Investment Analyst: A HUGE Stock Market Crash Is Coming

Investment analyst and stock market guru Mark Mobius has been in the business a long time.  At 81-years-old, the market analyst says that a huge stock market correction is coming and it’s going to cause a crash and be painful for everyone.

According to Mobius, the former executive chairman at Templeton Emerging Markets, all the indicators now point to a great fall in the S&P 500 and the Dow Jones. “The consumer confidence is at an all-time high in the US, and it’s not a good sign,” he said. “The market looks to me to be waiting for a trigger that will cause it to tumble.”

Mobius continued saying, “I can see a 30 percent drop.” And he isn’t the only one warning of a massive crash.  Jim Roger’s latest prediction was that we were going to see “biggest crash in our lifetimes,” and possibly, very soon. One of the world’s richest men, Bill Gates, also said that a 2008-like financial crisis was a certainty.  Peter Schiff has also warned the next crash will be worse than the Great Depression.

“The bad news is, we are going to live through another Great Depression and it’s going to be very different. This will be in many ways, much much worse, than what people had to endure during the Great Depression,” Schiff says. “This is going to be a dollar crisis.” – Peter Schiff

And movement away from the United States dollar has already begun and Schiff has warned that those who don’t get out of the dollar will be wiped out.

Mobius, who is also a 40-year veteran investor and predicted the start of the bull market in 2009, warns that any drop could be strengthened by the increasing use of exchange-traded funds (ETFs), which account for nearly half of all trading in US stocks. The ETFs could cause further declines once markets fall. “You have computers and algorithms working 24/7 and that would basically create a snowball effect. There is no safety valve to prevent further falls, and that fall would escalate very quickly,” Mobius told the media. “ETFs represent so much of the market that they would make matters worse once markets start to tumble.”

But Mobius did say he’s not certain what the trigger will be that will cause the US stock market to crash horrifically. “You can’t predict what that event might be – perhaps a natural disaster or war with North Korea,” he said.

 

Peter Schiff: ‘Nobody Is Prepared For The Long-Term PAIN That’s Coming’

Peter Schiff has been saying that this is a bear market for a few weeks now, and it looks like president Donald Trump may have just gotten the same memo. While Trump said some investors may feel some “short-term pain” in the market, but Schiff says it’s actually going to be long-term pain.

According to Seeking Alpha, Trump says any short-term market pains will all be worth it because we will get long-term gain, referring to the benefits we’ll reap when we win the trade war. In his most recent podcast, Peter said that’s not at all how it’s going to play out, though.

“We’re going to have short-term pain and then the pain is going to get worse in the long-run,” Schiff said.  Schiff is a financial and market analyst who predicted the 2008 recession. But Schiff says the bigger problem, is that nobody is ready for any pain at all.

Schiff says that the real problem is the government itself. Policymakers aren’t willing to take the steps necessary to reap long-term benefits. Those steps would have to include a major cut in government spending, a cut in entitlements, cutting defense spending, and shutting down government agencies and government departments. And we couldn’t agree more.  Government spending is out of control and people struggle to get by with the tax burden levied on them, and that will only worsen when a Democrat takes power.

There would be some short-term pain that would deliver some long-term gain. How about if the Fed normalizes interest rates and lets the bubbles collapse, lets people lose money, lets the markets restructure? That is short-term pain for long-term gain. That is what a real free-market recession is like. Let the government get out of the way. Let the central bankers get out of the way, and let the free market correct the imbalances and create a good foundation where we can build a lasting, sustainable, viable recovery.

But Schiff says that’s not what President Trump is all about. He’s about avoiding the short-term pain by kicking the can down the road, just like every other president in modern history.

This is a time bomb. The debt keeps going up. Every day we’re closer to the crisis. Every day there is more and more debt, right? And so, every day that goes by, we’re one day closer to the debt imploding.

Schiff went on to detail what will go wrong if the Fed decides to make a move that no one is expecting.

Normally the markets are forward-looking. They discount things that they think are going to happen. Well, if you don’t think something is going to happen, how can it be discounted? So, it’s when the markets are blindsided, when they’re surprised, that’s when you see the biggest moves because they didn’t get discounted in advance. You can’t buy the rumor and sell the fact if you’ve never bought the rumor because you don’t know there’s a rumor or you don’t believe it. So when the fact happens, nobody is positioned for it. Nobody is prepared for it. And that’s where we are in the gold market. That’s where we are in the gold stock market, in the bond market, in the US stock market. Nobody is prepared for any of the things that are going to happen because nobody believes that they are going to happen.

And Schiff says don’t get too attached to your tax cut if you actually benefited from it.  Once the Democrats take the White House and both houses of Congress, those tax cuts will not only go away but be raised substantially to pay for even more democrat government spending.

 

Peter Schiff: We Are In A Bear Market, All News Is Bad News

After rallying on Friday, stocks tanked on Monday, dropping over 450 points. In fact, it was the worst first day of the second quarter since the Great Depression.

Stocks dove Wednesday as well on the heels of China’s announcement that they will intensify the trade war with more tariffs, according to most analysts.  But Peter Schiff, the financial guru who accurately predicted the 2008 recession has a different take.

According to Schiff’s blog, Schiff Gold, most analysts blamed the plunge on the escalating trade war, but Peter Schiff sees it quite a bit differently. He said it was just another bad day in a bear market. In fact, he said the market could have rallied because the Chinese response wasn’t as bad as it could have been. But when you’re in a bear market, all news is bad news.

Schiff says that the media’s talking heads are simply using the tariffs as an excuse. The real truth is that most people are in a selling mood. “Stocks are expensive. The bull market is over. It’s now a bear market. People want to get out. People are allocating out. Growth is slowing whether people want to acknowledge it or not,” said Schiff.

The media pundits are optimistic too; just like they were before the 2008 recession, said Schiff. “That’s what’s going on now. Nobody thinks there’s a problem. Everybody is optimistic. Everybody is bullish. So, when you see these classic signs that something is going wrong, you just ignore it.”

The bottom line is Schiff thinks the economy is going to tank (although he isn’t sure how soon that will occur) and the stock market is going to continue its bear run. But the Fed is not going to be able to come to the rescue this time around because of inflation. If it does try to launch more QE to bail out the stock market, it will completely tank the dollar.

When we do all that, the dollar is going to implode because everybody is going to know that the experiment failed. Everybody is going to know there is no way out of this box. There is no normalization of rates that is ever going to happen. Their balance sheet is never going to shrink. The balance sheet is going to grow permanently, which means this banana republic debt monetization. They can no longer pretend that they’re not doing the same things as South American banana republics. It’s a pure ‘we just print money to finance government spending,’ which is going to explode.

The national debt is an often overlooked aspect of the economy, but in truth, it will play a big role in an economic collapse and Schiff is sounding the alarms.

"As Good As It Gets" - What A Difference 11 Months Makes

Authored by Robert Gore via Straight Line Logic,

What a difference eleven months make.

Shortly after Donald Trump was inaugurated he fired Michael Flynn.

What’s become the conventional subtext is that the intelligence agencies have launched a “soft coup” against Trump, he has been significantly weakened, and the Deep State has scored a major victory.

“Plot Holes,” SLL, 2/26/17

Rejecting that subtext, SLL developed in “Plot Holes” and later articles a series of interrelated hypotheses. We posited that Trump was smarter and the Deep State weaker and more incompetent than generally reckoned. Also, that the Deep State’s animus towards Trump was based chiefly on fear of exposure and prosecution for its long history of corruption and criminality, not policy differences, notably concerning Russia. Finally, we suggested Trump is chiefly motivated by a drive for power. These hypotheses yielded testable predictions.

As predicted, the Russiagate investigation, based as it is on nothing, is now recognized as a monumental blunder. It forced the Deep State into the open and revealed its prosecutorial forbearance towards Hillary Clinton, its effort to help her and hinder Trump during the election, and its attempt to depose Trump afterwards. The FBI has been exposed as the antithesis of a concept implied by the word investigation: impartiality. Holdovers from the Obama Justice Department have been compromised.

The tables are turned. As the Russiagate investigation fades, Trump is left with investigatory gold mines: Uranium One, Fusion GPS, FBI and Department of Justice political meddling and obstruction of justice, Hillary Clinton’s emails, and the Clinton foundation. Trump could fire Robert Mueller with only a minor political uproar, but Mueller’s making a fool of himself to Trump’s political benefit. Why stop him?

As for those gold mines, Trump will decide if the threat of an investigation or an actual investigation best satisfies his leverage and power calculations and proceed accordingly. There has been no general swamp draining, nor will there be. Trump uses investigatory threats as a Machiavellian tactic to extract what he wants from compromised political actors in useful positions. The Clintons and James Comey, no longer in power and thus, no longer useful, are the most likely to be investigated and prosecuted.

In foreign policy, recognizing Jerusalem as the capital of Israel emphasizes Trump’s pronounced tilt toward Israel. Acquiescing to Saudi Arabia’s hapless war against Yemen and Mohammed Bin Salman’s recent purge confirms his support of that regime. In return, Israel and Saudi Arabia have sat still for Trump’s discontinuance of the US policy of supporting Islamic extremists to further regime changes (see “Powerball, Part Two”). This has meant accepting a de facto victory for the Russian-Shia alliance in Syria. US support for the Middle East’s Sunni bloc and Israel as Russian backs the Shiite bloc may lead to a standoff that brings a reduction in violence in that troubled region. It has already begun to reduce refugee flows from the area to Europe.

This is not to say that Trump’s rhetorical broadsides against Iran will stop, but the claims that the US is on the verge of war are overblown. Such a conflict would lead to a Middle East conflagration and the third officially recognized world war.

Trump’s blasts against North Korea are more problematic. His task there is more difficult than Iran; North Korea has nuclear weaponry purportedly able to strike most of the US. Trump has two options: a military strike designed to wipe out North Korea’s nuclear arsenal and Kim Jong-un’s regime, or negotiations that ratify the status quo, with Russia and China applying continuing pressure to enforce Kim’s compliance. At this point Trump may not know what he’s going to do, other than more verbal shots at North Korea and continuing displays of military strength in the region.

Trump has started no new wars. His administration has rolled back some regulations and he just won a legislative victory on tax reform. That may give him enough of a headwind to readdress Obamacare, which has neither been repealed nor replaced. He has his enemies on their back feet. Only fringe elements are still talking about impeachment. The government’s statistics indicate growth is running at above 3 percent, better than trend Obama growth, and the stock indexes keep making new records.

In 2017 SLL made contrarian, optimistic predictions for the president and pessimistic predictions for the economy and stock market (see “Hard Core Doom Porn”) We’ve been more right on the former than the latter…so far. For 2018, we’re with the minority who see clouds and thunderstorms, not silver linings. This is about as good as it gets for Trump.

Deft—by this analysis—as Trump has been, his biggest challenge lies ahead. The government is bankrupt, and demographics will push it ever-deeper in the hole. The global economy is struggling under monstrous and unsupportable debt. Fiat money something-for-nothing has a sell-by date, sooner or later the stock market and economy will head south. Historically, there’s been a tight correlation between stocks, the economy, and presidential popularity.

“Is Trump Winning?” SLL, 8/6/17

Debt has been Trump’s siren song his entire career, and more than once he’s crashed on the rocks. Big triumphs have been followed by big disasters, hubris undoubtedly playing a role.

Stock market and cryptocurrency pyrotechnics have obscured an incipient bear trend in a much more important market, bonds, which in the US apparently topped out in July 2016. Falling bond prices mean rising interest rates. The world has never been more indebted; a global bear market in bonds would be toxic to equity markets and economies (and perhaps cryptocurrencies). Tellingly, high yield bond prices are diverging from rising stock prices, indicating increasing credit stress. According to David Stockman, tax reform will increase the government’s borrowing to $1.25 trillion in fiscal year 2019. Rising rates would add more to the government’s interest bill, and hit indebted businesses and individuals as well. They would offer relief to savers long abused by the Fed’s interest rate suppression tactics, but savers are a much smaller group than borrowers, and they spend less.

Rising debt and ever-expanding government are in large part responsible for a long-term decline in trend economic growth rates across the developed world. Much of what growth there has been was funded with debt. If you buy $100 dollars worth of good or services on credit you have not increased your income, your personal “gross domestic product.” If the government does the same, it registers as an increase in the gross domestic product. Back out such debt-funded “growth” and it’s unclear if there’s been any growth at all since 2009.

In the US, real incomes have stagnated since the turn of the century. Rising equity markets and falling growth rates mean that corporate valuations are in the stratosphere. Joined with off-the-chart measures of optimism and declining central bank support, equity markets are poised for a fall. That it hasn’t happened yet doesn’t mean it won’t. It’s never “different this time.” Given the leverage and speculation embedded in the market, the fall could be breathtaking, a quick drop of 50 percent or more.

As noted, falling stock markets and economies generally take the popularity of incumbent politicians with them. Trump, the most polarizing political figure since Franklin Roosevelt, is not all that popular to begin with. The Deep State that has ruled this country since World War II is down; it would be unwise to count it out. It will certainly capitalize on financial and economic turmoil to launch a counterattack against Trump.

Next year’s silver lining may be that it marks peak government. Governments have coopted much of the world’s resources and put a gigantic lien on its future production. In a severe economic contraction, the wherewithal from taxes and credit markets that would allow them to grow even bigger—and thus more intrusive and repressive—simply won’t be there.

A financial and political focal point will be pension and medical funds. Many such funds are visibly under stress. Widespread insolvency is inevitable, especially if equity and credit markets head south. The resultant fear and fury will be uncontrollable, obliterating today’s widespread, quasi-religious faith in government and its works. The upheaval would make present discord look like a picnic in the park.

It would be unwise to rely on anything but one’s own resources, family, and friends during the coming turmoil. It would be wise to shore up those defenses, and soon.

One Trader Reflects On A Bad Trade - The Never-Ending Grain Pain (And Whose Fault It Was)

Authored by Kevin Muir via The Macro Tourist blog,

I have had some bad trades in my day. But lately, one call has been especially atrocious.

For the past couple of years, I have taken stabs on the long side of the grain market. At different times, I have held various positions for different lengths of time, but make no mistake - grains have done nothing but cost me money. Sure, I might have a decent sounding argument, The Last Remaining Cheap Asset, but the market is indisputably telling me that I am dead wrong.

And it’s hard to sit and watch the grains go down. Day after day. Week after week. Month after month. Like the slow drip of a leaky faucet that no one can fix, it can drive you insane.

Have a look at the 5-year chart for front month Wheat.

Tough to make money writing any blue tickets with that sort of action. All rallies have been opportunities to sell, not the start of any sustainable uptrend.

This recent grain bear market has pushed the big three contracts (wheat, corn and soybeans) down to near all time lows when measured in real terms.

I don’t want to bother with another forecast about why this time will be different, and how the low will be made in the coming weeks. After a certain number posts, I begin to more closely resemble a degenerate gambler than a cool calculating macro trader (I think that number might be three, which means it’s too late for me, and I do in fact resemble Richard Dreyfuss a whole lot more than George Soros).

And although I poke fun at myself, it’s no laughing matter. The amount of economic pain in farming is downright scary. According to an article in The Guardian, Why are America’s farmers killing themselves in record numbers?, the stress from low grain prices is causing an epidemic amongst the agricultural community.

Once upon a time, I was a vegetable farmer in Arizona. And I, too, called Rosmann. I was depressed, unhappily married, a new mom, overwhelmed by the kind of large debt typical for a farm operation.

 

We were growing food, but couldn’t afford to buy it. We worked 80 hours a week, but we couldn’t afford to see a dentist, let alone a therapist. I remember panic when a late freeze threatened our crop, the constant fights about money, the way light swept across the walls on the days I could not force myself to get out of bed.

 

“Farming has always been a stressful occupation because many of the factors that affect agricultural production are largely beyond the control of the producers,” wrote Rosmann in the journal Behavioral Healthcare. “The emotional wellbeing of family farmers and ranchers is intimately intertwined with these changes.”

 

Last year, a study by the Centers for Disease Control and Prevention (CDC) found that people working in agriculture - including farmers, farm laborers, ranchers, fishers, and lumber harvesters - take their lives at a rate higher than any other occupation. The data suggested that the suicide rate for agricultural workers in 17 states was nearly five times higher compared with that in the general population.

 

After the study was released, Newsweek reported that the suicide death rate for farmers was more than double that of military veterans. This, however, could be an underestimate, as the data collected skipped several major agricultural states, including Iowa. Rosmann and other experts add that the farmer suicide rate might be higher, because an unknown number of farmers disguise their suicides as farm accidents.

 

The US farmer suicide crisis echoes a much larger farmer suicide crisis happening globally: an Australian farmer dies by suicide every four days; in the UK, one farmer a week takes his or her own life; in France, one farmer dies by suicide every two days; in India, more than 270,000 farmers have died by suicide since 1995.

The lightbulb

For the longest time, I had no idea why grain prices were so low. It perplexed me. Central Banks around the globe were printing money at an unprecedented pace. All else being equal, you would expect a real asset, like grains, to have rallied in these circumstances. Yeah sure the advances in farming technology might keep the price of grains pressured, but at the same time, demand has also never been higher, so you would expect the debasement of money to eventually win out and send grains prices skyward.

But more importantly, these situations are usually self correcting. Nothing solves the problem of oversupply like low prices. Except this time. Even with the state of farming littered with heartbreaking stories of ruined families, not enough farmers are giving up planting crops to allow the price to rise.

This conundrum would still be a mystery to me, if it wasn’t for one of my sharp readers, who sent me a note last week. It was actually a response to a post I made about Grandma’s Bond Portfolio is in Trouble, but Shaeffer Steward from Nesvick Trading Group, related it back to the grain market in such a unique original way, I felt it was too important not to share.

I suggest that while Kevin’s assessment for the economy in general might be eerily accurate, it is ENTIRELY BACKWARDS for agriculture.

 

Before you dismiss my hypothesis, hear me out.

 

I hypothesize that the farm economy is in dire circumstances (recall article I sent you the other day: https://www.dtnpf.com/agriculture/web/ag/news/article/2017/11/20/bankers-gearing-difficult?referrer=twitter#.WhLWFmNMPIE.twitter&DCMP=Todd )

 

Primarily because commodity prices skyrocketed during the 2004-2008 super-cycle triggered by the ethanol buildout combined with huge demand growth out of China and when the GFC occurred in 2007-2008, many sectors of the economy literally collapsed under their own weight but agriculture actually thrived because the QE provided the accelerant to keep things going. You see, agriculture did exactly what you would’ve expected - lower cost of money & greater availability of credit (greater supply) - commodity prices remained rather high so farmers levered up, borrowed money and banks were glad to loan it to them as many were using land as collateralization on loans and after all, the land values were based off of what people were willing to pay (rent) to farm it or what sort of return they needed to make it a worthwhile investment.

 

What we’ve seen happen is massive leveraging, steadily increasing cost of production (seed, chemical, fertilizer, equipment, insurance, land rents, etc) and now as prices come under pressure due to massive global oversupplies, margins have quickly collapsed and the cost structure hasn’t responded. Instead, farmers have levered up further by refinancing land and/or selling off some land to keep their bankers going along with them and the cycle has continued.

 

Why would the banks lend to farmers when they didn’t lend to normal citizens? Why would farmers be willing to borrow money when normal citizens weren’t willing to borrow money? Glad you asked.

 

CROP INSURANCE

 

Specifically, federally subsidized crop insurance.

 

Farmers take extraordinary risks doing what they do BUT they now have access (and have had access) to crop insurance that protects a portion of their historical production and/or projected revenue. When I say “a portion” I mean upwards of 75-85%. When I say “federally subsidized crop insurance” I mean that the federal govt pays upwards of 65% of the premium on behalf of the farmer on some crop insurance policies. WHOA.

 

Let me put figures to it for you. Imagine that you were a farmer and your history showed that your 5 year avg yield (actual production history) on your farm was 55 bu/ac and at planting time the insurance price for soybeans was $10.19/bu. Let’s say that it was going to cost you $550/ac to grow soybeans, so a breakeven type situation if you make ordinary yields at ordinary prices. Imagine that you could guarantee yourself $420.00/ac in revenue ($10.19/bu x 55 bu/ac = $560 bu/ac revenue x 75% coverage = $420 /ac) and it only cost you $3.70/ac. You’re paying $3.70/ac to guarantee yourself $420.00/ac in revenue. Pretty cheap, right? Yes, but the REAL cost of that insurance is more like $8.23/ac with the govt paying $4.53/ac and the farmer paying $3.70.

 

Granted, there are some situations in which you can lose more and some causes of loss, such as hail are not covered by basic crop insurance and require a separate policy but in the grand scheme of things, the cost of protecting 75% of revenue is reasonable enough that farmers buy it and banks make loans that they might not otherwise make sans crop insurance policies. There is also increased risks because the loss calculations are based on futures prices at planting and harvest time and do not address the cash markets which might have wide, unfavorable basis so it isn’t anywhere near a complete failsafe but enough to keep the borrowed money flowing.

 

Now we need to put it all together. The relatively “cheap” cost of subsidized crop insurance encourages the farmer to take risks he wouldn’t take otherwise. The balance sheet equity he has goes a lot further if you consider that he “really” only has $130/ac at risk instead of the full $550/ac so he’s willing to a) stay in the game and b) expand his acreage because if he hits a homerun on larger yields and/or higher prices, then JACKPOT!!. If it goes bad, he’s out $130/ac and it doesn’t completely wipe him out - plus he’s using the bank’s money at very low interest rates.

 

The farmer not only wants to stay in the game but he wants to grow so he’s bidding up inputs and more importantly land rents because if you don’t have the land, then you’re out of the game. Revenues continue to be good, in general so the farm cash flow has meat on the bone and where there is meat on the bone, the dogs come chewing. Seed costs are higher every year and sometimes much higher. Equipment costs have gone FREAKIN’ PARABOLIC. Land rents have skyrocketed. Since many farmers are self-insured, health insurance prices have… well you know what they’ve done. Much of this expansion has been done with debt financing on equipment meaning that while the interest rates are low, interest costs are accumulating. You see, there HAS been demand for debt from agriculture and the lenders have seen positive cash flows and the revenue safety net of crop insurance as courage to continue to lend to farmers.

 

Let’s take a detour for a moment here - banks have wanted to lend money but “conservatively” and if the average consumer really hasn’t had the appetite for borrowing money, that makes it a difficult task. If you’re a regional bank or small town bank and you can lend out money on 10-12 month agricultural operating notes to the tune of $500k-2.5 mil each isn’t it much easier to put $10-20 mil to work than if you were dealing with making retail loans for cars, houses, etc particularly since those loans are longer maturity loans? What if you could effectively put $20 mil out in annual operating loans with 12 month or less maturities at 4.5-5.5% via 25-30 loans PLUS the person borrowing it has 75% revenue protection bought via crop insurance as well as land & equipment collateralizing the notes at a time that equipment and land prices are zooming into the stratosphere?!?!?!?!?!

 

You see, the ag community kept growing and the appetite for debt was there from the start but encouraged by federally subsidized crop insurance. Lenders needed to put money to work and they found it too easy NOT to make large operating notes that renewed annually at decent interest rates to individuals/businesses that were a) looking at positive cash flows, b) partially protected by federally subsidized crop revenue protection in the form of crop insurance and c) collateralized by rapidly appreciating assets (equipment & land). Farmers get to expand, rural America gets a hand, bankers put money to work and everyone lives happily ever after…

 

Until commodity prices come under pressure because the supply side gets overstimulated, revenue side drops dramatically while the cost side remains sticky and then we get the massive transfer of equity from the farmer to a variety of beneficiaries including a) banks in the form of interest, b) landlords in the form of higher rent and higher asset(land) values, c) equipment companies in the form of inflated revenues due to inflated equipment prices, d) input providers in the form of higher prices for seed, chemical and fertilizer… all being transferred from the farmer’s balance sheet.

 

Then you add in the intangible side to the equation: what is the farmer going to do if he decides to quit because he doesn’t want to take all of these risks? If he decides NOT to farm because he sees what is happening in terms of greater and greater risks to his equity what is he going to do to put food on his table? If he doesn’t pay the extra $25/ac land rent to keep a neighbor from renting it out from under him he’ll lose the land and then what will he do? There are only so many jobs “in town” to get and rural America is drying up so what will he do? You see, here is the hard part. He made the decision to get in or stay in the rat race even when he knew that the numbers didn’t make sense because he didn’t see a viable “plan B” and there was a banker standing there able and willing to continue to give him more and more rope until he finally hanged himself when the mouse trap flipped on him.

 

THAT, fine sir, is where we are today in US agriculture.

 

I apologize that this turned out as lengthy as it did BUT I felt that it was a worthwhile exercise to put these thoughts into email and share them with you because you are a student of the markets and also because you will hopefully be joining us for our Commodity Roundtable in January so a better framing of the situation might help you understand the circumstances they are facing.

 

As a macroeconomist, how do we work out from under this situation? What is the roadmap for the US farmer? Higher commodity prices are a temporary fix as we’ve seen because as long as the money is available (available credit) and affordable (low interest rates) the inflationary explosion continues on the cost/input side of the equation. Currently we’re shrinking farmer balance sheets until banks won’t be able to lend to them any longer at which time the decisions will be made FOR the farmer not BY the farmer.

Brilliant! I mean, f’ng brilliant. Shaeffer completely nailed it. The government’s subsidies have created a situation where far too much credit has been extended to an industry. This has caused inflation in prices of the inputs that go into farming, but not the output.

Want another example? Have a look at Student Loans versus tuition inflation.

Tuition inflation has greatly outpaced regular CPI, but it has gone hand in hand with the growth of student debt. Over allocations of credit have peculiar effects on the pricing of both the inputs and the outputs of the affected area.

What to do about it?

Now I am not sure what to do about Shaeffer’s deduction. As long as subsidies exist, it seems that too much money will be allocated to agriculture loans, and will therefore, keep grain prices lower.

But here’s a thought. Over the past half dozen years, there has been little demand for loans in the regular economy. This has encouraged bankers to lend to farmers with their government backstop.

Yet what will happen if economic activity picks up? Loan demand across all sectors will increase, decreasing the amount of credit that will be extended to farmers. This will occur at a terrible time as grain prices are near rock bottom levels. Unfortunately, without as much credit, many of these farmers might be forced to quit. However, that will cause the price of the grains to rally. Maybe to a more sustainable level where farmers can once again make a living. Ironically, rising interest rates, might be the best thing for both farmers, and grain prices.

Wait! Did I just make another bullish argument for buying grains?

Yeah, yeah, I did. As Richard Dreyfuss taught me so well, let it ride…

---

Market On Close in December

What’s that famous Wall Street saying? The dumb money trades in the morning, the smart money trades at the close. Well, astute market watcher Helene Meisler recently highlighted that the Market on Close (MOC) imbalances have consistently been to the sell side lately.

In fact, every single day in December has seen MOC sell imbalances.

Institutions often trade at the close, while the public is more prone to trading closer to the open. There has even been an indicator created to measure this phenomenon.

If we look at the SMART Index, the late day selling shows up clearly with a big retreat from the highs.

So far, the stock market has not followed the SMART Index lower in any meaningful way. But don’t worry, I am sure this distribution by institutions is somehow bullish. After all, don’t you know? Stocks only go higher.

A Perfect Forecast

While I am on the topic of the stock market, earlier in the week Meb Faber noted that Barrons reported:

These strategists are usually bullish, so it’s not terribly surprising. But it does smack of another period when universal optimism also reigned. At the end of 2007, the S&P 500 stood at 1468 and Wall Street’s smartest had the following forecasts:

And where did it close? Down 38.5% to 903. Ooops. Just a little off.

Thanks for reading and have a great weekend,

Six Ways US Stocks Are The Most Overvalued In History

Submitted by Mish Shedlock

US large cap stocks are the most overvalued in history. Let"s investigate six ways.

Crescat Capital claims US large cap stocks are the most overvalued in history, higher than prior speculative mania market peaks in 1929 and 2000.

Their 25-page presentation makes a compelling case, with numerous charts. It"s worth your time to download and investigate the report.

Six Ways Socks Most Overvalued in History

1. Price to Sales


2. Price to Book


3. Enterprise Value to Sales


4. Enterprise Value to EBITDA


5. Price to Earnings


6. Enterprise Value to Free Cash Flow

Here are a few snips from the report.

Bear Market Catalysts

There are many catalysts that are likely to send stocks into bear market in the near term. A likely bursting of the China credit bubble is first and foremost among them. Our data and analysis show that China today is the biggest credit bubble of any country in history. We believe its bursting will be globally contagious for equities, real estate, and credit markets. The US and China bubbles are part of a larger, global debt-to-GDP bubble, which is also historic in scale, and the product of excessive, lingering central bank easy monetary policies in the wake of the now long-passed 2008 Global Financial Crisis. 

 

These policies failed to resolve the debt-to-GDP imbalances that preceded the last crisis. Now, easy money policies have created even bigger debt-to-GDP imbalances and asset bubbles that will precipitate the next one.We are in the very late stages of a global economic and business expansion cycle with investor sentiment reflecting record optimism typical at market peaks, a sign of capitulation at the end of a bull market. Crescat is positioned to profit from the coming broad, global cyclical market and economic downturn that we foresee. We strongly believe that our global equity net short positioning in our hedge funds will be validated soon.

Cyclical PE Smoothing

It is critical to use cyclical smoothing to accurately gauge market valuations in their current and historical context when using P/E.Yale economics professor, Robert Shiller, received a Nobel Prize in 2013 for proving this fact so we hope you will believe it. 

 

The problem with just looking at trailing 12-month P/E ratios to determine valuation is that it produces sometimes-false readings due to large cyclical swings in earnings at peaks and valleys of the business cycle. For example, in the middle of the recession in 2001, P/Es looked artificially high due to a broad earnings plunge. P/Es can also look artificially low at the peak of a short-term business cycle, which can produce what is known as a “value trap”, such as in 2007 during the US housing bubble and such as we believe is the case today in China, Australia, and Canada.

 

Shiller showed a method for cyclically-adjusting P/Es using a 10-year moving average of real earnings in the denominator of the P/E. Shiller’s Cyclically-Adjusted P/E, called CAPE multiples have been better predictors of future full-business-cycle stock market returns than raw 12-month trailing P/Es. Shiller showed that markets with historically high CAPEs lead to low long-term returns for long-only index investors. Shiller CAPEs are fantastic, but they can be improved by including an adjustment for corporate profit margins which makes them even better predictors of future stock price performance and therefore even better measures of cyclically-adjusted P/E for valuation purposes. 

 

.Shiller’s CAPEs simply need an adjustment for profit margins because margins are a key element of earnings cyclicality. We can understand this by looking at median S&P 500 profit margins in the chart below. For example, even though profit margins were cyclically and historically high during the tech bubble, they are even higher today. In the same spirit of Shiller’s attempt to cyclically adjust earnings to determine a useful P/E, CAPEs need to be adjusted for cyclical swings in profit margins.

When we multiply Shiller CAPEs by a cyclical adjustment factor for profit margins (10-year trailing profit margins divided by long term profit margin), we get a margin-adjusted CAPE that is not only theoretically valid but empirically valid as it proves to be an even better predictor of future returns than Shiller’s CAPE!

 

Credit goes to John P. Hussman, Ph.D. for the idea and method to adjust Shiller CAPEs for swings in profit margins.As we can see in the Hussman chart below, margin-adjusted CAPE, shows that today’s P/E ratio for comparative historical purposes is 43, the highest ever! The 1999 peak P/E was 41 and the 1929 P/E was 40. Once again, we can see that today we have the highest valuation multiples ever for US stocks, higher than 1929 and higher than 1999 and 2000!

Margin-Adjusted CAPE

It"s easy to discard such talk, just as it was in 2000 and 2006. People readily dispute CAPE, concocting all sorts or reasons why it"s different this time. The most common reason is interest rates are low. We also hear "stocks are cheap to bonds" which is like saying moon rocks are cheap compared to oranges. I do not know when this all matters. And no one else knows either. What I am sure if is that it will matter.

How?

I don"t know when, nor am I sure "how" it happens. It could play out as a crash or stocks can decline over a period of 6-10 years with nothing worse than a 15% decline in any given year, accompanied with several sucker rallies leading people to believe the bottom is in.

History Lesson

Some might ask: If you don"t know when or how, of what use is such analysis.The answer is that history shows this is a very poor time to invest in stocks. That does not mean, they cannot go higher(and they have).

History also suggests that people who invest in bubbles, start believing in them. People believe in bubbles because they have to, in order to rationalize their investments. Others know full well it"s a bubble but they think they can get out in time. Historically, few do because they are conditioned to "buy-the-dip" philosophy, and keep doing so even after it no longer works.

Yesterday, I noted Oppenheimer Predicts PE Expansion, Most Bullish S&P Forecast Yet.So if you are looking for a reason to stay heavily invested in this market, you have one. But don"t fool yourself, this is the most expensive market in history.

 

 

 

Finally, An Honest Inflation Index – Guess What It Shows

Posted with permission and written by John Rubino, Dollar Collapse 

 

 

Central bankers keep lamenting the fact that record low interest rates and record high currency creation haven’t generated enough inflation (because remember, for these guys inflation is a good thing rather than a dangerous disease).

 

To which the sound money community keeps responding, “You’re looking in the wrong place! Include the prices of stocks, bonds and real estate in your models and you’ll see that inflation is high and rising.”

 

Well it appears that someone at the Fed has finally decided to see what would happen if the CPI included those assets, and surprise! the result is inflation of 3%, or half again as high as the Fed’s target rate.

 

New York Fed Inflation Gauge is Bad News for Bulls

 

(Bloomberg) – More than 20 years ago, former Fed Chairman Alan Greenspan asked an important question “what prices are important for the conduct of monetary policy?” The query was directly related to asset prices and whether their stability was essential for economic stability and good performance. No one has ever offered a coherent answer even though the recessions of 2001 and 2008-2009 were primarily due to a sharp correction in asset prices.

A new underlying inflation gauge, or UIG, created by the staff of the New York Fed may finally provide the answer. Its broad-based measure of inflation includes consumer and producer prices, commodity prices and real and financial asset prices. The New York Fed staff concluded that the new inflation gauge detects cyclical turning points in underlying inflation and has a better track record than the consumer price series.

The latest reading shows inflation of almost 3 percent for the past 12 months, compared with 1.8 percent for the consumer price index and 1.8 percent for core consumer prices, which exclude food and energy. Since the broad-based UIG is advancing 100 basis points above CPI, it indicates that asset prices are large, persistent and reflect too easy monetary policy.

The UIG carries three important messages to policy makers: the obsessive fears of economy-wide inflation being too low is misguided; monetary stimulus in recent years was not needed; and, the path to normalizing official rates is too slow and the intended level is too low.

Harvard University professor Martin Feldstein stated in a recent Wall Street Journal commentary that “The combination of overpriced real estate and equities has left financial sector fragile and has put the entire economy at risk.” If policy makers do not heed his advice odds of another boom and bust asset cycle will be high — and this time they will not have the defense mechanisms they had after the equity and housing bubbles burst.

To summarize, a true measure of inflation – one that is highly correlated with the business cycle – is not only above the Fed’s target but accelerating.

 

Note on the above chart that both times this happened in the past a recession and bear market followed shortly.

 

The really frustrating part of this story is that had central banks viewed stocks, bonds and real estate as part of the “cost of living” all along, the past three decades’ booms and busts might have been avoided because monetary policy would have tightened several years earlier, moderating each cycle’s volatility.

 

But it’s too late to moderate anything this time around. Asset prices have been allowed to soar to levels that put huge air pockets under them in the next downturn. Here’s a chart that illustrates both the repeating nature of today’s bubble and its immensity.

 

 

In other words, it is different this time — it’s much worse.

 

 

Questions or comments about this article? Leave your thoughts HERE.

 

 

 

 

 

Finally, An Honest Inflation Index – Guess What It Shows

Posted with permission and written by John Rubino, Dollar Collapse 

 

 

 

Check out these other articles by our contributors:

 

Jason Liosatos via Rory Hall - Dr. Paul Craig Roberts – Why is England, Germany and France Ruled by Washington? 

Craig Hemke - Another Tradable Low Coming

Jeff Thomas - Tilt! Game Over

One Of Bank of America"s "Guaranteed Bear Market" Indicators Was Just Triggered

It is undisputed that the last 2 quarters have demonstrated an impressive jump in corporate earnings growth, if mostly due to a beneficial base effect from plunging 2016 earnings which pushed them below levels reached in 2014. And naturally, this rebound has been more than priced into a market which has seen substantial multiple expansion since the Trump election to boot. But what is much more important for the market is what corporate earnings look like in the future, and it is here that Bank of America has just raised a very troubling red flag.

According to BofA"s Savita Subramanian, in November the S&P 500"s three-month earnings estimate revision ratio (ERR) fell for the fourth consecutive month to 0.99 (from 1.03), indicating that for the first time in seven months, there were more negative than positive earnings revisions, needless to say a major negative inflection point in the recent surge in profits. The bank"s more volatile one-month ERR also weakened to 0.94 (from 1.16).

A breakdown of EER by sector showed a sudden and broad-based deterioration, as the three-month ERR weakened across eight of the 11 sectors, with Materials, Health Care, and Financials seeing the biggest declines while, not surprisingly, Tech and Energy have the highest three-month ERRs, with Energy"s ERR expanding the most on the back of rallying oil prices. Meanwhile, Telecom, Real Estate, and Discretionary have the weakest ratios, and November saw a drop in the Health Care and Industrials" EER ratio below 1.0 (meaning more cuts than raises to earnings forecasts) for the first time since March. Furthermore, while two sectors have been "improving" in recent months: namely Energy and Tech whose ERRs have been rising; all other sectors have seen their ERRs roll over.

Why is this significant?

As BofA explains, the three-month S&P 500 ERR is used by the bank as one of its 19 key "bear market signposts", and with the one-month ERR falling below 1.0 for the second time in six months, this marks the trigger for the 11th bear market signpost. BofA"s ERR rule is triggered when, over a six-month window, all of the following criteria are met: 1) the one-month ERR falls from above 1.0 to below 1.0; 2) the one-month ERR is below 1.0 for two or more months; and 3) the three-month ERR falls below 1.1 for at least one month.

Incidentaqlly, the hit rate of the "ERR" bear market indicator, meaning its historical accuracy in predicting a bear market is 100%, the only question is how long it takes. The last time this trigger was set was mid-2003, and here is the punchline from Bank of America:

Since 1986, a bear market has followed each time that the ERR rule has been triggered. While individual signposts may not be useful for market timing (this one was triggered several years too early in the last two cycles), prior bear markets were preceded by a broader array of signals having been triggered.

This is shown in the chart below:

Ok so one indicator out of 19 now is flashing "bear market" dead ahead. That"s hardly bad if the rest are all green, right? Well, they aren"t.

As discussed two weeks ago, Bank of America recently compiled a list of bear market signposts that have always occurred ahead of bear markets. No single indicator is perfect, and as Subramanian wrote, "in this cycle, several will undoubtedly lag or not occur at all." And while single indicators may not be useful for market timing, they can be viewed as conservative preconditions for a bear market. In this context, the suddenly "triggered" ERR indicator is one of the bank"s 19 bear market signposts.

Here a caveat is warranted: in the last two cycles, the ERR rule was triggered several years too early (Chart 3 above), although a bear market followed each time that the ERR rule has been triggered. As for timing, the more signposts triggered, the greater the risk of an imminent bear market, in BofA"s view. And in November, the one-month ERR falling below 1.0 for the second time in six month marked the 11th trigger (out of 19). This is shown in the table below.

It also means that nearly two-thirds of Bank of America"s bear market indicators have now been triggered. As Subramanian concludes "every cycle is different, but we expect to see more signposts triggered before the eventual market peak."

Then again, this remains a "market" where even if 12 out of the 11 indicators are triggered, it may just send the S&P limit up as there is no point in selling if all that does is guarantee another central bank bailout.

The Moment The Market Broke: "The Behavior Of Volatility Changed Entirely In 2014"

Earlier today we showed a remarkable chart - and assertion - from Bank of America: "In every major market shock since the 2013 Taper Tantrum, central banks have stepped in (even if verbally) to protect markets. Following the Brexit vote, markets no longer needed to hear from CBs as they rebounded so quickly that CBs didn’t need to respond." As a result, buy-the-dip has a become a self-fulfilling put.

The immediate result of this dynamic has been two-fold: i) investors now buy every dip, or as Bank of America notes, "Investors no longer fear shocks, but love them, as it is an opportunity to predictably generate alpha.", and ii) selling of vol has become a self-reinforcing dynamic, in which lower VIX begets more vol-selling by "yield-starved investors", leading to even lower VIX as the shock that can reset the feedback loop is no longer possible, and thus the strike price on the Fed"s put can not be put to a market test.

These observations prompt BofA"s derivatives expert Benjamin Bowler to ask the rhetorical question: "volatility: new normal or bubble?" and answer: "It"s a bubble." Indeed it is, but absent the abovementioned market-clearing shock, it is difficult, if not impossible to anticipate what can burst this bubble.

In the meantime, the market has spawned some spectacular distortions, including the following observation: "As one measure of volatility, the Dow Jones Industrial Average traded in its tightest trading range since 1900 this year." Here is Bowler:

While asset valuations are not at life-extremes, volatility is. In 2017 the Dow traded in a 110yr record tight trading range, the VIX hit all-time lows, and US equities reversed from sell-offs at near their fastest pace in 90 yrs. Investors no longer fear risk but love it, as it’s another opportunity to harvest “dip-alpha”. Volatility across asset classes has decoupled from uncertainty. Even if seemingly irrational, apathy to all risk has been the right trade and an impossible trend for most to fight – the definition of a bubble.

A bubble, he adds, "induced by years of heavy handed central bank influence, where investors have learned that it has not paid to panic." Bowler asks readers to consider the following:

As one measure of volatility, the Dow Jones Industrial Average traded in its tightest trading range since 1900 this year

Near 90yr records are occurring in the speed that US equities are recovering from dips

The VIX is near 26yr lows despite political & policy uncertainty recently near 26yr highs

Gold call options price less than 1 in 100 chance of rising North Korean tensions in the face of rising North Korean tensions

The above leads Bowler to concludes that "while there is active debate about whether risk-assets like equities and credit are overvalued, it is much harder to argue that currently depressed volatility levels are unsustainable when near 100yr records in terms of low vol and the lack of persistence of any shock are being recorded."

So when did the market "break", and when did the behavior of volatility change so dramatically?

This overarching question has been plaguing Wall Street strategists for much of 2017. In July, we presented one answer from Deutsche Bank"s Aleksandar Kocic who pointed out the divergence between the economic policy uncertainty index and the VIX, which took place roughly in 2012, prompting the derivatives expert to conclude that something "snapped" roughly around that time, or as Kocic said, sometime in 2012 it was as if the markets “lost their capacity to deal with uncertainty.”

Bank of America takes a somewhat different approach, and instead of looking at the divergence between volatility and news - or shock - flow, highlights the moment BTFD became religion.

According to Bowler, "the nature of volatility since 2014 has entirely changed, with volatility shocks retracing at record speed. Investors no longer fear shocks, but love them, as it is an opportunity to predictably generate alpha." This is demonstrated in the following stunning chart which not only shows that every VIX dip is now just an opportunity to buy it, but that the market"s "fragility" is at an all time high based on the surging frequency of vol spike events, which in turn, and paradoxically, reassure investors that a central bank backstop can not be too far away.

BofA is hardly the first to point out this phenomenon: almost exactly one year ago, it was JPM"s "quant wizard" who highlighted precisely the same, if not through the perspective of VIX but the overall market response to recover from "shock" events:

It appears that the time horizon of macro traders has shortened, likely as a result of increased participation of machines and algorithms that are quicker to adjust to significant events and can eliminate trading activity of slower investors. Consider for example the US elections - traders in Japan registered a 5.4% Nikkei drop on the 9th, followed by a 6.7% rally on the 10th, while S&P 500 investors did not register a significant close-to-close move over the election (due to market hours difference). These two days were enough to shift the volatility regime (usually calculated from closing returns) for the whole of 2016 for the Japanese equity market, and leave it unchanged for S&P 500 (e.g. think of rebalancing needs of a hypothetical risk parity fund, or a short volatility strategy based on Nikkei vs. one based on S&P 500). We also noticed that for a number of significant catalysts this year (Brexit, US Election, Italy Referendum) broad expectations were wrong both on the outcome and the directionally forecasted impact. It is possible that the lack of market reaction (or a reaction that went against the accepted narrative) was in part driven by investors’ reluctance to transact (“two negatives equal a positive”).

Ah yes, the infamous "investor reluctance to transact", which has only gotten worse as we hinted in our "trader paralysis" post, and which Goldman demonstrated vividly just last month when the bank showed that hedge fund turnover has now dropped to an all time low as virtually nobody trades anymore.

Whatever the reason behind the broken market, however, whether it is central banks, machines, algos, risk parity funds, vol-targeting strategies,  self-reinforcing "Pavlovian" dynamics, or simply traders no longer trading, the question is what comes next? While we will have a more detailed breakdown in a subsequent post, here are Bowler"s three questions, and several answers of what to expect in 2018:

As we enter 2018, three questions are top of mind when it comes to volatility:

1. Is 2018 the year when vol begins to normalize, or is this the “new normal”?


2. As low vol threatens to sow the seeds of the next crisis, how will this end?


3. Where does vol go in the longer-run; can we ever see the old-normal return?

 

Vol likely to rise off extreme lows; ’87 crash unlikely, but so is VIX averaging 20 While we will look at each question in more detail in turn, the short answers are:

1. Higher not lower vol: We think 2018 is most likely to see higher (not lower vol) as the Fed builds more “ammunition” in terms of rate-hikes leaving them less sensitive to financial market conditions (i.e. pushing the Fed put strike lower), and as CB balance sheets peak in 2018.


2. Vol bubble more likely to deflate than explode: While the risk of “fragility” shocks due to positioning and feeble liquidity is high, we think the level of leverage today, which is lower compared to the last time vol was this depressed (2007), does not present the same risks as then.


3. Vol to remain low vs. long-run average: However, to the extent we remain in a low inflation/low rates environment, we may also remain in a lower than normal vol environment. So while VIX near 9 is an unsustainable bubble, VIX at 20 (the long-run average) may also be unsustainable in a slower growth world.

And BofA"s conclusion:

What to watch for? In a world slaved to rates, inflation remains key

 

From a macro perspective, we continue to believe unexpected inflation is the kryptonite for volatility. Inflation presents a “triple whammy”, first driving economic vol higher, destabilizing bond markets (and putting bond/equity correlation at risk), but importantly handcuffing central banks from being as sensitive to financial markets. In other words it both drives fundamental risk higher and significantly impairs the protection markets have become dependent on. Rising rates vol is key to watch.

 

How bad can it get? From here Aug-15 shock likely but ’87 crash is improbable

 

Interestingly, while the world is hyper-focused on how big the “short-vol” trade is, history shows that any liquidity shock large enough to create an equity bear market (20% fall in equities, similar to 1987 or LTCM crisis) provides a forewarning in terms of rising volatility first (look for S&P vol to double from 10 to 20). Fragility shocks (similar to Aug-15) that happen without warning remain the bigger risk today in our view.

 

So, how do you trade this? Long “vol beta”, cheap options for direction

 

The most important question is, how do you trade this environment where investors have given up on risk (or have learned to love it as buying dips has been “free money”). Evidence of a “bubble in apathy” is strong, and we believe it is unsustainable. However, the problem with any bubble is not recognizing you are in it but rather timing its end. Hence the key is finding trades that will profit from a change in environment but carry well and hence don’t require perfect timing. The beauty of today’s low vol is that it can be cheap to own optionality (for example for upside stock replacement) which affords the benefit of not having to time when markets may peak.

 

Does this mean short vol is a bad idea? No, but it needs to be smartly managed

 

Importantly, believing that today’s low vol is unsustainable does not mean all short vol positions are bad. Don’t forget, owning any risk asset (equity, credit etc.) is a short-vol trade. The key is finding the best short vol opportunity (highest risk-adjusted returns), while managing downside risks appropriately. Harvesting rich vol risk-premia is key to funding cheaper long vol positions elsewhere.

Markets Are Unprepared For A Government Shutdown

Authored by James Rickards via The Daily Reckoning,

Will Republicans and Democrats agree on a budget, and avoid a government shutdown after midnight Friday?

I’d say the odds are 50/50. Actually, I put the odds of a shutdown at about 55%. There’s certainly enough substance here to be wary.

The government could shut down because of disagreements over defense spending, funding for Trump’s wall with Mexico, deportation of illegal immigrants brought to the U.S. as children (the “Dreamer Act” also referred to as “DACA”), funding for Planned Parenthood, funding for Obamacare (called “SCHIP”), disaster relief and more.

There’s not much middle ground between Democrats and Republicans on many of these hot button issues.

How would a shutdown affect the Fed’s plans to raise rates on the 13th?

If an agreement can’t be reached and the government does shut down, it’s very difficult to imagine that the Fed would go forward with its planned interest rate hike on Dec 13.

Meanwhile, markets are almost certain the Fed will raise rates. It’s already “baked into the cake.”

The euro, yen, gold and Treasury notes are all fully priced for rate hike. If it happens, those instruments won’t change much because the event is priced.

But we could see a violent market reaction if Janet Yellen stays put and doesn’t raise rates.

If the Fed doesn’t raise rates, gold could soar as the Fed passes on its best chance to raise rates and markets perceive that easy money is here to stay. Euros, yen and Treasury notes will also soar.

Of course, saying the government could shut down is different than saying the government will shut down. Again, I give it about a 55% chance at this point.

And there are lots of ways for things to go wrong.

Late last week the Commerce Department released the October PCE core inflation data. This is important because that’s the number the Fed watches. There are plenty of other inflation readings out there (CPI, PPI, core, non-core, trimmed mean, etc), but PCE Core year-over-year is the one the Fed uses to benchmark their performance in terms of their inflation goal.

The Fed’s target for PCE Core is 2%. The October reading was 1.4%. For weeks I’d been saying that a 1.3% reading would put the rate hike on hold, and a 1.6% reading would make the rate hike a done deal. So, the actual reading of 1.4% was in the mushy middle of that easy-to-forecast range.

What’s interesting is that the prior month was also 1.4%, so the new number is unchanged from September. That’s not what the Fed wants to see. They want to see progress toward their 2% goal.

On the other hand, the 1.4% from September was a revised number. It was earlier reported at 1.3% (the same number as August).

You can read this two ways. If you see the August 1.3% as a low, then you can say the 1.4% readings for September and October were progress toward the Fed’s 2% target. It’s a thin reed, but Yellen could use this to justify her view that the year-long weakness in PCE Core is “transitory.”

On the other hand, these 0.1% moves month-to-month are really statistical noise and may even be due to rounding. The bigger picture is that PCE Core is weak and nowhere near the Fed’s target. Another rate hike in December could be a huge blunder if it slows the economy further and leads to more weakness in PCE Core.

On balance, the PCE Core number is probably just enough (barely) to justify a rate hike. I’ve raised my probability of a December rate hike from 30% to just over 50% — 55%. That’s what analysts are supposed to do; they update forecasts continually based on new data. You can’t be stubborn about your analysis.

I’m not trying to be “in consensus” or “out-of-consensus.” I just want to get it right, and that means sometimes I’ll be in consensus. Other times, I won’t be.

But you should forget how the market is pricing the outcome. The Fed funds futures market has been off by orders of magnitude before. In mid-February 2017, the futures markets gave the odds of a rate hike in March at 30%.

I was giving 80% odds.

Within three trading days at the end of February, the market odds shifted from 30% to 80% before converging at 100% by the March meeting.

That does not mean I’ve got it right this time. But it does illustrate that the futures market does not always get this right — not even close.

And markets are being set up for a fall.

Bull markets in stocks seem unstoppable right up until the moment they stop. Then comes a rapid crash-and-burn phase.

Is there ever any warning that a collapse is about to happen?

Of course there is. Analysts warn about it all the time and provide mountains of data and historical evidence to back up their analysis. The problem is that everyone ignores them.

You can talk about the dangers represented by CAPE ratios, margin levels, computerized trading, persistent low volatility and complacency all you want, but nothing seems to slow down this bull market.

Yet there is one thing that can stop a bull market in its tracks, and that’s corporate earnings.

The simplest form of stock market valuation is to project earnings, apply a multiple and, voilà, you have a valuation. Multiples are already near record highs, so there’s not much room for expansion there.

The only variable left is projected earnings and that’s where Wall Street analysts are having a field day ramping up stock prices. Earnings did grow significantly in 2017 on a year-over-year basis, but that’s mainly because earnings were weak in 2016, so the year-over-year growth was relatively easy.

Now comes the hard part.

How do you expand earnings again in 2018 when 2017 was such a strong year? Wall Street just uses a simple extrapolation and says next year will be like this year, only better! But there is every reason to doubt that extrapolation.

Earnings are likely to fall short of expectations, which can lead to a correction. Once that happens, multiples can shrink as well. Soon you’re in a full-scale bear market with stock prices down 20% or more.

That’s without even considering a war with North Korea and all of the dangers others have already mentioned. This may be your last clear chance to lighten up on listed equity exposure before the bubble bursts.

Markets are creatures of manipulation by Fed policy changes, statements, forward guidance and the other prestidigitation of modern central banks. That’s what you get after 10 years of ZIRP, QE, tapering, QT, forward guidance, currency wars and musings about NIRP.

Shutdown or no shutdown, the Fed has painted itself into a corner and there’s no way to escape the room. That’s the larger story to keep in mind as Dec. 13 approaches.

Tune out the current sideshow and keep that in mind.