Wednesday, September 17, 2008

Has the worm turned?

The stock market is leading indicator of economic health and typically discounts by about 6 months. Based on recent action we can probably assume the next 6 months of financial news will be more bad than good. CXO Advisory has an excellent list of how (and to what degree) different economic indicators impact on the market. Eventually the market will break this cyclical bear market, triggered by a series of economic positives which push the market from a supply dominated panic to a demand based recovery. Markets fall quicker than they rise; and in general, cyclical bear markets take 2 1/2 years to move from top to bottom. In simplistic terms, this gives the current cyclical bear another year and half to run. This also suggests current market action and its incredible volume is part of an early stage bottom. This bottom should be good for some form of relief rally before markets drip losses back into a retest of this low, likely on the lack of firm recovery news based on the markets discount model. It is the second (and new) low which will complete the cyclical bear market as more positive economic news emerges, setting the stage for the next cyclical bull market - but in the context of the secular bear market which kicked off in 2000.

Google trends showed an interesting pattern in search terms. In the early part of the year the focus was on "economic depression" but more recently the shift in search for "economic recovery" may suggest some acceptance and willingness to move on - at least amongst the general search populace as a whole. How long this takes to filter into an actual recovery remains to be seen.

Is this too simplistic? Perhaps.

The credit crunch will cast a lengthy pall over the coming months, but prior concerns with inflation have been cast to the wind with the global slowdown. Deflation is the new bugbear:

For the Doom and Gloomers amongst you (or Gold Bugs!), here is the Wiki entry on how Debt contributed to the Great Depression:

Debt is seen as one of the causes of the Great Depression. (What follows relates to the USA).

Macroeconomists including Ben Bernanke, the current chairman of the U.S. Federal Reserve Bank, have revived the debt-deflation view of the Great Depression originated by Arthur Cecil Pigou and Irving Fisher: in the 1920s, American consumers and businesses relied on cheap credit, the former to purchase consumer goods such as automobiles and furniture, and the latter for capital investment to increase production. This fueled strong short-term growth but created consumer and commercial debt. People and businesses who were deeply in debt when price deflation occurred or demand for their product decreased often risked default. Many drastically cut current spending to keep up time payments, thus lowering demand for new products. Businesses began to fail as construction work and factory orders plunged.

The debt became heavier, because prices and incomes fell by 20–50% but the debts remained at the same dollar amount. After the panic of 1929, and during the first 10 months of 1930, 744 US banks failed. (In all, 9,000 banks failed during the 1930s). By 1933, depositors had lost $140 billion in deposits.[8]

Bank failures snowballed as desperate bankers called in loans which the borrowers did not have time or money to repay. With future profits looking poor, capital investment and construction slowed or completely ceased. In the face of bad loans and worsening future prospects, the surviving banks became even more conservative in their lending.[8] Banks built up their capital reserves and made fewer loans, which intensified deflationary pressures. A vicious cycle developed and the downward spiral accelerated. This kind of self-aggravating process may have turned a 1930 recession into a 1933 great depression.

Serenity Now...

Dr. Declan Fallon, Senior Market Technician, the free stock alerts, market alerts, and stock charts website