Economist James Dale Davidson — who correctly predicted the collapse of 1999 and 2007 — is once again sounding alarm bells on what he says is an inevitable stock market crash this year.
Davidson has recently published his book, The Age of Deception: Decoding the Truths About the U.S. Economy, has said, “Yes, the stock market is near all-time highs. In fact, it is up 200% since its low in 2009.That is an historic rally. But this rally is coming to an end. The writing is on the wall.”
In a feature on The Sovereign Society website, Davidson enumerated several indicators to back up his stock crash pronouncement. For starters, he pointed out, “Since it is clear that the stock market is going up because so many people are gambling with margin — with debt — when the market starts to pull back, it will be fast. Real fast. As stocks go down, investors will get margin calls and they will be forced to sell their positions immediately…which will accelerate the markets sell-off.”
You can see the above chart to understand what Davidson is talking about with the stock market running up and now….going sideways.
Davidson identified the low stock market participation rate as the next indicator, noting that it’s “at astonishingly low levels for a market selling at such high valuations.”
“You see, after the last crash of 2008, many people have resisted getting back in the market. So essentially, although the market has hit all-time highs, there aren’t a lot of people investing. Never before in history has there been a sustainable market rally on low volume,” Davidson explained.
In a healthy market, the Shiller PE ratio is about 16. Right now, it sits at 27… 1999 and 2007-like numbers pic.twitter.com/Yfqm3HDsrR
— The Capitalist (@Capitalist_Site) May 22, 2016
Next, Davidson highlighted the price-to-earnings (P/E) ratio of the stock market, which is “hitting all-time highs.” The P/E ratio measures the price of the stock versus how long it will take for the stock to be worth that price.
Davidson noted, “In a healthy, normal stock market, the Shiller price to earnings ratio is about 16. That means it will take 16 years for a stock’s earnings to equal its price. But right now, the average stock in the S&P 500 is sitting at a Shiller P/E ratio of 27. That’s nearly 50 percent higher than the normal ratio.”
Davidson further added, “The only other times we have seen the price to earnings ratio this high was in 1999 and 2007. Again, both times this happened, stocks dropped by 50 percent and 55 percent. So we know that we have fewer people trading, but they are using more margin, and they are pushing the PE ratios to dangerous new highs.”
Worst Case Scenario
Davidson has said that he expects the massive collapse that’s “coming very soon” to “blindside most investors.” He disclosed, “To be frank, a 50-percent correction in the stock market is actually a conservative estimate. If the market drops to its 2009 lows, we’ll actually see a 70-percent correction.”
Davidson then uses some staggering percentages to illustrate the worst case scenario: “Real estate will plummet over 40 percent, savings accounts will lose 30 percent of their value, and unemployment will triple,” he said.
There are others who share Davidson’s view. Among them is American business magnate Carl Icahn who — in his guest appearance on CNBC’s Power Lunch last month — said, “I do believe in general that there will be a day of reckoning unless we get fiscal stimulus.”
Icahn cited the Federal Reserve’s decision to maintain low interest rates, which would potentially create “tremendous bubbles.”
For the record, Icahn had already sounded the alarm on the potential stock crash back in 2015. Back then, he expressed his belief that the market is “extremely overheated—especially high-yield bonds.”
Icahn had told CNBC’s Fast Money Halftime Report: “I think the public is walking into a trap again as they did in 2007. I think it’s almost the duty of well-respected investors, like myself I hope, to warn people, to tell people, that really you are making errors.”
In a Profit Confidential article, Jing Pan — a research analyst and editor at Lombardi Financial — explained, “Icahn thinks that a large part of the growth in the real economy we see today comes from the artificially low interest rates. His rationale is that businesses have been getting access to cheap money, and by using that money, they were able to expand their operations; creating jobs and generating revenue. However, once the Federal Reserve raises interest rates, businesses will no longer have access to that cheap money.”
Aside from Icahn, a report in The Sovereign Investor, cited economist Andrew Smithers, who warned, “U.S. stocks are now about 80% overvalued.” The report explained, “Smithers backs up his prediction using a ratio which proves that the only time in history stocks were this risky was 1929 and 1999. And we all know what happened next. Stocks fell by 89 percent and 50 percent, respectively.”
The Sovereign Investor likewise highlighted the fact that “the Royal Bank of Scotland says the markets are flashing stress alerts akin to the 2008 crisis.” the said bank has reportedly told its clients to “sell everything.”
Davidson’s doom-and-gloom pronouncements, which he backed with 20 compelling charts, has definitely gotten everyone’s attention. However, it’s worth looking at it from a different perspective.
In a Motley Fool Funds feature earlier this year, Nate Weisshaar wrote, “Even if Davidson is correct that the market will get clobbered in 2016, it doesn’t mean we should be running for the hills. Keep in mind that during the market collapse caused by the financial crisis, the S&P 500 dropped over 50% between October 2007 and March 2009. Then it almost doubled by the end of 2010.”
Weisshaar explained, “Doom and gloom is a story that sells quite well and has apparently been doing well for Davidson for years (although not so well that he doesn’t need to still sell it).” He then said, “Let’s check back in with Davidson’s prediction in 12 months. I’ve placed a reminder on my calendar for Jan 2, 2017.”
Gold ‘Frenzy’ To Build Around Election, Platinum Could Soar 50% By Year-End
Peter Hug, head of the precious metal division at Kitco, believes the Fed’s decision to hold interest rates at near-zero through at least 2023 is bullish for precious metals and particularly gold. He also mentioned the road platinum can head to by the year’s end.
“About three Fed meetings ago they indicated they would hold rates at pretty much zero through the end of 2021 into early ‘22, today they’ve extended that by an additional year, there have been some analysts that are suspecting they will keep rates at zero right through 2024, so we’ve got another almost four years of zero interest rates to look forward to,” said Hug.
“The Fed being a bit more accommodative on inflation indicates to me that it’s a very positive environment for hard assets in general but I think the metals as well will continue to move higher over the next period of time based on the dovishness of the Fed, global central banks and the uncertainty of the US election coming up in about six weeks.”
The State of the Gold and Silver Markets
Hug said the current consolidation phase is a great sign of the overall health of the gold and silver markets. This comes after the frenzy in the gold and silver markets about a month ago.
“The market has been consolidating, which is a very good sign, especially for gold. Gold has been consolidating between our support level of 1925 and 1975 for the better part of two weeks. Silver seems to be between $26.50 – $27.50 range and consolidating as well. The fact that people are not selling into a market that is as frenetic as it was a month or six weeks ago, indicates to me that this market is setting up for the next leg higher once we get through this consolidation phase.”
Availability and Premiums
The gold and silver markets are taking a bit of a breather and the mania has slowed a bit. With this, Hug said the availability of gold and silver coins is getting better. He said premiums are coming down as well.
“On the gold and silver side, dealers are starting to show inventory. That’s not a result of increased production, it’s more a result because of this consolidation phase, retail investors have started to pull back on the markets so there’s not as much buying frenzy in the physical space right now, I think that changes if gold gets north of $2,000 again. But this consolidation of $50 range in gold and the $1, $1.50 range in silver has basically dried up the demand at these levels.”
“So production is still coming on board and dealers are starting to build inventory. And because of that you are seeing premiums come down. Silver maple leafs you can get, again, depending on quantity, somewhere between $5-6 over spot, Eagles are down somewhere between $5-7 over spot, so you are starting to see as this market stays sideways and we don’t see another rush into the buying side from the retail investor, you give it another 2-4 weeks and I think there will be reasonable inventory on the market and premiums should come down.”
Volatility to Return Soon?
Hug said that if you are looking to acquire gold and silver coins, you shouldn’t wait long as we could see volatility return very soon.
“I caution that past October 15 the market is going to be very volatile as we go into the election.”
Other than gold or silver, Hug sees a huge opportunity in the platinum space. There, he expects prices to climb 50% by the end of the year.
“I’m constructive platinum. It is also consolidating in the $900-950 range, but I do anticipate platinum to be north of $1000 and then look to $1200 possibly $1400 before year end.”
Dalio: Capitalism Needs Fixing, US Dollar Upended In Next 5 Years
In a recent interview with MarketWatch, Ray Dalio, the billionaire founder of Bridgewater Associates, covered a wide range of topics. These include his thoughts on capitalism, China, the US dollar as the world reserve currency, and much more.
Dalio says the US is facing three distinct problems and is losing ground to China in many ways.
“There are three problems that are coming together,” said Dalio. “So it’s important to understand them individually and how they collectively make a bigger problem,” said Dalio.
“There is a money and credit cycle problem, a wealth and values gap problem, and an emerging great power challenging the existing dominant power problem. What’s going on is an economic downturn together with a large wealth gap and the rising power of China challenging the existing power of the United States.”
“It’s a fact that there has been a weakening of the competitive advantages of the United States over the last couple of decades. For example, the United States lost a lot of the education advantage relative to other countries, our share of world GDP is reduced, the wealth gap has increased which has contributed to our political and social polarization.”
Challenges the U.S. Face
To illustrate the challenges that the US faces as it attempts to stay ahead of China and remain a world power, Dalio says we need to look at Britain and how they eventually lost their position as the world’s reserve currency.
“If you look at British history, the development of rival countries led them to lose their competitive advantages. Their finances were bad because they had accumulated a lot of debt. So, after World War II those trends went against them. Then they had the Suez Canal incident and they were no longer a world power and the British pound is no longer a reserve currency. These diseases almost always play out the same way.”
“The United States’ relative position in the world, which was dominant in almost all these categories at the beginning of this world order in 1945, has declined and is exhibiting real signs that should raise worries. There’s a lot of baggage. The U.S. has a lot of debt, which is adding to the hurdles that typically drag an economy down, so in order to succeed, you have to do a pretty big debt restructuring. History shows what kind of a challenge that is.”
“The United States is a 75-year-old empire and it is exhibiting signs of decline. If you want to extend your life, there are clear things you can do, but it means doing things that you don’t want to do.”
Capitalism Needs Improvements
Dalio is a capitalist (he didn’t become a billionaire through handouts). However, he does acknowledge that the system needs to be improved so that everyone has a chance at financial freedom.
“What has been shown is that capitalism is a fabulous way of creating incentives and innovation and of allocating resources to create productivity. All successful countries have uses for it. For example, communist China has chosen capitalism, which has been essential to its growth.
“But capitalism also produces large wealth gaps that produce opportunity gaps, which threaten the system in the ways we are seeing now.
“We have to be in this together. The system needs to be reengineered to do this. But if we don’t do this engineering well, we’re going to spend in an unlimited way and deal with that by creating debt that won’t ever be paid back, and we will risk losing the reserve currency status of the dollar. If we get into that position — and we’re very close — things will get much worse because we are living on borrowed money that’s financing our consumption.”
On Dollar as the World Reserve Currency
Dalio says we could see the US lose reserve currency status as soon as the next five years.
“Within the next five years you could see a situation in which foreigners who have been lending money to the United States won’t want to, and the dollar would not be as readily accepted for making purchases in the world as it is now.”
“The United States doesn’t have a good income statement and balance sheet in dealing with the rest of the world. It is running a deficit to the rest of the world that is financed by borrowing money so that we are producing liabilities.”
There is uncertainty in the markets ahead of the November election. With this, Dalio says there are two steps investors can take to protect their wealth.
“First, worry as much about the value of your money as you worry about the value of your investments. The printing of money and the debt should make you aware of that. That’s why financial asset prices have gone up — stocks, gold — because of the debt and money creation. You don’t want to own the thing you think is safest — cash.”
“Second, know how to diversify well. That includes diversification of countries, currencies and assets, because wealth is not so much destroyed as it shifts. When something goes down, something else is going up so you have to look at all things on a relative basis. Diversify well and worry about the value of cash.”
Fed Keeps Rates At Zero, Powell Says More Fiscal Support Needed
The Federal Reserve wrapped up its last meeting before the November elections. It announced that it would keep rates at essentially zero until at least 2023. This serves as a signal that it doesn’t see inflation as an issue at all for the foreseeable future.
Fed Chairman Jerome Powell said, “We’re going to continue to monitor developments, and we’re prepared to adjust our plans as appropriate.”
“With inflation running persistently below this longer run goal, the Committee will aim to achieve inflation moderately above 2 percent for some time so that inflation averages 2 percent over time and longer-term inflation expectations remain well anchored at 2 percent. The Committee expects to maintain an accommodative stance of monetary policy until these outcomes are achieved,” the Fed’s post-meeting statement said.
Uncertainty and the Stock Market
However, the Fed’s latest projections have core inflation staying below their 2% target until 2023. This leaves many observers unsure of the Fed’s actual plan to spur the inflation they desire. This uncertainty caused the stock market to drop after the announcement.
“He noted that targeting an inflation overshoot for ‘some time’ as the statement says, means that they are not targeting a ‘sustained’ overshoot. So how long is ‘some time’ if it isn’t sustained?'” asked AB economist Eric Winograd. “That imprecision is a problem that the committee is going to have to solve to reap the full benefits of the framework shift. It’s not a coincidence that the stock market, which had been in positive territory, flipped negative after the chair’s comments.”
“He’s the great and powerful Oz. Investors got duped. They thought enhanced forward guidance meant something, but when they peeked behind the curtain they realized the Fed didn’t do anything, and the market rolled over,” said Michael Arone, chief investment strategist at State Street Global Advisors.
Jon Hill, a senior fixed-income strategist at BMO, added “This is dovish – lower rates for longer, higher equities, weaker dollar. The Fed is saying we’re not hiking in 2023, maybe in 2024 … What they’re saying is these are our goals. We expect to have just barely met them and even then, they’re not raising rates.”
Stimulus and Economic Recovery
Stepping ever-so-slightly into the political realm, Powell said that Congress should pass another stimulus package to support the economic recovery. He then identified unemployment aid, small business relief and funding for state and local governments as three key areas.
“More fiscal support is likely to be needed,” Powell said. “The details of that are for Congress, not the Fed.”
Republicans have repeatedly stated that they won’t provide additional funding to bailout poorly managed cities and states as part of any additional stimulus bills.
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