The Third Year In A Row?

For the third year in a row the market is going to end down: the DJIA 15%; the S&P 500 down 22%; and the NASDAQ down 30%. 1929, 1930 and 1931 was the last time the market was down three years in a row. The only time in US history the stock market has been down four years in a row was 1929-1933.

CNBC, brokerage firms, and a host of other financial experts, who rely upon fees from the investment community, are stating the following: “the market down four years in a row cannot happen, so buy stocks now”; “take advantage of the winter rally, the time of year the market is strongest”; and “several stocks are very cheap”. Not one set of statistics establishing why the market is a buying opportunity has been mentioned by these “experts”.

However, here are some statistics: California’s current account deficit will be $35 billion dollars (the deficit alone is larger than all other state budgets except New York) resulting in the down grading of California’s bond ratings to single “A”; inside sellers (big money) are selling stock at a ratio of 7 to 1 against insider buying; the US, EEU and Japan generate 72% of the world’s output, and all are in recession, all have cash flow problems, and all are increasingly unable to meet their skyrocketing debt payments; 72% of the world’s reserve currencies are dollars with that number increasing at 1.3 billion dollars per day, thereby weakening the US dollar (meaning foreign goods become more expensive) and making it unlikely we can sustain our current consumer buying binge; EEU, Japanese and US unemployment is very high and increasing; in China alone 14 million new employees a year are coming into the labor force, which employees are willing to work for 1/40 of the cost of US labor, for 50 hours a week, with no benefits, and they are satisfied to have enough money to feed, cloth and house their families.

The market is nothing more than a distillation of millions of facts, and in addition to the facts reported above, and continuously stressed in this column, the market sees next year as a huge geo political economic displacement mess likely to have an adverse affect upon US consumer spending. Bear in mind the importance of US consumer spending by remembering that it accounts for 2/3 of our GDP. Realize further that the US GDP represents 1/3 of the world’s economic output. Now, with the above in mind, let’s examine what the market is wrestling with that is creating further displacement of capital:

We’re occupying Afghanistan, which is keeping the Pakistani/India situation somewhat stabilized. The market knows that while we cannot fight a sustained war anywhere by ourselves, we possess sufficient firepower to cripple any country’s air forces, and disrupt anybody’s infrastructure, in a matter of days. That costs money and takes away from our consumer-oriented economy.

Hussein has no major protection since Russia collapsed. In fact, Russia is currently allied with US interests, upon which Russia is economically dependant. The US military is training Russian troops on the northern flank of Afghanistan at this moment. A permanent UN (meaning US) presence on Baghdad’s southern flank will force Hussein out of office or make his rule ineffective until he can be overthrown by his own political system. The part of Iraq the “UN” would occupy is the south where most of Iraq’s proven recoverable oil reserves exist. Such an occupation would stabilize world oil prices and provide a somewhat stabilizing influence in the Middle East. The well-read reader will recall a few weeks ago US government officials asserting that OPEC has “too much power”. That was our first volley. Occupation of southern Iraq would take care of OPEC’s power and stabilize the region militarily. One way or the other the market knows the US will develop a permanent presence in the Middle East which will be expensive, which will have to be financed by deficit spending as the US consumer cannot be taxed anymore, and, most importantly, will detract from our consumer oriented economy.
Israel, Egypt and NATO are allied with US interests on the western flank of the Middle Eastern hot bed. Ex-bad guy turned diplomat, Khadafi, has kept so quiet that people are forgetting which country he runs. He is an example of one of the many dictators in the world who has had a really good dose of “US imperialism”. He’d rather not have any more serious inconveniences to his life of trips between his “tent palace” in the dessert with his military forces and his “city digs” with plumbing, electricity, running water, air conditioning, and his bevy of wives and concubines.

Ditto Castro. He’s old, hanging onto power by the tip of his chinny chin chin, is in debt up to his eyeballs, is scared to death of the power of US Cubans, and is without Russian sponsorship. He knows that a false move on his part and it’s “good bye Fidel”.

That leaves an unstable Venezuela as the last headache with which US stock markets are struggling. US secret services are working around the clock on that situation with our allies. Dictator Chavez is either going to soon be “outta there” or he’s going to change his behavior and play ball (unlikely). If our secret service does not succeed in toppling him from within, Venezuela becomes an excellent target upon which to sic either the UN or a whole host of his enemies in the Latin community of nations in Central and South America.

The market sees all of the above problems, the tremendous displacement of resources to stabilize the world resulting from the disintegration of the Russian Empire, and draws these conclusions:

It will take several years to assimilate these economic displacements;

It will be very expensive, and debt oriented, to do so;
Capital will be diverted from consumer spending in a country where that spending drives both our economy as well as employment in many other of the world’s economies;

The national debt, consumer debt and our trade deficit will soar.

The market knows that Barron’s latest statistics show the Standard & Poor Index of 500 stocks at 30 times earnings with a yield of under 1.8%, hardly a cheap market to begin with. Mathematically, cash flow is depressed; mathematically the market is the most expensive in history. Where does the most overpriced and expensive market in history go from here? Higher? Unlikely. Too many people are catching onto brokers tricks and the media’s baloney on “how much better things are getting”, and they are instead concentrating upon the mathematical improbability of increasing stock market values.

With the mess described above, supported by a whole host of additional nasty economic statistics, it is hard to imagine why the market in 2003 will do better than the market did in 2002. Couple the above with our “shoot ‘em and feed ‘em” US foreign policy, and the market is facing a confusing and frustrating next few years.

Happy New Year.
Caveat Emptor!
George Rauch
December 22, 2002

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