The Dow was down a little yesterday. But it’s still above the 17,000 level. Gold was up a little. It’s still above the $1,200-an-ounce mark.
We have been very wrong about US stocks. We did not expect them to go this high or stay this high for this long. So our opinion on what will happen next in the stock market is of doubtful value (at least to us).
Still, our guess is that the stock market is now broadly rolling over in a vast topping-out exercise.
Our friend and former World Bank economist Richard Duncan explains how it worked:
‘Between 2009 and 2013, the government borrowed approximately $5.8 trillion to finance its budget deficits. During that time, the Fed acquired $1.9 trillion worth of government bonds. […]
‘The Fed also bought $1.7 trillion worth of agency debt or, in other words, the mortgage-related debt issued and guaranteed by Fannie and Freddie. That pushed up the price of those bonds and drove down their yields.
‘Higher property prices helped reflate the economy by pushing up household sector net worth. If the Fed had not bought $1.7 trillion worth of mortgage-related debt, the yield on that debt would have remained high (or moved higher), the owners of that debt would have been stuck with impaired assets, and the property market would have weakened further instead of rebounding.
‘Between the rebound in property prices and the sharp rise in stock prices, household sector net worth increased by $25 trillion (or by 45%) from the low it reached in 2009. It is now 17% above its pre-crisis peak.
‘This increase in wealth was the result of QE. What else could possibly explain it? That surge in net worth clearly created a wealth effect that allowed much more consumption, and therefore economic growth, than would have been possible otherwise.
‘It was not a coincidence that net worth rose by $25 trillion at the same time that the central bank was creating unprecedented amounts of fiat money and using it to acquire financial assets. It is certain that QE reflated the US economy by pushing up asset prices.’
Life after QE?
Next month, QE comes to an end.
‘When QE ends in October […] the odds are quite high that the economy will begin to deflate again.
‘Should that occur, the Fed would then have to decide whether to do nothing and allow everything it has accomplished to unravel in a process most probably leading back to severe recession and deflation or else to launch yet another round of QE.
‘I believe it will be an easy decision for the Fed to make. After all, what’s a few trillion dollars more (shared) among friends?’
Between the end of this QE and the beginning of the next QE-plus, there are likely to be some accidents.
In the bond market, spreads between junk bonds and Treasurys have hit a high for the year — a classic signal of increased risk aversion among investors. (Essentially, junk-bond investors are demanding more compensation — in terms of yield — for the risk of higher default.)
And as Chris has been reporting, large-cap stocks continue to do well while small caps struggle. Stock market investors are becoming uneasy. They’re moving away from risk and toward quality.
The trouble with wealth
Meanwhile, we have been writing a series titled ‘Homage to Poverty’.
Our mission was not to encourage readers to give away their worldly goods and wander the globe, depending on the kindness and alms of strangers. We are just trying to put wealth in perspective. We wanted readers to know what they were getting into.
We’ve already addressed two of the three most important questions in life: What do you do? Where do you do it? And who do you do it with?
Does having money help you do what you want?
Sometimes. Other times, it just gets in the way.
Does it help you live where you want?
Maybe, but it has a way of luring you to places that you may not want to live at all — such as big, empty, monumental houses in sterile, dead communities where your neighbours — like you — are rarely home.
That is the trouble with rich neighbourhoods. The people who own the houses are not there. You look out your window at night and you see streets and houses that are empty. You lose the coziness that you really wanted from a real home and a real community; once you have given it up, it’s hard to get back.
Before we take up the third question, let us pause a minute and wonder why we thought we wanted wealth in the first place.
‘On the job’
In our case, the question never arose. It was as if some programming set us to work at an early age. From then on, we were ‘on the job’. We got to work at 8 a.m. We kept at it until 8 p.m.
There was no magic to it. No genius was required. After 30 years of this, things started to fall into place. We never became super wealthy by today’s standards. But compared to where we began, we feel plenty rich enough.
We grew up in what would barely qualify as a ‘shack’. So we’ve always been a little nutty about houses. During our entire career, we were either building one…renovating one…or planning another one. Now we have more than enough.
Like everything else in life, wealth responds to the law of declining marginal utility. A little is a good thing; a lot is less useful and may even reduce your quality of life.
A little house can be charming and delightful; when you have several large houses, on the other hand, you can become tired of painting shutters and fixing toilets.
But why would we be programmed to seek wealth, if it really doesn’t do much for us?
Ah, dear reader, we’re so glad you asked that very good question. Because we have a very good answer…
We are programmed by millions of years of natural selection to chase material success. This may be simply because life was such a close run for so many years; we needed to take advantage of every opportunity to increase our wealth (probably in the form of calories) or our entire species might die out.
The selfish gene
We also use wealth (and power; the two are closely related) as a way of advertising and proving that we are worthy mates.
Men drive big cars…and buy big houses…simply to signal that they are successful.
This makes them attractive to women…
The woman believes that the man has the kind of genetic material she wants in her children. The man believes he has won an admirer, thanks to his sparkling wit and warm personality, who also will bear him children. The two get together and the world spins around.
It is not that simple. Nothing in human affairs ever is. But as near as we can tell, we humans are programmed by nature to seek wealth, far beyond what we really need to survive.
Perhaps it is a survival strategy: By trying to get as much wealth (calories) as possible, we end up with just enough. Perhaps it is a mating strategy: Wealth illustrates suitability. Or perhaps wealth is a way of gaining love and respect. It’s as though our achievements, in themselves, make us more worthy.
These considerations are not considerations at all; people are largely unaware of them. Rarely does a person consciously seek riches so his mother will approve of him. Rarely does a man make his investment decisions expressly so that he will be able to dump the ‘ol’ girl’ and get a trophy wife.
And it is the uncommon woman who finds a senator more attractive than a carpenter simply because she wants children who are more likely to get into Harvard.
But the selfish genes have their own goals in life…and their own strategies. They give meaning to things that mean nothing to us otherwise. Without them, the value of money disappears.
Without love, wealth loses its sex appeal. And without sex, all the bussing, schlepping, and sweating that we do to get wealth is pointless.
The rat race stops…along with the race itself.
For Markets and Money