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How Far Could the Stock Market Fall?
Published : November 12th, 2012
1057 words - Reading time : 2 - 4 minutes
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We are heading back into a serious recession that will be similar to the crisis of confidence in 1974 with the Nixon impeachment. During Nixon's landslide victory for a second term and the ensuing Watergate impeachment, I lived in Washington DC and watched the ensuing chaos with a front-row seat. The break-in of the Democratic national headquarters in the Watergate complex occurred before the election, yet it did not stop Nixon's re-election.

 

The country and Washington DC became accustomed to cover-ups and deceptive practices. Anger over Vietnam and the assassinations of respected leaders manifested into mass protests and arrests. I still remember tear-gas canisters in the streets of Georgetown. In a second, we'll take a look at some charts showing just what this turmoil did to the stock market.

 

Nearly 40 years later, the cover-ups haven't stopped. Today, we have a cover-up of an assassinated ambassador and three others in Libya. If enough people ask questions – like Congressman Darrell Issa has been – about why there was weak security, we might even open a bigger can of worms, as this assassination is a bigger deal than most people realize. And again, much like with Nixon, the economic climate grows troublesome with high unemployment, growing future inflation concerns thanks to QE3, and the world economy slowing. As was the case back then, we're a powder keg ready to blow. Remember the explosion of bad government regulations the last time around – like wage and price controls? I remember them all too well, as I was a consultant to the energy division of the Nixon administration's Economic Stabilization Program Phase 2.

 

Obama's win gives a false sense of having resolved a key uncertainty. But the fundamental problems we face are bigger than one leader's capability to solve them. No good answers are on the table for our budget deficits and endless wars. European peripheral countries struggle with 50% youth unemployment, leading to worries of money-printing and currency crisis. If we add an environmental catastrophe, such as a crop failure leading to food shortages, the world could face much bigger downturns than purely financial analysis can predict.

 

The 1974 stock market crash was the second biggest compared to the crisis we went through in 2008. It was precipitated by political crisis more than financial difficulties. The Vietnam War and Johnson's expansion of social services created deficits that at the time that seemed too large. Today, of course, we have political problems as well as financial problems. And this time around, the deficits don't just seem large and unsustainable, they are too large and unsustainable. On top of that, Bernanke and Greenspan have spent every bullet in the arsenal to avoid short-term disaster. While in the '70s we still had a box of bullets, we're now running on empty – and the enemy is closing in on our foxhole.

 

Since 2000, we have had two crises – one being the dot-com bubble, and the latest is the housing bubble. As the financial crisis gets worse, so will the political backlash and the disruptions in society. This scenario suggests much higher inflation, disenfranchisement of workers, and government oppression to maintain control.

 

The chart below shows some of the effects of key moments of political turmoil on the stock market, as well as the relationship of those changes to the Purchasing Managers' Index. This Index is one of the most reliable indicators of the country's growth in manufacturing output and thus the growth of GDP. It comes from surveying purchasing managers as to whether the economy is improving or getting worse on a number of measures like orders, shipments, exports, prices paid, etc. The composite of these measures is provided monthly and is not revised. It is not a government number, so it is not vulnerable to manipulation to make the story fit the political agenda. It can provide an early warning of a slowing economy and can be useful for interpreting what might happen to the stock market.

 

 

 


 

 

 

The specifics of the Nixon-era stock collapse are shown in close-up in the chart below. It could happen again. The polarization of our factions is now back at the levels of that era, and there are no signs of it diminishing.

 

 

 


 

 

 

In the most recent issue of The Casey Report, I have an extensive piece on the importance of the Purchasing Managers' Index (PMI) and other measures for the US and many others countries – some of the results may surprise you as they surprised me. The analysis led me to change my view of where our economy may be heading. For more on that, make sure to check out the latest Casey Report.

 

Besides our own political problems, there are a whole list of countries ready to erupt into turmoil, including Libya, Syria, Afghanistan, Pakistan, Somalia, and Iran. Add the likelihood of an environmental destabilization of, say, some big crop failure to our recurring financial crisis, and the probabilities are even higher that the next year or two will be very bad on several dimensions.

 

And that's just half the problems on our plate. Here are a few more to consider over the next two years: the US fiscal cliff and continuing budget deficits; a collapse of the European currency union; and an Asian hard landing.

 

There are many links between politics and money. I fear we will see some serious problems ahead because we haven't fixed anything and the only actions our leaders seem to know how to take are to expand the money supply.

 

The worldwide money-printing by central banks to fund government overspending is close to reaching its conclusion. When governments run out of stimulus to prop up their financial sectors and to placate the masses, then things really start to unwind.

 

I am of the opinion that money will be inflated out of existence by corrupt governments and central bankers, so we should be buying physical assets like farmland, houses, commodities, precious metals, and energy. We should avoid bonds or any fixed-dollar return like bonds. In a way, one wishes that a single president or re-election could make all of these things go away, but that's just not going to happen. The world's problems are now much bigger than the presidency, and they continue to pile on in a similar way to what we witnessed during the '70s.

 

 

 

 

Data and Statistics for these countries : Afghanistan | Iran | Pakistan | Syria | Vietnam | All
Gold and Silver Prices for these countries : Afghanistan | Iran | Pakistan | Syria | Vietnam | All
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Bud Conrad

Bud Conrad, chief economist, holds a Bachelor of Engineering degree from Yale and an MBA from Harvard. He has held positions with IBM, CDC, Amdahl, and Tandem. Currently, he serves as a local board member of the National Association of Business Economics and teaches graduate courses in investing at Golden Gate University. Bud Conrad has been a futures investor for 25 years and a full-time investor for a decade.
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