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David Stockman Sees "Signs Of The Bubble's Last Days"
Submitted by David Stockman of Contra Corner blog,
The central banks of the world are massively and insouciantly pursuing financial instability. That’s the inherent result of the 68 straight months of zero money market rates that have been forced into the global financial system by the Fed and its confederates at the BOJ, ECB and BOE. ZIRP fuels endless carry trades and the harvesting of every manner of profit spread between negligible “funding” costs and positive yields and returns on a wide spectrum of risk assets.
Moreover, this central bank sponsored regime of ZIRP and money market pegging contains a built-in accelerator. As carry trade speculators drive asset prices steadily higher and fixed income spreads steadily thinner—- fear and short interest is driven out of the casino, making buying on the dips ever more profitable and less risky. Indeed, the explicit promise by central banks that the money market rate will remain frozen for the duration and that ample warning of any change in rate policy will be “transparently” announced is the single worst policy imaginable from the point of view of financial stability. It means that the speculator’s worst nightmare—–suddenly going “upside down” due to a sharp spike in funding costs—-is eliminated by central bank writ.
Stated differently, ZIRP systematically dismantles the market’s natural stability mechanisms. One natural deterrent to excessive financial gambling, for example, is the cost of hedging a speculator’s portfolio of “risk assets” against a broad market plunge. In an honest market environment, hedging costs consume a high share of profits, thereby sharply limiting risk appetites and the amount of capital attracted to speculative trading.
By contrast, an extended regime of ZIRP, coupled with the central banks’ perceived “put” under risk assets, drives the cost of “downside insurance” to negligible levels because S&P 500 put writers are emboldened and subsidized to pick up nickels (i.e. options premium) in front of a benign central bank steamroller. This ultra-cheap downside insurance, in turn, attracts ever larger inflows of speculative capital to the casino.
This corrosive game has been underway ever since the Greenspan Fed panicked on Black Monday in October 1987 and flooded the stock market with liquidity. It is now such an endemic feature of Wall Street that it is falsely assumed to be the normal order of things. But, then, would anyone have been picking up nickels in front of the Volcker steamroller?
This dynamic is evident in the chart of the S&P 500 since the March 2009 bottom. The dips have gotten shallower and shallower as ZIRP and other pro-risk central bank policies have eroded the market’s natural defenses against excessive speculation. As of mid-2014, therefore, it can be fairly said that fear and short interest have been extinguished almost entirely. The Wall Street casino has thus become a one-way market that coils dangerously upward, divorced completely from the fundamentals of earnings and cash flow and real world economic conditions and prospects.

The inverse side of this coin is disappearance of volatility in the equity markets. As shown below, the current readings are at all-time lows, even below bottoms reached on the eve of the 2008 financial crisis. Needless to say, this dangerous condition does not appear by happenstance: its is the inexorable and systematic result of ZIRP and the associated tools of monetary central planning.

But all of this is ignored by the central banks because their Keynesian economic plumbing models contain a fatal flaw. These models purport to capture capitalism at work, but they contain no balance sheets and hardly any proxy for the financial markets which are at the heart of modern capitalist economies. As a result, central banks pursue ZIRP in order to inflate the plumbing system of the macro-economy with more “demand”—and hence more jobs, income, investment and GDP—-while ignoring the systematic destruction of financial stability that results from these very same policies.
As a consequence, Keynesian central bankers are bubble-blind. Whereas they monitor immense amounts of “in-coming” high-frequency macro-economic data that is trivial and “noisy” in the extreme, they ignore entirely “in-coming” financial market data that points to monumental troubles just ahead.
At the present time, for example, 40% of all syndicated loans are being taken down by sub-investment grade issuers. This is materially higher than the 2007 peak, and is accompanied by an even more virulent outbreak of “cov-lite” credit terms. Indeed, upwards of 60% of these junk loans have no protection against debt layering and cash stripping by equity holders—-notwithstanding their nominal “senior” status in the credit structure. The obvious implication, of course, is that the Fed “easy money” is being massively diverted into leveraged gambling and rent stripping by the LBO houses. Three times since 1988 this kind of financial deformation has led to a thundering bust in the junk credit market. Why would monetary central planners, who allegedly watch their so-called “dashboards” like a flock of hawks, think the outcome would be any different this time?

40pc of syndicated loans are to sub-investment grade borrowers
The monetary politburo remains unperturbed, of course, because they are not monitoring the composition and quality of credit. Their models simply stipulate that aggregate business loan growth will lead to more spending on capital assets and operational expansion including hiring. That assumption is manifestly wrong, however, because it is plainly evident that most of the massive expansion of business credit since the last peak has gone into financial engineering—-stock buybacks, LBO’s and cash M&A deals—-not expansion of productive business assets. Indeed, total non-financial business credit outstanding has risen from $11 trillion in December 2007 to $13.8 trillion at present, or by 25%, yet real business investment in plants and equipment is still $70 billion or 5% below its pre-crisis peak.
And that is “gross” spending for plant and equipment as recorded in the “I” term of the GDP accounts. The far more relevant measure with respect to economic health and future growth capacity is “net business investment” after accounting for depreciation and amortization allowances. That is, after accounting for the consumption of capital that occurred in the production of current period GDP. As shown below, that figure in real terms is 20% below the peak achieved two cycles back in the late 1990s.
In short, the combination of faltering investment in real plant and equipment juxtaposed to peak levels of leveraged loan finance should be a warning sign of growing financial instability. Instead, the central bankers bray that valuation multiples are not out of line and financial institution leverage is reasonably well-contained.
The “valuations are normal” line proffered by Yellen and her band of money printers, however, is simply an adaptation of the Wall Street hockey sticks based on projected earnings ex-items. That is to say, the kind of “earnings” estimates that omitted on average 23% of actual P&L charges over the course the 2007-2010 boom and bust cycle owing to non-recurring write-downs of goodwill, plants, leases and restructuring costs, among countless other real expenses—all of which ultimately consume corporate cash and capital. As I demonstrated in “The Great Deformation”, cumulative S&P 500 “earnings less items” over that four-year period amounted to $2.42 trillion compared to GAAP reported earnings—-that is, the kind that you don’t go to jail for reporting to the SEC—of only $1.87 trillion.
Consequently, the Fed fails to see the in-coming data on financial instability because it isn’t looking for it, and is simply tossing out Wall Street sell-side propaganda as a sop. The disappearance of volatility in the S&P 500 chart shown at the beginning, for example, is nearly an identical replica of the run-up to the 2007 stock market peak. Yet the appearance of a proven warning sign of a bubble top has been resolutely ignored.

The fact is, PE multiples are far above “normal” based on GAAP earnings in historical context. During the LTM period ending in Q1 2014, S&P 500 earnings amounted to $100 per share after adjustment for a recent change in pension accounting that is not reflected in the historical data. Accordingly, even the big cap “broad” market is trading at 19.6X reported earnings—a level achieved historically only at points when the stock market was on the verge an implosion.
Moreover, today’s $100 per share of earnings are highly artificial owing to massive share buybacks funded by cheap debt and by deep repression of interest carry costs. The S&P 500 companies carry upwards of $3 trillion in debt, but were interest rates to normalize— earnings per share would drop by upwards of $10. Likewise, profit margins are at an all-time high, indicating that the inevitable “mean-regression” will chop significant additional amounts out of currently reported profits.
In other words, at a point which is month #61 of the current business cycle, and thereby already beyond than the average cycle since 1950, why would any one in their right mind say a market is not bubbly when it’s trading at nearly 20X reported earnings. Indeed, in a world where interest rate and profit rate normalization must inevitably come, the capitalization rate for current earnings should be well below normal—-not extended into the nosebleed section of historical results.
And this applies to almost any other measure of valuation in risk asset markets. The Russell 2000, for example, still stands at the absurd height of 85X reported earnings. The cyclically adjusted S&P stands at 24X, or six turns higher than its half century average. The Tobin’s Q measure is also far more stretched than in 2007.
Likewise, emerging markets have piled on $2 trillion in foreign currency debt since 2008. This makes them far more significant in the global financial scheme than they were in 2008 or even at the time of the East Asia crisis of the late 1990s. And that is not even considering the massive house of cards in China, where credit market debt has soared from $1 trillion at the turn of the century to $25 trillion today.
At the end of the day, the Fed and its fellow traveling central banks have systematically dismantled the natural stability mechanisms of financial markets. Accordingly, financial markets have now become dangerous casinos in which speculative bubbles are guaranteed to build to dangerous extremes as the central bank driven financial inflation gathers force. That’s where we are now. Again.
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Welcome to the Orwellian State.
[All content from this post has been removed pending review by the NSA]
"the Fed and its confederates "
awww, maaan. We're gonna have to go to war with the Confederates AGAIN
When gh0atrider saw that chart of corporate profits vs. employment he almost shatoshied his pants!
What will pop the bubble? Short answer, mal-investment. Banks will issue too much credit and some of it will (again) go bad. Consumers get smart (again) and stop paying mortgages/credit cards/car loans. The FED/ECB think any pop will be orderly. What hubris.
Dark Helmet Yellen is going to ludicrous speed.
http://www.youtube.com/watch?v=mk7VWcuVOf0&feature=kp
Crack-up. You da best for today NoDecaf!
Business School?
If you went they told you about the Greatest Trend, Most important Factor...
Baby Boomers & Demographics.
Harry Dent is pointing to this in his last book. We can Disagree with his conclusions based on 9 Chapters of Charts, but he lays the ground well.
A) Either Inflation
B) OR Deflation
He says Commodities all Deflate. But the Charts seem to have missed or been premature in predictions for 2014. Still he predicts Stock Market & Real Estate Crashes in Mid 2014 to End of 2015 (if I got that Right).
Hard Part is Harry Dent does not think Gold or Silver will hold Value as US Dollar Deflates.
I can't understand the Deflation. In 2008 debt or Credit was not Reduced as much as he seems to think and in 2014 Crisis I don't think the TPTB will allow much Credit/Debt Write offs. I think they want Debtor Prisons.
Debt Jubilee - seems to be part of the answer, but TPTB Will Fight It. They had the Bankruptcy laws tightened prior to 2008. They have supported "Bail Ins" and "Bail Outs".
They are coming after us and don't want Deflation. They want us to keep Debts and for US TO PAY FOR THEIR DEBTS.
The last bubble
Speaking of bubbles. Sodastream Zionist pisswater is on sale! 2 year low, act now, supplies are limited!
Nevermind the BDS pesky boycott movement...
http://zionismsucks.com/2014/07/14/boycott-divest-sanction-more-good-news/
the last bubble...
before the next bubble...fixed it for ya!
Cheers!
Interplanetary debt? That's about all that's left.
Nonsense, there are plenty of 3rd world Countries left for the IMF to loan $ to and bust out, before they need to search out aliens to squeeze.
So sick of reading "the end is nigh".
We get it.
It's all a rigged Ponzi scheme.
Pop the Bubble and get this shit show over with.
I would like to see the calendar of all the end-of-bubble predictions. I want to send the winner a cookie when it's all over. It has to be a constrained date range, though - no bigger than a sixth month spread.
So where is this calendar?
19th Century.
The Western World and the USA and Germany in particular experienced massive and sustained disinflations (industrial revolution) with few deleterious consequences.
The key is maximizing employment...something the current political classes have utterly failed to do.
The Western World hasn't had a good jobs print since the 1980's which is a direct consequence of the creation by Wall Street and DC of a"regime of debt" one that is prima facie not only unsustainable but in fact has been collapsing for some time.
Go long cash flow (small caps...Russell 2000) and stay long treasuries. (60\40 mix in my view.)
Since the end of the gold standard via nixon 71', the flood gates had opened the realm of currency manipulation and employment out sourcing. If the gold standard never ended, we would still have manufacturing jobs and a producer country. Its pretty much that simple.
Edit
Then after glass steagle was repealed, the leverage and corruption exponentially ran wild. That was the nail in the coffin imho
Careful, couple of down voting pussies are on the lose. Ima fucker right in the pussy
6 months date range? That's a bit boring, no?
Why don't we do a "pick a date" game (=monkeys throwing darts on a big calendar) and the winner get's a BIG COOKIE (there should be enough readers on ZH to have a winner at the end).
My prediction: Wednesday 17 September 2014 the bubble starts popping (major equity indices >-15%)
Why 17 September? Well there is so much stuff going on and mass media just won't listen, maybe it'll come down to a simple GDP number: When it becomes more and more clear in fall that US Q2 GDP numbers are really terrible (final rigged Q2 GDP revision for example something like -2.5%; number leaked in advance?), Central Banks, Yellen, Draghi, Obama and Angela et. al operate in full panic mode to carry this baby beyond the September 20 Options Expiry. However, they will make such desperate moves that on September 17 the whole thing starts going south.
That's it. My guess. You guys next!
-15% is a correction. A full bubble pop has to be BIG. REALLY big.
Sure, that's why I said "starts" popping.
-50% in the week or two after Sept 17.
Is that prediction BIG enough?
My guess is July 21st.
Edit- If I'm right you can send my cookie to my new address which will be
0000
Curbside
Anywhere
Totally. ad-fucking-nauseam
Mohamed El-Erian made an interesting commentary about this issue in the Financial Times today. The article is titled: "Can economists help Investors? Thoughts on the analytical underpinning of the current market cycle." It's behind a paywall though.
So what's the upshot...I'm cheap.
This guy + Faber... too funny. He's "contra" alright.
What bubble?
"Soon" the world will end.
Well it's not like the Fed and the other CB have anything to lose. There is no net cost for inflating the bubble we're in -- and when it pops they get to disappear into history.
Nobody will be watching the wizards fade into the very same shadows that first produced them.
"Dual mandate.". Yellen at least gives paen to the importance of job creation.
This exists currently NOWHERE ELSE on the planet to my knowledge.
Interest rates have already reset (massively) higher in the USA. Detroit will have to come back to market soon and when it does that will set the standard for all debt issued globally save treasuries.
Where exactly are you seeing interest rates reset in usa?
Respectfully
Yellen has only one mandate. The maintenance of the power of the political entities that selected her. To put it in her words, everything else is just "noise."
The Samson Option - How Psychopathic Megalomaniacs Blackmail The World With Nuclear War and / or Debt...
The Samson Option - How Psychopathic Megalomaniacs Blackmail The World With Nuclear War
http://www.youtube.com/watch?v=Xq1-oFjuPeI (3:38)
I like this guy. I have to re-read the articles a few times but I like him.
Absolutly rediculous.Bubles bubles every where a bubble. Bull shnitz I can smell.awhat goes up comes down and us serfs will go work to get them more money.
Stockman is correct in his analysis in my humble redneck opinion. I remember when he was appointed Budget Director and when he was sacked too...sent to the "woodshed" as they said then. I liked him then and I like his analysis now. That said, nobody is 100% right, especially in economics.
Remember, men, The International Termite slowly chews away, until the house suddenly falls one night.
Gotta go, I am late for a bar mitzvah-- Newman.
Stockman is right and I contend the primary reason that inflation has not raised its ugly head or become a major economic issue is because we are pouring such a large percentage of wealth into intangible products or goods. If faith drops in these intangible "promises" and money suddenly flows into tangible goods seeking a safe haven inflation will soar. Like many of those who study the economy I worry about the massive debt being accumulated by governments and the rate that central banks have expanded the money supply.
The timetable on which economic events unfold is often quite uneven and this supports the possibility of an inflation scenario. A key issue being one of timing. If the price of gas jumps to $8 a gallon overnight do you buy gas and not make your car payment or stop driving the twenty miles to work? Answer, it could be months before your car is repossessed so you buy gas.
It is important to remember that debts can go unpaid and promises be left unfilled. If this happens where does it leave us? Chaos and major disruption would result from such a scenario. As we have seen from the economic crisis of 2008 and following many other unsettling developments legal actions can continue to drag on for years. More in the article below.
http://brucewilds.blogspot.com/2014/04/inflation-seed-of-economic-chaos....
Food, fuel and rent have experienced significant inflation in the last year or so. Here in Seattle we are starting to see wage inflation, some of it is driven by the politicians, some by supply/demand. Finding good workers is much more expensive than even 2 years ago. Seattle's economy is pretty good, better than most. There are workers, but not that many good ones (some education, drug free, go to work everyday)
Once cost push inflation is ingrained in the economy, it will take a multi-year Volker squeeze to get it out, 15% mortgage type stuff. The mal-investment is so huge that we may not have an economy left. The alternative is death by inflation.
Not many good options. Thanks Al and Bennie.
sschu
Fight Club! Fight Club! (joking).
Man, your basic ideas seem cool, but Inflation IS way up.
You must not be married.
Tylers, we need a Neutral Arrow.
David Stockman every year tells us "this year, shit's going down." Every. Single. Year. Yup, this is the year David.
Well, he has to get it right eventually. As they say, even a stopped clock is right twice a day.
Stockman explains things so clearly, even Steve Liesman could understand it.
Stockman isn't saying when, just pointing out the immorality.
The immoral can buy a lot of time with other people's money.
Stockman doesn't know "when" the magic moment will be because NObody knows when the "great reconsiliation" will happen...but it will happen....something most Austrian thinkers believe is a certainty.
And I agree on Stockman's ability to provide a logical, clear, easy to understand explanation of how things work. He just "makes sense" to me.
Thanks hairball48, ditto on both posts.
People who thumb down common sense worry me.
I thought the saying was “a trader w/ stops gets clocked twice a day.”
Yes, sometimes the constant din of the gloom ‘n’ doomers becomes tedious, as they’ve proven they’re in control, in global cahoots and can keep it up much longer than sensible theorists suspect (i.e., short-selling may go the way of the Riversleigh platypus). As long as they moderate from 2013’s trajectory, what’s to stop Yellen et. al. from averaging 1% each month through repo chicanery and other tricks, while having various Fed Heads out contradicting each other on the weekly speaking circuit, ensuring we get “severe” 65 pt down days that rebound 130 pts each time she talks, thus continuing a slow grind up for another decade or more? Yeah, they’ll eventually get their comeuppance, but some of us will be long dead.
One thing seems clear: if we don't see at least a 10% pullback before the fall, it's not likely coming until the next president clones Volcker.
Harry Dent has a couple of books. Not sue I believe his deflation theory, but his demographics seem to be from Business School, undergraduate level.
And one day Stockman, and fans like me, will be right 3 times in a day :)
...and a slow clock is right multiple times a day...
Why can't the stock market double and the economy slowly contract? Tulip bulbs achieved mania status without central bank intervention. Once you know that the stock market has nothing to do with creating wealth, it makes sense: a grand redistribution scheme.
....and Bath House just droned on and on.....
Dear David,
The economy ain't got fuck all to do with Wall Street, the Fed, etc, etc;. The economy is where you find food, drink and sex. The economy is us regular folk that do actual fkn work for other regular folk in order acquire chits to pay for the aforementioned plus reasonable shelter.
You wanna bitch about the iniquities of the rentier class? You, amigo are simply one level of rentier below those rentiers against which you rail. Penis envy is all it is.
This isn't rocket science, David. We live in a system based on usury. When the American consumer rolled over in 2005 (and it took the fed nearly a year to realize this), the fed started with several programs to keep the system liquid. Usury cannot function w/o sufficient liquidity. "Growth" is not automatic, it requires resources- cheap resources.
So, you can bemoan the fed's actions all you want. That's about as productive as pronouncing Wile E. Coyote a perennial idiot. The American model of borrow and spend is dead. It's just hanging in that space where Wile E. holds up his sign that says; Oh Shit!
Awright, which one of you fucksticks (now 4) cares to refute what I say? Bueller?
pretty close-but here's what happend in 2005
Despite major oil finds off Brazil's coast, new fields in North Dakota and ongoing increases in the conversion of tar sands to oil in Canada, fresh supplies of petroleum are only just enough to offset the production decline from older fields. At best, the world is now living off an oil plateau—roughly 75 million barrels of oil produced each and every day—since at least 2005, according to a new comment published in Nature on January 26. (Scientific American is part of Nature Publishing Group.) That is a year earlier than estimated by the International Energy Agency—an energy cartel for oil consuming nations.
If the bankerz wanna get paid off-they 've got to fix this
Da bankerz have no earthly hope of gettin' paid off, and that's my point. There is no fix. All they can do is print currency to buy hard assets until no one will trade for said currency. It's fkn simple as that. Stockman et. al; wanna make it seem complex. It's not.
Carry Trade might as well be an English Invention.
Carry Trade comes home to "Ruin the USA"
Let Freedom Roll
Let the White Dove Sing, huh?
Can it all go supernova ?
Yes we can.
In a matter of a few months massive liquidity could drive key prices higher. Much higher.
We have all been violated
We have been
Violated to the East
Violated to the West
Violated to the way I know Best
Look, we can not count the Ways we have been violated
We can't not know the ways we have been violated
We can View the Charts of huge Money Expansion
But we can't really know the US Dollars committed to Derivatives Commitments OR how US Banks are Linked in a way that would Cause War with our Global Partners. Fuck.
Did You Just Fuck Me.
Financial Markets Opinions are not Represented in US Press when they are Trans-national OR Foreign Opinions.
Think.
Do you think Europe & Scandinavia are Pissed for being Fucked in the 2008 Financial Crisis - Even if the Wealthy Interests Were Made Whole??
US Financial Reputation is Forever Screwed. US Markets Can't Be Trusted because of TBTF Banks which are now Bigger and Much Riskier through Financial Risks.
US Financial Firms Did not Take Credit Down Grades or Punishment after 2008. What? They were Rewarded for the 2008 Financial Collapse. This become the EU Financial Collapse. Now after the 2008-2014 US Financial Bailouts there was no Credit Write off, no TBTF Bankruptcies, no Clear up, No Reset of Financial Markets in the USA...
Harry Dent Says... We are looking at a Bull Horn Stock Market Chart. The Bubbles are up right now. Bull horn proves that we are expecting 20014-2015 Stock Market Crash with Real Estate Crash, but started (maybe) by China Economic Crash.
Stockman is certainly right in criticising any Fed "transparency" program. All that does is to guarantee speculators' profits and prolong the perceived absence of risk. The Fed needs to have flexibility and the ability to move quickly when necessary. It also needs to administer "shocks" to surprise manipulators and rectify distortions. Its commitments to sound money and full employment must be its only guidlines. It need not concern itself with bank solvency or corporate profits. On the idea that short sellers can be an agent for market stabilization, I respectfully disagree. Short sellers are parasites who steal capital gains from long-term holders. Their operations are short term and usually increase fluctuations that serve no purpose other than to fill their pockets.
Damn! A sea of red arrows on this thread. I wonder why? Don't tell me the Banksters are monkey hammering ZH comments down like gold!