Many people have been telling me “we’ve hit bottom.”  My usual reply is “well, were getting there but were not there yet….”  Rallies will continue to be sold, they are just short term rallies against the dominant bear trend.  The rest of October will continue to be down for equities, generally speaking, but there is a high probability that we get an election rally that could last into December as the so-called January effect takes hold for a month or so….

Then the reality will set in that Obama is not much different from the other politicians and the Obama rally will fail.  Even if the Dow rallies back to 10,000 it would not hurt the dominant downtrend one bit, it would just provide a new entry point for the next leg down.  In percentage terms this bear market is already up there with the best of them, but in terms of the length of time, it could easily run another 6 months to a year.  Like I said, it all depends on how much damage the next administration does – Bush will be tough to beat in that department as he and his neo-conservative pals have done a huge amount of long term damage to the country – government spending, wars, loss of liberties, etc.

Whether or not an Obama administration could help the financial markets remains to be seen. All he would really have to do is scale back the wars, limit the size of government, stop the bailouts and let the malinvestments work themselves out of the economy and we would probably be out of trouble and back to a bull market by mid 2010.

But I am not optimistic, he is basically a socialist (and not much different from McCain). There is an opportunity but in typical bureaucratic fashion they will squander it.  Government will continue to increase in size, become a bigger parasite on the private sector and continue to screw up the economy, and given that the democrats will likely control congress as well, they will have ample opportunity to increase government interventionism (of course the republicans would do the same!).

Currently,  we are suffering the negative effects of government regulation, government sponsored entities, and the Federal Reserves monopoly on interest rate setting.  Contrary to what the mainstream press is saying, Laizzez-Faire capitalism did not create this mess, a lack of it did, this mess was caused because we do not have free markets that can properly judge risk.

Bailouts waste money and prevent malinvestments from being worked out of the system.  The governments actions are putting us at risk of a Japanese style decade long recession.  At the moment there is no inflation as credit destruction is greater than credit creation, but that will only last so long as the Central Banks of the world are creating money out of thin air at an alarming rate and desperately trying to reinflate the global economy.  The likely longer term scenario then becomes an inflationary one.

To a degree, this could be mitigated by a strong dollar, and that is why politicians are hoping the current rally in the dollar will continue.  Having the world’s “reserve currency” allows you to get away with a lot of things that you normally would not be able to., and as I previously wrote, the EURO will eventually completely collapse, as it is a horribly flawed currency, and that will help the USD rally.  Over the long run, currency markets are a simply a game of which country is relatively the least miserable.

So, in sum, this bear market in equities has been quite severe in percentage terms, but temporally speaking it has not been severe relative to past bear markets.  The economy continues to weaken and the government continues to make matters worse with more intervention.  There is likely a bear market rally right around the corner say beginning after the election and lasting into January that could take the indexes up as high as 15-20% but that would not hurt the dominant downtrend.  Beyone the next rally (after January) the dominant trend will likely take us lower over the next 6 to 12 months to new lows on the major equity indexes. -John Bardacino

Is it time to start preparing for the next boom-bust cycle?

I can remember sitting in a graduate economics course back in the fall of 2001 that was being taught by a very bright man, who, like our current Fed Chairman, held a degree from MIT.  However, unlike Dr. Bernanke, our professor actually understood the effects of monetary inflations….  The topic was growth in the money supply and the lagged effects that it was going to have on the economy. At that time, the various commodity indices were near multi year lows, oil was trading around $20 per barrel, gold was forming a base between 250 – 300, the US Dollar was at multi year highs and forming a top, and the stock market had begun a bear market after hitting all time highs earlier in the year.

The Real estate bubble was about to launch into full blast mode, and of course, commodity prices would then rally. The discussion centered on criticism of then Fed Chairman Greenspan and government(s) in general. We were discussing the money supply, inflation and financial bubbles. He (our professor) was discussing recent increases in the money supply and deficit spending and the effect it would have on inflation and frustratingly compared the then current situation to the early 1970′s and said…”that’s something to look forward to…”

Such is the flawed nature of our governmental/economic/social institutions…. The point of the lecture in that class was not to explain why bubbles occurred – that was easy – financial bubbles are an effect of an inherently flawed system….. The more important point was that when we got out into the real business world we would need to know how to not just survive them, but exploit and prosper from them.

In the fall of that year, we all knew it was a short matter of time before the country went to war. In September of 2001 we did not know which specific country, (now countries) was going to be invaded, we just knew that the government was going to make someone pay for what had happened, even if its (long term) foreign policy was the indirect cause. It was becoming obvious what would happen – the government would expand and go into debt, the Fed would print more money, the USD would decline, inflation would accelerate.

Clearly, we are presently in the bust phase of the most recent cycle, but if the above graph is any indication of what the future will bring, the seeds of the next boom-bust cycle are currently being planted.  Combine this with yet more increases in moral hazard due to another bailout and it is almost inevitable.  Yes, there are risks of a long drawn Japanese style decade long recession, but I am of the view that we will see even more and larger bubbles in the future. It may be about 2-3 years away because the effects of this bust need to be worked through, but the next bubble will come, and for reasons that I will get into in the future it will likely be a bubble that involves equities (of course, the immediate and intermediate trends for equities is down). -John Bardacino

Foreclosed homes are being damaged at a high rate as homeowners take out their anger on houses before they are forced to move out, increasing the costs for the banks that take back ownership (because they have to sell at a lower price as the new buyer has to pay for repairs.

Is this just another symptom of an increasingly irresponsible society or is it justified? Certainly actions such as this are not justified, and we are all responsible for our own actions…. Private property rights, free trade, sound money and the rule of law are the foundation upon which our economy is built.

Now put yourself in the shoes of an economically unsophisticated person who listened to Alan Greenspan and other “experts” tell them that adjustable rate loans were a great thing and that a collapse in housing prices was unlikely….

Financially unsophisticated people may do the research necessary to make an informed decision and take the advice of so called “experts” and buy a house which later collapses in value. These projects gone bad then become “malinvestments.” The real root cause of most of our economic ills is the source of these malinvestments – the flawed monetary and political frameworks that we live and operate in, and the effects they have had on our society over a long period of time – undermining the very foundation of our economy. This has especially pronounced since the end of the Bretton-Woods currency regime in the early 1970′s.

The boom-bust cycle and monetary inflations also affect society and the values that individuals hold internally and use to guide their decisionmaking. The Fed creates the booms and busts and the resulting malinvestments. But its not just malinvestments. The government and the banking system are joined at the hip — Fed independence has become a joke (actually it always was). But the point is that our monetary system has effects that are far reaching. Understand and exploit these effects and you can make billionaire hedge fund type paydays….