THE PARTY'S OVER

THE PARTY’S OVER

I told you so. But it wasn’t what you wanted to hear. You wanted to hear, that the markets and the economy were sound and improving. That the only way for inflation and interest rates would be up. That the financial system, after 5 years, finally emerged from a period of stress. That current market leverage was nothing to worry about. That this current prolonged credit and speculative cycle did not have the characteristics of any dangerous bubble. That Central Banks were not misguided, as they repeatedly intervened in keeping the markets going. That any perceptions of price distortions were way off the mark. But what really happened, was, that the peasants became utterly complacent and unaware of the actual fragility of the system.

So the Boom in risky asset speculation turned into a Bust after all? ‘Modern’ monetary policies would supposedly keep everything under control! There would be ample liquidity at all times. This time, no systematically important institution or country would be allowed to go under in order to avoid a crisis. Lessons were learned from the depression in the 1930’s. So where did it all go so wrong anyway?

The decline started slowly enough, but gained momentum later. As usual, in any mature Bull market, the Small- and Midcap stocks peaked first, followed by the Large Cap Blue Chip stocks. This divergence within the market, was a red light. But then, we were told, the party would simply continue in the top 50 stocks, with their ‘safe’ dividend record, while a higher Price/Earnings ratio would take care of one more dance on the Titanic. We didn’t want to miss that one, did we? A repeat of the Nifty Fifty in the early 1970’s! In the meantime, the yields in the gigantic quality bond market, however, broke down sharply, ‘unexpectedly’, as if economic growth was all a mirage. Wow. This wasn’t supposed to happen. Must have been ‘technical’. The message of that sophisticated market surely was incorrect. Right? Except that those markets were way ahead in discounting the Bust, which was frankly not in the cards. The mathematical models said so!

When you read this, the Bust probably hasn’t happened yet. The markets are experiencing ‘just’ another boring correction, which undoubtedly is seen as another buying opportunity. Buy on the dips has been a winning investment strategy for so long. Mother Central Bank will always act as a backup for you, the speculator, who absolutely needs to continue playing the game in this peculiar Zero Interest Rate world. You cannot imagine anything different! You failed to question, why interest rates and inflation were ‘irrationally’ low. No, forget ‘manipulation’. The reason is, because financial disaster lurks around the corner! The last time such a scenario unfolded, was during the 1930’s. Your portfolio with risky assets is now hanging by a thread and you don’t even know it. The party’s over. Another generation of investors is about to bite the dust.

RICK SCHMULL

August 3rd, 2014

WESTCLIFF-On-SEA, Essex, U.K.

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ANOTHER GLOBAL DEPRESSION AWAITS US

ANOTHER GLOBAL DEPRESSION AWAITS US

With the previous depression generation fast disappearing, it may be that another major depression awaits us. Even a global economic depression, that does not seem to end. What hasn’t happened in history, does not mean, that it could not happen in the future. Many investors ‘survived’ the depression of more than 80 years ago and prospered, once it ended.  It is impossible to predict, how serious the next depression would be, but the growth of the global leveraged community of today has surely been unprecedented.

Non-productive global debt, which is not invested in assets with a healthy cashflow and therefore, not self-liquidating, has become the deadliest of eyesores. The current exponential credit expansion has supported grossly inflated asset prices through speculative leverage and financial engineering. A runaway financial boom, often obscured by the explosion in ‘invisible’ derivative positions, with its absurd mispricing of all types of assets, is inherently unstable. Record margin debt and speculative leveraged ‘Carry Trades’ will prove catastrophic during the next financial meltdown. ‘How could they have not seen this coming?’ will become the big question of the next generation, which will have to suffer from the consequences of one of the most outrageous episodes of Ponzi Finance, the world has ever seen.

A protracted period of government-backed liquidity abundance and ‘cheap’ money, have made nearly everyone unconcerned about the current house of cards. Most of global debt does not create capital and does not increase the productivity of labor. The current speculative cycle, aided and abetted by those, who have learnt nothing from history, adds nothing of value to the economy. The subsequent costs will wipe out all imagined wealth during the next economic devastation with all kinds of unanticipated outcomes, both economically and politically.

Of course, technology, biotechnology and international trade might lead to faster economic growth in the future. The promising developments of aviation, automobiles and telecommunications during the 1920’s,however, could not prevent the depression of the 1930’s from occurring. The inevitable day of reckoning for the most alarming speculative debt bubble ever, could not be avoided. One thing is for sure: market perceptions can change suddenly, without any warning, and then the exit, like in any famous casino, cannot be found. You will be trapped, like a bird in a cage!

RICK SCHMULL

July 28th, 2014

WESTCLIFF-On-SEA, Essex, U.K.

MODEL-BASED INVESTING IS DOOMED

MODEL-BASED INVESTING IS DOOMED

Investing is not a science. Markets reflect emotions and expectations of millions of participants and should therefore give relatively reliable signals of what’s in store for the economy. Rising or declining markets may not always be justified, but any adjustments to ‘fair value’ will always follow, sooner or later. That’s why superior investors and traders have developed their feelings over time, for the perils and powers of intuition.

Model-based investing, however, purports to be more accurate, as it removes emotion from investment decisions. It would expand an investor’s scope in order to minimize the chance of being blindsided. There are limits to the amount of information an investor can meaningfully absorb at any point in time, but a model’s capabilities would seemingly be endless. Some models even proclaim, that they incorporate intuition, without being overly reliant on the processing of data (‘data mining’)!

One of the widely used models is the outrageously flawed ‘Fed Model’: this compares bond yields and the earnings yield, the inverse of the Price/Earnings Ratio. But why would it make any sense to compare fixed nominal bond yields to wildly fluctuating earnings of risk assets? Any model can work for awhile, until it doesn’t! This model gave a strong Buy signal for equities in 2008, before the Crash, and a strong Sell signal at the bottom in 2009! That’s why a ‘scientific’ approach to investing is so risky. Only the dangerously complacent or naive could assume, that model-based investing is the answer to successful investment performance. And yet, it seems, that trillions of assets are being managed this way. No surprise, then, that such an approach is simply asking for trouble.

Selling Bonds at these low yields may look like a no-brainer, but yields keep going lower. Similarly, Stocks keep going higher, despite the relatively miserable economy. What else should companies do than buying back their own stock? The long-term prospects for capital spending remain too uncertain. However, these decisions are based on deeply flawed mathematical models, which, by the way, also gave the ‘green light’ before the Great Financial Crisis.

RICK SCHMULL

July 21st, 2014

WESTCLIFF-On-SEA, ESSEX, U.K.

THIS MARKET IS A CON GAME!

THIS MARKET IS A CON GAME!

Today’s market excesses are much worse than at the last peak, in 2007. The enormous global leveraged speculative trading positions will implode. Who cares about the timing of the next collapse? The deep structural problems, the imbalances, and the public and private debt issues have not been addressed at all. These have grown out of all proportion. All the cracks have just been papered over by another Bubble in virtually all asset classes, caused by loose money. Deal frenzy and M & A (Mergers & Acquisitions) mania are back. The resulting confidence boost will turn out to be short-lived, because the facts of the real economy have been intentionally misrepresented. The world today is much more vulnerable than 7 years ago. Central Banks are out of ammunition. ‘Whatever it takes’ has become somewhat of a hollow phrase. The global economy is weakening and there are few signs it will take a turn for the better, while speculative markets are massively mispriced. It’s an illusion, that things can be kept under control, once the markets suspect, that this is not a never-ending Bull market, for whatever reason. Central Banks don’t have supernatural powers! Have they ever been able to ‘manage’ Financial Manias in the past for long? Market liquidity could suddenly evaporate if nobody is ready to take the other side of the trade. What will be the trigger? Perhaps something ‘small’ like Portugal, just like ‘tiny’ Subprime (13% of the total U.S. mortgage market) in 2007?

Market faith will be shattered quickly if economic prospects remain relatively poor. Risk premiums have declined all the way back to 2007 lows! The current environment looks especially fragile as markets and fundamentals have diverged sharply. The next contagious downturn in asset prices could turn out to be much worse than the last one, 7 years ago. It will suddenly dawn on the markets, that the only route to recovery will be to establish realistic prices for distressed assets and then write the losses off. The world is riddled with bad debt everywhere. The miraculous performance of extremely speculative assets always precedes a serious bust. Be forewarned!

Onorthodox monetary policies will eventually be seen as an abject failure. They may not even have ‘bought time’. As the ridiculous market distortions, resulting from these policies, become clear, we wish we had known that we have been setting ourselves up for another Great Financial Crisis. But this one will be the Big One. Suddenly, the world will be set back in time, with Bank Holidays, Capital Controls, Wealth Confiscation and Political Upheaval. And a sharply reduced global standard of living. The wrong medication had been prescribed!

RICK SCHMULL

12th July, 2014

WESTCLIFF-On-SEA, ESSEX, U.K.

BLIND OPTIMISM

BLIND OPTIMISM

Even after 5 years of lax Keynesian monetary policies, including continued ultra-low interest rates, the party may just have gotten started. The bugaboo of deflation is still sticking its ugly head into the exciting world of overleveraged risk-takers. More risk-taking has to be encouraged, because the desired effect of accelerating inflation has so far been missing. The current generation of Central Bankers will do ‘whatever it takes’ to kill off any semblance of this terrible sado-monetarism, as expressed by some, like the Bank of International Settlements (BIS). The simple truth is, that more of the same seems to be needed, because it hasn’t really worked according to the econometric forecasting models. In addition, Central Bankers don’t want to deal with the potential bloody aftermath, if current onorthodox monetary policies would ever reverse. They must be thinking: ‘Not on my watch!’

So Central Bankers can really stay in control of this monetary beast, which they have unleashed? ‘You cannot be serious!’ (John McEnroe - Wimbledon). Of course not! Nature has a way of humbling the most overconfident decision makers. When markets , for whatever reason, have had enough, they may be topping out, whatever Central Bankers say or do, even if the economy looks fine, just like in the past. All trading profits made in the previous bubble run-up, will then subsequently vanish quickly.

It should be abundantly clear (hello, Central Bankers!), that any attempt to determine a certain level of inflation by any one Central Bank, is futile. We live in an open system with extensive globalisation, so prices are being determined by the rest of the world. Accelerating rates of wage inflation are a thing of the past. Global pricing power has effectively been doomed by the expanding internet. Any inflation caused by energy and food prices as well as currency devaluation, is temporary and unsustainable. It is actually detrimental to the disposable income of the middle class, similar to a higher tax rate. This is deflationary. The smartest market in the room, the massive global quality bond market, has figured this out long ago. The 33-year Bull Market in U.S. Treasuries, for instance, is still very much in tact, despite the overwhelming consensus about its demise. Any rise in yields has been temporary and yields in the future can only decline further, as the population grows older and the real deleveraging finally takes hold. Convergence of yields with those in Japan is very much in the cards! Japan was an early example of a highly indebted, greying society, which remains mired in a structural economic stagnation, with low or negative inflation (deflation), whatever the policy of the Central Bank. This process takes many decades, even centuries. You can’t fight these secular forces. They have to play out. All official statements of policymakers should therefore be taken with a huge grain of salt!

The real reason, that Central Banks keep denying a Bubble Boom exists, is perhaps, that they see it as their mission to keep the leveraged Banking System from toppling over. This becomes clearer as the ‘real’ owners of the Central Banks will finally be revealed. If current, outrageously unsound monetary policies ever become unstuck, then the very existence of the 100-year Central Bank system will be hanging in the balance. The world will face the consequences of throwing out of the window 300-year old monetary policies!

RICK SCHMULL

July 4th, 2014

WESTCLIFF-On-SEA, ESSEX, U.K.

INTRODUCTION

INTRODUCTION

Welcome! Markets are extremely exciting, but not everything is what it seems. Therefore, let’s explore THE FLY IN THE OINTMENT, because there always may be something hidden somewhere. Let’s try and find whatever is not readily apparent in the global stock-, bond-, commodity-, property- and foreign exchange markets. Consensus opinion needs to be challenged constantly. Markets are full of unexpected surprises! Being part of the herd could be comfortable, but dangerous.

RICK SCHMULL

June 28th, 2014

WESTCLIFF-On-SEA, ESSEX, U.K.