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Why This Time Could Be Different

Tyler Durden's picture




 

Submitted by Lance Roberts via STA Wealth Management,

In yesterday's post, I discussed the current correction within the context of previous "bull market" corrections. Specifically, the corrections in 1987, 1998, 2010 and 2011.

However, today, I want to look at the current correction in the context of previous starts to "bear markets" and subsequent recessions.

As I said previously, we never truly know for sure where we are within a given market cycle. This is why it is often fruitless to try and predict future outcomes as you will often be wrong more than right. However, by analyzing past market behavior we can often develop an understanding of what to expect so that appropriate, and timely, reactions can be made. 

Currently, the "bulls" are "hopeful" that the worst is now behind us and that the meager rate of economic growth in the U.S. will be enough to sustain the bull market through at least the rest of this year. They could be right, particularly given support by the Federal Reserve of not hiking interest rates in September and potentially discussing more accommodative policy actions if needed. While it has certainly been beneficial over the last few years to give sway to the "bullish" view, it has historically been disastrous to become blinded by it.

As I will discuss today, from both a fundamental and technical perspective, there is mounting evidence that this correction may not be just a "bump in the bullish road," but rather something more important. While I am not suggesting that we are about to enter into the next great "financial crisis," I am suggesting that investors carrying excess levels of portfolio risk may wind up being rather disappointed.

Fundamentally Speaking

Valuations

As I stated yesterday, earnings growth is deteriorating, and valuation expansion has ceased. As I addressed in "Shiller's CAPE - Is There A Better Measure:"

"The need to smooth earnings volatility is necessary to get a better understanding of what the underlying trend of valuations actually is. For investor's periods of 'valuation expansion' are where the bulk of the gains in the financial markets have been made over the last 114 years. History shows, that during periods of 'valuation compression' returns are much more muted and volatile.

 

Therefore, in order to compensate for the potential 'duration mismatch' of a faster moving market environment, I recalculated the CAPE ratio using a 5-year average as shown in the chart below."

PE-Ratio-5yr-CAPE-082515

"There is a high correlation between the movements of the CAPE-5 and the S&P 500 index. However, you will notice that prior to 1950 the movements of valuations were more coincident with the overall index as price movement was a primary driver of the valuation metric. As earnings growth began to advance much more quickly post-1950, price movement became less of a dominating factor. Therefore, you can see that the CAPE-5 ratio began to lead overall price changes.

 

As I stated in yesterday's missive, a key 'warning' for investors, since 1950, has been a decline in the CAPE-5 ratio which has tended to lead price declines in the overall market."

Economic Growth

Just recently the Congressional Budget Office (CBO) downwardly revised their always over-inflated economic forecast. (As an aside, this is the same organization that has never gotten any of their forecasts correct. In 2000, they projected a $1 Trillion budget surplus in 2010 versus a $1 Trillion deficit reality.)  To wit:

"Federal budget analysts dropped their estimates for U.S. economic growth after another disappointing first quarter, extending a string of downward revisions to initial forecasts that have been a hallmark of the current expansion.

 

U.S. gross domestic product is now expected to increase 2% this year, down from a January estimate of 2.9%, the Congressional Budget Office said on Tuesday. The report revised up slightly the GDP forecasts for 2016 to 3.1% from 2.9%, and for 2017 to 2.7% from 2.5%."

Well, at least hope springs eternal at the CBO. 

However, the importance of the downward revision to economic growth is market crashes combined with declining economic growth rates have historically marked the beginning of more substantial bear markets.

SP500-GDP-Bull-Bear-082515

Breakeven Inflation Rates

In a strongly growing economy, that would support sustained earnings growth and higher valuations, expectations of rising inflation would be found. There is historically a strong link between inflation expectations and the S&P 500. That was until the start of QE-3 in December of 2012 which flooded the financial markets with liquidity sending asset prices surging without a subsequent pickup in economic growth.

As shown in the chart below, the decline in inflation expectations suggests that the economy is running at a far slower pace than headline statistics suggest. As a consequence, the detachment of the financial markets from economic realities leaves investors at risk of a more substantial correction.

Inflation-5-10yr-Breakevenrates-082615

Technically Speaking

From a technical viewpoint, the markets are currently behaving in a manner that has been more closely associated with the beginning of previous bear market declines.

The chart below shows only two moving averages of the S&P 500 index. The short term two-week moving average is in blue as opposed to the one-year moving average in red. Historically, when these two moving averages have crossed it has been representative of a more severe market correction or bear market. This is with the exception of the 2011 correction which was halted by the intervention of the Federal Reserve's second round of quantitative easing.

SP500-Technical-082615

While the moving averages have not crossed as of yet, there WILL do so in the next few days. Very likely, the only thing that would stop a bigger correction from that point would be the onset of another Federal Reserve intervention.

Momentum

As I discussed previously in "Think Like A Bear, Invest Like A Bull:"

"The effect of momentum is arguably one of the most pervasive forces in the financial markets. Throughout history, there are episodes where markets rise, or fall, further and faster than logic would dictate. However, this is the effect of the psychological, or behavioral, forces at work as "greed" and "fear" overtake logical analysis."

Currently, momentum has clearly broken in the market as shown below. The break in momentum has not only been a good signal to reduce equity risk exposure during bull markets, but also a warning signal of impeding bear markets. 

SP500-Technical-082615-1

The Elephant In The Room

From both and fundamental and technical viewpoint, there is mounting evidence that the current decline might just be sending a signal that there is more going on here than just an "overdue correction in a bull market." While it is too soon to know for sure, there seems to be little risk in being more conservative within portfolio allocations currently until the market environment clears.

However, the proverbial "elephant" is margin debt. As I have stated previously:

"While 'this time could certainly be different,' the reality is that leverage of this magnitude is 'gasoline waiting on a match.' When an event eventually occurs, that creates a rush to sell in the markets, the decline in prices will reach a point that triggers an initial round of margin calls. Since margin debt is a function of the value of the underlying "collateral," the forced sale of assets will reduce the value of the collateral further triggering further margin calls. Those margin calls will trigger more selling forcing more margin calls, so forth and so on.

Notice in the chart that margin debt reductions begins innocently enough before accelerating sharply to the downside."

Margin-Debt-082415

No one knows for sure where how far the market needs to fall before "margin calls" are triggered. However, if that point is eventually reached, there will be very little investors can do to shield themselves from the decline.

Yes, if you become more conservative now, you might just miss some of the recovery if the market can regain its bullish stance. Of course, it is relatively easy to re-enter the markets when the picture become clearer. However, those that refuse to accept the notion that it is possible the bull market just ended will once again see irreparable damage done to their retirement savings once again.

While it is correct that given enough "time" the markets will eventually recover previous losses, the "time" lost to save, invest and grow funds to meet your retirement goals will not.

Just something to think about.

 

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Wed, 08/26/2015 - 15:36 | 6474419 Hitlery_4_Dictator
Hitlery_4_Dictator's picture

Come get your tickects to "Rampfest 2015" brought to you by PPT. It's a great line up featuring, the new hit bands, "Buy The Fing Dip", "Yellens Got your hairy back", "We don't need No Fundamentals", and "Hedge Funds Matter". You must be at least 21 years old and a satanist to enter, we will be checking. 

Wed, 08/26/2015 - 15:46 | 6474481 khnum
khnum's picture

Dark side won it has today but bottom it has not bought the power of the farce will fail them soon enough

Wed, 08/26/2015 - 15:48 | 6474490 Hitlery_4_Dictator
Hitlery_4_Dictator's picture

too much damange has been done in regards to markt sentiment....sorry ppt but it will never be the same again

Wed, 08/26/2015 - 15:52 | 6474512 froze25
froze25's picture

This is getting a positive print in the headlines "Dow soars 600 points" are we the only ones that thing 1000 point, 600 point, 600 point swings each day usually signal that a major crash is coming.  The volatility always leads the crash.  We have not seen anything yet.

Wed, 08/26/2015 - 15:53 | 6474518 Supernova Born
Supernova Born's picture

Oil close at 38.67 (low of day), DOW up 600+

The roller coaster car is one place and the rider is in another.

Wed, 08/26/2015 - 16:00 | 6474551 Hitlery_4_Dictator
Hitlery_4_Dictator's picture

man they tried really hard to get the final number to the mark of teh beast, didn't they?

Wed, 08/26/2015 - 16:22 | 6474693 MalteseFalcon
MalteseFalcon's picture

The only reason we escaped 2008 was that China went on a borrowing binge.  They built a bunch of empty cities, blew a stock bubble and enlarged their military.  Their debt has increased by several factors.

It appears they are done.

There is no one to pick up the borrowing.

Brace for impact.

Wed, 08/26/2015 - 17:01 | 6474865 DaVinci
DaVinci's picture

It will be different when THEY want it to be different. That's what's called manipulation. Market is manipulated. Only people must make a decision to get out.

Wed, 08/26/2015 - 15:51 | 6474494 SheepRevolution
SheepRevolution's picture

Dow Jones up 500 points in the last few hours. Someone - aka PPT - are scared shitless right now...

Wed, 08/26/2015 - 16:12 | 6474625 BandGap
BandGap's picture

They have to, just like Vegas. Can't let them leave the table just yet, got to keep letting them think they can "win".

Wed, 08/26/2015 - 16:24 | 6474692 Sudden Debt
Sudden Debt's picture

The more it drops the more it costs to rpop it back up.

And indeed, it's all about the margin calls, they just can't risk it to let it all blow up.

The guess is they're mostly all triggered withing 20% of a drop, and we where there at dow 15000. Just look at how fast it went back up 10% IN 2 DAYS!!!

A DOW RISE OF 10% IN 2 DAYS!!!

That should be on every front page.

So, or they'll leave it hanging here or they,ll pump it back up above 18k to get of the risk all together.

Qe4?

The money is already spend. And 3 was open ended with a dash of "we don't have to tell you shit about what we're doing!!"

We're at war. No way they'll end it all by letting the markets work for themselves.

This is probably the last time the dow has dropped so much.

And what did it cost to prop up this market these last 2 days? About 2 to 300 billion. That's the gdp of a small country. Poof gone, nothing real in return. Just gone.

Wed, 08/26/2015 - 16:48 | 6474798 SmallerGovNow2
SmallerGovNow2's picture

how you figure it went up 10% in two days?  Been negative at least six out of the last seven.  Today was the only up day at what? 3.95%?

Wed, 08/26/2015 - 15:36 | 6474425 nyse
nyse's picture

I agree

Wed, 08/26/2015 - 15:41 | 6474444 OldPhart
OldPhart's picture

Granted, what is said and expected is valid; but how can today's manipulated, Fed driven, HFT market be compared to any earlier period than five years ago?  There is nothing to compare this clusterfuck to in history.

Wed, 08/26/2015 - 15:41 | 6474445 Squid Viscous
Squid Viscous's picture

new mkt. highs by Rushahoma, at the latest...

Wed, 08/26/2015 - 15:45 | 6474472 Hitlery_4_Dictator
Hitlery_4_Dictator's picture

Perhaps but it will be lower in nominal terms, in relation to gold and the dollar

Wed, 08/26/2015 - 16:54 | 6474836 Squid Viscous
Squid Viscous's picture

should have added /sarc

but then again, who the fuck knows with these greedy scumbags pulling the levers

Wed, 08/26/2015 - 15:40 | 6474451 Bryan
Bryan's picture

I think the Fed has more initiative, political pressure, and hubris than just to give up here and let the market implode.  Look for more jawboning, and if that doesn't work, more QE.

Wed, 08/26/2015 - 15:43 | 6474462 Not Goldman Sachs
Not Goldman Sachs's picture

too much logic, analysis. This time is different. The printing press is infinite. all other analyses are useless.

Wed, 08/26/2015 - 15:45 | 6474468 bnbdnb
bnbdnb's picture

Everything is fine. Free money everywhere.

Wed, 08/26/2015 - 15:45 | 6474470 KnuckleDragger-X
KnuckleDragger-X's picture

It's hard to determine a clean, clear value when everything is soaking in the Wall St. cesspool and the FED is constantly dumping in more shit. CAPE demonstrates just how bad things are getting and like the markets today are being held up by heroic effort, the economy is being bent into a shape it can't sustain. A hard rain is gonna fall...soon.....

Wed, 08/26/2015 - 15:45 | 6474474 Rainman
Rainman's picture

It's not just the ChiComms.... oil persistent under 40 is an automatic to kick off an avalanche of bad zombie debt

Wed, 08/26/2015 - 15:46 | 6474479 arbwhore
arbwhore's picture

With impunity any and all resistance is crushed. Look at PMs get hammered. Look at shorts get burned. The end is not nigh, its not even close.

Wed, 08/26/2015 - 15:47 | 6474485 Sanity Bear
Sanity Bear's picture

you know it's bad when the Dow opens with futures at +350

then a solid majority of people who are following the market closely think it's going red for the day anyway

then you see prints of +600 and more by the end of the trading day

 

these massive swings in both directions are eerily similar to the run-up to the last big one

Wed, 08/26/2015 - 15:49 | 6474498 I AM SULLY
I AM SULLY's picture

BUT IT'S A RECOVERY SUMMER MIRACLE!

(now ... I know I left my cocaine someplace around here)

Wed, 08/26/2015 - 15:47 | 6474486 Bastiat
Bastiat's picture

This market is nuts.

Wed, 08/26/2015 - 15:57 | 6474536 Bush Baby
Bush Baby's picture

It is nuts, but the BTFD'rs are gonna ramp this up another 500 tomorrow

That's all they know how to do

 

Wed, 08/26/2015 - 15:49 | 6474495 wrs1
wrs1's picture

It's not different for silver, too bad what happend to silver huh?  Everyone here still backing up the truck and stacking?

Wed, 08/26/2015 - 15:55 | 6474529 froze25
froze25's picture

No just yet, waiting for it to crash some more.

Wed, 08/26/2015 - 15:49 | 6474499 q99x2
q99x2's picture

Good article if it were not known that at the end of 2011 the FED jacked infinite fiat into the indexes.

Wed, 08/26/2015 - 15:50 | 6474505 jeff montanye
jeff montanye's picture

i think it is instructive that the first five comments on a traditionally "bearish" site such as zerohedge are, in their implications, bullish.

Wed, 08/26/2015 - 15:52 | 6474510 Iudaea Delenda Est
Iudaea Delenda Est's picture

no, not really.

http://www.jeremyrhammond.com/2013/11/28/keynesian-economists-are-the-pr...

Here's a dirty little secret:

economics is not a science.

but at basic root, its about trading ink and paper for real goods and services.

money for nothing
and your chicks for fiat.

Wed, 08/26/2015 - 16:06 | 6474575 bid the soldier...
bid the soldiers shoot's picture

NO FAT CHICKS

Wed, 08/26/2015 - 15:58 | 6474543 khnum
khnum's picture

when the market took a huge dump the other day for a brief moment in time it acted like a market however ppt has it constipated again 

Wed, 08/26/2015 - 15:55 | 6474528 Consuelo
Consuelo's picture

"Just something to think about."

 

I have thought about it - long & hard for about 30 seconds, and here is my conclusion:

 

How many of these chart-heavy tomes, along with the obligatory 'I told you so/I said yesterday', blah-blah comments, must these stalwart members of the Financial Services Industry publish on a weekly basis in order to keep their clients $bellying up to their $Management $Fees...?

Wed, 08/26/2015 - 15:59 | 6474545 froze25
froze25's picture

Exactly 3.141592653589793238462643383279502884197169399375105820974944592307816406286208998628034825342117067982148086513282306647093844609550582231725359408128481117450284102701938521105559644622948954930381964428810975665933446128475648233786783165271201909145648566923460348610454326648213393607260249141273724587006606315588174881520920962829254091715364367892590360011330530548820466521384146951941511609

Wed, 08/26/2015 - 17:07 | 6474896 CHX
CHX's picture

Not even close.

Wed, 08/26/2015 - 16:53 | 6474822 Squid Viscous
Squid Viscous's picture

It's amazing how many sell side whores are now claiming they said a correction was obviously close at hand... ?? also that horse faced cunt Fiorina... 

Wed, 08/26/2015 - 15:57 | 6474535 bnbdnb
bnbdnb's picture

Pulling in mom and pop. Everything is OK!

Wed, 08/26/2015 - 15:58 | 6474540 ebworthen
ebworthen's picture

I dub the last chart the "Bonus Chart"; WOW.

The only way to keep it going is QE to the people, $100K/month tax free.

Wed, 08/26/2015 - 15:59 | 6474546 Seasmoke
Seasmoke's picture

I feel like I woke up in 2008. This is exactly how I remember the daily swings. People are going to decapitated this time when the wire snaps. I wish I knew who was doing this to Gold. I would love to see them die.

Wed, 08/26/2015 - 16:11 | 6474623 CHC
CHC's picture

"There will never be disappointment again." 

     - Janet Yellen, Chair, Federal Reserve System

 

Wed, 08/26/2015 - 16:12 | 6474626 bid the soldier...
bid the soldiers shoot's picture

NOBODY MINDS SELLING AT A HIGHER PRICE TOMORROW.

 

(it sure took Yellen a long time to get her printer fixed)

Wed, 08/26/2015 - 16:23 | 6474701 LawsofPhysics
LawsofPhysics's picture

Stop talking about "markets"... As many people point out, central bank and their "bought-and-paid-for" governments are holding the "official" markets up. Since I am in Brazil right now let me say this, at least when the government shuts down here, no one gets paid. In ''Merica that means a two-week or more paid vacation for government employees. Productive people (who know how to make things of real value) will do just fine.

Wed, 08/26/2015 - 16:42 | 6474769 SmallerGovNow2
SmallerGovNow2's picture

Fine women there.  Economy not so much.  Please share your observations LOP...

Wed, 08/26/2015 - 16:56 | 6474839 LawsofPhysics
LawsofPhysics's picture

Many did not even notice, but Brazil is now the world's leader in production of a couple very useful polymer building blocks. Corruption is now found in every single country. At least herei see growth I potential, younger generation that is just as well educated as most developed countrues and a resource/infrastructure base that can still support a bit of growth.

Wed, 08/26/2015 - 16:32 | 6474731 mpnut
mpnut's picture

IT IS!!  Different this time.  Possibly no more contrarian.  Back in the 1920's, only a few knew the real truth about the market because of the circle of people they hang around.  Today more people know more about the truth because of social network and cell phones.  #Can'tDenyThat

Wed, 08/26/2015 - 16:33 | 6474737 DontWorry
DontWorry's picture

Don't worry, the bull market will continue. We have just enjoyed a period of steady gains, and though there may be increased volatility, I expect those gains to continue. Where else will you invest your money? China? Russia? Brazil? Bonds? MBS? Of course not, the benefits of world central bank easing will be centered in U.S. markets.

Wed, 08/26/2015 - 16:50 | 6474811 RichardP
RichardP's picture

Where else will you invest your money?

I understand that Iran is poised for real growth.  Perhaps there.

Wed, 08/26/2015 - 16:56 | 6474845 bozoklown
bozoklown's picture

The market doesn't respect opinions of gold or Zionists or central bankers or Goldman or any of the other popular ZH screeds. it is designed to teach you humility or kick your sorry ass. Period. 

Wed, 08/26/2015 - 17:05 | 6474885 CHX
CHX's picture

what a bunch of ________

Wed, 08/26/2015 - 17:32 | 6475001 viator
viator's picture

Chart #6 is very interesting, see how the Fed bubble evolved. Also if you put the SP500 on top of that chart you might get SP500 = 500 when that last bubble pops. (SP 500 dropped approx 750 and 850 in '00 and '08 cycles)

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