Markets are all in a flurry – Dow down, gold down, AUD down, government bond interest rates up. The only safe place in the last month has been in cash, term deposits and USD.
But remember, it will not always be so. There will be a time to exit cash – that time isn’t just yet.
So what is causing the great sell off in non-cash investments?
- Is it China’s central bank refusing to supply liquidity to its cash strapped shadow banking system?
- Is it Bernanke hinting at merely tapering (not stopping) the Fed’s $85 billion per month bond and mortgage purchases?
- Is it Japan’s print and be damned policy?
- Is it rising unemployment in Europe?
- Is it social unrest in Turkey, Brazil and Syria?
Certainly one or more of the above global issues are having a negative impact on market sentiment.
But let’s step back a few paces and ask why they are happening. These events are not the cause; rather they are symptoms.
The Great Credit Contraction thesis that determines our asset allocation model is the cause. The events outlined above are merely the consequences of a global economy no longer supported by the debt drug.
The Squeeze is On
Markets have enjoyed a free ride on the coat tails of the central banks printing presses. History has shown us time and time again that artificial wealth creation has a limited shelf life. The volatility in markets is an indication the use-by date on this strategy is fast approaching.
The talking heads (the share brokers with their paid for comment spots on TV) make me chuckle every time they utter their nonsense on why the market has moved up or down.
Bad job data, good job data, lower than expected PMI in China, better unemployment in the US – pick any reason to validate the daily gyration. Day to day, week to week, month-to-month the market will respond to various influences. However over-arching all of this is why these influences occur.
For nearly thirty years the global economy recorded GDP growth due to the massive injection of private sector debt – baby boomer consumers living beyond their means.
Those glory days are now behind us. The baby boomer is mentally preparing for retirement. Clearing the decks of debt and trying to build a retirement portfolio.
Hundreds of millions of baby boomers in the developed world are changing their spending and savings pattern. Less spending and more saving by this demographic powerhouse equals lower growth.
This is lousy timing for governments who (for political reasons) have cultivated a big brother welfare dependency culture.
A slowing economy does not generate higher tax revenues (ask Swannie, sorry, Bowenie about this). So how does government pay for their welfare promises?
- Increase taxes – not a good option. Numerous studies have shown that increased tax rates actually generate less tax revenue. People become dis-incentivised.
- Larger budget deficits – this can happen for a while but even governments cannot borrow to infinity. Japan is rapidly approaching the end of their debt rope.
- Reduce government expenditure – in the absence of a brave political leader, this will not happen until the ‘brick wall’ is plainly evident to everyone. By then it will be too late to take corrective action. Just ask the citizens of southern Europe. In the not too distant future France will also face this reality.
So the Great Credit Contraction will do the job the political and banking leaders will not do.
It Will Correct the Excesses in the Financial System
In the days before central bankers – the 1800′s and early 1900′s – depressions were reasonably frequent and relatively short lived. People behaved recklessly and the market dealt them a quick and brutal punishment. They took their medicine, licked their wounds and started again.
These days every kid gets a prize, no one gets hurt in the playground, sadistic criminals have rights, and the government is the solution to all our problems. Personal responsibility is determined by the courts, not our consciences.
Little wonder we have a financial system that reflects this culture. Policy makers cannot regulate out of existence the laws of economics, as much as the policymakers wish it were so. In the same way they can’t get rid of the laws of gravity.
The Great Credit Contraction has been slowed by the central bankers’ determination to alter the laws of economics. The events of the past month demonstrate the formidable power that is unleashed when hundreds of millions of people alter their consumption habits.
Bernanke will not taper, the Chinese authorities will change their mind and start printing, the Japanese will continue speeding towards the brick wall, Europe will also join the printing party.
These are the only actions this bunch of desperados have left.
The tanks of the Great Credit Contraction keep rolling forward. The central bankers have fired their best shots and delayed, but not stopped the advancement. The only artillery they have left in their arsenal is reams of worthless paper.
The recent volatility is a dress rehearsal for what awaits investors. When The Great Credit Contraction rolls into town, it will not take any prisoners.
All markets – except cash and term deposits – will get caught in the crossfire. Shares, property, precious metals and fixed interest will be casualties.
Baby boomer retirees with balanced portfolios will suffer such losses they are going to re-consider their retirement plans.
The policy making morons that deliver this Armageddon to our doorstep will have all wandered off on tax payer funded pensions, leaving unprotected investors to pick up the pieces.
Forewarned is forearmed – take precautions now to make your portfolio bulletproof.
Vern Gowdie
Contributing Editor, Money Morning
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