Why the market roars as the economy whimpers and sighs

A couple of weeks ago, I asked you all to explain to me why the stock market is so excited, even as the dollar is weak, unemployment is high, and national debt soars.  Naturally, I got many interesting answers back, with inflation being cited as the chief culprit.  Robert Arvanitis, who already provided an information-packed response, hasn’t forgotten that post, and he sent me an interesting update:

To follow-up prior discussions, here’s an excellent exposition at WSJ on inflation. [Note from BW: This article might be behind a paywall. Both Robert and I have accounts, so we can’t tell if it is.]

In short, the Fed is fabricating a trillion dollars a year. Direct inflation is already deadly, but for now is buried at the banks.

Even before we suffer the direct inflation, the monetary failure is already having bad effects.

· The markets no longer give us the right price signals, so vast capital is being misallocated.

· Borrowers, most notably Obama himself, are getting a destructive free ride from low rates. More accurately, I should say Obama is “borrowing 1,000 billion a year.” Too many people don’t realize it’s meaningless for Obama to say “We borrow just one trillion but have cut 10 billion….”

· Meanwhile, any thrift is punished harshly by those low rates. Here the elderly suffer most.

As Glenn Reynolds would say, “But watch the whole thing…”

Bookworm here, with my summary:  Big bubbles, big explosions. Or to shift metaphors, the smart ones should be looking to hop off this merry-go-round. It’s about to break down and there’s not going to be anything romantic about it:

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    Thanks for plugging away on this topic. It’s all smoke and mirrors in a game of Monopoly, speaking of which…the “iron” has been replaced with a “cat” and the cat is out of the bag. Note, not all of inflation is buried at the banks – just ask me or any neighbor how their food bills have jumped, along with insurance premiums.
    the Fed creates $85 billion in reserves every month… it will do just one thing: hand the cash right over straight to still hopelessly insolvent European banks.
    The Fed’s Bailout Of Europe Continues With Record $237 Billion Injected Into Foreign Banks In Past Month

  • http://OgBlog.net Earl

    Well…..what’s a citizen to do?
    We can’t control Obama, that’s for sure.
    I hear people saying get out of stocks, but what’s the alternative?
    I like Harry Browne’s advice – for the money you can’t afford to lose: 1/4 growth stock funds, 1/4 federal government money market funds, 1/4 long-term federal government bond funds, 1/4 metallic gold.  Keep ’em balanced.
    Go get The Economic Time Bomb for $4.00 used on Amazon, including shipping.  That will explain why this is the safest you can be in an unsafe world.  If it makes sense to you, you’ll end up sleeping a lot better at night.
    And No…..I do not profit in any way from the sale of Harry’s books.

  • http://ymarsakar.wordpress.com Ymarsakar

    “I hear people saying get out of stocks, but what’s the alternative?”
    Precious metals and minerals.

  • http://ruminationsroom.wordpress.com Don Quixote

    Perhaps there is a much simpler explanation.  A few years ago, I attended a presentation in which a fellow from Merrill Lynch predicted the current rise.  His reasoning was straightforward and classic.  Prices, relative to earnings, he said, were at an all time low. 

    I think we forget sometimes that stocks are nothing more than certificates of ownership in companies.  If the companies are doing well, or even if they are merely predicted to do well, the price of their stock should go up. If, as the fellow contended, prices were low relative to the performance of the companies, it is hardly surprising that the market made the proper adjustment.

  • http://photoncourier.blogspot.com David Foster

    DQ…prices relative to earnings….the “cheapness” of the market depends on whether you look at earnings as snapshot in time, or as an average over several years. Some interesting data at this link

  • http://ymarsakar.wordpress.com Ymarsakar

    Occam’s razor isn’t really about human evil goals and motivations. Not a known variable.

  • Mike Devx

    DQ, for #4, I agree that your simpler explanation is best.  But I would like to add a little complexity.
    As you said, “If the companies are doing well, or even if they are merely predicted to do well, the price of their stock should go up.”  Investors make a profit when they buy low and sell high (or reap capital gains while continuing to hold).  This argument would seem to indicate that individual companies are doing well, and are therefore being rewarded – individually – by their stock prices rising.
    But aren’t there many other factors that would cause stock prices to be expected to go up?  Are all these companies doing well, so well as to justify the incredible increase in stock prices across the board?  Wouldn’t our GDP reflect so many companies doing so well?
    Other possible factors:
    – The general business climate stabilizes.  Companies can project and plan.  They can expand.  They’d be expected to grow, especially if they’ve been holding back solely due to uncertainty.  
    – Inflation itself.  Stable stocks ought to rise with inflation almost automatically.
    – Currency devaluation.  Print a whole bunch of money (or just add astronomically to the debt), and the worth of a dollar declines – therefore the “value” of the stock rises.  Devalue your currency by half, and the price of everything ought to double, including stock prices.  This is closely tied to inflation but seems slightly different.
    – Supply and demand.  If “demand” rises because people want to keep pushing more of their money into stocks, but “supply” (stocks) remain relatively constant, then stock prices should rise.
    – A focus on short-term gains only.  If market analysts merely think that conditions over the next, say, three to six months will be positive, that will fuel stock price gains, because they are looking to ride a “wave” such that they can sell when they think the wave will peak.  It has nothing to do with the long-term prospects or health of *anything*.  It’s merely a risky short term game, trying to ride the wave and predict its short-term behavior.
    I’m sure there are other factors.
    I think the concern is that Obama Administration domestic economic policies are very much like those of FDR policies in the 30s, and that the economy will behave therefore in exactly the same way:  It will stagnate and remain at its severely underperforming level, rising a little, falling a little, just bumping along the bottom, incapable of any real improvement.  If true, then expectations of future performance gains are an illusion, and it’s only a matter of time before investor confidence is lost, as the “real world” eventually intrudes upon the fantasy.
    Add to that the *other* effects of currency devaluation and inflation caused by the massive debt – and add to that the possibility that the professional investment class may soon bail out of a short-term “wave” – and you have your ticking time bomb.
    I guess, in sum, if you truly believe we are trapped in a moribund, listless economy, with little hope for long term improvement, you should expect a market crash, because we would be in a very large speculative bubble.  The question would then be, WHEN will the crash occur?  Next month?  Six months from now?  Two years from now?

  • http://photoncourier.blogspot.com David Foster

    I think the Obama economic policies are FAR worse than the FDR policies. At least much of the FDR “stimulus” created things of lasting economic or other value…dams, bridges, highways, parks. A very high % of the Obama “stimulus” is merely about vote-buying, with no concern at all for the value obtained for the money.


    “The question would then be, WHEN will the crash occur?”
    It’s doesn’t have to be a head-on crash.  I see it more like a Chevy Volt. Charging stations for electrical vehicles that don’t exist or aren’t being used, pretty much like the 11 or 12 million unemployed or under-employed. For the vehicles still running on fuel, they’ve got dings, scrapes and bald tires and they’re sputtering fumes as they pull up to the pump. In the end, we’re pumping money into a vehicle that will never pass inspection. The sound you hear, is the grinding noise of worn brake pads.

  • http://ruminationsroom.wordpress.com Don Quixote

    DF, thanks for the link. It does suggest caution, with the data to back it up.  I agree about FDR versus Obama, too.

    Mike D., I agree that some or all of the factors you name, especially speculators, can have an effect.  Still, I think it is proper to staert with the baseline of the current performance and realistic prospects of the individual companies.  By the way, it is entirely possible for the NYSE and NASDAQ stocks to do well, while the overall economy stagnates.  If Obama’s programs are as bad for small business as people say they are, small businesses may take the bulk of the economic hit while large businesses prosper. 

  • Mike Devx

    Well, when 40% of government spending is financed by debt, and that would be somewhere around $ 1.5 trillion this year, that money created out of thin air is going SOMEWHERE.  It’s got to be having a positive impact for someone, somewhere.
    Double my credit card max limit and let me spend all that “money”, and I’m going to *appear* to be rather prosperous… for a short while.
    If the debt-money is all going to companies in the NYSE and NASDAQ – especially those controlled by Democrat donors – then I guess you’d expect them to be rewarded in the stock market.

  • http://OgBlog.net Earl

    Y’all are making Harry Browne’s point — none of us knows what’s going to happen, or what’s making it happen.  Therefore, putting all your eggs in any one basket is a bad idea.
    Precious metals and minerals ALSO go up and down, as anyone who looks at the historical prices (even in constant dollars) can see.  If all your investment money were in gold/silver/etc., you’d be in GREAT shape at the moment, but what if you’d needed to retire in 2001 or so?  It’s important to have a system that allows you to take (and preserve) profits, and avoid having to sell when things are in the toilet.
    Remember, I’m getting nothing from sales of The Economic Time Bomb, but I assure you that following Harry’s advice will guarantee that you “buy low and sell high”, regardless of what you are buying and selling.  I heard Jim Eason interview Harry in 1989, and for the very first time heard an investment strategy that made common sense….the fact that it allowed me to pay attention to my investments only every three months, and then for less than an hour, sold me. 
    I’ve done VERY well with it for 25 years, and encourage you to read the book.  Or not, of course – everyone gets to make their own decisions in this matter.