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Old Mar 16th, 2012, 05:57 PM   #3187
Specterx
 
 
Join Date: Dec 2007
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Quote from darkhorse:

Also, the major 2010 and 2011 dislocations were a product of macro events -- 2010 Greece (I think?) and 2011 debt ceiling freak-out (worrying that Repubs would sabotage the government) -- but what's the near-term driver here for such a blow-up? They're always out there, but hard to see one...
Portugal, Spain, and China come to mind. The market even appears to realize Portugal is headed for trouble as their yields are the only ones in the EMU which didn't decline the last few months.

The central thesis being tested here is that a free lunch is available - central banks can cause stock indices to rise at a 45-degree angle forever, regardless of valuations, and without any obviously negative side-effects. It has never been the case in the past, otherwise SPX wouldn't have gone sideways for eleven years. I don't think they'll be successful but we can sure make a go of extracting plenty of excess returns from the interim volatility...
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Old Mar 16th, 2012, 06:13 PM   #3188
Daal
 
 
Join Date: Oct 2002
Location: Brazil
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Quote:
Quote from darkhorse:


Also, the major 2010 and 2011 dislocations were a product of macro events -- 2010 Greece (I think?) and 2011 debt ceiling freak-out (worrying that Repubs would sabotage the government) -- but what's the near-term driver here for such a blow-up? They're always out there, but hard to see one...
The blow up will come the way it always come, one day people will look at the same headlines that are hitting every day and will interpret as bad and because the market will be down, the media will report things as being bad. People's experience is that things have changed dramatically but its partially an illusion, its the mood that changed.

If you look at Europe, if you strip out the 'good news' that derive from market prices going up(like Italian bonds), its the same shithole still, portugal deficits getting worse, etc. But people are focusing on the good side and that kind feeds on itself(through market prices creating more news, better moods etc)

At some point it reverses. Back in August 2011 after the downgrade, almost no one could see how on earth equities would rise ever again. Remember the NYT 'is this 2008 again?', it all a sentiment cycle, the news matter but not as much as people think
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Old Mar 16th, 2012, 06:19 PM   #3189
darkhorse
 
 
Join Date: Feb 2002
Location: Nevada
Posts: 3,473
Quote:
Quote from Specterx:

Portugal, Spain, and China come to mind. The market even appears to realize Portugal is headed for trouble as their yields are the only ones in the EMU which didn't decline the last few months.

The central thesis being tested here is that a free lunch is available - central banks can cause stock indices to rise at a 45-degree angle forever, regardless of valuations, and without any obviously negative side-effects. It has never been the case in the past, otherwise SPX wouldn't have gone sideways for eleven years. I don't think they'll be successful but we can sure make a go of extracting plenty of excess returns from the interim volatility...

Except, to continue playing devil's advocate, the bulls argue it's not about CB support, but rather solid earnings and a creeping U.S. recovery, plus stocks as a better inflation hedge than the alternatives (when inflation is mild at least).

Portugal and Spain are the defaults that cried wolf, and China has been on the edge of its crash seat for a while now... as has Japan -- what is it for Japan now, 20 years?

Agree there are no free lunches, but there is also the question of who pays and how.

It is not implausible to me, for example, to imagine a scenario in which the poor and indebted middle class are the ones that pay through the nose for bad CB policies -- in the form of stealth inflation and real wage erosion -- even as paper assets stay elevated for years.

The "who pays the piper" argument is tricky because there are many backdoor ways for the piper to potentially get paid. One of those ways is to perpetually screw an underclass that doesn't understand what's happening -- what all those nominal Dow points actually cost in real purchasing power loss.

Another counter to the free lunch challenge is the Minsky paradigm: The idea that stability begets instability and central bankers like their volatility all at once. This argument says CBs will pay bigtime, but not for a while yet, i.e. continued irrational optimism, on into crack-up boom, on into 2008 redux or even worse...

And so, again, it comes down to timing. Unlike those who take a while to turn the ship, I'm happy to change in an instant. For now though the free lunch crowd is toasting Big Ben.
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Old Mar 16th, 2012, 06:29 PM   #3190
darkhorse
 
 
Join Date: Feb 2002
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Quote from Daal:

At some point it reverses.
Indeed.
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Old Mar 16th, 2012, 07:17 PM   #3191
Specterx
 
 
Join Date: Dec 2007
Posts: 1,155
Quote:
Quote from darkhorse:

It is not implausible to me, for example, to imagine a scenario in which the poor and indebted middle class are the ones that pay through the nose for bad CB policies -- in the form of stealth inflation and real wage erosion -- even as paper assets stay elevated for years.

The "who pays the piper" argument is tricky because there are many backdoor ways for the piper to potentially get paid. One of those ways is to perpetually screw an underclass that doesn't understand what's happening -- what all those nominal Dow points actually cost in real purchasing power loss.
It's certainly a possibility - I'd put the odds at 50-50 -that we see something like the Dow at 50,000, equivalent in valuation to 5,000 today. But that implies something like a tenfold increase in nominal earnings driven entirely, or more than entirely by rising prices. There's nothing stealth about it and it's not like anything we currently observe happening. Shiller PEs are going up not down, earnings are going down (at least in the fourth quarter!) not up, overall debt levels continue to rise driven by the federal deficit. Asset prices are rising, the nominal currency value of the underlying cashflows are not.

It's just a supposition, but I think we'll come to a moment where the Fed must decide whether to cross the Rubicon and deliberately gun inflation expectations beyond what is currently considered normal, or be forced to let asset prices meaningfully correct. The obvious thing to say is they'll continue to inflate but there might yet be a surprise on this score. The Fed's real mandates are after all to protect the banking system and the government's solvency, to the extent a 50% market plunge doesn't directly threaten these the Fed may well judge intervention to not be worth the risk.
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Old Mar 16th, 2012, 07:39 PM   #3192
darkhorse
 
 
Join Date: Feb 2002
Location: Nevada
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Quote:
Quote from Specterx:


It's just a supposition, but I think we'll come to a moment where the Fed must decide whether to cross the Rubicon and deliberately gun inflation expectations beyond what is currently considered normal, or be forced to let asset prices meaningfully correct. The obvious thing to say is they'll continue to inflate but there might yet be a surprise on this score. The Fed's real mandates are after all to protect the banking system and the government's solvency, to the extent a 50% market plunge doesn't directly threaten these the Fed may well judge intervention to not be worth the risk.
Wholly agree this could happen -- though to my mind that would qualify as a "Minsky Moment" in which a new worse-than-2008 crisis is upon us.

For the Fed to go "nuclear" we would likely need to see the return of economic recession, bordering on outright depression, as such that the stability of the global banking system is again threatened.

But if we get to that point with long bond yields below 3% or even 2.5% -- as bonds will surely have pushed to new heights in such a malaise scenario -- then the Fed is up shit creek without a paddle. What happens when you've cranked the defibrillator up to 10 and still no patient response?

If you imagine a scenario where the economy is deflating and the Fed is out of bullets -- other than pulling out the nuclear option -- too hard of a "deliberate inflation" push could finally be the straw that breaks the bond market's back (while sending precious metals over the moon).

A fear of total breakdown in the system could lead to treasury bonds collapsing in the midst of a Felix Zulauf "inflationary depression" mentality, as the odds of paper currency getting debased to confetti get priced in. This is the outcome where unemployment hits GD levels and gold goes to $10,000 per ounce.

We could get from here to there... I just imagine it would be a process, for ex. a multi-month or multi-quarter deterioration, not a sudden event.

All idle speculation of course...

p.s. Correction -- what I described there was a Fed with its back against the deflationary wall. You were referring to a pre-stage event to that, more of a 1937 scenario, where the Fed decides to withdraw support even as the economy stumbles.

I rather doubt this will happen, as Ben Bernanke knows the lesson of 1937 and fears deflation more than inflation. But if it does, and the underlying economy is as weak as the macro bears say it is, we would still wind up in the Minsky place I described.

p.p.s. Ironically, for the economy to successfully withstand the blow of a 50% market drop and full Fed withdrawal, the underlying state of things would have to be stronger than all the permabears believe, which in turn circles back around to the bullish argument that things aren't as bad as they appear. Just give me the charts thanks...
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