great analysis.

2007 Apr 02 11:29 AM

[NutritionFacts:]

"With the Dow breaking down this year in cash terms, an overspent US consumer with no more equity left to pull out of their homes, and a fed chairman who can not come to the rescue (without causing a currency crisis), I sense major trouble ahead."

How many times have we heard this already, and after having to wade through all those charts to boot?

Frankly, what is the point of showing the Dow relative to oil? The sheer pointlessness of it all......

2007 Apr 03 06:02 PM

[ispot326:]

the dow in terms of a commodity shows its value in "REAL" terms. inflation adjusted terms. commodities are extremely important to watch as a measure of inflation or a weakening dollar. first, we'll see inflation in the prices of commodities, then it will be passed to producers who must buy these commodities and then finally past to the consumer.

i think he's dead on

2007 Apr 04 07:47 AM

[User 281650:]

a bull maket has started 5 months ago ...........and no one noticed.........bull markets come from no one wanting to be in a certain asset class and all the sudden due to extreme bearishness it just runs out of people to exchange it for another asset..........so after 75 years of depreciation relative to anything , finally everyone got rid of all they had and exchanged it for any other assset..............no... that even warren buffet called it a worthless asset there is no direction but up...........so everyone will exchange all assets in exchange for this one as no one will want to miss out...........it will be disasterous.............. asset am I talking about?...................

2008 Oct 18 08:21 AM