our 76th report on the consequences of the stock market mania since we
first published this website on January 15, 1999.
real time world map of readers from 185 countries can be viewed
your mouse over each country for more info.
is foremost a compilation of articles that have previously appeared in
the Crosscurrents newsletter.
Our paid subscription
stock market newsletter has only two rationales for its existence; powerful
commentary and unique perspectives.
check out the testimonials on our Kudos
files of this report accompanied by our forecast are available only to
are interested, please CLICK
FEEL LIKE COMMITTING TO A LONGER TERM? SPECIAL 4-ISSUE (apx. 3 months)
The Federal Reserve induced
rally in stocks has endured for far longer than we believed it could.
However, the quest to create and build wealth, which was the Fed's goal,
has not been achieved. Economic growth is very slow and now, with
the Fed pondering its next step and the possibility of "tapering" bond
purchases, even more doubt exists than before. Why then, have prices
continued to climb until the recent highs? And can prices continue
to rise? Read on.....
After topping in 2010, Dollar Trading Volume (DTV)
began to subside and by last year, had fallen 19% from its peak.
Our mutual fund inflow analysis had clearly shown that the public was no
longer interested in stocks but nevertheless, DTV levels were consistent
with the theme of an ongoing mania for stocks.
Even at the low point in 2012, DTV was two-and-a-half
times as much as in 1999, when the mania captured the imagination and assets
of investors and turned them into worshippers of anything "tech."
Nasdaq was only months away from a 250 P/E multiple and the most bizarre
circumstances were taking place daily, like when 3COM spun off its subsidiary
PALM in September 1999 and the subsidiary wound up worth more than the
One would be excused for thinking that this generational
peak in insanity would be relegated to lower DTV stats for years to come.
Thus far in 2013, DTV is expanding at a 12.5% rate
thanks to a huge increase in the month of June. DTV in June was 40%
higher than the average of the first five months of the year.
In fact, if the torrid pace
of June 2013 is maintained,
DTV will set another new all
time record this year
and will set the record by
a wide margin!
What in heaven's name is going
Perhaps our most germane explanation
is the analysis we offered
in the March 11th issue of
Crosscurrents, reprinted below.
The Positive Feedback Loop
A few weeks ago we came across a very interesting
piece by Brandon Rowley of T3Live.com (see http://bit.ly/11Php0P),
detailing the “six primary strategies” of high frequency trading, which
we highlight in parentheses. No matter how often we write about HFT
and its completely outsized effect on the stock market, it’s never
enough. Simply put, we believe HFT is the greatest threat in history
to the long term viability of our capital markets since strategies are
confined to only short term results. Momentum (1) plays far too large
a role and even becomes a self fulfilling formulation for profit as trades
are then triggered on extremely short term technical signals (2).
This induces trades based on filters (3) and since indexes must lag by
even microseconds, this tiny unit of time is sufficient to catalyze statistical
arbitrage (4) “opportunities.” Thus, #1 triggers #2, which in turn
triggers #3, which in turn triggers #4. Is it any wonder that we
now suffer an environment where 50%-70% of all transactions are based on
extremely short term methodologies?
The long term is no longer
thus value plays no role as
it has before.
Perhaps the most bizarre part of the HFT process
belongs to rebate (5) trading, whereby an exchange or ECN entices liquidity
in the form of additional bids and offers. Even if trades are entered
and exited at a loss, the rebates should result in minimal gains.
Over the course of time, when repeated thousands of times, large
profits are ensured. The riskless basis of HFT is evidenced by the
trading arms of the major banks and brokers who consistently report quarters
with as few as zero days of losses to perhaps only a handful. Make
no mistake, the public is at the rear end of the line and receives no benefits
whatsoever from these manipulations.
Although we are told that HFT has improved liquidity,
too many market makers (6) have already shown that to be a lie. However,
every one of the “six primary strategies” is expressly designed to place
the public at a disadvantage. In times of stress, market makers are
not going to stand in the way and will desert their posts in order to survive
the kinds of episodes they are supposed to prevent.
The Flash Crash of May 2010
has been repeated hundreds of times on a much smaller scale with individual
stocks, rather than the entire stock market, but like the gigantic derivatives
exposure we suffer, a systemic accident is certain to happen.
Again, it’s not a case of if,
The following was the lead
article in our April 29, 2013 issue.
Welcome To The Dead Zone.
Despite the historical record of the last 63 years,
the cries of “sell in May and go away” have diminished significantly in
recent years. A brave new world catalyzed by five years of “Quantitative
Ease” has implied a permanent incline for the major indexes, regardless
of how the economy plays out. We must admit a similar supposition
by many observers that the economy will be permanently inclined despite
the statistics showing otherwise. But then again, it appears that
there has been no end of ignorance since 1999, when Nasdaq began to take
off in a rocketship ascent. Astonishingly, while there have been
two punctuations from 2000-2002 and 2008-2009, one mania has followed another
and we are now firmly ensconced in a third consecutive mania. The
difference is the Fed just sat idly by during the first two manias, but
is actively pursuing sponsorship of the current desire to push all asset
prices higher as much as possible and as rapidly as possible.
Even so, seasonality has its place and is perhaps
the most amazing phenomenon attributed to the stock market. The fact
remains that over a period of 63 years, you were virtually guaranteed to
make money at the most awesome pace if you only bought stocks at the close
on October 31st and sold them on the close of April 30th each year.
In the same span of time, you were guaranteed to lose money if you instead
bought stocks on close of April 30th and sold them on the close on October
31st. The track record evinced by our featured chart is indisputable.
If the pattern were visible for only a decade or two, perhaps our assumption
might be questioned as statistically valid. However, after a period
of 63 years, it is not only statistically valid but there is solid logic
Inflows are typically strongest in January and
April and weakest when summer drags on. Pension contributions, bonus
payments invested in the market and the IRA season, which ends on April
15th, play very strongly into this effect. Also, volume slows as
vacation times unfold and interest in stocks is low.
While we cannot offer any assurances that these patterns must continue,
we see absolutely no reasons for any to change.
Even so, we see no end of criticism of seasonality,
or perhaps it is simply blind ignorance. Most professional observers
are at best, quite reluctant to admit any possibility that the pattern
exists or can continue because an admission would imply investors would
be better off if Wall Street simply shut down from May 1st through October
31st. Ironically, seasonality not only exists, but the patterns have
become stronger over the years. Since 1950, $10,000 invested in stocks
solely from November through April, has grown to $739,614, an annualized
rate of gain of 14.4%. Nothing we know of matches this performance
over time and thus it is easy to see the allure of investing in stocks.
However, the same $10,000 invested solely from May through October is now
worth only $8948, thus we now see the true reason for the old adage of
“buy and hold.” Wall Street will not cannot shut down for six months
of the year, so the policy of buy-and-hold is promulgated to ensure business
12 months of every year.
Below, the record since the 2000 tech mania highs
is distressing worse than the entire 63 year record. While the good
six months offer gains, they come at a far lower pace of 8.6% annualized,
and the poor six months are really, really poor, illustrating a 7.4% annualized
rate of loss. Thus, if there has been a change in seasonality, it
has been for the worse. The evidence is startlingly emphatic on that
First, consider the pattern for mutual fund inflows
from 1984 as shown below. As stated previously, January and April
are typically the best months and together, they bolster the favorable
action in stocks for the good six months. Years ago, we coined the
phrase “The Dead Zone” for the months from May through October and clearly,
judging by the statistics for the last 29 years, inflows are not sufficient
to support prices. Before we go any further in this discussion, please
allow us to reveal that these seasonal patterns were first written about
extensively by Norman Fosback and Yale Hirsch decades ago. The observations
were later augmented by an investing system devised by Sy Harding that
has proved remarkably valuable over the years by simply adding one well
known technical indicator to the mix.
When we begin to compare more recent periods to
the past, we not only see how the pattern has deteriorated, we see a shocking
development. It appears The Dead Zone has expanded and continues
to expand over time. Given the Fed’s accommodation and desire to
inflate assets, this is not very difficult to understand. The Fed’s
stated objective has been to increase wealth through higher prices for
stocks and housing. The process of buying $85 billion in bonds each
month is supposed to furnish the financial system with so much money that
an effective overflow creates demand where demand would otherwise not exist.
However, demand is supposed to be created by the realization of value,
whereas the demand fostered by the Federal Reserve is tantamount to manipulation.
In short, it does not work and cannot ever work for more than a limited
period of time.
Above, we see the pattern for mutual fund inflows
monthly since 2000, when the tech mania peaked, and below, we see the pattern
since 2008, when the housing mania peaked. There is an obvious dichotomy,
more startling than that revealed by the 29 year record of our traditional
Dead Zone chart from 1984.
The six month Dead Zone accounts
for only 25% of all mutual fund inflows.
Since 2000, the dichotomous
Dead Zone has expanded to seven months and there are negative inflows.
Since 2008, the Dead Zone has expanded to eight months and not only
are inflows negative during the market’s poor season, they are strongly
Weekly inflows for domestic
mutual funds are already beginning to deteriorate from the early year surge.
In fact, looking back over the last seven weeks reported by the Investment
Company Institute, there has not been a single dollar of net inflows to
That ghastly sound you are
about to hear is likely the dying breath of the bull.
The following articles are
all reprinted from our May 27, 2013 issue.
Third Mania Ending
The first of the manias we have referred to was
clearly the public at its most rabid, eager to dive into Nasdaq at a 250
P/E and daily prognostications of higher prices. The second was built
on perceptions of a permanent wealth effect, that permanently higher housing
values would mean more money for stocks resulting in a virtuous cycle.
Given that investor’s stock wealth was cut in half twice and the public
has pulled $600 billion from portfolios, the current phase appears to be
primarily limited to one of the most prolific episodes of Groupthink practiced
by Wall Street professionals, including hedge funds.
However, the signals of euphoria abound
in all the same places we have seen them before, both for professionals
and for the public. On Friday, FINRA released the April margin stats
showing leverage rose to the second highest level in market history, only
a stone’s throw away from the record high of May 2007. Given the
slim gains in April and a burst of energy in May, we are likely at a brand
new record high at this very moment, possibly by a wide margin as well.
When measured versus GDP (see page three of the April 29th issue), margin
debt is at the same levels the market reversed and collapsed in 2000 and
2007. But even those comparisons pale in the face of the chart at
lower left, showing margin debt relative to total stock market capitalization.
We also see clear evidence of euphoria in the Rydex
Ratio charts (courtesy of Carl Swenlin’s Decisionpoint, see www.decisionpoint.com).
As of last Friday’s close, there were $13.70 in Rydex bull and sector funds
for every $1 in bear index funds. The Rydex Ratio, which divides
bear and money market assets by bull assets fell to 26%. Both of
these measurements are the most lunatic we have seen since the tech mania
and they are so far in excess of the norm of recent months that we can
only conclude that a major top is upon us. While we have had difficulty
timing the expected reversal, last week’s action should be sufficient to
end the lunacy.
Investors Cannot Win
Recently, we featured a chart of cyclically adjusted
price earnings multiples (CAPE) and commented on Tobin’s Q Ratio, two important
measures showing a hugely overvalued stock market. Below, dividend
yields for the S&P 500 point to the very same circumstance, a hugely
overvalued stock market. Until 2000, dividends yields averaged a
generous 4.27%, thus stocks were typically a great investment. Decent
gains on an annualized basis plus dividends and even the prospect of dividend
growth gave investors the best of all possible worlds. However, the
modern era of manias has afforded no such generosity. S&P dividend
yields since the 2000 mania top have averaged a paltry 1.85%, less than
half the historic average. Of course, we live in an era of insider
sales and insiders don’t want dividends paid to stockholders. Investors
Long Term Returns
The greatest bull market in history, culminating
with the tech mania, had an incredible effect on twenty-year annualized
returns. Despite two of the most memorable collapses in stock market
history, when stocks were cut in half from 2000-2003 and then cut in half
again from 2007-2009, twenty-year annualized returns for the Dow Industrials
remain quite robust, at 7.6%, ex-dividends. The historical record
clearly places these returns at the very top end of a scale showing a far
lower 5.17% annualized average for 96 years dating back to 1917.
Clearly, the most recent period is head and shoulders above the past.
In fact, during the 78 years from 1917-1995, twenty–year annualized returns
averaged only 4%. Can returns remain at the elevated levels seen
since 1995? Not a chance.
The simplest reason is that asset classes must
compete or perish. The principal differentiating factor is risk.
Thus, bonds will typically grow at a far lower rate than stocks, because
the return is relatively assured. However, if stocks could be counted
on to return 7.6% over all twenty-year periods, there would be almost no
incentive for bonds to even exist. It is also important to understand
that the huge secular bull run from the 1982 lows came only after stocks
suffered through an extremely long period of underperformance from the
mid-1960s, when the Dow first hit the 1000 mark. After 16 years,
the Dow was at 776.
Thus, we are strongly inclined to believe that
twenty-year annualized returns must decline to historically valid levels
as time passes. While a correction or bear market might achieve those
levels sooner, all of the scenarios we extrapolate today seem lousy.
If we are correct, the future for stocks is not at all attractive.
If the Dow falls to 10,000, the historical average of 5% annualized gains
over twenty-year periods would not be achieved until February 2015.
At Dow 12,000, it would require an additional ten weeks out to May 2015.
Even at Dow 15,000, meaning a relatively sideways jaunt for prices, the
journey would take us out to March 2016 before our implied norm would occur.
Add into the mix the expectation from any of these points would realistically
still be gains of only 5% per year and the current level of excitement
and euphoria is unmistakeable; a third phase of mania, following the tech
madness that ended in 2000 and the housing and stock boom that ended in
To see a free sample copy
of the Crosscurrents newsletter, CLICK
We attribute a large portion of the bull phase
to mechanical forces, rather than the centuries old tradition of investing
for value. The mode of this bull market has been unlike any before.
It has endured for more than four years despite a massive withdrawal from
the stock market by individuals. After two collapses ending in 2003
and 2009, the public knows it can no longer trust Wall Street.
There is ample proof in the outflows recorded
by mutual funds in the last few years and if one needed further evidence,
for the final nail in the coffin.
We strongly believe the present bull market
has been powered by positive feedback loops, as outlined in our top article
in this issue of Pictures of a Stock Market Mania. The offset that
no one expects, are the negative feedback loops that will inevitably ensue
at some point, when stocks re-enter the long secular bear market phase.
The tech mania bust saw prices collapse by one-half. The housing
bust saw prices collapse by one-half.
Both of these declines were well out of the
normal range for bear markets and were likely aided by the same mechanical
forces; but this time, by negative feedback loops.
We are now certain that the bottom of Dow 6469
in March 2009 was quite signficant, like the bottom in 1982 before the
great secular bull market began, like the 1987 crash bottom and like the
tech mania crash bottom in 2002. We forecasted this price bottom back in
2003-2004 and still see no reason to alter our views.
We see no reason for the March 2009 bottom to
ever be exceeded on the downside.
However, this does not make us bullish in the
slightest. If inflation picks up over the years to come (as we expect
it will), the relevance of Dow 6469 will become more remote and meaningless.
We remain heavily tilted towards the bear case.
for 2013 (already seen)
15,542 /// SPX 1687 /// Nasdaq Composite 3532
Worst Case Scenario
10,404 /// SPX 1130 /// Nasdaq Composite 2375
"Correction" Target is just above Dow 14,000
to Risk Ratio: Extremely
OF THE ENTIRE WEBSITE ARE COPYRIGHT 2013 CROSSCURRENTS PUBLICATIONS, LLC
I hope you have enjoyed your visit. Please
return again and feel free to invite your friends to visit as well.
Alan M. Newman, July 7, 2013
The entire Crosscurrents website has logged
over three-and-a-half million visits.
All information on this website is
prepared from data obtained from sources believed reliable, but not guaranteed
by us, and is not considered to be all inclusive. Any stocks, sectors
or indexes mentioned on this page are not to be construed as buy, sell,
hold or short recommendations. This report is for informational and
entertainment purposes only. Persons affiliated with Crosscurrents
Publications, LLC may be long or short the securities or related options
or other derivative securities mentioned in this report. Our perspectives
are subject to change without notice. We assume no responsibility
or liability for the information contained in this report. No investment
or trading advice whatsoever is implied by our commentary, coverage or