The Big Picture - Macro Perspective on the Capital Markets, Economy, Technology, and Digital Media

Next Super Boom — Dow 38820 By 2025
Stocks Catch Up With Inflation,
But First Inflation Catches Up With Government Spending
Jeffrey A. Hirsch & Christopher Mistal

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The Great Recession likely ended in the third quarter of 2009. The Great Bear Market of 2007-2009, the second worst of all time, has been stampeded by the current bull. But new highs have not been achieved and the lingering global financial crisis seems to be growing new legs in the Eurozone, rattling the stock market in recent weeks and threatening to cut short the second year of this bull market.

We still expect our 2010 Annual Forecast to pan out, culminating in a more substantial pullback over the next several months, before rallying again into 2011 and 2012, potentially 50% from the 2010 low, whatever that may be. However, like in the two previous secular bears of the 1930s and 1940s and the 1970s and 1980s, we may be in for a few more years of sideways action before reaching new all-time market highs.

Money will still be able to be made, especially for savvy traders who can spot value and take profits. Though we may breach the Dow’s October 2007 high of 14164 over the next few years, we suspect we won’t leave it behind for good until the end of this decade. Several factors lead us to this analysis and a few major developments will need to converge for this to transpire.

For the 2011 Stock Trader’s Almanac, which goes to press this week, we wanted to addresses this long term view and wanted to share a sneak peak with you, our loyal Almanac Investor subscribers. From this Proving Grounds we have created a brand new page based on the analysis discussed here. We will likely continue to revisit and update this study in these pages as developments warrant.

We have dedicated much space and time to this topic and last touched on the phenomenon of how war impacts the market in a blog post on our old blog Pulitzer Material Underscores War & Markets. In our 2009 Annual Forecast we summed it up.

“The single most important non-cyclical influence that has held sway over the stock market is war.… as the new administration takes power, the reality that seven years [now nine years] of foreign conflict may be drawing to an end bodes well for the markets. As the chart illustrates, the market has failed to make any significant headway so long as the country is embroiled in a significant conflagration.

“For detailed analysis refer to the December 2004–February 2005 issues of the Almanac Investor [in the archives]. While we have commented and updated numerous times since the initial publication (which was in fact a reprisal of Yale Hirsch’s original work from 1976) the basic analysis still holds true. The markets have been all but stuck in a trading range since the Iraq War began on March 19, 2003. … While there have been large rallies and pullbacks, there has been no real advance made since 2000. …

“By real advance I am referring to moves that leave the previous highs behind for good – the greater than 500% moves that have historically occurred between all of the major wars the U.S. has been involved in.”

In the updated chart above the long-term range-bound markets surrounding World War I, World War II and Vietnam are shaded. The long Super booms and bull markets are bracketed with the Dow’s performance. The original analysis was based on the massive inflation caused by government spending related to war. Once the war ended, inflation kicked in and the stock market took off as higher prices, peace and prosperity generated long booms and secular bull markets as we detail in the March Proving Grounds: Nature of the Bull.

Booms & Busts of the 20th Century

As we have watched government spending increase dramatically over the past two years in response to the global financial crisis and The Great Recession, it became clear to us that there is more at play than just wartime inflation coming home to roost. All three previous secular bear markets associated with the three major wars of the 20th Century were also affected by financial crisis that required a great deal of non-war-related spending to stave off . The subsequent booms were driven by peace, inflation from war and crisis spending, and ubiquitous enabling technologies that created major cultural paradigm shifts and sustained prosperity.

The Rich Man’s Panic 1901-1903 and the Panic of 1907 preceded World War I. Henry Ford perfected his automobile assembly line in 1913 as WWI was brewing, but cars did not really begin to replace horses until after the war as the Twenties began to roar.

World War II helped get us out of the Great Depression. But it was not until the rise of the middle class in the 1950’s when our predominantly agrarian society morphed into suburban sprawl during the baby boom and everyone needed a house filled with appliances like TVs, refrigerators, washers, dryers, etc. Roads were built so folks could commute to their jobs in the big city.

As the Vietnam War began to wind down in the mid-1970s, oil crises, Watergate and Mideast turmoil, plunged America into stagflation, that nasty combination of recession and inflation. The advent of personal computers drove the first phase of the last super boom, before the Internet and cell phone fueled the greatest boom since the Industrial Revolution.

The Next Super Boom

The War on Terror may never end, but despite continuing violence in Iraq/Afghanistan, U.S. troop withdrawals remain on schedule. There may be some minor delays as the pace of the withdrawals is being adjusted in response to conditions on the ground, but most combat troops will be out of Iraq this summer and the force is expected to be down to 50,000. Resolution on the formation of a new Iraqi government is necessary before we can be convinced that the U.S. will be able to stick to the plan of having all combat troops out of Iraq by the end of 2011.

Afghan president, Hamid Karzai and President Obama seemed to be more on the same page yesterday as some military and political progress is currently being made in Afghanistan. U.S. troop reductions in Afghanistan remain on schedule to begin in July 2011. Delays will likely alter the actual dates, but the trend and plan remain clear. We are working towards disengaging on those fronts. And this is a crucial component of the Next Super Boom.

Inflation has not yet materialized and we are still “at war” with government spending on the rise. This has always led to massive jumps in inflation eventually. We expect that it will happen again over the next several years. In the charts below we compare the annual percent changes in U.S. Government spending (outlays) to inflation (CPI). In the 1953-2009 chart you can see the recent pop in spending. We contend that inflation will be right behind it over the next few years.

The final piece in order for the next super boom to come together is enabling technology. We won’t try to claim that we can foresee the future and know for certain what the next enabling technology will be, but we have a couple of ideas. We suspect that the next cultural paradigm shifting technologies will come from Energy Technology and/or Biotechnology.

Oil spills, climate change and high prices are making it more apparent that we need better ways to feed our power-hungry gadgets, homes, vehicles and society. As government initiatives make investment in alternative energy and off-the grid solutions cost-effective, innovation is bound to materialize. Outfitting the planet could generate a boom. Biotech is promising because of all the health issues that exist and the potential it has to impact everyone. Actual cures for diseases opposed to merely treating them would certainly touch every consumer (probably globally). Cancer, heart disease, diabetes—just think of all the money that could be made and all the lives that could be touched.

As markets and economies struggle over the next several years, remember to keep your eye on the future and get ready for the Next Super Boom and the next 500% move in the market. From the last bottom in 1974 it took eight years before the market really took off in 1982 and then another eight to move up the rest of the 500%, in line with Yale Hirsch’s prediction in 1976 for a 500% market move by 1990. A 500% rise in the Dow over 16 years from the intraday low of 6470 on March 6, 2009 would put the Dow at 38,820 in 2025.

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Originally published at Stock Traders Almanac. Reprinted with permission. All rights reserved

The July S&P/CS 20 city home price index fell .13% m/o/m but was up 3.18% y/o/y, both about in line with expectations. The index at 148.91 is at the highest since Dec ’08, 7% off its April ’09 low but still remains 28% off its July ’06 record high. Of the 20 cities, half saw y/o/y gains led by San Francisco while Las Vegas led the declines for the other half. Washington, DC is the healthiest market in the country (I wonder why) as measured by its premium to the overall index and Detroit is the weakest. The July measure of home prices reflect the post tax credit environment where demand fell sharply. We thus should await for a more ‘normal’ dynamic between supply and demand to properly gauge pricing. With this said though, the foreclosure process still seems all mucked up which will also distort the price discovery process.

Ken Fisher channels my monkey comments to diss PIMCO’s Mohamed El-Erian and their “New Normal” thesis.

I disagree with the New Normal thesis, but for very different reasons than Fisher does. (Note: I am a fan of his book, The Wall Street Waltz). I’ll post more on this later this week, but the shorter version is: The past few decades have been aberrational, and we are returning to the old normal.

As to the markets, I still believe the same thing I first observed in 2002: This is a secular Bear market, one likely to last 10-20 years, with strong rallies and selloffs occurring on a regular cyclical basis (think 1966-82).

I assume the next Bull market will start some time in the coming decade — 2015? 2017? Based on that, they both can be partially correct — the next few years can show mediocre returns, followed by a nice surge into 2020 and beyond.

“The next decade will be as good for investors as the 1990s, said Ken Fisher, the billionaire chief executive officer of Fisher Investments Inc., dismissing notions that developed economies face below-average growth.

Fisher said the concept of a “new normal” is “idiotic,” pitting him against money managers including Mohamed El-Erian, the CEO of Pacific Investment Management Co., which coined the term to describe a world of high unemployment, more regulation, and the shrinking importance of the U.S. in the global economy.

“We are chimpanzees with no memory,” Fisher said at the Forbes Global CEO Conference in Sydney. “The next 10 years are going to be just as good as the 1990s. The problems in this current environment we think are so different, and so new and so unique. It’s the same stupid old normal we’ve always had. We’ve got a great future.”

Where I disagree with Fisher is on the Fundamentals — in the 1990s, we had a massive build out in numerous tech industries: PCs, Networks, Software, Mobile, Storage, Semiconductors, etc. These are now much more mature industries, with the hockey stick portion of growth behind us.

I am less inclined to believe that alt.energy (solar, batteries, biofuel) nano-tech, and genetics can ramp up to that level of revenue and profit.

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Source:
Ken Fisher Dubs Pimco’s New Normal Concept ‘Idiotic’
Angus Whitley and Jacob Greber
Bloomberg, Sept. 28 2010
http://noir.bloomberg.com/apps/news?pid=20601010&sid=aYM44M0dT.NE

Soleil: Perspective
Vince Farrell
Soleil Securities Corporation
Chief Investment Officer
Phone: 212.380.4909
vfarrell-at-soleilgroup.com
www.soleilgroup.com

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You all know the feeling. You get back from vacation mellow and full of good cheer for your fellow man, and then reality rushes in. It sometimes takes until Monday lunch, but rarely longer. Catching up on stuff I read summaries of the Fed’s statement last week. Uncle Ben said he’s ready to unleash Quantitative Easing II – QE II – and buy a bunch more stuff and that will set the economy right. The feeling is he will spend $1 trillion buying longer dated Treasuries to force interest rates down and revive bank lending. The stock market seemed to like it and rallied. The rally was also credited to a hedge fund manager that has been unusually good. But if the mountains of cash that drift around the world are funneled to a market because one guy touts the advantages of said market, we are grasping at thin straws indeed.

And why bother with another round of Fed spending? We spent, or the Fed did, over $1.5 trillion buying mortgage securities, agency paper, and some Treasuries and we have over a trillion of that still on deposit at the Fed. And we still have the fear of deflation, although that seems to have eased the last week or so. I suppose another trillion can’t hurt, but I don’t see how it helps. Large scale asset purchases would lower rates but that’s not the problem. The problem is the consumer is way overleveraged and lacking in confidence. For banks to start lending you need loan demand. The small businesses that need the money don’t qualify and the big guys the government wants to borrow have lots of cash.

A round of QE II will not work. If you gave a party and no one came your social standing would be trashed (not that I know from first hand experience or anything like that). If we tried QE II and it flopped, the market might be badly rattled. Better to threaten you’re going to launch. But then Hank Paulson hoped that the threat of his TARP bazooka would straighten the market up so it would march properly to the tune of money, and it didn’t. Ben, back off. Don’t play the bluff. QE II would be a huge mistake. QE-I didn’t rejuvenate bank lending or stop deflation fears and QE-II won’t either.

When consumers are as indebted – still – as they are, flooding the system with more money won’t do it. Thanks to Capital Economics in Toronto, a research house I subscribe to and wouldn’t do without, we have an up to date picture of the American household balance sheet. The total debt (and here we mean all debt, public and private) to GDP ratio fell in the second quarter but only because GDP grew. Debt in total grew $154 billion to over $50 trillion. That’s over 340% of GDP. Ouch!

Household debt fell $77 billion in the quarter and is now down $473 billion from its peak. But household debt to income is still at 123% and while there is no magic number, my guess is it should fall to less than 110%. And, there is always an ‘and’ or a ‘but’, roughly half the decline in consumer debt is due to defaults, and not pay downs. The Federal Deposit Insurance Corporation says in the second quarter total bank charge offs of residential mortgages, credit cards, and other consumer loans was $37 billion, or almost half of the $77 billion decline mentioned above. Since the beginning of 2008, bank charge offs on consumer loans have totaled $263 billion, or 56% of the reduction in household debt.

Maybe it doesn’t matter how the debt is paid down, but I suspect banks that take the loss care. Also, individuals that default will be denied credit for years which has to feed back into consumer expenditures. Savings are up, but Capital Economics figures if savings stayed at 6% of income where it has recently been, and if the savings were used to pay down debt, the debt to income ratio would take until almost 2012 to fall to 110%. 100% debt to income would not be reached until the end of 2012. Either way, the consumer is not likely to be a growth engine.

As the Fed continues to debate what form, if necessary, their next round of QE will take as evidenced by today’s WSJ article, the CRB raw industrials sub index (includes most everything except energy) closed at a record high last night dating back to its introduction in 1981. Commodity inflation is a global phenomenon and the Fed’s analysis of the US output gap and unemployment rate to gauge their inflation forecasts seems to be missing the big, worldly picture. Days before the release of the cost to Ireland of the Anglo Irish Bank rescue, S&P said they think it will be above their high estimate of 35b euros. In response, Irish 5 yr CDS is rising back to a record high above 500 bps and Portugal is just shy of a record at 443 bps. Yields in both countries are also sharply higher. Anglo Irish 5 yr CDS is up by 25 bps to 960 bps, a new record. Germany’s Oct consumer confidence was a bright spot, rising to the highest since May ’08.

Last week, we noted Robert Prechter’s Dow 2,000 forecast.

Today, we are going to the other end of the scale: A wild Dow 38k forecast from the usually sedate Jeff Hirsch of Stock Trader’s Almanac (UPDATE: Full report here)

Bloomberg:

“The Dow Jones Industrial Average will surge to 38,820 in an eight-year “super boom” beginning in 2017, according to Jeffrey A. Hirsch, editor in chief of the “Stock Trader’s Almanac.”

“All previous major economic booms and secular bull markets were driven by peace, inflation from war and crisis spending, and ubiquitous enabling technologies that created major cultural paradigm shifts and sustained prosperity,” he wrote in a press release sent with the 44th edition of the book.

Hirsch’s forecast comes more than a decade after James K. Glassman and Kevin A. Hassett predicted the Dow would rise to 36,000 by 2005 in “Dow 36,000,” a New York Times bestseller. The 114-year-old average ended 1999 at 11,497.12 and sank as low as 7,286.27 in 2002 following the Internet bubble. The Dow then jumped to a record 14,164.53 in 2007 and fell to 6,547.05 in March 2009 after the worst financial crisis since the 1930s.”

I have no idea what he is thinking, but I will ping Jeff and inquire as to his thoughts on this. I assume he is in the “end of the secular Bear Market” camp in 2017, then a 1982 like ramp up. I do not disagree with the thesis (I’ve been saying that since 2002) but i don’t know how he gets a 3-4 bagger from there.

So I have to file this under “Really, really bad calls.” I’ll mea culpa if we come anywhere near 30,000 by 2025 . . .

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Source:
Dow ‘Super Boom’ to Send Gauge to 38,820, Hirsch Says
Tara Lachapelle and Nikolaj Gammeltoft
Bloomberg, Sept. 27 2010
http://noir.bloomberg.com/apps/news?pid=20601010&sid=a0fkAgaY_Vps

Relative to yesterday’s commentary (The Left Right Paradigm is Over: Its You vs. Corporations), is this Douglas Rushkoff commentary.

I disagree with some of it — you don’t have to sell out to succeed — but its thought provoking nonetheless:

In Life Inc., award-winning writer, documentary filmmaker, and scholar Douglas Rushkoff traces how corporations went from a convenient legal fiction to the dominant fact of contemporary life. Indeed as Rushkoff shows, most Americans have so willingly adopted the values of corporations that they’re no longer even aware of it.

This fascinating journey reveals the roots of our debacle, from the late Middle Ages to today. From the founding of the chartered monopoly to the branding of the self; from the invention of central currency to the privatization of banking; from the birth of the modern, self-interested individual to his exploitation through the false ideal of the single-family home; from the Victorian Great Exhibition to the solipsism of MySpace; the corporation has infiltrated all aspects of our daily lives. Life Inc. exposes why we see our homes as investments rather than places to live, our 401k plans as the ultimate measure of success, and the Internet as just another place to do business.

Life Inc. The Movie from Douglas Rushkoff on Vimeo.

Douglas Rushkoff

If you missed Doug Kass last week, here are the full run of his Squawk Appearances:

Checking Market Pulse

I LOVE this first segment with Doug, which I could have practically ghost written — Doug hits many of my favorite themes, but let’s Kernan get away with too many silly comments:

Airtime: Fri. Sept. 24 2010 | 6:00 AM ET

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Map of the Markets
What’s driving the markets, with Doug Cliggott, Credit Suisse, and Douglas Kass, Seabreeze Partners Management.

Airtime: Fri. Sept. 24 2010 | 7:03 AM ET

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Kass’ Call on Bonds

Airtime: Fri. Sept. 24 2010 | 7:58 AM ET

Discussing a situation that would trigger the end of the bond market, with Douglas Kass, Seabreeze Partners Management.

“Whom the Gods would destroy, they first put on the cover of Business Week.”

-Paul Krugman

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I was speaking with a few other trader/blogger types (they best remain nameless so as to keep their jobs) and this interesting observation was made: It has been exactly one year ago today when a (mostly) fawning NY Magazine article on Zero Hedge came out: The Dow Zero Insurgency.

Since that article, argued one of the hedgies in the group, Zero Hedge has seen their influence wax, then wane. The incisive, no hold bars critiques of Goldman Sachs, HFT, regulatory failures and corporate excess seems to have gotten lost in a sea of conspiracy theories, standard gold bug rhetoric, and lots of C grade commentary.

What made the blog great — a singular expert voice (with a few supporting characters) that wrote with passion and insiders knowledge. But that voice seems to have gotten lost in a sea of supporting characters; the original proportions have been inverted.

Its not that the good stuff isn’t there — it is, if you hunt for it. Its just that it is now surrounded by so much other stuff it becomes challenging to locate. (It doesn’t help that lots of writers seem to publish under the name Tyler Durden)  This seems to be the same challenge that many of the multi-author sites have — from Street.com to HuffPo to Seeking Alpha to Minyanville to Business Insider — they must wrestle with this issue on a daily basis. Can you produce more content but still maintain the level of intensity and passion when its a team, and not a single voice?

Whenever a narrow focus and intensity is replaced with an broader emphasis on well, nearly everything, must something get lost in the expansion? I still read ZH — but much less than I used to, now that the inmates have taken over the asylum.

Crowd Query:  A what point does a blog jump the shark? Not just Zero Hedge, but The Big Picture, or boingboing or your favorite blog ___ here?

What say ye?

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UPDATE:September 28, 2010 6:12am

Zero hedge responds here.

Nanex, via Marketbeat, gives us this graphical look at the Flash Crash:

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click for ginormous charts