When the next crisis comes...

Apr 3, 2015

- By Bill Bonner

Bill Bonner
Gualfin, Argentina

Dear Diary,

Stocks up...and down. Dow up 65 points on Thursday. Gold held right on the $1,200 line.

A reader wrote to accuse us of dispensing 'half truths.'

We take it as flattery. Full truth is impossible. Half truth would be remarkable. If we find a tiny vapor of truth we feel we have outdone ourselves.

The world does not function on truth. It runs on falsity, vanity and scam. The trick is to identify which scam it is. Then you can have a hope of guessing where it might take you.

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There is no doubt, for example, that Fed policy is counterfeit. The question for us is...where do these mountebank policies lead? That is the question we deal with every day.

Outside of the realm of truth all together, we asked our researchers to come up with a short term market indicator. This requires a little explanation. It is not possible to actually know what direction the market is going. A market prediction - like a Fed policy statement or a campaign promise - contains not even a chemical trace of truth.

Instead, it is based on a theory...and a model. In our case, we simply looked at similar periods of market movements and relied on the old principle of 'regression to the mean.' The future may be unknowable, but if it's like the past, we're ready for it!

Based on this approach, we see that as of the 9th of March, US stocks would likely provide a return of 5.8% over the following 94 days. Why that is, exactly, would require more mathematical and statistical explanation than we can give...but that is what our model shows.

Does that mean you should buy US stocks? Well, no! It just means that it is the most likely course for stocks - based on prior patterns.

And even if it is the most likely outcome, it is not necessarily the best way to make money. The best bet for your investments includes a calculation of risk and reward, taking into account the leading frauds of the day. If you are right, how much will you make? If you are wrong, how much will you lose?

It is that last question that haunts our sleep. While the most likely outcome may be more gains in the stock market, we doubt they are worth the risk. At today's stock prices, the upside - if there is any left - looks small, slippery and treacherous. The downside is huge and probably inescapable. The stock market could fall in half and still not be in bargain territory.

But why not just stick with US stocks until the top appears? Or even put on a 'stop loss' to protect your gains as you ride this bus to the end of the line?

Alas, easier said than done. As a report from our old friend Mark Hulbert at MarketWatch revealed, not one of newsletters he monitors foresaw the dot.com crash coming in 2000 or the 13-year bear market that followed(he did not follow our own Daily Reckoning). Many of the letters he tracks actually increased their exposure to the Nasdaq just before the crash.

Okay, so you may not be able to see the last stop coming up. But so what? Why not just wait until you get there and get out then? Good luck on that! Typically, you'll hesitate, because you won't know if it's the last stop or not. Stocks will go down, but you'll wonder if it is just another opportunity to 'buy the dip.' By the time you realize you should get out, it will be too late. You'll rush for the door, but you'll find it very crowded. You'll be down 20% - 40% before you get clear. And you may never again, in your lifetime, see today's real stock market prices.

What about using a stop loss? It could trail behind your gains and - at the first major downturn - it would be tripped, like a smoke alarm, setting off a sprinkler system that protects most of your profits, right?

Well, maybe. That's the way it's supposed to work. But in a real crash, things happen fast. The 'stop loss' orders pile up waiting to be filled. Sellers will be standing around on the street corners, but the buyers may disappear.

But ours is a cheery, positive and jolly outlook. Think of the bargains that a crash will produce! And think of the fun that comes next.

Lower corporate earnings, rising debt, slack household income, collapsed prices for commodities and essential resources, weak final sales, higher savings and a slumping housing market in China all point toward lower levels of global growth, punctuated by financial crises.

When rising debt levels meet falling collateral values, something's gotta give. What always gives are asset prices. We've already seen that in housing, oil, coal, and steel. Bubbles - caused by the Fed's money printing - have already been corrected in all those industries. Still uncorrected are US and Chinese stock prices, student debt, auto debt, corporate debt, and sovereign debt.

Those corrections can be very sharp and very alarming - especially the correction in the US stock market. Almost certainly, they will bring out the Fed's fire brigade with more high-powered hoses to provide liquidity.

Too bad the problem isn't a lack of liquidity at all. An insolvent business isn't made more solvent by giving it more credit. A spendthrift government doesn't get its act together when it gets more free money.

Cash doesn't cure the problem; it just makes things worse. But, cash - credit cash...the kind of cash you get by tapping on a computer terminal - is the only thing the Fed has. And when the next crisis comes - that is, when US stocks fall hard - the Fed will come forth with beaucoup cash. And like QE I,II, and III before it, this cash will not cause a genuine recovery or contribute to real wealth creation. Instead, it will fund the biggest blow-out party Wall Street has ever seen.

A "crack up boom," Ludwig von Mises called it.

Stay tuned.

Bill Bonner is the President & Founder of Agora Inc, an international publisher of financial and special interest books and newsletters.

Disclaimer: The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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