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Asset protection

"The State – Interest Rates – Absurdity"

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Posted by Bob Hoye: Institutional Advisors

on Thursday, 13 November 2014 13:47

Screen Shot 2014-11-13 at 12.27.50 PM

Signs Of The Times

We have been hoping to see anecdotes about diminishing speculation.

"Russia boosted gold reserves by the most since defaulting on local debt in 1998, driving its bullion holdings to the highest in at least two decades."

                                                                                                               – Bloomberg, October 29.

It is worth noting that this policy is likely more due to sound banking than to speculation.

"The credit quality of U.S. Commercial mortgages being packaged into bonds slipped further as borrowers piled into more debt."

                                                                                                              – Bloomberg, October 30.

"Wall Street banks are either absorbing losses or getting stuck holding some of the riskiest corporate loans they agreed to underwrite [just] before the biggest rout in more than two years."

                                                                                                              – Bloomberg, October 30.

"Goldman: The Risk Of A Stock Market Crash Is Low."

                                                                                                              – Business Insider, November 4.

The article included that the model was based upon "Historical price data from 20 advanced economies." It did not mention how long the data base was. Five years, or three hundred years?

"The Republican wave that swept the states left Democrats at their weakest point since the 1920s."

                                                                           – National Conference of State Legislatures, November 5.

***** 

Perspective

We will stay with our theme of 1-Exuberance, 2-Negative Divergence, 3-Volatility and 4- Resolution.

Condition #1 prevailed from July until September. Highlights were bearish sentiment dropping to 13.3%, the lowest since 1987; and the S&P registering Monthly Upside Exhaustions – not seen on this



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Asset protection

Do the Lessons of History No Longer Apply?

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Posted by John P. Hussman, Ph.D - Hussman Funds

on Tuesday, 11 November 2014 08:46

Is this time different? I’ve often characterized our approach to the financial markets as a value-conscious, historically-informed, evidence-driven discipline. In recent years, we’ve often been asked whether the world has changed in a way that makes historical evidence an inadequate guide to investing. 

Our own narrative in the half-cycle since 2009 certainly invites that question. While a good part of that was a self-inflicted outcome related to my fiduciary stress-testing inclinations in 2009, and we’ve adapted far more than is likely to be obvious until the present market cycle is complete (see  Setting the Record Straight to understand those challenges and how we’ve addressed them), the broader question remains – do historical regularities no longer apply?

In Probably Approximately Correct, Leslie Valiant describes the conditions required by both living organisms and artificial intelligence “ecorithms” in order to learn and successfully use induction from observations drawn from the environment. In order to reliably learn from inference, two assumptions are required. 

First, we can’t expect those lessons or generalizations to be useful in contexts that are fundamentally different from the environment that produced the observations used for learning. In other words, lessons learned in one world may be poor guides in a far different world. This, of course, has been the perennial argument of speculators during every bubble in history. But we should be careful about over-using that argument. The “invariance assumption” doesn’t require that the world cannot change – it only requires that there are some regularities that remain true. Second, some useful criterion or regularity must in fact be detectable. That is, there must be some “learnable regularity” that can actually be inferred from the evidence – a random world with no relationships between cause and effect is not an environment that will produce useful or predictive generalizations. 

In some cases, those learnable regularities can be derived on the basis of clear theoretical relationships that describe how the world works with reasonable accuracy. 

For example, every long-term security is fundamentally a claim on a very long-duration stream of cash flows that can be expected to be delivered into the hands of investors over time. For a given stream of expected cash flows and a given current price, we can quickly estimate the long-term rate of return that the security can be expected to achieve (assuming the cash flows are delivered as expected). Likewise, for a given stream of expected cash flows and a “required” long-term rate of return, we can calculate the current price that would be consistent with that long-term rate of return. The failure to understand the inverse relationship between current prices and future returns is why investors frequently argue that rich equity valuations are “justified” by low interest rates, without understanding that they are really saying that dismal future equity returns are perfectly acceptable. 

We also observe the very regular tendency for profit margins to increase during economic expansions (presently corporate profits are close to 11% of GDP), and to contract during softer periods. Corporate profits as a share of GDP have always retreated to less than 5.5% in every economic cycle on record, even in recent decades. Since stocks are most reliably priced on the basis of long-term cash flows, and not simply Wall Street’s estimate of next year’s earnings, we find that valuation measures that are either relatively insensitive to profit margin swings, or that correct for their variation over the economic cycle, are much better correlated with actual subsequent market returns than measures such as price/forward operating earnings that don’t do so. 

Our valuation concerns don’t rely on any requirement for earnings or profit margins to turn down in the near term. Valuation is a long-term proposition that links the price being paid today to a stream of cash flows that, for the S&P 500, have an effective duration of about 50 years. In evaluating whether “this time is different,” it should be understood that current valuations are “justified” only if 1) the wide historical cyclicality of profits over the economic cycle has been eliminated, 2) the average level of profit margins over the next five decadeswill be permanently elevated at nearly twice the historical norm, 3) the strong historical advantage of smoothed or margin-adjusted valuation measures over single-year price/earnings measures has vanished, and 4) zero interest rate policies will persist not just for 3 or 4 more years, but for decades while economic growth proceeds at historically normal rates nonetheless. Believe all of that if you wish. Without permanent changes in the way the world works, on valuation measures that are best correlated with actual subsequent market returns, stocks are wickedly overvalued here. 

The charts below show several of the measures that have the strongest relationship (correlation near 90%) with actual subsequent 10-year S&P 500 total returns, reflecting data from the Federal Reserve, Standard & Poors, Robert Shiller, and valuation models that we have published over the years. The first chart shows these measures as the percentage deviation from their historical norms prior to the late-1990’s equity bubble. While it’s easy to lose sight of the extremity of the present situation, these measures are well over 100% above their respective norms, on average. On the most reliable measures, we estimate that S&P 500 valuations are now only about 15-20% short of the 2000 extreme, and are clearly above every other extreme in history including 1901, 1929, 1937, 1972, 1987, and 2007. Again, these measures are also better correlated with actual subsequent market returns than popular alternatives such as price/forward operating earnings and the Fed Model (which adjusts the S&P 500 forward operating earnings yield by the level of 10-year Treasury yields). 

wmc141110a

As of last week, based on a variety of methods, we estimate likely S&P 500 10-year nominal total returns



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Asset protection

Exuberance, Divergence, Volatility, Resolution

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Posted by Bob Hoye: Institutional Advisors

on Friday, 07 November 2014 13:44

Signs Of The Times

"Russia scrapped its second bond auction after the ruble's retreat spurred bets that interest rates will increase."

                                                                                      - Bloomberg, October 21.

"Russia's international reserves shrunk for a ninth week, tumbling $7.9 billion in a little more than five months."

                                                                                      - Bloomberg, October 23.

That week crude was trading at 84, nine weeks earlier it was trading at 98.

Recently it has been below 80.

"Russian tycoons seek to trim debt as [weakening] commodity demand hits values of holdings."

                                                                                     - Bloomberg, October 28.

"Americans are less concerned than ever about another 1930-like Depression."

                                                                                    - Rasmussen, October 23.

The numbers were that 27% thought it was "somewhat likely" and 62% polled "unlikely". The report included that the poll was "more closely divided in 2009".

And now for something completely honest - stupid but honest!

"Hillary: 'Don't Let Anybody Tell You That Businesses Create Jobs' "

                                                                                   - Breitbart, October 24.


Perspective

While the stock market gets most of the attention during a boom, we all know it is not an isolated phenomenon. We have been talking about the connections to the credit markets, but the culmination of a bull market seems to be part of a universal euphoria.

On the stock side this showed up as a very low number of only 13.3% bears, the lowest since 1987. On the social side it shows up in this week's Conference Board's Consumer Confidence number. From 89.0 in September it soared to 94.5. This is not only a big jump, it is the highest reading since October 2007.

The low at its worst in 2009 was 39.8.

The University of Michigan's Consumer Sentiment number for October rose from 84.6 to 86.4, which is the highest since July 2007.

The low in 2009 was around 56.

Perhaps there is a new economic law. Consumer confidence is inversely proportional to interest rates. Well, it must hold for central bankers as well.


Stock Markets

Screen Shot 2014-11-07 at 6.41.15 AM

Some have attributed the stock market rebound to a bullish utterance by James Bullard, a normally "hawkish" Fed employee. As interpreted by the street, the Fed was getting concerned about the severity of the correction. At less than 10%, this was severe?

 



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Asset protection

4 Steps for Avoiding a Capital “C” Catastrophe in the Next Downturn

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Posted by Dennis Miller - Millermoney.com

on Thursday, 06 November 2014 12:01

When the tech and real estate bubbles burst, many of my friends lost 40-50% of their retirement portfolios almost overnight. Is a similar downturn looming?

Take a look at the chart below showing the S&P’s performance since 2008.

Screen Shot 2014-11-06 at 10.43.18 AM

Caution is in order. We may see a major correction, a huge downturn, or this bubble could continue to grow for quite some time. I’ll leave the timing predictions to others. Still, investor euphoria worries me. Even those playing with retirement money often ignore warning signs, thinking the parabolic rise in stock prices is never going to end. However, this time is NOT different.

Look at the Nasdaq’s performance just before the tech bubble crash:



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Asset protection

Could Collapse At Anytime: “When It Ends, All Hell Is Going To Break Loose”

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Posted by Michael Snyder

on Wednesday, 05 November 2014 08:33

shapeimage 22It happens fast and it often comes without any warning to the general public. In 2008 they were able restore some confidence in the system through massive infusions of cash and a healthy dose of mainstream propaganda.

 Back in 2008 we got a taste of what a massive economic and financial crash looks like. Millions of jobs were lost, tens of millions of people became dependent on government assistance, and trillions of dollars in wealth were wiped out almost overnight.

 

.....read more HERE



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