Horns began honking about 8 PM last night.
“Sarkozy must have won the elections,” Elizabeth deduced.
Americans, meanwhile, are nowhere near elections, yet there too the politicians are hogging time on the big screen. People can’t seem to take their eyes off of it – except to tune in to the Dow, of course, which hit yet another high on Friday.
What is going on? What is so much nice money doing in a place like this?
Here at the Markets and Money headquarters, we continue to give out dire warnings. And yes, our Crash Alert flag still flutters.
Not since the late ‘20s have we seen such a long stretch of highs, without a major correction. Does this tell us that we are in a New Era…when stocks can only go up? Nobody is quite talking about a ‘New Era’, but probably only because they don’t want to put a hex on it. Most people think we’ve reached some new omega point in the world’s economic development. That’s what the stock market is telling us, they believe.
Here, we set up the argument for a New Era…just so we will have the delicious pleasure of knocking it down later:
1) New technology – especially the Internet – is increasing output and efficiency.
2) Globalisation permits a huge new expansion of the world economy.
3) Billions of people who were formerly shut out of the modern economy – by communism, by distance, or by culture – are now taking part.
4) The triumph of capitalism helps to focus governments on intelligent wealth-producing policies.
All those things are superficially correct…but they are hardly unique. The same things could have been said at the top of almost any major bull market in history. In ‘29, for example, who could have doubted that the world was on a roll? Automobiles, trucks, railroads, telephones, electrical appliances…the resurgence of the German economy…the spectacular advances of the Japanese…modern planning and administration…not to mention the vast expansion of the capital markets!
We don’t have to tell you that that ‘New Era’ ended badly. But what about the peak in the mid-’60s? There, the ‘New Era’ arguments were less compelling…but they still abounded. People had become fascinated by computers and drugs. Remember the man in the gray flannel suit, with the narrow tie? American go-go corporate management was said to be conquering the world. General Motors (NYSE:GM) was still thought to be unstoppable. It was just a matter of time before the entire planet would be owned by U.S. corporations – except all the parts run by communists, of course.
Stocks hit a peak in ‘66…and then a double peak in ‘68. And from there, they went down – catastrophically down when adjusted for inflation – for the next 14 years.
And then, as recently as eight years ago, came another New Era. So loony were the hopes for the dotcoms and telecoms that the experience left some investors permanently skeptical of all ‘New Era’ claims.
But what was really behind all three of these New Era booms?
Money! Moola! Credit! Cash! Each New Era coincides with a massive expansion of liquidity. The cash and credit drive up prices. Investors look around and wonder why. And then they begin to invent post hoc explanations. One explanation is as good as another…until the credit expansion ends. By then, nobody cares; they are too busy running for cover.
What is remarkable about the present expansion is that it is so big…and so durable. First, stock markets went up in the ‘90s…then housing in the 2000-2007 period…and now, as near as we can tell, stocks are enjoying another big gust of wind at their backs. Mergers, acquisitions, buyouts…hedge funds, pensions funds, private equity funds, private investors…deals…deals…deals on wheels! We’ve never seen anything like it.
But behind it all is the same phenomenon – an enormous expansion of money and credit. Liquidity is like a bead of mercury; it’s hard to put your finger on it. Still, when the Bank of England tried to measure the growth in global liquidity, recently, it found that liquidity had doubled in the last four years. Now, everyone’s a player…and all the players are leveraged far more than they were a few years ago.
“There’s capital everywhere,” says Henry Kravis of Kohlberg, Kravis, Roberts.
“There’s too much liquidity in the system,” says a rival at 3i Group (LON:III).
“The world isn’t pricing risk appropriately. Investors are simply not being paid for the risks they’re taking,” adds Steve Rattner of the Quadrangle Group.
Money is competing with money. Assets are bid up to prices that are no longer attractive. In order to get a decent return, fund managers have to venture into rougher neighbourhoods. Many will be lucky to make it out alive.
Markets and Money