The best Christmas present I received was the volatility in the price of bitcoin. In the space of two weeks, the darling of the crypto world went from nearly US$20,000 to below US$13,000…a 35% plunge.
The volatility was a fitting end to a truly remarkable year in financial markets.
Wherever you looked it was all bull…not a bear in sight.
The Dow hitting records highs. Bitcoin…well, what can you say that has not already been said about this phantom phenomenon: Aussie house prices.
Everything was on the up and up. And it was all bull…both figuratively and literally.
None of these gains are based on real fundamentals.
What we witnessed in 2017 was the most universal example of ‘the bigger fool theory’ since the Tulip Mania. People bought in because people were buying in.
My niece — who has no previous investment experience — contacted me the other day asking about a new crypto called ‘Ripple’. My response was: A fool and their money will soon be parted and you are no fool.
I have this feeling — nothing more than that — the end of this bull is closer than we think.
When markets are at their most exuberant is when you should be reminded of how nasty bear markets can be.
Every cycle turns…every single one. This one will be no different. But given the ‘all in’ nature of the foolish participants, I expect it is going to be particularly nasty when the bear comes out of hibernation.
To remind you of the cyclical nature of markets, the following is an extract from my latest book, How Much Bull can Investors Bear?
‘“Don’t become a mere recorder of facts, but try to penetrate the mystery of their origin.”
— Ivan Pavlov
‘Even if you’re not the investing type, you should be familiar with “bull” and “bear” markets.
‘The mental image created is a bull raging ahead, while the bear claws the market down.
‘But very few people, even those in the investment industry, are familiar with, or admit to knowing about, the terms Secular Bull and Secular Bear markets.
‘In my 30 years in the investment business, I’ve never heard or seen these terms mentioned in any industry presentation or research.
‘We know from share market charts that, over the very long term (100-plus years), the market’s positive (bullish) periods have certainly outweighed the negative (bearish) ones.
‘Progress has been made with a pattern of “two steps forward and one step back”. The very long 100-year term trend is why there’s no disputing the statement: “In the long term shares go up”.
‘There is just one small problem with this established belief — investors don’t have 100-year timeframes. The majority of people have investment horizons that stretch between 20 to 40 years. Therefore, if you happen to be in the “one step back” period of the market’s progressive dance, it’s unlikely you are going to experience any significant uplift from the share market.
‘When viewed over a 20 to 40-year timeframe, the share market is not always the clear winner you are led to believe it is.
‘This is an inconvenient fact the investment industry is either ignorant of, or chooses to ignore.
‘The investment industry’s relevance is heavily tied to the fortunes of the share market. Therefore, all marketing efforts are built around reinforcing the belief that, in the long term, shares go up. Selective data is used to validate the marketing message. It’s this “cherry picked” data that enables the industry to perpetuate the myth.
‘The following graphs show you how the promoters can manipulate the message.
‘The first graph is the movement of the Australian share market (All Ordinaries index) from 1983 to September 2011. This graph, like the CommSec graph in Chapter One, shows the market’s 15-fold increase over a 25-year period.
‘The trajectory wasn’t always smooth. The investment industry uses the bumps in the road — 1987 crash, mid-1990s Asian crisis, and 2000 “tech wreck” — to highlight the resilience of the share market, and to add credence to their claim of the share market always recovering to post new highs.
‘To the average investor, this certainly appears to validate and reinforce the belief that, in the long term, markets go up.
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‘The second chart (below) is an extended version of the above chart.
‘The difference is the next chart goes back to 1970. You can see the 13-year period prior to 1983 was a vastly different experience for share market investors. There was no 15-fold increase; in fact, there was barely any increase at all.
‘During the 1970s and early 1980s, interest rates rose from 3% to over 16%. Gold soared from US$35 per ounce to over US$800 per ounce. While all this action was going on in other assets classes, shares were running up and down on the spot, struggling to maintain their relevance in investor portfolios.
‘This rather dire period in the market’s history is conveniently airbrushed out of the industry’s marketing efforts. Every share market graph I’ve seen from the industry starts in the early 1980s.
[Click to enlarge]
‘These two distinct periods in the history of the share market are known as Secular Bear and Secular Bull markets.
‘Secular is another way of saying “long-term trend”.
‘For example, if we look at the 1982–2007 period, there’s a clear long-term rising trend — known as a Secular Bull market.
‘Falling inflation rates, rising levels of debt-fuelled consumption, falling interest rates, baby boomers’ consumption, low oil prices and the introduction of technology all drove this trend of higher share prices.
‘However, the rising trend was not without its hiccups. There were short-term bear markets — the most notable setbacks being the 1987 “crash” and the 2000 “tech wreck”.
‘In broad terms, the All Ords’ progress during the Secular Bull market can be best described as “three steps forward and one step back”.
‘A close inspection of the 1970–82 Secular Bear market (the Secular Bear market actually commenced in the late 1960s) shows the market also had times when it moved in an upward (bullish) trend, only to surrender those temporary gains to the negative trend.
‘Unlike the progressive dance of the Secular Bull market, the Secular Bear market’s movement is more regressive — “one step back, one step forward and one step back”.
‘No real positive momentum is achieved.
‘You may be thinking, “Does one flat period in the Australian share market really prove anything?”
‘To answer that question, we can examine the abundance of data available from the largest share market in the world…the United States.
‘The data verifies the existence of Secular Bull and Bear market cycles over the very long term.
‘The following graph of the S&P 500 index, courtesy of Crestmont Research, dates back to 1900.
‘The green areas represent Secular Bull markets, whereas the red areas represent Secular Bear markets. Beneath each section is the rate of return achieved in the relevant period.
‘In nominal terms (without adjusting for inflation), the 1,099% return during the 1982 to 2000 Secular Bull market was by far the most rewarding period of performance in the US market’s history.
‘The following graph is a chart of the Real S&P index (adjusted for inflation) indicating the time periods taken to recover from peak to peak.
Source: Real Investment Advice
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‘The pattern is similar…extended periods of advancement and retracement.
‘Even in inflation adjusted terms, it is evident that the period of performance from 1982 to 2000 was exceptional.
‘If you subscribe to the principle that, for every action, there is an equal and opposite reaction, the obvious question is: Will the best performing period in market history now be followed by the worst performing period in history?’
My answer to the above question is an unequivocal ‘yes’.
If you want to avoid being caught in the upcoming bear trap, please go here.
Editor, The Gowdie Letter