The Dow Jones Industrial Average fell by over 600 points Friday, and is primed for a substantially larger and prolonged bear market, perhaps taking the Dow down by over 50% in the next 2 years. The news media is blaming the coronavirus pandemic, but there is much more to this market panic than 15,000 people out of a world population of 8 billion getting a bad flu!
Famed economist, lawyer, and New York Times best selling author James Rickards compares the current state of the financial markets to snow that has built up on a mountain side. Every day new snowflakes fall, and nothing happens except the snow keeps piling higher. Eventually, just one more snowflake falls, and the side of the mountain comes crashing down in an avalanche, destroying the villages below! As any casual observer will point out, that one snowflake didn’t cause the avalanche. Instead, it was the systemic risk that was allowed to build up. The final snowflake was simply a trigger. And if it wasn’t that snowflake, it would have been a different one.
Systemic risk has built up in our financial markets, and the world’s financial markets, to a level greater than anything we have seen in our lifetimes. This is the longest and largest bull market on record. Interest rates are at historic lows, or negative, with bonds priced at levels never seen in 5000 years. Meanwhile, the financial ground below us has been trembling with overnight lending (repo market) disruptions, and a debt bubble so large that individuals, corporations, and governments have no way to pay their obligations without a default. So they borrow more to prolong the inevitable.
HOW DID WE GET HERE?
Living in Denver, near some of the best skiing in the world, avalanches are prevented by occasional, purposed, detonations designed to lessen the risk on the mountain sides.
In the financial world, these detonations are known as “recessions”. They used to be caused by the Federal Reserve raising interest rates, purposely slowing or stalling the economy so that its excesses do not build up. Or, as they used to say, “the Fed would take away the punch bowl just as the party got started.”
Since the Greenspan years, the punch bowl never gets taken away. Market participants are drunk on the juice of free money, and they party on like it’s 1999. We see multi billion dollar initial public offerings (IPOs) of companies that have no earnings. We see retail bankruptcies at record levels, as companies have foolishly taken on debt they cannot afford. We see trillion dollar annual deficits at the federal government. We see corporations going into record levels of debt so they can buy their own shares creating the appearance of increased earnings in the short run. We have a Federal Reserve central bank that is printing currency (paper or digital) like never before, creating all this appearance of wealth. Meanwhile, the financial avalanche of risk continues to build.
Every time it looks like the economy is slowing, or the stock market is about to turn down, the Federal Reserve, along with other central banks, turn on the printing presses, printing more and more and more currency. We now have QE4 (quantitative easing) taking place, yet again. “Quantitative Easing” is just a fancy term for printing more currency.
In their heart of hearts, the central bankers believe they can prevent all recessions by printing currency, that they are omnipotent financial wizards greater than markets themselves. They haven’t felt the need for periodic detonations, and are now faced with the choice of allowing even greater risk by printing even more currency, or the financial destruction of our villages. So they keep printing. Meanwhile, the avalanche builds further!
The coronavirus didn’t cause the market to drop 600 points on Friday. And it won’t be the cause if the market continues dropping the 50+% I expect is coming our way. The coronavirus is only a snowflake on an avalanche of financial risk. If the coronavirus doesn’t trigger the catastrophe, some other event will! It’s only a matter of time.