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Tales From The Future. I picked my nickname because many advisors and investors claim they can predict the future of the (stock) markets and somehow pick the winners. I don't. I usually do not engage in short-term trading and myopic analysis (quarter by quarter, without looking at the big... More
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  • Hussman, Klarman And Truman: Bull Markets Don't Last Forever (2014 Reminder) 0 comments
    Mar 12, 2014 9:04 PM | about stocks: SPY

    Here's the state of the current bull market (US stocks) in historical perspective:

    Including the current bull market, there have been 12 since the end of World War II. Of those, only half of them made it to a fifth birthday, according to Sam Stovall, chief equity analyst at S&P Capital IQ, in a recent note.

    After that, the list gets halved again for those making it to a sixth birthday. Those bull markets include the 7-year bull market that ended in August 1956, the 6-year bull market that ended in November 1980, and the nearly 10-year-old bull market that ended in March 2000. Those go-go days of the 1990s bull market, which ended in the Internet bust, fattened nest eggs with an S&P 500 gain of over 400%.


    Famous investor Seth Klarman (one of the few voices I really like to listen to and I take very seriously - mainly because he doesn't need to peddle his views every other week on CNBC or Bloomberg given his status) recently had the following to say about the state of stock markets (I read it as yet another warning):

    Welcome to "The Truman Show" market. In the 1998 film by that name, actor Jim Carrey is ignorant of the fact that his life is a hugely popular reality show. His every action, unbeknownst to him, is manipulated while being broadcast to millions of TV viewers worldwide. He seemingly lives in an idyllic seaside community where the manicured lawns are always green and the citizens are always happy. These people are, of course, actors. The world Truman inhabits turns out to be phony: a gigantic sound stage created for a manufactured "reality." As Truman starts to unravel the truth, his anger erupts and chaos ensues.

    Ben Bernanke and Mario Draghi, as in the movie, are the "creators" who have manufactured a similarly idyllic, if artificial, environment for today's investors. They were the executive producers of "The Truman Show" of 2013. A global audience sat in rapt attention before this wildly popular production. Given the U.S. stock market's continuing upsurge, Bernanke is almost certain to snag yet another People's Choice Award for this psychological "thriller." Even in "The Truman Show," life was not as good as this for investors.

    But there is one fly in the ointment: in Bernanke's production, all the Trumans - the economists, fund managers, traders, market pundits - know at some level that the environment in which they operate is not what it seems on the surface. The Fed and the Treasury openly discuss the aim of their policies: to manipulate financial markets higher and to generate reported economic "growth" and a "wealth effect." Inside the giant Plexiglas dome of modern capital markets, just about everyone is happy, the few doubters are mocked and jeered, bad news is increasingly ignored, and markets go asymptotic. The longer QE continues, the more bloated the Fed balance sheet and the greater the risk from any unwinding. The artificiality of today's markets is pure Truman Show. According to the Wall Street Journal (12/20/13), the Federal Reserve purchased about 90% of all the eligible mortgage bonds issued in November.

    Like a few glasses of wine with dinner, the usual short-term performance pressures on most investors to keep up with the market serve to dull their senses, which makes it a bit easier to forget that they are being manipulated. But what is fake cannot be made real. As Jim Grant recently noted on CNBC, the problem is that "the Fed can change how things look, it cannot change what things are." According to John Phelan, a fellow at the Cobden Centre in the U.K., "the Federal Reserve has become an enabler of the financial havoc it was designed (a century ago) to prevent."

    Every Truman under Bernanke's dome knows the environment is phony. But the zeitgeist so so damn pleasant, the days so resplendent, the mood so euphoric, the returns so irresistible, that no one wants it to end, and no one wants to exit the dome until they're sure everyone else won't stay on forever.

    A marketplace of knowing Trumans seems even more unstable than the movie sound stage character slowly awakening to reality. Can the clued-in Trumans be counted on to maintain their complicity or will they go off-script? Will Fed actions reliably be met with the desired response? Will the program remain popular? Could "The Truman Show" be running out of material? After all, even Seinfeld ended.

    Someday, the Fed's show will be off the air and new programming will take its place. And people will debate just how good it really was. When the show ends, those self-deluded Trumans will be mad as hell and probably broke as well. Hopefully there will be no sequels.


    Someday, financial markets will again decline. Someday, rising stock and bond markets will no longer be government policy - maybe not today or tomorrow, but someday. Someday, QE will end and money won't be free. Someday, corporate failure will be permitted. Someday, the economy will turn down again, and someday, somewhere, somehow, investors will lose money and once again come to favor capital preservation over speculation. Someday, interest rates will be higher, bond prices lower, and the prospective return from owning fixed-income instruments will again be roughly commensurate with the risk.

    Someday, professional investors will come to work and fear will have come to the markets and that fear will spread like wildfire. The news flow will be bad, and the markets will be tumbling.

    And he finishes off with:

    Six years ago, many investors were way out over their skis. Giant financial institutions were brought to their knees...

    The survivors pledged to themselves that they would forever be more careful, less greedy, less short-term oriented.

    But here we are again, mired in a euphoric environment in which some securities have risen in price beyond all reason, where leverage is returning to rainy markets and asset classes, and where caution seems radical and risk-taking the prudent course. Not surprisingly, lessons learned in 2008 were only learned temporarily. These are the inevitable cycles of greed and fear, of peaks and troughs.

    Can we say when it will end? No. Can we say that it will end? Yes. And when it ends and the trend reverses, here is what we can say for sure. Few will be ready. Few will be prepared.

    It might be a pure coincidence that the last stock bull markets (at least looking at from a US/European perspective) ended in 2000 and 2007. This doesn't mean 2014 will for sure mark another end of a bull cycle, but the signs are there.

    Here's what investor John Hussman has to say about the state of the stock market:

    (click to enlarge)

    Objectively, there is no specific level at which investors can be told "no, stop, don't" once the speculative bit is in their teeth. Historically, however, such periods have typically reached their extremes when a syndrome of overvalued, overbought, overbullish, rising-yield conditions emerges. By the time one observes extreme conditions simultaneously - rich valuations, overbought market conditions, lopsided bullish sentiment, and rising 10-year yields - equity markets have generally been at precarious and climactic highs. Prior to the current market cycle, these points singularly include 1929, 1972, 1987, 2000, and 2007 (slightly broader criteria also would include 1937). In the uncompleted half-cycle since 2009, however, we have seen these conditions at the 2011 market peak (followed by a near 20% decline that was truncated by investor enthusiasm about fresh quantitative easing), and several instances over the past year - specifically, February 2013, May 2013, December 2013, and today.

    As for myself? As readers of my prior blog entries may remember: I exited most stock and other long positions in H2 2013 (single stocks and ETFs in Europe/US/Japan) already. I only hold a few short-term (usually just days or weeks, always with trailing stops) long and short positions in 2014.

    In one word: Caution. This year or 2015 could very likely mark the turning point in many major Western stock markets (with little upside until then, so a bad risk-reward ratio going forward).

    PS: On the other hand, emerging markets might present an interesting investment opportunity after further drops in the US and Europe. For example, China is at five-year lows already:

    China's CSI 300 Plunges to Five-Year Low on Export Slump

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