Most investors don't take seriously warnings about the future of the economy and the financial marketplace, but those who did avoided the dreaded “Cs” of finance: the Credit Crisis and Crash of '08.
Some Predictions do Come True
Previous warnings and predictions were often derided as just negative nonsense coming from alarmists rather than from the insightful economists and financial and market analysts who made them. To their collective credit they were all substantially correct in their prognoses as exemplified by what has occurred (and is still occurring) over the past 6 months.
Once again warnings and predictions are being put forth about the next crisis to befall us and this time round it behooves us to pay more attention and make sure this time that we are better positioned to survive and prosper whatever comes our way.
Below ia an ominous market forecast by Robert R. Prechter Jr., author of a number of books including “Elliott Wave Principle” (1978) in which he predicted the super bull market of the 1980s; “At the Crest of the Tidal Wave - A Forecast of the Great Bear Market” (1995) in which he predicted a slow motion economic earthquake brought about by a great asset mania; and “Conquer the Crash: You can Survive and Prosper in a Deflationary Depression” (2002) in which he described the economic cataclysm that we are just beginning to experience and advised how to position one's self financially during that period of time.
Prechter has the following to say about the economic and financial environment (and I paraphrase):
A Deflationary Crash and Depression is Imminent
Where are we at this point in time? Let's take a look again at the various stages of decline:
Stage one
The major banks of the world major are concerned that any credit obligations that they were to enter into with other banks would not be honored because of the unknown extent of toxic assets (such as derivatives and sub-prime Mortgage Backed Securities) on their books - as was/is the case on their own books.
This, in turn, has caused them to go from an expansion mode to a conservation mode resulting in a credit crisis such as we currently are experiencing.
Stage two
The major banks' refusal to lend money to business has caused, or is causing, business to go from an expansion mode to a conservative mode which has, in turn, adversely affected the trend of production.
This is evidenced by the 6.2% seasonally adjusted annualized decline in GDP during the 4th Qtr. of 2008 which was the worst decline since a 6.4% decrease in the 1st qtr of 1982. To make matters worse, economists don't expect any relief in the current quarter, which ends March 31st, projecting a further -4.8% annualized rate which would be the first time since 1947 that the GDP has fallen by more than 4% for two quarters in a row.
Stage three
a) The reduction in production by business has, in turn, led to or is leading to, over-capacity which has increased employee layoffs.
Indeed, unemployment soared to 8.1% in February, the highest rate in over 25 years. The consensus of private forecasters is for the unemployment rate to get close to 9% in 2010 with some forecasters suggesting a 10% rate. The Federal Reserve, itself, doesn't expect the unemployment rate to fall below 7% until 2011.
b) The increase in unemployment has, in turn, reduced the affected consumers' ability to buy goods and services.
c) The consumers' inability to buy goods and services has, in turn, reduced company sales and profits.
d) The reduction in company sales and profits has, in turn, caused the price of their stock to decline.
e) The lack of easy credit and/or loss of employment has meant that home “owners” (i.e. mortgagees in some degree of co-ownership with whichever financial institution holds their mortgage) have not been able, in increasing numbers, to re-finance and/or afford to re-finance their mortgages and, as such, have not been able to make their escalating monthly mortgage payments which have, in turn, led to a record high number of mortgage foreclosures.
Indeed, as of the end of 2008 12% of Americans with a mortgage were at least 1 month late or in foreclosure which was up from 8% a year earlier. Even worse, a stunning 48% of home “owners” who have sub-prime, adjustable-rate mortgages are currently behind in their payments or in foreclosure which, in turn, has resulted in ever more distressed house sales by the mortgagors and other neighborhood homeowners with, or without, a mortgage.
Stage four
The dire economic scene (fear of loss of job, loss of money invested in the stock market, reduced resale value of their house, etc.) has seen, in turn,
a) a major increase in savings (the personal savings rate rose by 5.0% in January, the highest rate since 1995)
b) a reduction in spending (it dropped 0.2% in December)
c) a reduction in the sale of goods and services
d) a decline in the price of such goods and services (as evidenced by the U.S. GDP Price Index which declined by 0.1% on a quarter-over-quarter annualized basis in the 4th Qtr of 2008 - the 1st decline since 1954 - and supporting the Fed's obtuse view that “inflation pressures will remain subdued in coming quarters.” That tells us that deflation is imminent.
Stage five
We are going to see a self-reinforcing escalating vicious cycle of stage two, stage three and stage four over and over again. The downward “spiral' is in progress.
So there you have it! We are in the early weeks of stage five. As such, it is fully understandable why the governments of the world are throwing money at the credit problem so excessively in an attempt to get the wheels of industry turning to stem the decline before it takes hold. It is an extremely dire situation with no end in sight at the moment.
Gold and Silver Beginning a Decline to Under $680 and $8.39 respectively
Gold and silver will fall into their final dollar price lows at the bottom of the deflation…after which time these metals should soar in price.
It is probably not as good an idea to invest in gold stocks because in common stock bear markets stocks of gold mining companies usually go down with the overall market trend except in relatively rare 5 to 10- year periods of accelerating inflation. As such, in this early stage of deflation gold mines will enjoy no false advantage over any other companies. Their stocks will probably rally when the overall stock market rallies. Owning gold shares is fine at the top of the Kondratieff economic cycle when inflation is raging and political tensions are their most severe.
DJIA Should Fall Below 777
The Dow Jones Industrial Average will go down to at least 1000, most likely to below 777 which was the starting point of its mania back in August 1982, and quite likely drop below 400 at one or more times during the bear market.
Editor's note: To Prechter's credit he acknowledges that these aforementioned forecasts are considered to be highly unlikely by virtually everyone.
He is of the opinion that the price swings will be dramatic over the course of the decline - as evidenced by recent swings in the Dow 30 from 11,723 on Jan.14th, 2000 to 7286 on Oct.9th, 2002 (-37.8%); to 14,165 on Oct.9th, 2007 (+94.4%); to 8125 as of April 16th, 2009 (-42.6%) - providing phenomenal investment returns to the successful long term in-and-out investor.
Even short term in-and-out investors can profit considerably from the current market volatility as the market swings up and down (October '08 low of 7774 to a November '08 high of 9654 (+24.2%), to a late November ‘08 low of 7449 (-22.8%), to a January '09 high of 9088 (+22.0%): to an early March '09 low of 6594 (-27.4%); to a current April 16th '09 level of 8125 (+23.2%). Is this to be followed by an even lower low of 25% or so to approx. 6094?
Only time will tell but Prechter sees money to be made during such times for those astute and fortunate investors who choose not to park their money in some form of cash or just ‘buy and hold' as so many financial/investment advisors are so prone to recommend.
U.S. Dollar Index to Continue to Rise
In a time of financial crisis the U.S. dollar is considered to be a safe-haven currency. This time is no exception, particularly given that the Euro, a major component of the USD Index, is going through extremely trying times itself. As the deflationary depression proceeds over the next few years demand for U.S. dollars should increase even further.
Treasury Bonds are in a Bear Market
The 10-year Treasury note yield has been in a sharp decline since the early ‘80s when it reached 15.84% at the height of inflation and is at a deflationary level of 2.89% as of March 13, 2009. The gargantuan government bond issuance to fund the U.S. debt bubble, however, may push yields, which move inversely to prices, steeply higher in the years ahead.
In summary, we are being forewarned yet again about yet another economic and financial crisis coming down the pike. This time don't get burned as you most likely did during the Credit Crisis and Crash of '08. Instead, position what is left of your portfolio such that you will actually prosper during this ongoing financial hurricane. Now that you know what is about to happen, take action, now! To just hope that everything will turn out okay would be downright foolish.