We’re simply at the peak: stocks are just too high from a longer-term perspective

Jeffery Frankel writes: The recent stock-market correction – the first in the United States in two years – has invited substantial commentary about what investors should do, the role machines have played, and the implications for the real economy. But only some of what has been said is useful.

Many investment advisers have emphasized the need to think long term, rather than panicking when prices fall. They are right: the decline in early February is not a good reason to sell. What is a good reason to sell is that stocks are too high from a longer-term perspective.

The fact is that prices are still very elevated relative to fundamentals. As the Nobel laureate Robert Shiller two weeks before the correction, the US cyclically adjusted price-to-earnings ratio has been higher than it is now only twice in the last century: at the peaks that preceded the stock-market crashes of 1929 and 2000-2002. The implication is that the rate of return on stocks is likely to be substantially lower over the next 15 years than it was over the last 15 years.

Another popular response to the recent correction has been to complain that the market has been made more volatile, because trading is increasingly carried out by machines, rather than humans. True, if a computer is programmed to respond to declining prices by selling more stocks, it will exacerbate the decline. But the same is true of the commonly used stop-loss order, whereby investors instruct their stockbroker to sell if the price falls to a specified level.

While automated high-speed trading does not, in my view, serve a useful social purpose, it is destabilizing only if it is programmed to be. If programmed instantly to “buy on the dip,” a computer would generate demand for falling stocks and thus tend to stabilize prices, just like a human investor who buys when prices fall. Machine or human, what matters is the instruction. And, in fact, a person writing an algorithm – calmly, in advance – might make smarter choices than one who is watching prices plunge in real time.

Another key question raised by the recent correction is whether it matters for the real economy. The truth is that the stock market can crash while the economy is doing well, and vice versa.

The first reason for this is that stock-market busts can be triggered by interest-rate increases, which are often a response to economic expansion. The correction in February bears this out. It seems to have been triggered by a February 2 report that US wages had increased more than expected, as well as the fact that inflation has risen in the US and the United Kingdom.

For the US, such news all but ensures that the Federal Reserve will raise interest rates in March. And the Bank of England announced on February 7 that UK rates could “be tightened somewhat earlier and by a somewhat greater extent” than had previously been forecast.

A second reason why the stock market is disconnected from the real economy is that there is much randomness in markets. In a speculative bubble, for example, everyone buys because everyone else is buying, causing prices to become disconnected from economic fundamentals. At a certain point, the bubble bursts, and everyone sells.

Last year, a “risk on” mood prevailed in financial markets, rooted in unnaturally low perceptions of future volatility. When the VIX volatility index hit all-time lows, it was not because fundamentals demanded it. On the contrary, it was no secret that substantial risks – such as a pick-up in inflation and faster-than-expected interest-rate hikes – were lying in wait.

But, all too , the VIX would not adjust until the shock materialized and prices plunged. It took the correction in February to wake up investors to the reality of risk. The VIX has now adjusted to more normal levels, but securities prices probably still have a substantial distance to fall. After all, the market is still not far below its peak.

A third reason why the stock market is disconnected from the real economy is that stock prices represent only the current and expected profits accruing to corporations. That is not the same as national income. In the past, this distinction was not as pronounced, because a relatively stable share of national income went to workers. But, over the last decade or so, that relationship has broken down. Owners of capital control a rapidly-growing share of GDP, probably owing to higher economic “rents,” which reflect decreased competition and increased monopoly power in many sectors.

It is possible that last year’s stock-market boom may have been fueled partly by the expectation that US President Donald Trump and congressional Republicans would cut corporate taxes. Now enacted, those cuts will almost certainly do more to expand capital’s slice of the income pie than they will to enlarge the pie itself.

Of course, while Wall Street is not Main Street, there are important connections between the two. A big decline in the market could work to depress consumption and investment spending, reducing income all around.

It is impossible to predict when such a plunge will occur, or whether it will coincide with the next recession. All we can say with confidence is that the abnormally low financial and economic volatility of last year is over. Read original article

Central bank manipulation of the stock market

The US stock market has seen a bounce back to retrace some 50% of the drop in prices from the late January highs, but this was led by central intervention in the S&P500 futures market. Paul Craig Roberts, Michael Hudson and Dave Kranzler write that “it appears that in May 2010, August 2015, January/February 2016, and currently in February 2018 the Fed is rigging the stock market by purchasing S&P equity index futures in order to arrest stock market declines.”

Several articles on this site have covered this subject in the past.  They followed the discovery that in the Chicago Mercantile Exchange’s 10-K filing with the Security and Exchange Commission March 3, 2014, that Western central banks had opened commodities trading accounts with the CME, the significance of which was explored in depth. More recently, there have been revelations about the fact that the central banks of Switzerland and Israel have  bought substantial lines of stock directly on the New York Stock Exchange, without even bothering about the index futures market.

 

 

A rout, not a crash – yet. A sign of what is to come. (Updated Feb 10th)

In a single week, $4 trillion in global stock market value has vanished. The stock market had become complacent toward the fierce rise in U.S. Treasury yields. Trump’s tax cut plan was clearly going to drive yields on Treasuries up by impacting the supply and demand at a time when the Federal Reserve was cutting back on its own purchases of Treasuries in order to normalize its bloated balance sheet in a hurried acceleration of its QE unwind.

Doves on the Federal Open Market Committee (FOMC) like Minneapolis Fed President Neel Kashkari regularly voted against rate hikes in 2017 because inflation was too “low.” As inflation edges up now, the story will change. In its statement after the January 31 FOMC meeting, the Fed specifically pointed at the “low” unemployment rate, and some Fed governors have said that the unemployment rate, at 4.1% for the past four months, might inch down to 3.9% by the end of the year and stay there in 2019, and that these levels would put further upward pressure on wages as employers might have to raise wages to attract workers.

But it is Trump’s political future that will ultimately be the biggest story for the markets. Up until now, Trump has been supported by a calm stock market regularly scaling new heights. No longer, not with the looming mid-term elections. The Republicans having nailed themselves to Trump’s mast will face problems, as Bradford de Long writes, extraordinary or not, Trump is ‘… playing to lose’. While he was insisting that his tax cut legislation had “set off a tidal wave of good news that continues to grow every single day,” actually the markets were reassessing how much that tax cut was actually going to add to the U.S. deficit; how much it would mean in new issuance of Treasury bills, notes and bonds; and weighing how far interest rates would have to rise so that this massive doubling of debt issuance would find buyers.

The Trump tax cut legislation reduced the corporate tax rate from 35 percent to 21 percent. The nonpartisan Congressional Budget Office has estimated that it will add $1.5 trillion to the deficit over the next decade. Now the chickens are coming home to roost, and the chaos of this presidency, and volatility in the markets, will begin to feed off each other. A new Gallup poll put global approval of US leadership at just 30%, behind China at 31% and Russia at 27%.

But as Wolf Richter writes: ‘What’ll happen next? Dip buyers will come in, maybe at this very moment, or maybe later, and some of them will likely get plowed under, but there is way too much cash lined up in hedge funds specifically set up to profit from sell-offs. And dip-buyers have been rewarded relentlessly over the past eight years, and it’s not until the dip buyers get massively destroyed and stop dip-buying that the market is in real trouble.’

We will see considerable turbulence which will probably feed off the ups and downs of the Trump political journey, with a bias to the downside as money will seek rising yields in the Treasury market.

A cause for concern should be that  Robert Shiller’s cyclically adjusted price-earnings ratio (CAPE) is now above 30 – a level previously reached only twice, at the peaks of 1929 and 2000 (see chart below), both of which were followed by stock-market crashes. Also if CAPE is particularly high for the US compared with all other countries, the reason is share buybacks by corporations. So if anyone tells you that the “fundamentals” of the economy are strong, you should know that shares prices and fundamentals have disconnected a long time ago. In a world of financial engineering they have nothing to do with each other.

10th February update: See Pam and Russ Martens for the observation that– on Thursday, February 8, the Dow and the NASDAQ traded in almost complete lockstep. Why would a far riskier market trade in lockstep with the far safer Dow during a market panic? This recalls the bust that began in March 2000. So there seems to have been indiscriminate, wholesale dumping of stock portfolios by traders desperate to raise cash any way they could. The monster difference between the volume of advancing stocks versus the volume on declining stocks also suggests wholesale dumping. Dow Jones’ MarketWatch reports that yesterday the New York Stock Exchange (NYSE) saw 2,683 stocks decline while only 342 stocks advanced. Similarly, Nasdaq saw 2,525 stocks decline while 453 advanced. Trading volume was swamped by declining shares. On the NYSE, declining share volume reached 4.74 billion while advance volume came in at a meager 556.45 million. Nasdaq’s volume tallied out at 2.35 billion in decliners versus 363.15 million in advancers.

The key thing is that hedge funds seems to be liquidating stock portfolios to meet margin calls, that would help to explain the inability of the stock market to sustain a rally. This is what was noted on this site back in December 1, 2017.

 

 

 

This is how the US stock market is going to start its fall

Up until September the main driver in the US stock market has been the institutions. Then retail investors started piling in as usual at the tail end of a long rally. The chart above shows recently increasing yields in US Treasury Bonds, which until recently have been desperately low pushing institutions into equities. Now institutions will shift into Treasuries as yields rise based on (1) End or tapering of QE (which the Trump tax cut was supposed to disguise) (2) End of investment by China in Treasuries (due to  a negative view on the Trump tax cut), which means that the Fed will now have to buy most new issues.

Note that OFR Annual Report to Congress December 2017 (OFR= US Government office for financial research) on page 12 states that stock market valuations (see Market Risk – valuations, risk premiums) are extremely risky (bright red). Traditionally the Fed Reserve System doesn’t care about retail investor behaviour, merely what happens to the main institutions. This time as they are going to be lumbered with funding the US deficit by themselves ( without China, and which the Trump tax cut has made worse by widening the deficit), thus buying most of the weekly Treasury issues: they are going to want institutional support for the Treasury market.

30th January update: The benchmark 10-year U.S. Treasury yield touched 2.7 percent on Monday and early this morning it returned to that level. The sharp rise in Treasury yields produced a 177 point drop in the Dow Jones Industrial Average yesterday. As of 10:07 a.m. this morning, the Dow had lost an additional 334 points. Many market watchers see even more dangerous headwinds for the stock market if the 10-year Treasury reaches a 3 percent yield.

 

 

Sami Anan is arrested

الفريق سامى عنان يعلن رسميا إعتزامه الترشح لرئاسة الجمهورية 2018

الفريق سامى عنان يعلن رسميا إعتزامه الترشح لرئاسة الجمهورية 2018

Posted by ‎سامي عنان رئيساً لمصر 2018‎ on Friday, 19 January 2018

Soon after making his bid to enter the presidential race this March in Egypt, ex-military chief Sami Anan is arrested by Sisi’s goons on the military council for (get this) ‘incitement of the people of Egypt against the military’. So the ‘Road to Democracy’ launched by Obama, Cameron, Hollande and Merkel when they backed the Egyptian coup in Egypt is going well. Right?

How this stock market bubble works (financial survival kit)

 

The US government is essentially being managed by Goldman Sachs employees (in Matt Taibbi’s famous phrase representatives of thegreat vampire squid“). Their goal is to make as much money for themselves as possible. Stock buybacks have been what the banks and major companies have been spending their profits on almost exclusively since the last crash (besides paying just enough dividends to keep stock market investors interested). This pushes up stock prices, reduces the size of the stock market, and increases executives stock options (and so their wealth). Until Ronald Reagan came along stock buybacks were illegal in the US. After deregulation, Quantitative Easing (QE) since 2007/8 has given the banks and corporations the ability to use debt at no cost. It is not surprising that as the Fed announced the end of QE, there should be a massive tax cut to give the corporations the same benefits from the back door.

As Bernie Sanders writes in his book this situation means that the Fed becomes hugely indebted, the corporations become hugely indebted as their share/equity base gets smaller, and now the banks are lending huge sums of money to stock speculators so that they can get hugely indebted as well, buying the shares on margin which need to keep going up for executives at the banks and large corporations to cash in more options at ever higher stock prices. These retail investors will get scalped as usual in due course. As the Fed tired of supporting the markets, the Trump tax cut was a last throw of the dice for the executive class. Any time in the future that interest rates start rising from their historic zero levels and the corporations cannot meet their financing obligations, the executives will have banked their money, bought their mansions, and stocked up on physical gold, probably parked in massive safes in their basements.

The fact that the US economy is being eviscerated by executive programmes for share buybacks (together with internal cost-cutting and disinvestment in the real economy) is clear from the sharp declines in earnings per share (eps) since 1999. Figures show the greatest move downward in eps has been since the last crash in 2007/8in tandem with stock prices going up (based on the Fed’s QE programme which started back then). Since the corporations make up the larger part of the US economy, clearly their evisceration is what is being reflected in the evisceration of the US economy as a whole. The fact that this is being played out on a huge scale doesn’t mean it is not a scam. Matt Taibbi was absolutely right in 2010 that after the crash Goldman Sachs was going to engineer another bubble.

Pam Martens explains how this whole process works. To understand how the U.S. central bank, known as the Federal Reserve, is influencing the froth of the stock market, you need to take a few moments to understand the interaction of bond yields with stock prices. Sophisticated investors who predominate in the markets compare the yield on bonds to the cash dividend yield on stocks to determine which is a better value. Following the financial crash of 2008, the Federal Reserve began buying up Treasury bonds and mortgage-backed bonds in the marketplace to the overall tune of more than $3 trillion. This has driven down bond yields and provided an artificial boost to the stock market.

The Fed’s assets swelled from $914.8 billion at the end of 2007 to $4.5 trillion in 2014 from its bond buying program. In just the single year of 2013 the Fed’s assets mushroomed by a staggering $1 trillion — from $2.9 trillion at the end of 2012 to $4 trillion at the end of 2013, according to the audited financial statement of the Fed’s books. As of October 25, 2017, its assets remain in the $4.5 trillion arena, at $4.461 trillion.

The Fed’s active involvement in messing with the stock market as a fair stock pricing mechanism through its massive purchases of bonds was quaintly called Quantitative Easing (QE) and the public was treated to three doses of it: QE1, QE2 and QE3.

Since 2011, the Fed has been jawboning about how it was going to normalize its balance sheet back to something resembling pre-crisis days. It actually began to cut back its bond purchases by shrinking the amount of its maturing bonds that it will roll over into new bond purchases in October of 2017. But its scheduled cuts are so small and gradual that we are not seeing any material shrinkage in its assets.

During Fed Chair Janet Yellen’s September 17, 2014 press conference, in response to a question from Ylan Mui of the Washington Post, Yellen said: “If we were only to shrink our balance sheet by ceasing reinvestments, it would probably take—to get back to levels of reserve balances that we had before the crisis—I’m not sure we will go that low, but we’ve said that we will try to shrink our balance sheet to the lowest levels consistent with the efficient and effective implementation of policy—it could take to the end of the decade to achieve those levels.”

In 2014, the end of the decade would have been 2020. It’s now 2018 and we’re looking at another half decade before the Fed’s balance sheet would normalize under the current schedule. That’s a very, very long time to provide spiked punch to a tipsy stock market.

The Goldman Sachs overlords who have so thoroughly infused themselves into the Donald Trump administration (the Presidential candidate who promised a draining of the Washington swamp) have figured out a way to get another round of cheap money. Instead of calling it QE4 and getting it from the Fed, it’s being called a corporate tax cut and its coming from the American public who will be squeezed in other areas to pay for it. Jamie Dimon, the Chairman and CEO of JPMorgan Chase, quickly recognized it for what it was, stating “think of it as a QE4” at an Axios event in Ann Arbor, Michigan in December.

Republicans have been peddling the tax cut as a boon to the economy. That’s not what’s going to happen. U.S. corporations and, particularly, the biggest Wall Street banks are going to use the extra money to continue buying back their own company’s stock, boosting the bank CEOs’ own stock options and enriching their shareholders to the detriment of business and job creation.

On July 31 of last year, Thomas Hoenig, the Vice Chairman of the Federal Deposit Insurance Corporation (FDIC), sent a stunning letter to the Chair and Ranking Member of the U.S. Senate Banking Committee. Hoenig explained that the 10 largest banks in the country “will distribute, in aggregate, 99 percent of their net income on an annualized basis,” by paying out dividends to shareholders and buying back excessive amounts of their own stock. If those 10 banks had retained a larger share of the earnings they earmarked for dividends and share buybacks in 2017, said Hoenig, they would have been able “to increase loans by more than $1 trillion, which is greater than 5 percent of annual U.S. GDP.”

Hoenig included a chart showing payouts on a bank-by-bank basis. Highlighted in yellow on Hoenig’s chart is the fact that four of the big Wall Street banks are set to pay out more than 100 percent of earnings: Citigroup 127 percent; Bank of New York Mellon 108 percent; JPMorgan Chase 107 percent and Morgan Stanley 103 percent.

Hoenig adds that if just the share buybacks were retained by the banks instead of being paid out, the banks could “increase small business loans by three quarters of a trillion dollars or mortgage loans by almost one and a half trillion dollars.”

Stock buybacks also perform another magic trick for Wall Street bank CEOs like Jamie Dimon whose compensation is based on overall performance. By shrinking the number of shares outstanding through buybacks, it makes the bank’s per share earnings look more robust because they are spread over a smaller number of shares.

According to JPMorgan Chase’s 2017 proxy statement, “Based on Mr. Dimon’s performance, the Board increased his annual compensation to $28 million [in 2016] (from $27 million in 2015).” Notably, according to the proxy, the portion of Dimon’s compensation that was in stock awards was $20.5 million for 2015 and $21.5 million for 2016. Thus, Wall Street CEOs are highly incentivized to keep those stock prices aloft.

The Guardian view on Egyptian democracy: it would be a good idea

July 3rd, 2013 coup d’état announcement by Sisi prior to announcement by Obama and John Kerry on behalf of the US of the Egyptian ‘Democratic Roadmap’

The Guardian Editor writes: Egypt is at present a sham democracy. Real power resides with the army, which has lurked in the shadows but overseen an often brutal crackdown on opponents since 2013. The military came to power by toppling the Muslim Brotherhood president, Mohamed Morsi, and killing more than 800 protesters in Cairo’s Rabaa Square. Unsurprisingly, Donald Trump lavishes praise on Mr Sisi’s government. Thankfully the US State Department has fingered its “unlawful killings and torture”. Last week Egyptian authorities executed five inmates – four of whom had links with the Muslim Brotherhood – despite credible claims of them having unfair trials. This looks like a warning to rivals that Egyptian politics is deadly rather than deadly serious.

Human Rights watch writes: Public criticism of the government remained effectively banned in Egypt in 2016. Police arrested scores of people in connection with protests, many preemptively. Authorities ordered travel bans and asset freezes against prominent human rights organizations and their directors and brought criminal charges against the head of the Press Syndicate and the country’s top anti-corruption official. Parliament proposed a new law regulating nongovernmental organizations (NGOs) that would effectively end independent human rights work in the country.

Members of the security forces, particularly the Interior Ministry’s National Security Agency, continued to routinely torture detainees and forcibly disappeared hundreds of people with little or no accountability for violations of the law. The disappearance, torture, and death of Italian doctoral researcher Giulio Regeni, probably at the hands of security services, highlighted these abuses and caused a diplomatic rift between Egypt and Italy.

Investigations by National Security officers, often without any hard evidence, formed the basis of many of the 7,400 or more military trials of civilians brought since President Abdel Fattah al-Sisi issued a decree widening the scope of military jurisdiction in 2014.

Conditions in detention remained harsh. The quasi-official National Council for Human Rights continued to report that prisons and other detention facilities were severely overcrowded. Conditions were particularly harsh in Cairo’s Scorpion Prison, where inmates, most of them political prisoners, suffered abuses at the hands of Interior Ministry officers, including beatings, force feedings, deprivation of contact with relatives and lawyers, and interference in medical care that may have contributed to at least six deaths in 2015.

 

Abbas is finally pushed to vote in PLO council for withdrawal of recognition of Israel

Withdrawing the Palestine Liberation Organization’s recognition of Israel is likely to spark some international backlash,  although most observers would consider this unsurprising. A previous vote by the same PLO Council in 2015 to suspend security coordination with Israel was never implemented, although this is now also reaffirmed in the Monday vote.

The significance of the vote is that the normally infuriatingly cautious Mahmoud Abbas voted in favour of both motions. He called Trump’s peace plan the “slap of the century.” Let us see what actions follow, at least the suspension of security coordination is guaranteed once the US defunds the Palestinian Authority as Trump has promised to do.

Bill de Blasio sues oil giants over climate change, divests pension funds from fossil fuel industry

New York City announces a lawsuit Wednesday that blames the top five oil companies for contributing to global warming and says the city will sell off $5 billion in fossil fuel investments from its pension fund of $189 billion.’Safeguarding the retirement of our city’s police officers, teachers and firefighters is our top priority, and we believe that their financial future is linked to the sustainability of the planet,’ said NYC Comptroller Scott Stringer .

Mayor de Blasio said: ‘We’re bringing the fight against climate change straight to the fossil fuel companies that knew about its effects and intentionally misled the public to protect their profits. As climate change continues to worsen, it’s up to the fossil fuel companies whose greed put us in this position to shoulder the cost of making New York safer and more resilient.’ NYC alleges the fossil fuel industry was aware for decades that burning fuel was impacting climate change. The defendants in the city’s federal lawsuit are BP, Chevron, ConocoPhillips, Exxon Mobil and Royal Dutch Shell.

But Exxon Mobil’s Scott Silvestri retorted that “reducing greenhouse gas emissions is a global issue and requires global participation and actions. Lawsuits of this kind — filed by trial attorneys against an industry that provides products we all rely upon to power the economy and enable our domestic life — simply do not do that.’ Petroleum sources are predictably downplaying the importance of this move.

Clara Vondrich of the DivestInvest campaign says the city joins a movement that started about six years ago. She says hundreds of institutional investors managing assets of over $5.5 trillion have taken their money out of fossil fuel investments. Last month, Democratic New York Gov. Andrew Cuomo announced plans to have the state pension funds also divest from fossil fuel investments. He and state Comptroller Thomas DiNapoli are creating an advisory committee to examine the way to proceed with divestment.

Vondrich said other cities and entities selling off fossil fuel interests have included Berlin and Washington, D.C.; insurance companies Swiss Re, Axa and Allianz; and educational institutions such as the University of Oxford in Great Britain, Stanford University in California and Trinity College in Ireland. Philanthropies have included the Wallace Global Fund and the Rockefeller Brothers Fund, notable because the late John D. Rockefeller grew his wealth as an oil baron.

Environmental activist Bill McKibben called the actions by the city one of a handful of the most important developments in the past 30 years. ‘The mightiest city on the planet has now sort of walked into a real fight with the richest and most irresponsible industry on the planet,’ he said.

This will take years to play out (as did the smoking class action suits against the tobacco companies), but the very fact of the legal risk to oil corporations as well as the fact that investors generally are beginning to divest from oil shares will create a self-reinforcing cycle which will drive the oil companies to make entirely new decisions for their future.