Big Picture Observations and 1929

My concern with this market and economy is the fact that analysts and commentators have great justifications as to why stock valuations are the best it's ever been, yet the methods by which the valuations were generated had been questionable methods from the start.

How could anyone believe GAAP accounting rules (or suggestions) when this method was clearly managed and manipulate all along? How am I supposed to believe, now that we've been routed in the stock market, that this method of accounting is useful? Didn't we have the same problem crop up after Enron and Worldcom? Didn't we have the same problem with the Dot-com bust? Wasn't Sarbane-Oxley legislation supposed to stop the use of off-shore investment vehicles?

Despite the credentials of Mr. Bernanke and Mr. Paulson, how could we believe the Federal Reserve and Treasury will fix the problems in the banking system and economy? Mr. Bernanke has spent much of his time as an academician pouring over the financial crisis of 1929 yet he does just the things that replicate many of the worst reactions to financial crisis throughout the history of the banking world . Mr. Paulson had spent his time as CEO of Goldman Sachs creating the very financial instruments that threaten the world economy. Are we now expected to believe the Mr. Paulson will impartially manage his role as Treasury Secretary?


Didn't the ratings agencies like Moody's, Fitch, and Standard & Poor's have a clear and present conflict of interest on the debt they were rating as top quality? It seems to me that collecting fees from those that you're supposed to be rating is a lot like a conflict of interest.

Since when do banks name their own lending products "NINJA" or "no doc" loans? Why would banking institutions offer products that normally require due diligence but give up that right and responsibility? After not doing their due diligence and being on the brink of failure the banks get a bailout with taxpayer money and the public is told "consider the alternatives."

From my studies of economics and banking history since the first banks of Genoa in the 1400's, each day that money is shoveled into the market and banking system the pain of prior periods is prolonged. This is what has made this market seem to drag out the pain of the last year of stock declines. Using the market decline and banking panic of 1929 as a template, we're not projected to hit a bottom in the stock market until 2014 if no new bailouts come into play and 2018 or longer if the Fed and Treasury keep adding money to the system.

Stock Market Observations About the Period From 1929 to 1932

Nothing, so far, that has happened in this stock market is inconsistent with what happened during the decline of the stock market in 1929. The only exception is the fact that the banking system is being threatened at the onset of the stock market decline, whereas banks weren't truly put to the test until 1931. What follows are my observations of the bear market rallies from 1929-1932.

Within every market decline or rise there are at least three major periods (or legs) to the move. The three periods in a declining market are offset with short moves higher. These moves are typically called a bear market rally. Bear market rallies often look like a new bull market but are really expressions of exhaustion. This means that the market should continue its decline however it just needs a break. The stock market decline of 1929 to 1932 was exceptional in that it has six major bear market rallies. Giving investors plenty of chances to take advantage of the markets rise which inevitably wiped out whatever remaining assets that small investors had.

Let’s examine the six bear market rallies of 1929-1932 to better understand what we might experience in the current market. After the Dow Industrials declined 47% in two months from the high of 381.17 to the low of 198.69 the first rally began on November 13, 1929 and ended on April 17, 1930 at a level of 294.07. The amount of the increase in that period was exactly 48% and lasted five months.

The second bear market rally started on June 24, 1930 at the level of 211.84 and ended on September 10, 1930 at a level of 245.09. The amount of the increase in that period was 15.7% and lasted less than 3 months.

The third bear market rally took place from December 16, 1930 and ended on February 24, 1931. The increase of that rally was 18.96% and lasted a little over 2 months.

The fourth bear market rally started on June 2, 1931 at the level of 121.70 and ended on July 3, 1931 at the level of 155.26. The amount of the increase was 27.58% and lasted 1 month.

The fifth bear market rally began on October 5, 1931 and ended on November 9, 1931. The amount of change during that period was 35.05% and lasted slightly over one month.

Finally, the sixth bear market rally lasted from January 5, 1932 to March 10, 1932. The amount of gain within this period was 19.85% with two periods of 20-plus percentage gains within that period which lasted only 2 months.

The decline of the stock market from 1929 to 1932 was very short. Yet it was brutal on the downside. In just under three years the market dropped 89%. We may not be on track for a 1929-style decline. The alternatives could be the one like that of the period from 1966 to 1974 which didn't get to break-even until 1982. The decline from '66-'74 lost 60% on an inflation adjusted basis. Another idea is that the markets go dramatically higher without ever looking back. This scenario seems highly unlikely but it could happen just the same.

The period from 1929-1932 declined very quickly and for one reason, the government didn’t have its hand in the bailout of the financial institutions along the way. The decline in the stock market wasn't the cause of the depression, I believe the cause was the banking collapse of 1931. The banking crisis then, as with today, was due to the prior periods of malinvestment and projections based on apparent prosperity. Touc.

Background on some of causes of the worldwide Banking Panic of 1931 and collapse are below:

• BodenCredit
• CreditAnstalt

It Happened Before...

The last time the Dow Jones Industrial Average hit a 4% yield in a declining trend, as it did in 1987, the market reversed its decline. While I am not overly enthusiastic about the American economy or the stock market over the long term, I believe some relief has to come our way, however short the respite lasts.

Who knows if it will do the same now but it is worth watching for the possibility.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.

A Worrisome Sign...

A factor that needs to be considered when looking at the Dow Jones Industrial Average is the Dow Jones Transportation Average. When someone says "how'd the market do today?" most people are referring to the Dow Jones Industrial Average. However, the Transportation Average is also a key element to determining the health of the stock market and the economy. In fact, the Industrial and Transportation Averages are a critical components of Dow’s Theory.

Right now the Transportation Average is at the level of 3416.16 while the more widely known Industrial Average is at the level of 8253.58. Although these indices are far from former highs there is an alarming characteristic about both market barometers that must be pointed out.

According to Dow’s Theory, a new major market upturn is signaled when both the Industrials and the Transports have bottomed and are both moving higher. As long as both indices go above the high of a previous peak in the market then the “bull” market is in place.

In the chart below, from the period of Oct. 1995 to Oct. 2004, you will see that the Industrials (blue line) reached a new low (green circles) on September 30, 2002. The Transportation Average (red line) reached a new low on March 3, 2003. Even though the Industrials were already moving higher in late 2002 it didn’t mean a new “bull” market was in place. Only when both the Industrials and the Transportation Average have hit [a] bottom and move higher together does it confirm a possible reversal of the trend.

As I mentioned before, both indices hitting a bottom is only the first indication of a possible bull (rising) market. The next step is that the indices needs to go above the previous market peaks (purple dashed lines) in the order of lowest peak to highest peak. Initially, the Industrials didn’t go over the 2nd market peak but ultimately did. On the other hand, the Transports went above the previous peaks without any problem.

The dilemma that we’re faced with in this market is the opposite of what happens during a bull market. In a bull market the indices will have to go back to the last and highest prior peak to confirm the strength of the move upwards. In a bear (falling) market, prices will (or need to) fall to prior lows in order to confirm the trend.

In the chart below you see the current state of the market and how much the market rose from the bottom in 2002/2003 (green circles.) On the chart below the Industrials (blue line) are currently near the low of 7528.39 back in 2002. Also notice that the Transports (red line) are very far from the low level of 2042.48.

My concern with this picture is that in order for the Transportation Average to fall back to the prior low it would have to decline a total of 41% from the current level of 3462.67. This is a tremendous amount for any index to lose in a market where losses have been to the tune of 30% or more. Even more alarming is the fact that the Dow Industrials have fallen a total 10 points for every 3.5 points for the Dow Transports.

If in fact the Dow Industrials were to fall to the equivalent of the decline of the Dow Transports then the Industrials would have to fall and additional 5344 points based on the 10:3.5 ratio. This is a phenomenal amount to consider given that we’ve seen so much destruction of wealth so far. Touc.

Nassim Taleb tells it like it is...

Please follow the imbedded link to an abbreviated interview with Nassim Taleb author of the book Black Swan. Touc.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.

Brutal upside movement

Today the Dow Jones Industrial Average has jumped over 900 points during the trading day. While this is very exciting, we have to be aware that the Dow will face significant difficulty in getting to 10,000 and staying above that level.

As mentioned before on this blog, The Dow will trade in a range slightly above or below the 9531.11 level or fall back down to the 7773.71 level. A decline to the most recent low would equal a decline of 18%. If you can stomach the downside risk then hold your position. On the way up to the 9500-10,000 level, rather than take additional risk, consider this a good time to research the best and safest alternatives. This market will continue to provide gut wrenching moves, so prepare yourself now for what is to come.

If you have an interest in the nature and extent of the banking crisis then I strongly recommend that you read the Bloomberg article titled, "Banks on the Edge." So much information is in this article that you'd probably come away with a license as a bank examiner once you're done. A hard copy version of this article is strongly recommended. Touc.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.

Get ready to be fleeced again!

In my October 1st article, I pointed out how ineffective the Federal Reserve Bank's $1.8 trillion has been on the economy and the banking system since December of 2007. The point of the article was to show that bailouts don't work, never have and never will.

Well, today I look at the news headlines and I see that General Motors (GM) is interested in buying Chrysler but it doesn't have enough cash. But wait, wasn't it just this past Thursday that GM hit a new 58-year low in the stock price and was thought to be under threat of filing bankruptcy. Hmmm, how could a near-bankrupt company acquire another money losing car company when it is also in the throes of death?

Wait a minute! Didn't they just pass a bill in Congress on September 25th granting the auto makers a $25 billion bailout loan intended to prolong or save the industry? What hasn't happened in the 16 days since the passage of the bill? What in the world is going on with this system that money can be easily drummed up for an industry on a moments notice and then it is lost or proven ineffective?

I'll tell you what I think will happen to the money though I can't prove it yet. I suspect that Cerberus Capital Management LP, majority owner of Chrysler, took whatever money is available from the gov't and kept it for themselves. Then, they get GM to merge the bad assets into the newly combined entity. Only problem is that even with some portion of a $25 billion bailout loan, GM doesn't have enough money to complete the deal.

This transaction has all the characteristics of the PG&E bankruptcy in 2002, whereby the company "ring-fenced" it's assets so that bankruptcy courts couldn't or wouldn't include this wealth in the bankruptcy proceedings.

The Federal Energy Regulatory Commission (FERC) on Wednesday upheld a plan by utility PG&E Corp. to shield assets of its unregulated subsidiaries from creditors, denying objections raised by California state officials and by other companies.

"FERC Upholds PG&E Plan." The Oil Daily (Feb 22, 2001)

What's worse in this case is the fact that Cerberus Capital exploits the taxpayer and then keeps the valuable stuff while either merging into GM or filing bankruptcy. The process of bankruptcy or merging with GM would be the final step in fleecing the taxpayer. Touc.

Sources:

• Simon, Richard. "House OKs aid plan for automakers." Los Angeles Times. September 25, 2008. C-1.
• Strumpf, Dan. "GM shares tumble 31 percent to 58-year low." Associated Press. October 9, 2008.
• Krisher, Tom. "Analysts: GM would need cash to acquire Chrysler." Associated Press. October 11, 2008.
• "FERC Upholds PG&E Plan." The Oil Daily. Feb 22, 2001.
• Lazarus, David. "PG&E Can Spin Off Profitable Assets." San Francisco Chronicle. February 22, 2001.
  

Big Money Exit

Many people are confused as to the reason why the markets are falling day after day without any real relief. Why are the declines in the market so orderly and smooth? Why hasn't there been a crash, which in theory would mean that there might be an actual bottom?

The reason might be as simple as a strange rule that was set up as a result of the stock market crash in 1987. The rule know as the "circuit breaker rule" which says that if the stock market was to fall by 10% before 2pm EST the stock exchange would be closed for one hour. If the stock market was to fall by 10% after 2pm but before 3:3opm EST, then the market would be closed for 30 minutes. A similar rule exists if the stock market were to fall by 20% before a specified time.

So you see, if the market were to fall by 10% then there would be an outright panic in the stock market. The big institutions don't want the public to see a halt in the market at a time when the public already didn't want the bailout bill to begin with. Imagine what would happen to the markets if the average mutual fund investor said, "forget it, once the market reopens I'm outta here."

The solution to this problem is to program the big institution computers to avoid the selling if the market gets within 2.5% of a 10% down day. If you look at the stock market movement at the end of the day today, you'll see a concerted effort by the big money to conceal their effort to get out without disrupting the "orderly" nature of the overall decline.

Essentially what the "circuit breaker rule" has done is to provide every incentive by the institutions to make the market not hit the 10% decline which would halt the market and spark a panic. Since the Big Money has all the tools at their disposals to offset a true panic we get declines in the 3% to 7% range. It was quoted on Fox Business Network that of the approximately 2 billion shares traded today 4 million took place after the New York Stock Exchange closed bringing the index down 100 points after the official close of the day.

Clearly this is an effort by the Big Money players to get their money out while not inspiring a panic and at the same time getting the taxpayer to pay for the reckless mismanagement of our money in the Big Money institutions. This is a truly sad day for capitalism and the free markets. Touc.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.

The Battle Lines May Have Been Drawn

The above chart shows what the Dow Industrials have done since hitting the 9525.32 level. Yesterday, the Dow attempted to go above the 9525.32 level and didn't succeed...so far. I don't think many traders or investors are intentionally targeting this level. However, it appears as though there is a battle for control of this price level on the index. What are the implications of this "battle line?" My guess is that we'll see this level revisited after falling to a extreme (albeit temporary) low or high in the market. At which point the index would wander around this level for what would seem like a long period of time (3 weeks to 4 months.)

Note:

On the right hand column please take a look at the Dow Yield Watch indicator. This indicator follows the current yield of the Dow Jones Industrial Average and places it in the context of the historical yields of the index. Traditionally, whenever the Dow had a yield of 6% the index would start a new bull market towards a yield of 3%. Likewise, when yielding 3% the Dow would embark on a new bear market towards a yield of 6%.

At the current yield of 3.50%, the Dow is slightly overvalued and, if continuing on its trend, is headed to the undervalued level of 6%. To put this concept into perspective, if the Dow were yielding 4% then the index would be at the 8,107.75 level. Touc.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.

Book Recommendation: Crisis Investing

Because of the extraordinary circumstances that we are faced with in the financial markets, I am compelled to ask that everyone buy the book Crisis Investing by Douglas Casey. Are you wondering what the safest place to invest in markets like this? Do you want to know what happens to your money during inflation, disinflation or deflation? What happens to government bonds when the government can't pay?

You have questions and Crisis Investing has a perspective that you won't hear about on any cable television station. Crisis Investing helps you to look ahead of the current problems and see things from an angle that is both unique and useful. Good Luck. Touc.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.

Review: Stock Research Using Dow’s Theory

Today I will review the dividend paying stocks that I did research recommendations on using Dow’s Theory. The reason I am selectively choosing these stocks to follow up on is that they, like the Dow Jones Industrial Average, have shown the ability to go to or near the levels that I calculated in earlier postings. For the time being we’ll have to assume the price movement in the stocks is merely a coincidence. With that in mind, let’s follow up on what I said and what the stocks have done so far.

Air Products and Chemicals

• On September 29, 2008, I said: “Air Products and Chemicals Inc. is estimated to fall between the $61.84 and $53 levels.”
• On October 6, 2008 APD actually went as low as the $57.69 level before closing at $61.93 the very same day. $57.69 is $0.27 away from the exact middle of the range between $61.84 and $53.

Walgreen

• On September 24, 2008, I said: “With all the drama that we’re seeing in the stock market I’d assume that the [Walgreen] price will go as far as the $26.91 level.”
• On October 6, 2008, WAG went as low as $26.17, a difference of $0.74 from the estimated low and closed at $27.54 the same day.

Archer Daniels Midland

• On September 5, 2008, I said: “The next stop for the 3rd and final support level before total collapse is $20.95.”
• On October 6, 2008 ADM fell to the $16.55 level and closed at $18.37 the same day.

Nucor

• On September 3, 2008, I said: “Dow Theory says that NUE may fall to the $38 or $32 level.”
• On October 6, 2008 NUE fell to the $$28.97 level and closed at $33.75 the same day.

Personally, I believe all of these stocks are poised to increase in value from this point until the Dow Jones Industrial Average reaches the first of the three resistance levels at 11,734. After reaching the 11,734 level it is strongly recommended that you consider your exit strategy if you end up purchasing any of these stocks. Good Luck. Touc.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.

A Key Point for the market

Today the Dow Jones Industrial Average has fallen to the minimum of 9525.32. This exceeds the Dow Theory projection of 9531.11 posted on this blog on September 17, 2008 by 0.0006%. Nothing that has happened thus far is surprising according to Dow's Theory.

It becomes academic at this point to suggest that we are either going to the 7197.60 level or either of the next three points on the upside:

• 11,734 (23.18%)
• 12,969 (36.15%)
• 13,727 (44.11%)

Like today's action, the move will be violent on either side up or down in a very short period of time. Touc.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.

The Fed's $1.816 Trillion Lifeline Didn't Work

The figure in the title of this site is the amount of money committed by the Federal Reserve Bank since December 17, 2007 until September 23, 2008 in an effort to boost confidence in the financial system. Since December 17, 2007 we've had the failure of Bear Stearns, Fannie Mae, Freddie Mac, IndyMac Bank, WaMu, Wachovia, Merrill Lynch, and various other financial institutions which would have failed but were sheltered in some way or another.

The above figure of $1.816 trillion is the amount that the Federal Reserve has committed to no avail. This does not include the many decreases in the discount rate and Fed Funds rates. These rates have fallen as dramatically as the Fed's tab has increased.

Sure, not all of the money went out at the same time and not all of it was evaporated into nothingness. However, $1.816 trillion is the amount that has been holding the hands of weak or hobbling financial companies. Did it stop the bleeding? Of course not. Which is the reason why the Treasury now feels the need to step in and bail out AIG and ask for $700 billion as the first of many more requests for funds to "save" the financial markets.

As a market historian and participant, I know that no amount of action like restrictions on short selling or throwing money at the problem will solve anything. Notice that the ban on short selling didn't stop WaMu and Wachovia from falling 95% after the ban was put in place.

We cannot seek solace in the fact that our Congress feels compelled to commit an additional amount of $700 billion to the problem. Not only that, giving the Treasury Secretary immunity from criminal charges while handling the nation's purse strings seems troubling to say the least.

The markets cannot correct themselves until the bailout efforts stop and the market resolves the problems that we're experiencing. We as investors can only hope that we're better than Japan in resolving the exact same problem that they experienced over the last 2 decades. If we're not equal to the task at hand then we might be fated to experience a similar 18 year recession (depression) which included Japan's stock market falling from 38,000 level in 1989 to the current level of 11,000.

Click on the link to learn more about Dividend Inc.

Questions or Comments? Email our team. Thanks.