let’s cover the markets before we jump on a plane to Sydney for the weekend.
“Fed gamble may pay off this time,” reports a headline in the Australian. “Fed plants seed of hope,” says the Age. “Share prices boosted by Fed action,” reads the Sydney Daily Telegraph.
Sure enough, the ASX/200 was up 200 points yesterday, or about 4%. In dollar terms, local shares recouped about $43 billion in lost value. Keep in mind it’s down about $400 billion since November first. But you have to start somewhere, don’t you?
One good place to start is to re-examine the fundamental assumption that stocks always go up. Obviously they don’t. Whole generations of investors (and by that we mean the 15 to17 years at a time) go without seeing any real progress in the share market. If you’re investing during one of those cycles, shares don’t help you get any closer to your financial goals.
Take a look at the charts below and you’ll see what we mean. The first shows the Dow Jones Industrials based on a monthly closing average. You can see that until the Federal Reserve came into existence in 1913 and World War one kicked off a few years later, shares were and up and down affair-a mechanism for funnelling capital to America’s ambitious corporations, but not really a way for the average punter to get rick. J. Pierpont Morgan probably did pretty well. The man in the street, not so much.
Then there is the matter of the crash in 1929. When you put it on a long-term chart, it all looks pretty sudden. But when you lengthen it out over just a few years, you can see that after the first plunge in October of 1929, the market didn’t go straight to the bottom. It fought. The chart shows this.
You can see that the Dow didn’t make its all-time bear market low of 41 until 1932. Remember, the market had topped at 381 in 1929. It took over three years to reach the bottom, some 89% off the highs.
What happened those three years? Economic reality fought bitterly with investor psychology. Trained to buy the dips, and perhaps driven by the optimism and will to survive that’s buried in human DNA, investors never quit and never quit losing money.
Something deeply psychological happens during a bull market. The bull market that peaked in 1929 somehow made it impossible for investors to believe you could go whole years-decades even-and lose money in stocks. It clashed with their direct experience. And if your past experience is no reliable guide for the future, what are you to believe?
In any event, we are not at all convinced that a rate cut here, a smashing of the discount window there, or a new lending facility here AND there will forestall economic reality. We know Ben Bernanke is a student of the Great Depression. Surely he knows bad debts have to be liquidated before an economy can move on. But it doesn’t mean he won’t keep trying to re-inflate. And some investors-as yesterday shows-are willing to follow his lead.
The Japanese are increasingly unconvinced that Bernanke can turn things around. They are selling the dollar and buying back the Yen. “For financial firms and the U.S. economy, the worst is not over,'” said Tetshisa Hayashi, a currency strategist of foreign-exchange trading in Tokyo at Bank of Tokyo-Mitsubishi UFJ Ltd. He told Bloomberg that, “`Japanese investors think now is a good opportunity to sell the dollar, taking advantage of its big rally yesterday”
How will you know when the greenback is well and truly doomed? Keep an eye on the TIC data. TIC stands for Treasury International Capital report. It’s a report published by the U.S. Department of the Treasury showing net foreign purchases of U.S. stocks and bonds.
Despite the nominal rise in U.S. stock prices, the falling U.S. dollar acts as a huge dis-incentive to buy dollar-denominated financial assets. Last month’s TIC data showed no big changes in the overseas consumption of U.S. bonds. But watch out for next month. You could also just keep an eye on bond prices and short-term yields in the U.S. Yesterday, short-term bond prices fell. We expect to see a lot more of that.
A falling dollar should also contribute more strength to commodities. But yesterday gold and oil fell quite a bit. What gives?
The dollar had a rare moment of inspiration. It was delusional inspiration, though…it won’t last. Besides, commodities have other reasons to go up than dollar weakness. Our French technical and currency guru, Gabriel Andre, explains:
“Commodities are negatively correlated with the US dollar, and in the short-term the US dollar is oversold. Many traders feel the Fed has played its hand fully, and see this as a reason to buy back into the dollar…in the short term, that is.
“But with cheaper commodities, there are likely to be bargain-hunting investors looking for a good entry point into the market. Further down the track, strong demand from Asia for real goods is likely to continue. Tangible assets still have the wood over financial assets…so cheaper commodities will generate more buyers, particularly in gold.
“A fall in gold gives it buying strength, technically…and it will enjoy fundamental demand from those wishing to hedge against an inflation and the long-term dollar weakness.”
Gabriel has more to say on the topic of gold and commodities in the latest edition of Diggers and Drillers. He even points out exactly where gold should be a buying opportunity.
Markets and Money