Will the stock market crash in 2012 or 2013?
2012 brought a change to global stock markets we have never witnessed. The unprecedented money-mongering of central banks has caused stock exchanges to completely unhitch themselves from economic reality. Markets now react inversely to their economies, a situation that begs for a devastating stock market crash.
The great stock market bubble of the Great Recession
What is new in the last few years for stock markets in major economies is quantitative easing. As central banks have created money by creating massive deposits in banks out of thin air, investment banks have put that money into stocks. Speculators, witnessing that the stock market goes up every time reserve banks add to the money supply, made a shift in 2012 that will prove calamitous. Most buyers in the stock market no longer buys stocks because business looks good. The market is predominated now by speculators who buy stocks whenever the economy goes down because they know that means free central-bank money is going to be pouring into the market soon. A dying economy has become essential to a rising stock market because the stock markets rise has been built out of the free cash of quantitative easing. No one should be able to miss seeing the sickness in that symptom or the likelihood of a stock market crash when the market’s success is directly proportionate to the economy’s failure. The markets cannot rise forever by betting their economies will fail.
In other words, speculators started gambling more throughout 2012 on how central banks will respond to bad economic news than on what that news means for corporate profits. For the first time in the history of stock markets, bad news has become good news. Worse news, better news. And the worst of all economic news has become the best of all news for stock markets. For the worse things got, the bigger became the next creation of new free money that syphoned into the stock market. Each time central banks have flooded their economies with free money, that money has wanted to go somewhere other than just sit in bank accounts, and it is especially easy to speculate with money that is free. Where better to do that than in the massive casinos of Wall Street and other global stock exchanges?
The Federal Reserve cannot mess with the economy on such a grand scale without creating an artificial economy around its own actions — like a fire creates its own wind. So, the efforts of the Fed (and the other central banks who have copied the Fed) to prop up stock markets with money creation have resulted in stock markets that are now entirely driven by and addicted to money creation. Markets never ignore money. These markets have become inverted from normal operation since the new money is massively minted (so to speak) when the economy looks its worst.
Thus, the Federal Reserve and other central banks have created in the countries they are meant to serve stock markets that have unhitched from the actual economy. Common sense tells you that cannot possibly be good. These are not healthy markets; they are sickly co-dependent markets. All the seemingly good news of markets rising in the past year is merely the result of markets speculating with huge cash bubbles created by central banks. Because stock markets have inflated themselves based on speculation over the likelihood of more quantitative easing, they have become dependent on more quantitative easing in order to sustain those prices. So, now the central banks have trapped themselves into having to provide more Q.E., or they will see the markets they have inflated collapse.
We have gone from a credit boom that crashed right into a cash boom in order to avoid the pain of the credit bust.
Swiss bank begins warnings of a stock market crash
The Telegraph reported this week that
Asset prices across the world have risen to heady levels not seen since the credit boom five years ago and may be losing touch with economic reality yet again, the Bank for International Settlements has warned…. Yields on morgtage bonds have fallen to the lowest level ever recorded. Spreads on corporate debt have narrowed to the wafer thin margins of 2007, even though default rates are currently three times higher than they were then for junk bonds and twice as high for investment-grade companies.
…The venerable Swiss-based institution – almost alone in warning of a global debt crisis in the build-up to the Great Recession – said it is rare for markets to gather steam at a time when the major forecasters are turning gloomy.
Stock markets have come unglued because they are following the money, and the money now runs in the opposite direction of the economy. If you’ve been reading The Great Recession Blog, you’ve seen that as it developed. The Telegraph refers to this as an anomaly in the market and noted that the recent rise in stock prices is doubly odd, given that there has been a corresponding rise in the number of companies announcing lowered profit expectations. Yeah, that ought to be a huge red flag that the economy is flying inverted. While inverted works O.K. for barnstorming in a stunt plane, it makes for a lousy landing.
Projections for the market based on business sense mean nothing anymore because there is more cash coming in when the economy goes down than when it goes up. Because the European Central Bank and the Federal Reserve and the Bank of England have all taken on rolls as the lender of last resort, they have made bad economies good news for investors. Cash will always seek a place for investment. Moreover, interest-rate cuts have made bonds look unattractive because of central bank bond buying. If money cannot find a good investment in treasuries of some kind, it generally moves to stocks.
One other warning sign for a market crash that the Swiss bank sees is that cross-border lending in Europe in 2012 took its biggest drop since 2009, the peak of the economic crisis.
The banking bubble of 2012 may become the stock market crash of 2013
It is not that markets are behaving irrationally. It is that they are behaving completely rationally to the inflow of enormous amounts of new money. So huge is the inflow of new money that it has become more significant than the inflow of revenue to corporations to where no one cares what the profit of a corporation is going to be so much as they care about how much money the Federal Reserve or other central bank will create to juice the economy. Everyone is betting on what other investors will do in response to the money-creation of central banks.
Here’s one sign that the new market has become dependent on the quantitative easing that has fed it. The Federal Reserve announced Q.E.3 at the end of summer, but Q.E.3 evolved in just a couple of months into what the Fed has announced as an endless Q.E.4 by saying that it will continue quantitative easing from this point forward until the job market recovers or inflation gets too high. What was once a rare shot of economic stimulant has now become continual mainlining of cash. The markets have built up a tolerance to this drug and now need an endless dose to maintain their artificial high. Never mind that the job market sat flat or declined through all previous rounds of quantitative easing, and increasing jobs is supposed to be the Fed’s goal. All it has increased is market speculation.
The Fed now injects new money into the economy at the rate of an additional $85 billion a month. That’s major addiction. Most of this money, of course, is directed at buying U.S. debt. Under quantitative easing, the Federal Reserve assures its reserve banks that it will buy any government bonds they want to sell and will guarantee them a small profit (a premium basically) on each one, taking all risk out of buying U.S. bonds. So, the banks buy the bonds; the Fed buys them from the banks at a premium by simply declaring new money in the reserve accounts of those banks. With all that new money, the banks either invest in more bonds or in the stock market. By doing this the Federal Reserve is enabling the U.S. government to keep its interest low on its unprecedented debt spending. Other central banks are doing the same thing; but is there capacity to keep doing this endlessly? With everyone in the same game, I believe this is building toward a worldwide catastrophe that will exceed the crash of 2008.
Why am I so certain of a stock market crash?
The answer is “fundamentals.” Isn’t this just another pyramid like the credit boom that inflated housing prices? Easy housing credit was equal to lots of cash that could be spent only in the housing market to bid up the prices of homes. When credit couldn’t be loosened any further, prices couldn’t be bid up any higher, and reality set back in. In the present boom, central banks will eventually reach the limit of their ability to sop up government bonds and will have to stop. The central banks keep creating vast sums of money out of thin air to buy these bonds because they do not see inflation, but that’s because they’re looking in the wrong place. The new money is not currently creating inflation in prices in the grocery store; it’s creating inflation in the prices of stocks. Because the Fed does not monitor the price of stocks as an indicator of inflation, it believes its new money is not creating inflation. History from the housing crisis tells us that speculation that is supported by the creation of easy money reaches an end-point, and does anyone know how that will happen or what it will look like when we’ve never created new cash on such a massive scale before?
The central banks are not only trapped in their own plan by the dependency of the markets that have wrapped around them; they are trapped by their governments’ dependency. If they stop sucking up national bonds as the creditor of last resort, their government’s interest rates will rocket upward because those governments will have to quickly attract a huge number of new buyers, as regular banks will stop buying at existing rates as soon as the Fed stops guaranteeing them a secondary market. With interest rates skyrocketing, nations will lose their ability to refinance their skyrocketing debt as the current bonds mature, and national defaults will begin. In my opinion, the central banks banks that are playing this game are creating an enormous mess of co-dependency all around themselves, and co-dependency has no good longterm prospects because it is sickness, not health.
With the housing credit bubble, the market rose until no one was able to expand the terms of credit any further. New buyers could not be found, and so defaults began. Game over. So, I wonder how, when and where the present cash bubble tops out as it is being created in the bond market and spilling into the stock market. All bubbles rise until they pop, but this one look big enough to be an all-out explosion.
In 2012, stock markets became completely dysfunctional because of their dependency on this central-bank cash creation. We have merely avoided feeling the lows of the Great Recession by inflating it with a massive bubble of a new kind. Nations have deceived themselves into believing the Great Recession ended because growth began again as a result of this expansive bubble … but it was still all growth financed on debt. This time the debt is governments taking over the bad debts of their people and adding these to the governments’ own debt. It is all debt upon debt after years of debt spending. We are so addicted to the lifestyle that debt has bought, that we just can’t stop ourselves. End the artificial support of these markets, however, and you’ll see what a belly the Great Recession really has. You’ll see the Great Recession is still all around us but kept out of view by the shiploads of money printed every month.
Here is the play-by-play of the causes of the Great Recession in the U.S. as an example of what may come: Housing prices could not be supported without continuing the extremely loose credit regulations that allowed ever easier financing. Since real wages were not rising, the rise in housing prices necessary to a growing housing economy was dependent upon the rising availability of cheaper and easier credit. When credit was deregulated as far as it could unreasonably go, there was no way for people to afford even more expensive houses. So, housing prices froze at the highest level people could afford. Now unable to build the equity that comes with inflation in housing, homeowners were unable to refinance when their adjustable rate mortgages converted to the higher rate or when their balloon payments came due. They had purchased speculatively, counting on the belief that housing prices always rise; so, they thought they could refinance due to the equity they would gain in their homes just by sitting on them a few years. With fewer people able to bid the price of homes up any further, the frozen market began to fall back down within itself. The house of cards had reached its peak, and it collapsed.
The federal government, however, and its cohort the Federal Reserve, didn’t want to see an economy built on the endless expansion of home construction collapse, so they propped the housing economy up again by finding ways to reduce interest rates to rock-bottom levels. The Fed has done this by buying up government bonds in larger quantities than ever before. Thus, it managed to make housing loans even cheaper … once again … but I think it has gone as far as it can with lowering long-term interest. To a small extent, that has kept the prices of homes from falling as far as they would have, and the housing market has even started to slowly lift. The nation was not willing to feel the pain of letting prices come down to where people could afford homes under reasonably secured credit terms with reasonable buffers, so the cost of easing that pain has become the cost of a rigged stock market and pitiful bond interest for investors. The Fed cannot keep that game up forever because of its collateral damage to the rational operation of other markets, so the game does have to end. We are distorting stock markets in order to pump massive cheap credit toward the housing market, yet getting very little lift for all that effort in housing and a lot of lift in stocks because that is where the money made by banks due to the Fed’s bond buying is going.
It’s an impossible assortment of plates to keep spinning. You cannot have both solid credit principles, profitable interest for investors on their money, and not let housing prices fall to what people can safely afford under those credit terms. Seeking to avoid the pain of economic correction, we have only managed to forestall it, as I said when I started The Great Recession Blog. Sooner or later, we have to pay for all this debt we’re piling up, and the social cost of that will be enormous. We took individual debt and piled it into government debt and financed that by creating money out of thin air to buy that government debt in the form of bonds. Because there were corporate banks in between the Treasury selling the bonds and the Federal Reserve buying them, we kidded ourselves into believing the nation was not financing its own debt, but adding a middleman doesn’t change who the end buyer of U.S. debt is. So, the whole thing is a charade of people in high places deceiving themselves.
The new bubble is a hyper-bubble, the likes of which we have never known because we are doing it in all the major stock markets of the world at a faster rate of money-creation than we ever imagined possible just six years ago. All of this also means the prop to housing is temporary. No one knows what height this pyramid can reach before stock markets crash since the new game has players that are bigger than any previous pyramid builders (now being done by nations and their central banks). Even the central bankers who are running this experiment cannot know what the limit is because this kind of massive money printing on a global scale has never happened. The U.S. alone is “printing” a trillion dollars of free money a year. That is one fast-spinning money pump. It’s hard to imagine that something circulating money that quickly is not going to burn out soon.
Will the “fiscal cliff” cause a stock market crash in 2012 or 2013?
While others are predicting the fiscal cliff could cause an economic recession to reappear as higher taxes stymy growth, I think the real threat from the fiscal cliff is just that — if we even go over it — it could cause serious movement in the stock market as people try to realize capital gains ahead of tax increases. That could trigger a dysfunctional market into a sell-off. In that case, the deep flaws in the market could cause it to break up. Many will say, if that happens, that the tax increases caused the second dip of the recession. In fact, the ground for a crash into the second dip has been laid by the Fed for several years now (but the ground-laying especially ramped up in 2012).
The economy won’t fall because higher taxes dampened investment. It could fall, however, because a sudden change in capital gains tax creates incentive to reap capital gains ahead of the “fiscal cliff,” while the taxes are still low. If enough people try to capture their profits ahead of a tax change, that sudden movement could cause the top-heavy iceberg to roll over, and the market has no reason to right itself if that happens because fundamentally our economy is a sham because we are merely easing our own pain on the backs of future generations.
The fiscal cliff is not our biggest concern. I do not think the taxes, themselves, will be calamitous; rather the market is so fundamentally flawed that major movement to capture gains ahead of the taxes could cause its deep flaws to break. Even if the fiscal cliff does not happen at all, we are heading into a year of decline. My only concern about the fiscal cliff is if it triggers people to sell in order realize capital gains at the last minute ahead of tax increases, the house of cards on Wall Street could all blow up. If that doesn’t happen, it doesn’t mean the market is safe. It just means this trigger that could have caused the whole market to give way didn’t happen or didn’t happen with enough force to trigger a sell-off. I am more concerned that the market will keep building until we reach the natural end of this pyramid scheme.
When will the stock market crash?
The natural end to this artificial market comes (even without a triggering event) when the free money that has stimulated these market gains in the face of each piece of economic bad news can no longer be created without creating hyper inflation, then the stock markets will crash because their value over the years has become detached from the real marketplace of products and people. That’s the natural end, but often things slide a little sooner because of some triggering event … when they are nearly ready to give way anyhow.
I don’t know if 2013 will become the year when the pyramid tops out. Really, no one can know how long this charade can continue because we have never seen anything like it. One thing is certain: the longer quantitative easing goes on as a way of keeping markets from falling, the less stock market value is based on real market value, and the worse the stock market crash will be when it does happen. The gap between solid ground and this contraption we are flying inverted in is increasing every day.
Whether the fiscal cliff triggers this crash or not, the fundamentals outlined above lead to some interesting predictions I will soon be making for 2013.