|This is our
49th report on the ongoing mania since we first published our website on
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- TRADING SOARS AGAIN -
If you check out our February mania update for
comparison, you will see a huge jump in Dollar Trading Volume versus GDP
over the last three months. We are now at levels only matched in
the fateful year 2000 as participants overreached in the belief that anything
was possible and that prices could go infinitely higher. How else
might one explain the spike you see below, so far in excess of what occurred
What makes the comparison extremely interesting
is that DTV for the Nasdaq market is still almost half of what it was in
2000! The difference is two-fold. First of all, DTV for
the New York Stock Exchange is nearly 29% higher than in 2000 and
secondly, the tremendous trading of Exchange Trading Funds on the American
Stock Exchange has contributed to transactional velocity. Since data
for the Amex is not published, we can only make crude estimates and we
believe the Amex is now generating more than four times the DTV it generated
In 1929, DTV was 228% of total market
capitalization. In 2000,
DTV was 203% of total market cap. If one required proof of a mania,
this one statistic (not pictured) was as germane as any. At the present
rate of transactional velocity, the year 2005 will witness DTV at 199%
of total market cap.
Thus, we believe our posit
that a mania is still visible
in the U.S. stock market is
still quite reasonable.
- SPECULATION IS ON A PAR
WITH 1929 -
PORTIONS OF THIS ARTICLE ARE REPRINTED
FROM THE FEBRUARY 28th ISSUE OF CROSSCURRENTS
The mania really came into full bloom as stocks
recovered from the Long Term Capital Management mini-crash in the fall
of 1998. As the market moved into high gear, we attempted to show
every single perspective we could think of to highlight manic activity.
We chose total Dollar Trading Volume versus Gross Domestic Product as an
especially significant marker, since it was approaching levels only seen
in The Roaring Twenties. And by the end of 1998, DTV had registered
a brand new peak versus GDP, proof positive that nothing was more important
than stocks. And despite the obvious shift of some assets into housing
in recent years, all the indicators we present on our Pictures Of A Stock
Market Mania report still point to a stock bubble very much in progress.
The featured chart below shows a perspective we
have not examined in at least a couple of years, wherein we plot the annual
changes in Dollar Trading Volume divided by GDP. In this
manner, we hope to portray how speculation rises and falls on a yearly
basis with some clarity. Clearly, the “normal” range is an arbitrary
choice, since we do not have definitive criteria, but given a consecutive
span of 62 years from 1933 to 1994 and a range of -15% to +15%,
we feel comfortable with our notion.
Now that Speculative Fervor is once again surging
and is at the exact level achieved in 1929, we feel it is time to trot
out this perspective once more. In the January 24th issue of
Crosscurrents, we showed how the one-year moving average of mutual fund
cash levels had run to a new generational low. Versus the background
of interest rate hikes, it is clear that fears of the downside are nil
- allowing speculation to rear its ugly head. However, since 1950,
a sixth rate hike has witnessed an average decline in the S&P 500 of
3%-4% after three months, 10% after six months and 15% one year later.
As well, the Fed is on track to continue hiking, even if only in minimal
increments. Why stocks still remain in such favor can only
be attributed to the wide held belief that no permanent harm can befall
those who participate on the long side. Certainly, those
beliefs were widely held in 1929.
We’re not suggesting a repeat of the crash and
burn that occurred in either 1929-1932 or 2000-2002, but with speculative
fervor again so high, the odds should favor a return to the “normal range”
and most likely soon. If so, the remainder of the year should
be at best, pretty much a non-event for bulls and at worst, a fulfillment
of our 2005 low target of Dow 8500.
We still believe the secular
low will arrive in 2006.
Dow 6400 remains our long
term downside target.
- JUST WHAT INVESTORS NEED,
MORE PROGRAMS -
The article below was presented
in the February 7th issue of Crosscurrents.
Data has been updated.
The New York Stock Exchange's announcement of plans
to extend the trading day by two hours should come as no surprise.
After all, it's all about money, right? And falling seat prices.
It was just revealed that NYSE seat prices have fallen to their lowest
level in almost ten years, clearly raising fears about the future for the
venerable 212-year-old institution. A seat sold for $2.65 million
in August 1999, less than seven months before the Crash of Nasdaq, and
two weeks ago a seat traded hands for a mere million bucks. The Specialist
system must now compete with electronic exchanges and members face a vast
increase in competition from other products, such as Exchange Traded Funds,
most of which trade on the American Stock Exchange. But the NYSE
has run with their only advantage, encouraging program trading of every
kind and description. As the chart below clearly illustrates, programs
now account for the lion's share of activity on the most senior of U.S.
stock exchanges. Program activity is still rapidly on the rise after
accounting for more than half of all volume last year. Program volume
has more than quadrupled in five years, even as non-program volume has
declined. At the current rate, for every share of non-program activity
transacted on the NYSE, there will be at least 1-1/3 shares of programs.
But why is this expansion in program activity a bad thing? We're
glad you asked.
In the past, individual company prospects were
the paramount metric. Prospects were determined by analysts and portfolio
managers who actually visited the companies that they were interested in,
to get the best perspective possible about the company's operations.
The procedure is still in place on a more modest scale but has been largely
supplanted in importance by the dramatic increase in indexing. It
is easier for the average portfolio manager to compete with index or sector
funds by more closely resembling an index or sector. For example, the top
holding in the $145 million Fidelity Structured Mid Cap Value Fund is the
iShares Russell Midcap Value ETF (IYR). Perhaps the managers can
be trusted to have visited the number two holding of TXU Corp. to account
for their confidence in TXU, but the iShares position says nothing about
the individual companies in the group and is only a nod for an entire sector
at the risk of participating in the declines of the very worst companies
in the group. This is not a sane investment policy in our view.
Not long ago, the NYSE made the comment that program
activity actually represented a smaller share than tallied, since activity
was double counted. That is, for every share on the buy side there
was a share on the sell side. Ironically, the NYSE ignored the fact
that the same situation is relevant for non-program activity as well.
The tallies are an accurate representation of the mechanical effects ruling
trading today. In the words of Doyne Farmer, a researcher with the
Sante Fe Institute of New Mexico, "Our analysis…..[says] maybe a lot of
price movement is more or less mechanical."
Worse yet, as more money under management becomes
indexed, there is an even greater possibility of arbitrage or other "strategic"
opportunities, accentuating the vicious cycle. On January 31st, the
IYR traded at a premium of 0.25% to the underlying constituents.
You and I could not perform an arbitrage on the minimal discrepancy in
pricing, but many trading firms can. Two firms alone accounted for
more than a billion shares in programs the week of January
21st. The more shares are traded on the basis of "strategies," rather
than for their investment potential, the greater the risk that the shares
may become mispriced relative to their value. How can arbitrage possibly
reverse mispricings of individual issues if the arbitrage takes place using
most or all of the constituents of an index or sector?! We need look
no further than the continuing chasm between historical valuations for
the S&P 500, more than 80% of the U.S. stock market, and present
Is this not ample proof that
indexing and program activity
have corrupted the investment
- MARGIN DEBT IS RISING
The article below was presented
in the February 7th & March 14th issues of Crosscurrents.
Data has been updated.
We haven't shown this particular perspective of
sentiment in quite awhile, but the right time certainly appears to have
arrived. Simply put, when folks are at their most bullish, they cannot
resist going out on a limb. When the mania surged to its most lunatic
levels in March 2000, speculators levered themselves like never before.
Margin debt levels increased to a hair shy of $300 billion, equivalent
to roughly 3.1% of Gross Domestic Product and 1.7% of total market capitalization.
The former was the highest since the Roaring Twenties slammed head-on into
a collision with reality. Total margin debt is now more than 1.8%
of GDP and over 1.4% of total market cap, clearly not as high as in 2000,
but considering how prices collapsed after March 2000, at very worrisome
levels nevertheless. Margin loans have soared by 60% since September
2002 and the additional $81.5 billion in buying power provided by these
loans has bought a 48.7% improvement in the S&P 500. We do not
yet have data for January but the tally visible below through December,
is on an exact par with November 1999, a scant four months from the peak.
We're not sure how much more evidence is required to prove the mania only
took a time out, but it is crystal clear from what we have shown in the
last few issues that participants are not concerned about the possibility
of a stiff price correction, let alone a resumption of the secular bear
market. The time elapsed from the October 2002 bottom is now 2.3
years. In the twentieth century, a 15% price correction occurred
on average, every 2.23 years. Maybe the twenty-first century
will find markets unfolding in a more friendly manner, but we wouldn’t
make book on it.
As stock prices fell 2.5% in January, total margin
debt unexpectedly rose another $2.5 billion to $220.1 billion, nominally
higher than the $218.3 billion registered in November 1999, only three
months and ten days before the greatest stock market bubble of all time
finally burst. Why unexpected? Margin debt has risen in only
16 of 57 prior months (28%) that stock prices have declined.
It is not likely that the record level of nearly
$300 billion in margin debt established in March 2000 will be seen for
a very long time to come. The Fed had already recognized the possibility
of a mania as early as December 1996 and was considering methods to deal
with the bubble right up to the end. Although they sat and watched
last time around, dealing with the fallout meant forcibly pulling short
rates to negative, which only accentuated the public’s desire to take on
debt. Given that the current level of margin debt versus total
stock market capitalization is actually higher than it was in November
1999, we believe the Fed is monitoring the situation far more closely now.
If margin debt continues to rise as it did in the last few months before
the bubble burst, the Fed will have a compelling reason to finally increase
We would expect Wall St. to
fight such a move tooth-and-nail,
- THE DEAD ZONE ARRIVES
Note: this is an excerpt.
The entire article, including one chart never seen before, ran in our April
Buy-and-hold is utter nonsense....
Over the last 54 years and change, holding stocks
from the beginning of May to the end of October in the average calendar
year has been disastrous, a veritable dead zone. Virtually ALL of
the stock market's gains have come from the first day in November until
the last day of the following April. The proof is seen in our featured
chart, wherein we have cut the calendar neatly in two to illustrate the
effects of the two disparate seasons. If you had invested $10,000
in the Dow Industrials on May 1, 1950, sold your holdings every October
31st, and repurchased them every May 1st, you would now have a paltry $264.42
profit to show for the 27 years you were in stocks (54 years divided by
two). To those who would criticize by citing that our computation
is sans the benefit of dividends, we would counter that we are also computing
without the penalty investors have suffered via the ravages of inflation.
A meaningless comparison? Hardly. The 54-year average dividend yield
of 2.99% pales next to the indisputable fact that the 1950 U.S. dollar
is now worth only 12.3 cents, a rate of decay that far exceeds the impact
On the other hand, if you had invested $10,000
in the Dow on November 1, 1950, sold out on every April 30th and repurchased
on every November 1st, your stake would have grown to $496,630! The
odds of a discrepancy this huge between the two seasons being a statistical
fluke are rather remote.
We have no reason to suspect the pattern will change
this year. Thus, we expect inflows to again contract during the Dead
Zone and provide little, if any, support for stock prices. Since
March 2003, a period of over two years, stock prices have moved mostly
upwards or sideways or have given ground very slowly. However, history
implies a 10% or greater correction will occur every 1.44 years and a 15%
or greater correction will occur every 2.23 years.
The timing would seem to be propitious for
a correction of substance to occur
during the Dead Zone period of May to October.
If measured from the Dow price of 10,192 as of
the end of April, our targeted annual Dow low of 8500 is only 16.6% away.
Perhaps our target is a bit low; as usual, we prefer to adjust targets
as time passes to account for developments. However, it is clear
from the pictures we show today that risks for investors are now quite
substantial and we believe the odds favor those who are now out of stocks....at
least until the end of October.
Simply put, our target could
also be too high.
BUYING POWER IS RUNNING LOW -
Our fourth chart shows that
a portion of the demand for stocks comes from the application of purchases
made via margin loans, but margin loans are not possible unless cash has
been committed in the first place. Thus, in the final analysis, cash
represents potential buying power for the stock market.
When the money supply expands
rapidly as it did for the anticipated upheaval of "Y2K," the reservoir
of buying power is potentially multiplied by two from margin loans.
January 1, 2000 arrived and computers still worked, elevators still ran
and nothing of note occurred except the mania was enabled to stage a stratospheric
run. Check out our fourth chart again to see how margin exploded
into the peak.
With the benefit of hindsight,
the Fed will certainly not allow a repeat performance.
If we allow that a return
to the historical average is at all possible, the size of the U.S. stock
market could drop dramatically in the future - or money supply could expand
dramatically - or a combination of the two factors will occur.
However, without an
equal surge in margin loans,
cash alone is likely
insufficient to take stock indexes
- particularly the
broad S&P and Nasdaq -
to anywhere near their record peaks.
WHERE IT ALL LEADS -
Returns for stocks have been
spectacularly high for years. Long term gains such as those registered
since the mania commenced are in theory, impossible to maintain.
If, on the other hand, gains such as these were possible, then one of two
circumstances would have to be present.
1) Other asset investments
would have to keep pace to compete or simply vanish.
In this case, the only way
bonds could possibly compete would be for interest rates to rise.
Even when factoring in safety, bond yields would have to be far higher
than now to compete with the 20-year annualized return of 10.84% from stocks,
ex-dividends! Adding in the average 2.04% dividend yield over the
last generation takes stocks (via the Dow) to a total return somewhere
in the neighborhood of 12.88%. If long term bonds were fairly priced
at a yield 3% below that of stocks, the equivalent yield of 9.88% would
drop the prices of today's bonds by more than one half!
Since the bond market is
actually many times larger than that of stocks, the losses in wealth would
be staggering. The resulting shock would decimate stocks, since stocks
are purchased with wealth. Less wealth, less purchases.
2) An era of extremely high
inflation would also allow stocks to maintain their support, but it would
be only an illusion, since a dollar in another generation might be worth
only a fraction of what it once was.
This factor was at work at
the prior peak for our chart on April 7, 1962. At the time, the Dow
was 710. Although the 20-year return slackened dramatically, the
Dow was 16.6% higher at 828 on the same date in 1982. Within seven
months, the Dow was 47.6% higher. Trouble is, in terms of the April
1962 dollar, the April 1982 dollar was worth less than 32 cents.
By November 1982, it was worth less than 31 cents.
Thus, we can speculate that
long term returns must eventually decline to more reasonable levels.
Our most likely assumption is that 20-year returns of 5% will once again
occur at some point in the future. As our chart clearly illustrates,
returns below the 5% level have occurred more often than they have not.
If we posit that the 5% level is reached in five years, the Dow would be
trading under 7500, down 27.4% from now. If we posit instead that
the 5% level is reached in ten years, the Dow would be trading at about
11,522, still more than two hundred points below its all time peak.
If we rely on time alone
to bring returns down to the 5% level with no damage at all to prices,
that time will be achieved late in December 2014.
returns must normalize.
does the mania lead?
view, lower or sideways prices....
years to come....
From this writer's
perspective, the anticipated "summer rally," could easily turn out to be
the bull's last at bat for awhile.
The arrival of the
Dead Zone should afford very little in the way of support for higher stock
prices. The May 9, 2005 issue of the Crosscurrents
newsletter details more reasons to expect our low side targets to be
achieved later in the year, most likely during September/October.
the stock market mania is still very much in our view.
Targets for 2005 - high odds that the tops are in:
Dow 10962 /// SPX
1229 /// Nasdaq Composite 2199
Targets for 2005 - even odds: most likely case is autumn bottom
Dow 8500 /// SPX 960
/// Nasdaq Composite 1600
Term Targets for ultimate secular bear market low - now most likely to
occur in 2006
Dow 6400 /// SPX 680
/// Nasdaq 1000-1100
OF THE ENTIRE WEBSITE ARE COPYRIGHT 2005 ALAN M. NEWMAN
I hope you have enjoyed your visit and please return
again. If you know anyone who might be interested in seeing what
we have to offer, we'd be happy to have them visit as well!
Alan M. Newman, May 8, 2005
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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. Samex Capital, Alan M. Newman and or
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or related options or other derivative securities mentioned in this report.
Our perspectives are subject to change without notice. We assume
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coverage or charts.