Today I came across an article appearing in Global Economic Intersection written by Ed Easterling, from Crestmont Research. The article included two striking charts that spoke to me rather directly.
The title of this article is "The Secular Bear Has Only Just Begun" -- and the article was posted July 27, 2012. I was relieved it was not a 2001 paper, in fact.
I have my own theories about the geometry of history; I won't bring these theories up (very often) in this article, except to say I don't agree with all the dates in Mr. Easterling's essay -- but the charts are eye-popping.
The article can be found at:
First, Mister Easterling states how the charts are built and what they represent:
Let's start with a look at secular bull markets over the past century. Figure 1 presents all four secular bulls since 1900. Each line represents the price/earnings ratio (P/E) annually over the life of the four secular bulls. The level of P/E is displayed on the vertical axis. Time, in years, is displayed on the horizontal axis. To reduce the distortions to P/E caused by the earnings cycle, earnings (NYSE:E) have been normalized using the approach popularized by Robert Shiller at Yale. The index for the numerator (NYSE:P) is the year-end value for the S&P 500. Therefore, the P/E displayed on the chart is the year-end Shiller P/E (i.e., Year-end P/E10).
Bull markets start in the green band at the bottom of the chart. Bull markets end at the red band at the top of the chart. Well, this is the range at least of an overbought market. The second chart (below) shows the same parameters and how they fit the return journey, Bull Market being transformed into its shadow, the Bear Market.
Bear Markets start in or above the red band and the top of the chart and end at the green band at the bottom of the chart.
The blue line (the one off the chart) represents our current 'Bull Market' which Mister Easterline says ran from 1982 to 1999 -- I say from 1983-2001 -- what's a few years in the attempt to typescript historical eras?
Mister Easterling charts three other 'bull markets" from this century: 1921-1928 (I say 1911-1929), 1933-1936 (which I ignore entirely), and 1942-1965 (which I say 1947-1965). He bases his charts on PE stock data; I base my assumptions on the 'laws of natural geometry'. We could argue about this all night. We won't.
Mister Easterling further explains:
First, note that secular bulls start when P/E is low and end when P/E is high.
The low points for all secular bulls have been quite similar. In the chart, the low range is designated with green shading. The high point for all secular bulls had also been fairly similar, until the late 1990s. It is as though the 1980s/1990s secular bull ran its course through the mid-1990s, then the party started and P/E more than doubled again. The already high P/E ascended to the stratosphere. Pundits often compare the late 1990s to 1929. Yes, the valuation of the market (as measured by P/E) was fairly high in 1929. But 1999 is in a league of its own.
As the new millennium opened, the bubble stopped expanding-but it did not pop. An immediate decline of fifty percent would have been required to correct the excesses and to reach a typical secular bear start. Instead, the stock market see-sawed for about a decade. With each decline, it bounced back. As the underlying economy and baseline earnings level grew, the market slowly whittled its P/E back to levels associated with typical secular bull ends and secular bear starts. So it has taken more than a decade to wear away the effects of the late 1990s extremes.
I hesitate to try to clarify this last sentence: I'm sure most readers understand what he is saying: It has taken more than a decade to wear away the stratospheric PE to get it back to merely (historically-related) overbought levels, where Bear Markets start.
This is why Mister Easterling concludes that the Secular Bear Market is just starting -- in terms of time it began in 2000-2001, but in terms of PE pricing were are at the topping range still today in 2012.
Why is this so? Why, clearly Fed-meddling in 2000-2001, after the blow-off of the Nasdaq Bubble, began a process of interest rate madness that still hasn't ended.
Mister Easterling argues quite eloquently that inflation-stasis has essentially driven us into a sideways (hibernation) market that can theoretically go on for ever. Clearly, the way he is defining the Bull-Market, Bear-Market thesis, this is so. Inflation must break in either direction to upset the apple cart, either into hyper-inflation or into real deflation.
His main thesis -- one of his main theses -- is that we can't have another Bull Market until we get back down into the Green PE band at the bottom of the chart. The PE indicator he is charting must go down. And, like mercury in a thermometer, this will require significantly colder weather to make this happen, colder weather indicating a severe break from the 'price stability' hibernation the Fed has been trying to engineer since 2001.
My argument about Time's Geometry being the absolute in this picture makes of the stock markets a secondary phenomena, not a primary. My premise that geometry is absolute allows me to predict the future, somewhat, and say that 2019 will see the PE in these charts back down in the green band at the bottom of the chart. This suggests we have a major fall in stocks ahead of us. When? Before 2019, clearly.
In my geometry, Inflation Cycles can have bear markets contained within them (the 1987 Crash Recession was merely a 'night' in a Day-Cycle); and Deflation Cycles can have bull markets (Easterling's 1933-36 Bull Market was a 'day' in a Night-Cycle). For instance, my Time Cycles run:
1911-1929: Inflation Cycle
1929-1947: Deflation Cycle
1947-1965: Inflation Cycle
1965-1983: Deflation Cycle
1983-2001: Inflation Cycle
2001-2019: Deflation Cycle
I use the terms 'inflation' and 'deflation' in a more metaphorical way than most economists tend to, with their clinical definition. I picture Inflation Cycles as Growth or Construction Cycles similar to nature's growth cycles -- my Winter to Summer Object Production cycles; Deflation or Deconstruction Cycles are similar to the deconstruction cycles that happen in Nature from Summer-to-Winter, an annual crop of nature's production being subject to harvest, then decay, rot, decomposition, and composting.
My Inflation Cycle begins with the seed in the ground -- I admit this is an abstract image for something as real as a society, a people, a planet, an economy -- and ends with the seed in a fruit at the top of the tree. In a large sense, civilization itself is the seed in the fruit at the top of the tree.
Civilization, the Global Economy, the empirical idea: what more appropriate and traumatic event/symbol to mark the periodical fruiting/ending of the Global Economy Idea that the destruction of the World Trade Center Twin Towers -- an emblem filled with castration imagery (castration of the Bull, Male Time, extroverted energy directed toward the literal construction of the World-City -- Male Time sliding into the Dream Time and becoming the introverted energy of the Bear, Female Time, rest, reflection, imagination, gestation, a dream which quite literally manufactures the image of the next and future idea (seed) World-City building process). We need both the dreaming, picturing, imagining of the World-City (seed-in-the-ground) and the literal building of this picture into an object (seed-in-the-fruit at the top of the tree).
The seed-in-the-ground is Mister Easterling's green band at the bottom of the chart. The seed-in-the-fruit at the top of the tree is Mister Easterling's red band at the top of the chart.
2001 is a red chart band reading, as was 1965, as was 1929. You can take it back further, and even forward, as far as you like.
2019 will be a green chart band reading at the bottom of the chart -- ie. the seed will have worked its way down from the top of the tree, managed to extract itself from the dead body of the rotten fruit -- indeed, my claim is that central banks (led by Mister Bernanke and now Mister Draghi) are using cheap money to essentially re-fertilize rotten fruit at the top of the tree, thinking this will bring back the Spring growing season. It does not bring back the growing season -- it is Autumn afterall -- it merely adds more water to the Flood we are all hoping to survive.
Note: in some years warm summer weather lasts longer than other years. Mister Easterlings 1999-2012 chart-picture is a picture of central banks (especially) attempting to play God with the growing season. We can't have another growing season begin until the seed-inside-the-fruit gets back down to the Earth, out of the corrupt, dying body of the fruit, and works its way back into the ground -- this is the Burial Ritual that precedes Rebirth in Christian (and all religious) myth -- remember Jesus had his three days in the world of the Dead, that is, underground, prior to his resurrection.
This is my metaphorical description. Mister Easterling has a fascinating take of this also (his last name fitting in to the themes we are now discussing), Easter, being, of course, the time of the New Sun's resurrection, the New Economy's rebirth.
Mister Easterling argues that we have had a lost decade of a sideways market and might expect more of this stable-inflation 'hibernation'. He writes.
Pause for a moment to reflect upon Figure 2. Contrast it back and forth with Figure 1. Every secular bear cycle prior to our current one followed a secular bull that ended with P/E in or near the red zone. That set the starting point for every adjacent secular bear. But this time, the super secular bull of the late 1990s ended nearly twice as high-it was a major bubble. Therefore, it is realistic to expect that our current secular bear might last a lot longer or be twice as gnarly as past secular bears.
I would agree with the second part of this statement. He argues that we have had a low rate of inflation -- and we could argue this forever. But i will be quiet about this and let him have his say.
Because the Fed and other factors have kept the economy in a state of relatively low inflation, the current secular bear has ground its way back to the reality of the red zone.
What goes up, must come down. Figure 2 is noteworthy for highlighting the lofty start of the current secular bear. Now after twelve years, the market P/E is down, but only into the red zone. That level, however, is not overvalued. It was overvalued in 2000 and at many points over the past decade. There were not plausible economic and financial conditions to justify P/E near 30, 40, and more.
Now, finally, the stock market is fairly-valued for conditions of low inflation and low interest rates (assuming average long-term economic growth in the future). But what about the future? If inflation remains low and stable indefinitely, then this secular bear will remain in hibernation until the inflation rate runs away in either direction.
A period of hibernation, however, does not cage the bear and allow a bull to roam. Rather, it means that investors will receive returns consistent with relatively high starting valuations-nominal total returns for the stock market of around 5%-6%. Hibernation avoids the declining P/E of a secular bear. It is the decline in P/E that causes secular bears to deliver near zero return.
Hibernation also means that there is almost no chance of better returns. Average and above-average returns require a significant increase in P/E. From the red zone, higher P/E requires an irrational bubble. That is never a prudent assumption for a financial plan.
I wish I could assume that our friends (that is a euphemism, of course) Bernanke and Draghi are moved by this author's lucidity. The reign of Greenspan and Bernanke have proven that prudent rationality is not the gospel of our financial leadership.
HOW & WHY
The economy experiences periods of rising inflation, disinflation (i.e., declining inflation), deflation (i.e., negative inflation), reflation (i.e., increasing inflation inside of deflation), and price stability (i.e., low, stable inflation). The periods run in a natural sequence around the starting point of price stability.
To illustrate, the cycle starts with low inflation. Then, due to excess money supply growth or other factors, the inflation rate rises. At some point, economic policies or factors reverse the trend, thereby starting a period of disinflation (i.e., declining inflation). Once back at price stability, the trend can either hold in a state of low inflation or it can move upward or downward across another cycle.
The P/E for the stock market is driven by the trend in and level of the inflation rate. As a result, there is a cycle for P/E based upon the inflation-rate cycle. High inflation and deflation drive P/E lower. Price stability drives P/E higher.
The P/E cycle creates secular bull and secular bear markets. Some secular periods have been long, yet others have been relatively short. Time does not drive secular periods. Rather, the inflation-rate cycle determines whether they will be relatively quick or quite extended. Inflation-rate trends can last a few years or they can extend for decades.
Secular bull markets transition into secular bears, which are followed by secular bulls. Neither secular bulls nor secular bears are isolated periods. Instead, they necessarily precede and follow each other. This is why they are designated as cycles rather than simply as periods...
It becomes almost possible to visualize these stages: 1) Price stability at the bottom of the deflation -- Winter in my language; 2) Reflation -- initial expansion within a deflation -- Winter-Spring in my language; 3) Inflation -- Spring-Summer; 4) Price Stability at the top of the inflation -- Summer; 5) Disinflation -- this is where we are now, a lessening of inflation, the popping of the inflationary bubble -- Summer-Autumn; 6) Deflation -- Autumn-Winter in my terminology. a Kondratieff / Schumpeter Economic Winter of debt-destruction.
One might picture this as a hexagram, with flat 'price-stability' tops and bottoms. I will add this image to one of my existing images explaining the geometry of each.
Mister Easterling concludes by telling us where we are going. Remember, he has said earlier that the Secular Bear Market is just beginning:
THE FUTURE: DECADES
If history is a guide, the inflation rate will at some point trend away from the present price stability. The result will be a significant declining trend in P/E. If this occurs over a few years, the market losses will be dramatic.
More likely, it will take a decade or longer. That will enable the underlying economy and baseline earnings to grow, thereby offsetting the decline in P/E. As we have seen from history, that means another decade or longer of near-zero returns.
When the adverse inflation-rate trend reaches its nadir, we will mark the end of this secular bear and the start of the next secular bull. As the economy or the Fed reverses the adverse inflation-rate trend back toward price stability, P/E will trough at its lows [in the green band at the bottom of chart #2] and begin the long climb that drives secular bull markets.
These processes take many years. Be careful not to let hope for the next secular bull mask the reality of the current secular bear. Many more years of vigilant investing will be required for portfolio success. As Robert Frost so aptly wrote:"The woods are lovely, dark, and deep,
But I have promises to keep,
And miles to go before I sleep,
And miles to go before I sleep."
Since Mister Easterling ends his essay with a poem, I will end my essay with one of my own prosepoems.
Archives are made of charcoal. This is good for burning. We know that those who would wish the libraries destroyed are massing in the mind of the wilderness, getting ready to usurp and to destroy. The fascists are lining up, aligning themselves with the Old World values. This is good; but it will also be bad. The preachers are getting out their books of brimstone, their analyses of Revelation - and they are harnessing their opposites with benedictions of demise, with horrible clandestine natures of destruction. The servant bites back. The androgynous nature is the dangerous one, because this messenger schools both sides of the tributary, and levies fines against each, condemning, first, the one side - the poor, the dark side - and then also fining and condemning the rich side of the town, for their greed, which he has enabled, and supported, with his racial theosophy.
Nothing is that easy to see. The tempest comes frequently on the side of the gods, as the world collides with itself, the world dampens itself, the world strips itself of its virtue, and then strips itself of its wealth.
Arcane nature rules. But arcane nature is not known for most of the decade. Only in the last hour of the last day does the arcane nature show itself. Only at the last possible instant does the arcane nature become visible - but then he is too terrible to see, too terrible to look upon, too horrible, because his truth is microscoped into a totality of sweeping judgment that renders even the meekest, most virtuous atom naked and cursed for a lack of true godhood.
Dreams coalesce in the fragment of all associations. The trumpet gets re-cast as a sword and then as a pen. This means that something has changed; and that Mercury is now being recognized as the God who can change the medicine and, thereby, re-create the world, through autonomic burgundy saturation. Starvation being the other pole of the system, complicated by the great banquet that illuminates the opposite end of the cipher. Dreary menus appear, dreary activation of the narcotic sequence.
Are we falling still? Are we falling?
Soon we will start to climb again. But not until after we have stopped falling.
Michael J. Clark, Hanoi, Vietnam