We warned
our viewers, over and over again, how the Dot.Com Bubble and Housing Bubble
would play out. We are now warning our
viewers that the unwinding of the “Central Bank Bubble” will be worse than
either of the other two bubbles. It
seems like most investors continue to show apathy even with the warnings by us
and quite a few others of the “unintended consequences” of the central banks
doing things that have never been done before.
Those investors are in good company because it appears to us that the
leaders of the major central banks of the world do not have any idea of the “unintended
consequences” either.
Think for a
moment about exactly what changes the Federal Reserve took in continuing to
keep the Federal Funds rate at zero or close to zero for approximately the past
8 years. This is called ZIRP (Zero
Interest Rate Policy) and the Fed, or any of the central banks that followed
the Fed’s lead, had any idea of the “unintended consequences” of this policy. However, if you think they took a chance with
ZIRP, just think about the chances our Fed took while building their balance
sheet up from $800 bn. in 2008 to over $4.5 tn presently. They did this by using three Quantitative Easing
(QE) programs and one “operation twist” program. These programs were designed to increase the
Fed’s balance sheet by buying U.S. mortgage bonds and U.S. Treasury notes and bonds.
The other major central banks followed the Fed’s lead and grew their balance
sheets in similar fashion to the Fed.
Our central
bank (The Federal Reserve) is now attempting to unwind these extremely risky
policies, while the rest of the world is attempting to copy the same risky
policies that wound up painting the Fed into a corner. We believe the unwinding will be extremely
negative for the U.S. stock market.
The “unintended
consequences” of which we speak have recently taken place for the Bank of Japan
(BOJ) and the European Central Bank. They each discovered this when they
implemented negative interest rate policy (NIRP). It is hard to believe that these powerful
central banks experimented with things never tried before and will probably
wind up burying the economies and countries that they are supposed to be
helping. Now we have long spoke of
currency wars as part of the “Cycle of Deflation”. The countries that have gone to negative
interest rates, in an attempt to weaken their currencies and stimulate their
economies have seen their currencies strengthen, their economies hardly budge
and stock markets fall…exactly the opposite of the intended effect!
We believe
the Fed’s unwinding (as they continue to try to do things that have never been
tried before) will again lead to the “unintended consequences” of a significant
bear market and global recession. They
already found out what happens when they stopped each of the QE’s and
“operation twist” as the stock market declined sharply. This time they believe they can stop QE 3 and
at the same time raise the Fed Funds rate.
Again, this has never been tried before and will probably lead to a
major bear market once interest rates are normalized. As we have stated time and time again, the
only things that U.S. QE’s have stimulated have been financial assets, real
estate and certain collectibles. Stock
prices have been driven to near all time highs on both and absolute and
relative valuation basis while U.S. debt has yields that have been driven to all
time lows.
The S&P
500 made its peak level in May of 2015 at 2134 and has subsequently had major
declines while the peak has not been penetrated in 10 unsuccessful attempts to
exceed it. This has brought us to having
to drive through all of the technical resistance brought about from these 10
attempts to break through the 2134 peak.
On the downside, we think the “unintended consequences” of this
combination of stopping QE and raising rates will drive the S&P 500
substantially lower than the 1810 trough that took place earlier this
year. In fact, we wouldn’t be surprised
to see the market drop at least to the 50% level of the Dot.Com decline in 2000
which would take it to 1067, or the Housing Bubble breaking down by 58% in
2008-2009, which would take the market down to 896. We hope we are wrong, but we believe this is
where the market could reach as the result of the aforementioned central bank
policies.
The central
bankers just can’t seem to understand that the problems of the global economy
and stock markets came about from the central bank (especially the Fed’s)
mistakes and interference while they just guess at solutions. The main reason for the increased debt burden
started with the Federal Reserve reducing the Fed Funds Rate to 1% in June of
2003 and keeping it there for a year causing the Housing Bubble. They continued to shut their eyes to the
obvious sub-prime housing loans that were being sold as if they were
valuable. Back then the sub-prime market
was only $1.3 tn while now we have negative interest rate sovereign debt of
close to $12 tn and all time low yield U.S. debt to the tune of $19 tn. The global debt has increased by about $60 tn
since 2007 and there is no way to have a smooth and quick recovery after the
debt has grown so quickly (see attachment).
In summary, remember
that the root cause of the many worldwide economic problems, especially the
slow growth everywhere, is the overwhelming debt incurred by almost every
country. As long as the major central
banks continue to ignore the persistent debt build-up (even encourage it) we
certainly do not see how we can avoid a recession and bear market. The major central banks of the world are now
implementing never tried before experimental policies that have distorted
financial markets to a point that is nearly unrecognizable.