The Closer You Get, The Further The Fall
By Paul Lamont
November 30, 2009
According to the LA Times, many Americans are now “pouring money into mutual funds that buy foreign stocks, especially in emerging markets such as China and India.” As we mentioned in October of 2007; “As market timers, foreign purchases make excellent contrarian indicators.” That month, which marked the top in U.S. equities, “investors from Europe, Asia, and the Middle East” were “buying U.S. stocks in record amounts.” Since we also anticipate a large rally in the U.S. dollar, we expect emerging markets to fall hard.
When chasing performance (the MSCI Emerging Market Index is up over 100% since the March low), most individual investors also find that they are the last ones to buy. As stated in August’s Speculative Disaster, “When the public rushes in, it’s time to be rushing out.”
“They have become speculators up to the point of disaster.” – John Hussman, Reckless Myopia.
Dubai Debt Shock: The First of Many
Last month we stated “the rollover of the stock market in 1930 revealed economic weakness in the hinterlands; we suspect any sell off today will do some uncovering as well.” It appears the sands have indeed shifted. In Dubai, investors have found that the magnificent projects of the boom overstepped their due bounds.
From June of 2008;
“…we expect this private sector credit tightening to prevail over emergency Fed lending. One main reason is that the credit bubble is global. As a Bear Stearns executive recently described their meltdown:
“It was as though a computer virus had been launched. Where the hell was this coming from? Who started it? We tried, believe me, but we could not track it down. We know lots of big hedge funds were spreading rumors, but how can you pursue that? Only the S.E.C. can, and they’re all over this.”
The central planners may try to “manage” things, but contagions could result quickly from panics in Ireland, Spain, Germany, U.K, Iceland, and/or yes even Estonia (chart below). As the Telegraph states, “European banks have suffered worse losses on US property than American banks.” We will see how fast players move when the European property markets turn down.”
Let us add Greece, China, Italy, and of course Dubai to that contagion list. These countries have relatively larger (though different) debt problems that have yet to be worked out. Just as the run on Bear Stearns seemingly came from all directions, so can debt shocks arise from various and unforeseen sources around the globe. The conditions are ripe. For instance, according to successful short-seller Jim Chanos, Dubai “has nothing on China.” As an example, watch this short video on Ordos, an empty city in Inner Mongolia.
In our view, the Dubai suspension is an effect of panic. Two months ago, we noted the “change in emotional perspective toward commercial real estate” in the subscribers section of August’s Speculative Disaster. In addition, last month the risk of sovereign default began rising. Global credit markets have turned down producing the Dubai situation. Here in the U.S. it is the same; bank loans have registered in the 3rd quarter “the biggest decline since data collection began in 1984.” Around the world, bankers are still either hiding losses or not realistically estimating future losses. They are either lying or hoping. This makes us (and other independent financial analysts) very bearish. Even S&P is warning on low levels of bank capital. It was no coincidence that our last Report was titled “U.S. Bank of Mattress.” The central planners are rushing to play catch-up.
Has The Market Ended the Bailouts?
In our May Report, titled Next Phase of the Crisis, we stated: “The bailout borrowings are ushering in the next wave of the crisis. Just like the bankers who could not see their own downfall, it is the politicians and their Keynesian advisors that are now pushing us over the second cliff.” As David Marsh of the London & Oxford Group states, “Sooner or later investors will demand higher interest rates on government securities, either from the industrialised economies or emerging nations, reflecting fears of inflation or insolvency or both. If capital market conditions tighten when economic recovery is still not secure, then a downward spiral is well-nigh inevitable.” While Greece is probably the closest to default, Morgan Stanley is very concerned that this scenario plays out in the U.K. in 2010. “’In an extreme situation a fiscal crisis could lead to some domestic capital flight, severe pound weakness and a sell-off in UK government bonds. The Bank of England may feel forced to hike rates to shore up confidence in monetary policy and stabilize the currency, threatening the fragile economic recovery,’ they said.” Morgan Stanley estimates that “Britain’s travails are one of three ‘surprises’ to expect in 2010. The other two are a dollar rebound, and strong performance by pharmaceutical stocks.”
As we mentioned last month, “A reversal would produce a stronger dollar and sharp sell-offs across the board. It would then be highly probable that the bear market rally since March would be over.” We have gotten our sharp sell-off. Most indices are falling from their recovery highs. We suspect that the bear market is back in full force.
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