It's Your Choice
Recession or Depression
I was all set to discuss the difference exhibited by many, most not in the know, about what might happen next as the macroeconomic world we live in tilts more towards a downside move than not. Then the Hamas and Israeli ugly head rose geopolitically. A simple downside would be easy to speak of. I’ll include two historical scenarios after I speak about the Middle East, just as I had planned. But first a word about what’s next.
There Are No Winners
Regardless of what I say at this point, war in the Middle East will bring the best out of the prognosticators worldwide. It’s a good idea to listen and read what’s said about this “crisis”. For me it’s simple; buy bonds, buy gold, look for higher commodity prices worldwide, the markets will fall and by all means keep both your ears and eyes open as events could turn on a dime.
Many will ask, is that it? Well guess what, like other historical events of this nature my sense is that this outcome is “etched in stone”. Not just like the Commandments but pretty close.
There will be a “flight to quality”, a desire to own portable currency, gold, and a look at the rest of the energy and agricultural commodities for protection. This happened in the past and there’s no reason to anticipate anything else this time around.
I’m a lucky guy but this fight between Hamas and Israel was not expected. I have been buying up gold and bonds as it’s my belief it’s a good idea to buy when others, mostly the newbies, follow the herd and sell. They’re usually wrong long term and it’s a good idea to take advantage of their actions. I also bought Natural Gas futures and options the day before storage numbers were posted during the first week of October. I have been doing this for years and as stated, I got lucky, up more than 10% in a couple days. Otherwise I’m still long the December 20 VIX calls so tonight’s opening suits me well. Hope you’re watching as this whole scenario can change in an instant.It can get a lot worse instantaneously as well so because new travels at Internet speed; stay tuned.
Now back to my original topic. As my cousin Alan would ask, “is it going to rain or is it going to storm”? I have talked about both of these “scenarios” in prior articles so for those of you that are aware of what I’ve written, this is a refresher course. For those of you new to my posts take the time to read this more than once. It’s worth it. Let’s start with what I see unfolding and what I expect to happen regardless of what the “doom and gloom” prognosticators are broadcasting. Most of whom have never experienced what they proclaim to be the eventual outcome but keep reading; every writer has his day eventually.
What Caused the 1987 Crash?
According to a 2006 Federal Reserve paper, a combination of circumstances made the crash possible. Preceding the crash, stocks were supported by new entrants into the market, pension and 401(k) plans, which drove up prices. The Dow bottomed out at 776 in August 1982 and marched up to a high of 2,722 in August 1987.
Equities were boosted by favorable tax treatments, easily financed corporate buyouts, both leading to an increased number of potential takeover targets, pushing their stock prices up. Interest rates were low, but were rising leading up to the crash. Inflation concerns caused fears of further interest rate increases as well. Sound familiar?
Two changes came into play right before the crash. Proposed legislation in Congress to eliminate tax benefits associated with financing mergers. The U.S. trade deficit was worse than expected. The Dollar also dropped raising the threat of increased interest rates. We’re back.
When reviewed about ten years ago, reasons for the stock market crash of 1987 and for the rapid psychological shift of the market participants were:
Anti-Takeover Legislation
Increasing Short Term Interest Rates.
Weakening US Dollar
Deteriorating US Current Account Deficit
Escalating US Government Debt
Very High Price-Earnings-Ratios (P/E)
Low Dividend Yields
Bullish Investor Sentiment
Deteriorating Market Breadth
Looks a little familiar, eh? I’ll leave the shorter term technical analysis to those of you who identify as day, scalp or swing traders. I’ll analyze the “geoeconomics” of today in order to compare them with historical patterns of years prior. All of the conditions we observed in 1987 are on the table. I hope you hedge your positions; it’s always good to be proactive and buy a little protection.
If Not Recession Choose Depression
Between interest rates, inflation, deflationary pressures, money supply and just simple economic arithmetic, dysfunctional macroeconomic and geopolitical interactions are lining up to create a global disaster. Allen Meltzer, in addition to creating my interest in studying the actions of the Federal Reserve, set me on a pathway to understanding the base causes of the Great Depression. We didn’t do it all by ourselves.
The primary worldwide cause of the Great Depression, which lasted from 1929 to the late 1930s, was the collapse of the global economy, triggered by the stock market crash on October 29, 1929, known as "Black Tuesday." However, many of the factors leading up to the Great Depression were complex and globally interconnected. Here are some worldwide factors that contributed to its severity and global economic reach of one of the worst economic downturns ever:
Stock Market Crash: The crash of the stock market in the United States was not just a “significant” catalyst for the Great Depression, it was the primary catalyst. When the speculative bubble in the stock market burst, causing widespread panic among investors, not only did it lead to a sharp decline in stock prices, it set into motion a series of decisions, unilaterally made by the then “powers that be”, that made the situation worse. Bubbles have dramatic consequences which is why my emphasis on identifying future potential bubbles is at the forefront of what I do. We have lots of problems in today’s geoeconomic world; most we’ve created with our own actions, or lack of actions as it may be. We made similar mistakes in the days affectionately known as the “Roaring 20s”. Were the recent “Free Money 10s” any better? Have we once again created problems we can’t fix? Makes sense to me as history, unchecked repeats itself.
Banking Crisis: The collapse of numerous banking institutions, essentially the total banking system as we knew it, during the Great Depression exacerbated the economic turmoil. As always, exactly as exhibited in the late 1980s, between 2007 to 2009 and again today, banks failed due to their own risky investment practices. Over-speculation, basic failures of management coupled with an overall lack of consistent government regulation and oversight added fuel to the fire, one that soon spread worldwide. Bank failures led to a loss of savings and a decrease in the availability of credit, further worsening the economic situation. Sound familiar? We’re assured, there’s nothing to worry about or see here. Can Yellen accurately predict the effect on the banking system related to half empty commercial office buildings and retail shopping centers? I think we’re listening to the “Wizard of Oz” talking to “Dorothy”. This isn’t Kansas Janet. I do not see the “Yellow Brick Road” leading anywhere a “click of my heels” makes things better. I do see a pool table and as Harold Hill sang, “we got trouble my friend”.
Monetary Factors: The contraction of the money supply and a lack of effective monetary policy aggravated the Great Depression. Central banks, including the U.S. Federal Reserve, failed to take sufficient action to stimulate the economy or to stabilize the banking system. The “scarcity of money” further contributed to deflation and economic stagnation worldwide. Today, domestically as well as internationally, as we continue to fight inflation, decreases in our money supply, unless carefully monitored, could reduce the flow of capital. If and when that happens, the same scenario that became prevalent in the 1930s, could reemerge. Too few Dollars, Euros, Pounds or whatever chasing too many goods could bring deflationary pressures to the forefront. That’s not good and given that was, in my opinion, the reason the Depression lasted as long as it did, care must be taken to ensure money supply is not artificially reduced as we, worldwide, solve problems we created to solve problems we created prior. History, unchecked, tends to just repeat itself. Is that the direction we are headed in? Maybe inflation’s not all that bad, eh? That’s the talk I’m hearing over and over again. Harold Hill is here to do an encore.
Overproduction & Underconsumption: During the “Roaring 1920s”, there was an “unbridled” period of significant industrial growth coupled then with what was considered to be technological advancement. When compared to our modern day advances, they were insignificant as best, nonetheless the comparison is real and needs to be addressed. Increased production capacity outpaced actual consumer demand, resulting in a surplus of goods. When coupled with stagnant wages and unequal distribution of wealth, this led to a situation where many people could not afford to purchase the goods being produced. This led to prices for products in the marketplace coming down in price, sometimes being sold for less than it cost to produce them. This led to further corporate failures, reducing cash flow in an already compromised macroeconomic and geopolitically challenged economy. You know the rest. Is that the direction we are heading in today? Will “AI” be the final nail in the coffin? To avoid deflation will the central banks start up printing presses like they did during Bernanke’s failed tenure at the helm of the Fed? So many questions; so few answers. What’s going to happen when people realize a new iPhone isn’t what they really need? That day is coming unless you can own iPhones in your IRAs..
Global Economic Interdependence: The interconnectedness, or as it turned out, the lack thereof, of the global economy played a role in spreading the effects of the Great Depression worldwide. Countries relied heavily on international trade, and the collapse of the U.S. economy had a ripple effect on economies around the world. As the United States reduced its imports, other countries suffered heavily from declining exports and a decline in trade overall. What is too often missed in analyzing what caused and perpetuated the Great Depression was the world just turning the printing presses off. Coupled with decreased money supplies, despite efforts to inflate a desperate deflationary spiral, world leaders, who then could’ve taken a lesson or two from Bernanke just turned the spigot off. Powell just took a break raising rates. Is this the reason why? Were the periods of “cheap money” in the recent pasts reflective of the “Roaring 20s”? To many comparisons are lining up; uncertainty prevails; I wish Powell the best. At times however, I think the cast of “Monty Python” would have run the Fed better than those who preceded those currently in power. Did they set the stage for the “Next Great Depression”? Does anyone know where Powell can find the “Holy Grail”? While he’s searching for it he can stay at “Fawlty Towers” enjoying a “Waldorf” salad.
Protectionist Trade Policies: In response to the economic crisis, many countries resorted to protectionist trade policies, imposing high tariffs and trade barriers. These protectionist policies, aimed to shield their own domestic industries from foreign competition, ended up exacerbating the economic downturn by reducing the flow of capital and money supplies. International trade and creating a cycle of economic contraction completed the cycle. The world, further segmented than it’s ever been, wars being fought, threats of additional conflicts on the horizon, is not exactly situated to enhance international trade. Can you imagine what would take place if China decided to take the protectionist route? It’s unlikely due to current economic problems it’s facing but who knows. China’s reach worldwide has put it in a position to challenge not just the United State’s preeminence, in reality there is a a better than 50 / 50 chance the Dollar’s reign as the world’s currency is about to end. What effect will that have on world trade let alone the cost of borrowing in the United States? How will this current administration handle that? Do they have a plan or should we really consider bringing “Monty Python” back in to run it? It’s not really a laughing matter but at the very least from “Fawlty Towers” to “The Life of Brian” to the “Search For The Holy Grail” we’d have a real “Flying Circus”; that’s what we have running the country now, right? Maybe Sinatra can sing “Send In The Clowns” from “A Little Night Music”. Oh wait, they’re already there and with a political year on the way the decision made will undoubtedly be a bit skewed, just like our judicial system. Harold Hill’s clearing his throat again.
Communications: While telephone and related communication devices existed in the days of the Great Depression, compared to today’s technological capabilities, you no longer need a “dime” to make a call. In reality it doesn’t cost anything and you don’t need a “Red Hotline” or even the “Bat Phone” to connect. What you do need is a willing and available partner on the “other end” capable of taking your call and like the 1930s; in many situations they’re not available. It seems more to me like we’re watching Lily Tomlin on “Laugh In”; “one ringy dingy”, “two ringy dingies” with respect to observing how our Antony Blinken and his counterparts in China decide how and where to meet let alone discuss international matters of deep concern. The United States was solely blamed by the world for creating the Great Depression with many countries initially turning a “deaf ear” to solutions we put forth that might have shortened its effects. Are we dealing with a similar circumstance today as we enter a macroeconomic and geopolitical maelstrom? Think about it, especially considering this administration’s alleged corruption in dealing with China, Ukraine and others is on the table. Is the “big guy” who you want on the other end of the phone? Credibility was lacking in the United States in the 1930s and from the news I watch and read, credibility is lacking today.
It's important to note that the causes and consequences of the Great Depression are the subject of ongoing debate among economists, and various theories exist to explain the complex factors that contributed to the global economic crisis. We’re still learning and let’s hope we have learned something over the many years between then and now. History unchecked repeats itself; my sense, due in part to the problems we’ve created, we’re going down that same path again and it’s not the “Yellow Brick Road”. Back to today; maybe Powell has a viable plan of attack.
A Walter Cronkite would say, “and that’s the way it is”. You know what; he’s right. If the “crystal ball” was cloudy before, it’s opaque today with the Middle East on fire. If I had to pick I’d be taking the 1987 stock market crash over the Great Depression. Sorry I can’t turn off those who think the “end is near”, only you can; stop reading what they write. Think for yourself and take a look at the similarities from 1987 to 1990. I’m sure the Fed has and they are looking to emulate the late 1980s versus all other options.
Back to the basics and it has nothing to do with your choice between the next “crash” expected to happen. It does have everything to do with the Middle East. I’ll never get it about how the world treats Iran. In some ways I think that most want to see Israel wiped off the map. If that is the case I would expect Iran to have a plan where attacks start coming from Lebanon as well. There’s only one nation in the Middle East with a finger or two on the nuclear holocaust; Israel. If anyone thinks they won’t use then, in an offensive, defensive or “end-it-all” manner think again. R.E.M. was right, “It’s The End Of The World As We Know It” and I feel everything but fine.