Real Estate

Yes, it was a massive bubble and no, it's not coming back. Your house is no longer an "investment," it is a liability and place for shelter. If you're waiting to buy at the current "great" prices, keep waiting. We're going down further - MUCH further. A few charts for visual illustration. The first is from Robert Schiller, an economist, and shows inflation-adjusted home values. This chart is a little outdated and the downturn from the current peak is obviously already underway.

The second chart is the Japanese experience with real estate, which for them peaked at the same time their stock bubble did - right around 1990. I copied this chart from another blog but can't remember where I got it.



Interpretation: expect real estate price in the U.S. to do a retrace all the way back to year 2000 prices. Here is a look at the Nikkei stock market, Japan's major exchange, from 1980-2008, with an overlay of the NASDAQ (our main bubble stock market that burst in 2000). Think 10 year lag but same ultimate outcome. History doesn't exactly repeat, but it does rhyme, eh?

How low will we go?

So it's a wicked bear market, but how low will the S&P 500 and Dow Jones go? The final target remains to be seen, but one target is easy to predict. We will re-test the lows of the last bear market set in 2002-2003. For the S&P 500, that means 800 and for the Dow Jones that means 7500.



We will probably reach these targets by the end of next summer, so we're talking about a 30% or so loss in the next year. Are you prepared?

The deflation versus inflation debate

Are we going into deflation or inflation? That seems to be a widely debated topic. I thought inflation would win out, but I was wrong. We're going into deflation for at least 1-2 years. The evidence is and was all there but I thought Helicopter Ben could work some more magic for another round. Now I don't think it's gonna happen (why the hell did I rely on a pseudo-bureaucrat to fix markets?!). This is going to be a wicked, deflationary bear market that is probably not more than half-way done. Though an intermediate-term bottom is likely coming within the next month for the major indices, it will be just that.


How can I be sure of the deflation argument? The chart below, which is from from Ned Davis Research, and the credit market events over the past 14 months.



The housing market crash has caused the debt bubble to begin its implosion. Defaults are accelerating (whether voluntary or involuntary and whether personal or corporate), banks are insolvent and hoarding money/tightening lending standards, the "shadow banking system" of derivatives is frozen, and the psychology has shifted to fear. Once a bubble like that shown in the chart above bursts, it ain't coming back. Notice the last time the debt bubble popped was in the early 1930s. In case you're wondering, yes, we are headed for a similar socioeconomic replay.

If you're not familiar already, now is the time to get into Elliott Wave theory via Robert Prechter and the gang at http://www.elliottwave.com/. I would recommend reading Prechter's book "Conquer the Crash" immediately if you have not done so. We've started the nasty "C" wave down and it's going to get ugly.

Inflation may certainly rear its ugly head once this deflationary collapse finshes, as our country is ripe for a good old-fashioned currency crisis once the dust settles. The guy at this link says it better than I can, but I envision a similar series of events ahead:(http://austrianenginomics.com/ADeflationaryCollapseFollowedbyHyperinflation.pdf)

In any event, the times ahead will not be pretty, and I'm not just talking about the stock market. This is not doom and gloom, this is preparing for a pending reality that has historical precedents in the United States.

Cash, gold and gold stocks, and going short the market are the best investment alternatives. Being a bull on general equities is the equivalent of financial suicide, though nimble traders can play the wicked bear market rallies that will occur. If you don't know what you're doing, SELL ALL YOUR STOCKS TODAY AND GET INTO CASH, preferably using short term government paper equivalents (i.e. 5 years or less duration federal government bonds). Stuffing cash and gold under the mattress for a year or two is a viable option as well. Remember, in a deflation, cash is king!

JPM - short - o - rama

The expanding megaphone pattern is a wild, unstable pattern. This megaphone is SHOUTING for resolution to the downside. JP Morgan is going down - hard.

Bank of America - ripe short

Terminal diagonal at the end of a correction - will we re-test the 25 low and/or the 18 low? Either way me be short, yo (via Jan '09 25 puts).

The Dow to Gold ratio - the aha! moment

Hello-

This my first rant. My goal is to catalog things that are important to my understanding of the financial world and bring a few others along for the education and interaction

Like many, I was taught/believed everything WRONG when it came to managing money and asset allocation in terms of investing. "Hold for the long term," "dollar cost average into stocks," etc., etc.

Of course, it's all bullshit. No one cares about you or your money more than you should. No, money is not the most important thing in life, but there's nothing wrong with taking care of your money just like your apartment, house, or car.

When it comes to understanding the macro environment, nothing made it clearer for me than a Dow to Gold ratio chart. The chart below compares the price of the Dow Jones Industrial Average to the price of one ounce of Gold in U.S. Dollars. In other words, if the Dow Jones is at 10,000 and the price of Gold is $1000/ounce, the Dow:Gold ratio is 10.

Let's take a look over a long period of time (chart from www.sharelynx.com, a great site):



Notice the timeline along the bottom of the chart, as this is a 200 year phenomenon, with the acceleration in the wildness of the swings since we gave a monopoly contract to a private bank to print money in this country (i.e. The "fed," which of course is not federal or constitutional). This chart is missing the most recent data but conveys the message of what you need to know clearly. As a society, we alter between favoring "paper" assets (i.e. Dow Jones as a proxy) and "tangible" assets (i.e. Gold as a proxy). These swings in sentiment and confidence are reflected in the ratio and reflect either confidence in the financial system versus a lack of trust in it. Gold is nothing short of a vote of "no confidence" in Wall Street's financial offerings.

As a basic fundamental investing fact, at major bottoms and tops in this ratio, if all you did was switch to stocks at the bottoms of this chart and switch to Gold at the tops, you would do better than at least 90% of investors over the long run. Other financial and hard asset proxies could create a similar-looking ratio chart, but these two have long and reliable histories with much historical data widely available for those who care to look.

Notice that when a swing in one direction starts, it doesn't stop until it gets to an extreme at the opposite end (though not without wild twists and turns along the way to keep investors alternating between fear and greed). The implication of this chart is clear: at some time in the next decade, the price of one ounce of Gold will be equal (or nearly equal) to the price of the entire Dow Jones Industrial index. As of today, Gold is in the neighborhood of $800-850/ounce and the Dow Jones is in the 10000-10500 range. Clearly, this current "cycle" has a long way to go.

In other words, you are making the wrong decision if you are invested in the Dow Jones (or S&P 500, etc.) for at least the next 2-3 years. This assumes you are not day-trading, playing weekly swings, or shorting the market. The easiest thing to do for a passive and/or novice investor would be to sell all stocks (including foreign stocks, which will tank with us) and buy Gold and possibly Gold mining stocks.

Do you doubt that this cycle can repeat? It has happened with a deflationary decade (i.e. the 1930s) and with an inflationary decade (i.e. the 1970s). We are in the middle of a global crisis in confidence that makes all financial firms suspect and people are wondering whether or not their bank will exist next week. Forget the so called "bail out" package (and the next one that will be proposed) - the government can't stop this train wreck from happening because they helped cause it in the first place, but that story is for another day.

I do not know some of the most important information, which includes the million dollar question everyone who is interested should be wondering: at what price point will these two intersect and when will it happen? It could be at a Dow Jones of 1000 or 20,000 and don't think it is impossible for either of these two scenarios to occur. Personally, I think it will be closer to 1,000 but a currency crisis could change some of the dynamics. The bottom line for investors: we are in a bear market for stocks (stay AWAY! SELL!) and a bull market for Gold (buy, buy, BUY!), and neither is over by a long shot.