As a child most of us were fascinated by roller coasters. The up and down configuration of them was awe inspiring to anyone under the age of twelve. However, liken a rollercoaster’s structure to that of the financial markets and one has an entirely different perspective on the steep hills and massive drops of the structure. Now that the markets have crossed into record territory one has to ask themselves when they will correct. Obviously knowing when and how to time these market trends are the cornerstones of any particular strategy but being in the “know” is saved for a select few. (Who probably aren’t too happy about a former ‘insider’ writing this)
Optimism is abundant in the equity markets which should of course beg the question of why? Some analysts and market pundits will tell you things are great, and they are going to stay that way. Unfortunately, fundamental analysis of the market’s current status shows a resemblance to the mid to late 1920s and could be fast approaching the major fallout of the crash of 1929. Think we are being alarmist about it? Well, we probably aren’t screaming loud enough. But we will try to discuss a more fundamental basis for all to understand. (Which means we will cut out some of the industry jargon so everyone can follow along)
If one looks at the current market levels of equities, does that reflect the overall consumer sentiment? Does it fit with your thinking of how your financial life is? Or to put it another way, does the level of equity markets today reflect the actual realities of the underlying businesses? If you do not know the answer to that question, then hence you are part of the herd following the crowd at mealtime. (For these purposes that means from 9 am to 4 pm when markets are open) You see, as it has been called “irrational exuberance” by some of the greatest minds at the United States Treasury, often drives the price of equities to stratospheric levels when the underlying companies are growing slower than one would like or their long-term possibilities are not as wonderful as everyone would like. (We can debate the actual reporting of public companies another day)
This is distinctly apparent now, as the overall reality of our markets coming out of the COVID-19 Pandemic is that of a changed society. Not only with the goods and services we purchase but how we are looking at the overall economic picture. Now go back in time to 1929 and the only difference is the fact that our currency was on the gold standard. (You know cash was backed by gold) After our currency, like many others, was taken off the gold standard and is actually backed by, well …. nothing, that puts us in a precarious situation.
Based on sheer economic theory currencies that are not backed by anything will become somewhat worthless as interest rates increase and prices for essentials go up significantly. This will be coupled with an increase in fiscal policy that will be designed to stunt the rise in interest rates, increases in bond yields and the eventual deterioration of equity prices. You know anything that is used to stop basic economic Armageddon.
While the economic minds that invented quantitative easing (you know when the government buys assets and puts more currency into the system to create liquidity) has your best intentions in mind, it was a forgone conclusion that it was not going to be the source of nirvana the world thought. Or at least not the fifth time around. Here and now, the next correction will be larger in scope and broader in a total economic sense, since the economic conditions that made it occur are global in nature. (As everything, every country, every currency is now interconnected) Looking at the tea leaves, they unfortunately signal troubled times for the global financial system, all due to the extreme expansion of fiscal policy and increased credit used to purchase and finance inflated asset values. (Basically, we started believing our own rhetoric)
What does that all mean you may be wondering, and here it is in a nutshell. We buy things daily, using credit not real dollars. Most people live in a home they bought with a mortgage. It isn’t the mortgage that creates the issue, it is the inflated value of the underlying asset coupled with the fact that the variable rate or lower rate mortgage probably allowed you to buy a more expensive home than you would have in a rationally correct asset level market. Now, combine that with corporate and personal borrowing that have been at an all time high and phase all of that into the matrix of the economic stability or rather the not yet seen economic effects of the COVID-19 Pandemic and you have a recipe for possible detrimental market changes. If that weren’t enough add in the additional asset value level from the COVID-19 Pandemic that allowed people in suburbia to charge more for the same home in a matter of two to four months.
You see the real crux of the matter is that this is all a game of “trade-off”. What is that you may ask? Well, the only people making real money are the market participants. Those that have been knee deep in the game and are well versed to play it. Those people who are not market participants, who are regular folk like the rest of us, well they are paying the check at the end of the glorified meal. While main street is currently experiencing reduced mortgage rates and near zero car purchase rates, it is still going to have a long-term economic effect on most of the population. Add to that the fact that intersection between available goods and manufacturing has changed due to the global supply chain roller coaster producers are now on. (Thank you COVID-19) Inventories are scarce and what is available, it seems most consumers are not interested in.
So that begs the question when and how will any of it occur? Well, if we knew that everyone none of us would work for a living. But the handwriting is somewhat on the wall about the potential for a devaluing of assets and with that comes increased or event like liquidation of them. The monetary policy used to stem the tide of these occurrences has worked before, but alas there are only so many chairs to go around and eventually the music will stop.
That is why buyer beware. What goes up must come???