Could this be a Bear Market Trap?

Mumbai, India

Yesterday marked the one-year anniversary of the rally. The Dow rose a piddly 11 points. Gold sold off $1.

This rally has gone on for so long most people think it is not a rally at all, but a new bull market. Worldwide, it has taken equities up some 73%... making it one of the greatest rallies ever.

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What are we to think? Are we alone in thinking it is still a trap? What happened to the problems that led to the crisis of ’07-’09?

If you don’t think about it too much you might conclude that everything is fine. Stocks are up. Business profits are up. GDP is up. Housing and unemployment seem to have stabilised. What’s not to like?

The recovery is a done deal as far as most people see it. The rescue efforts, initiated by the feds, were a big success... or so they believe. It has been 12 months since the bottom... and the world still has not ended. Everything is back to normal... isn’t it?

The problem in ’07-’09 was that too many people owed too much money.

And what has happened to change that? The net level of indebtedness in the US has actually gone up since ’07!

Huh? How’s that? We’re in a de-leveraging phase, aren’t we?

Well... yes... but only in the private sector. The feds are still adding debt.

Let’s look at the private sector first. There, we find unemployment still around 10%. Adult males in their prime working years, however, have fewer jobs than ever before. One figure we saw shows that only four out of five of them are working.

That is just the beginning of the problem for these fellows. They’re getting fewer college degrees, compared with women, than ever before. They’re earning less money too – again, compared with women. Fewer are the chief bread-winner in their households. And fewer are even in a household at all – more are alone.

Let’s not get distracted by the suffering of the male part of the population...

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... we’re looking at what is going on in the broader economy. Is it healthy and growing? Or is the stock market just a honey trap... a bear market trap for the unwary investor?

The private sector is de-leveraging. Not only is the unemployment rate high, the typical family also lost a lot of money when its house went down in price. And since the typical householder is also in his 40s or 50s, he has to consider his retirement and how he’s going to fund it.

Stocks? While they’ve bounced back nicely the stock market is still well below its highs... and still in a losing position over the last ten years. A 73% gain sounds nice, but it would take a 100% gain to recover the losses of the ’07-’09 bear market.

Houses? One out of four mortgaged houses is still underwater. In some new developments, the figure is as high as one out of two. And there is little likelihood that the owners will be safe and dry any time soon. People no longer expect to retire on the gains from their houses.

This leaves the middle-aged householder without much choice. He has to save money. Remember, the boom of the 2003-2007 period was caused by dis-saving. Now, a higher savings rate will mean less spending for many, many years. This is a fundamental change of direction for the economy. It will restrict business growth and restrain profit growth too.

So, is it possible to slough off the crisis and return to business as usual? Nope. Not possible. You can pretend that things are back to normal. You can act as if they are back to normal. You can invest as though they are back to normal. But you can also lose your money.

But they’re not normal at all. They’re different. The 1982 to 2007 period was... mostly... a boom time, caused by rapid increases in debt, asset prices and consumer spending. The next period is... mostly... a bust time – when asset prices, private debt and consumer spending go down.

Sooner or later, but probably sooner, the stock market will realise it. Our Crash Alert flag – tattered and faded – is still flying.

*** The private sector ruined itself in the bubble of ’03-’07. Now, it’s the public sector’s turn. All over the developed world – with a few exceptions – the feds are adding debt at an alarming rate.

The US has already passed “the point of no return”, says a report from Casey Research. Ken Rogoff and Carmen Reinhart put that point where external debt passes 73% of GDP or 239% of GDP. IMF data, says the Casey team, shows the US has already too far on both scores, with external debt at 96% of GDP and 748% of exports.

*** We’re in Mumbai, India, checking in with one of our ‘strategic partners’.

In our family office, where we keep the family money, we take big bets over long periods of time... working with strategic partners who are knowledgeable about key sectors.

Last year, we missed the rally in US stocks. But we’re lucky in our choice of friends and business partners. Two of our strategic partners – one in the resource area... the other in India – more than doubled our money.

Over the last 12 months, Mumbai’s Sensex index has gone up more than 108%. But our bet on India is for the very long term.

In the recent financial crisis, that bet seemed to go bad. Foreign investors pulled their money out of India along with other emerging markets – even though India had very little exposure to the banking crisis itself.

What’s ahead? Seven percent GDP growth this year... nine percent next year. The first figure is news. The second is a forecast. But there are good reasons to be bullish on India for the long pull. Stay tuned...

*** “Go for it.”

Our son Jules, 22, is with us here in India. We are training him like Julius Caesar was trained. Caesar worked as his father’s right-hand man. Then, he took over... as head of the family... Imperator of the Army... conqueror of Gaul ... and Pontifex Maximus.

But Jules has other ambitions. He is aiming for a career in music. He has given himself two years to see if he can make it in the music business. Last night, his father gave him some advice:

“You should take this time of your life to look around... read everything you can... try to figure out who you are and what you want to do.

“As you get older, you don’t have that luxury. Your time will be committed to projects that you can’t let go of. The more you know the less you can learn... because your time is too valuable.

“If you become a lawyer, for example, you earn money by practicing law. The better you get at it, the more you earn... and the less you can afford to do other things.

“You might get $300 or $400 an hour as a lawyer. As a plumber or a computer repairman, on the other hand, you might have negative value. You might enjoy fixing the sink, but you might also do more harm than good.

“Right now, your time isn’t worth a lot... so you should use it to do things you won’t be able to do later.

“Oh, and don’t expect success in just two years. It might take 20 years. But what difference does it make? Twenty years from now, you’ll be 42... whether you’re doing something you really want to do or not. So you might as well figure out what you really want to do and do it. Stick with it.

“I wish I were in your shoes.”

“But dad, you like what you do.”

“Well, I have to like it. I can’t afford not to...”

“Hmmm...”

Until tomorrow,

Bill Bonner
For The Daily Reckoning

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