The Wisdom of Looking Like an Idiot Today

By: Adam Taggart | Tue, Dec 3, 2013
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IF you can keep your head when all about you
Are losing theirs and blaming it on you,
If you can trust yourself when all men doubt you,
But make allowance for their doubting too;

- opening stanza to Rudyard Kipling's, "If"

So, let's say you're a prudent person who has concerns that our economy isn't 'recovering' as robustly as you'd like.

Perhaps you still remember the speed and depth of the 2008 credit crisis' arrival, and its toxic impact on asset prices, jobs, and overall trust in the financial system. Maybe you took notes during the preceding tech and housing bubbles and their aftermath. If so, you likely swore that "Never again!" would you put your wealth at risk during such obvious times of public mania.

Chances are, you've probably logged a lot of hours over the past several years on the Internet trying to read the economic tea leaves more closely. Are things becoming more stable, or less? What are "safer" measures for protecting and building wealth than simply putting all your chips into the paper markets (stocks & bonds) and real estate?

As a result, you've probably had a smaller percentage of your wealth in the stock/bond markets over the past few years than your peers. You probably also own some gold and silver, likely having bought much of it between 2009-2011 with the stock market collapse still fresh in your memory. Chances are also good you've made a series of "preparedness" investments (stored food, etc) as an insurance policy in case really tough times were to break out. Most of your family and friends didn't take these steps, nor are particularly interested to talk about your reasons for taking them.

So, if this sounds at all like you: five years after the 2008 crisis, how is the "prudent" strategy looking today?


Looking Like An Idiot

As one who took similar steps, I'll confirm it looks pretty lousy to the casual observer.


Stocks & Bonds

There has been an absolute party in the stock market over the past two years. The S&P is up nearly 40% (!) since early 2012 and has almost tripled since its 2009 lows. It's been nearly impossible not to make money in the stock market recently (unless you've owned mining shares).

Bonds have remained at historically-elevated prices. And although 2013 has seen prices come off slightly from their highs, prices are still substantially above pre-crisis levels.

The pumped-up performance of paper assets here is of course due to the staggering amounts of new money the Fed has been creating since 2008. Starting with a balance sheet of $880 billion pre-crisis, the Fed has since expanded it by an additional $3 trillion. In less than 5 years. And it's continuing to expand to the tune of $85 billion (some calculate $100 billion) per month.

Most of that money sits in excess reserves enriching the banks at zero risk, at high hidden cost to the public (a rant for another day). But enough of it is sloshing over into the markets where it does exactly what excess liquidity always does: rise all boats.

So, if you decided to stay out of the markets, you've watched the party boat pass you by. They say "Don't fight Fed" and so far, the Fed is indeed winning. In reality, it will likely prove to be the Charlie Sheen version of "winning", but to the casual observer whose 401k is up 20% this year, the Fed definitely appears to be playing the better hand.


Real Estate

How soon we forget. Home prices have resumed climbing at historically-aberrant rates. The Case-Shiller home price index just reported that, year-over-year, its national home price index grew by 11.2%.

A number of markets have re-entered bubble territory. San Francisco, where prices are now higher than at their 2007 peak, saw a 26% year-over-year increase in average prices. Las Vegas, the poster child for housing prices excesses six years ago, saw a 29% average price increase from 2012 to 2013.

The tell-tale sign of an overheated housing market -- house flipping -- is back.

If you've been holding off on purchasing real estate (as I have) -- expecting a stumble back into recession, or higher interest rates, could bring prices down to saner baselines -- again, you're watching prices get away from you.


Precious Metals

Ugh. There's no denying it has been a very rough two years for gold and silver holders. As I'm writing this, gold and silver are dropping to near 4-year lows.

For those burned by the last crisis who purchased precious metals near their zenith in 2011, hoping to protect the purchasing power of their capital -- the nauseating declines since early 2012, especially in silver, have done anything but.

Those who bought PMs pre-2008 enjoyed a long stretch of validation while prices appreciated year after year. With a material percentage of that appreciation now gone, and month after month of relentless losses punctuated by vicious price smashes, it's harder to feel as smart as it once was.

But it's maddening. With the $3 trillion in new currency recently created by the Federal Reserve, shouldn't precious metals be appreciating? Wildly? Isn't that their central promise: to hold value as the purchasing power of paper money inflates away? But instead, they're decreasing in dollar price, even as the money supply continues to expand. How is that possible?

And Bitcoin! From almost out of nowhere, a new alternative currency skyrockets from nearly valueless to (briefly?) match the price of gold. It's like adding insult to injury for the 99.9% of precious metals holders who don't also hold Bitcoin. How can the world suddenly wake up to the advantages offered by non-fiat currency and yet still treat the granddaddy of sound money like kryptonite?


Sentiment

In 2009 and 2010, those of us who had warned our friends of the lurking risks in our economic and financial system suddenly looked like geniuses, instead of the kooks folks had dismissed us as. Now, we're back to being kooks.

A chart Chris has been sharing recently with our enrolled members shows that at no time in the past 30 years has sentiment been this bullish. Not even during the Internet stock mania of the late 1990s:

Invesators Intelligence Survey Percent Bears

Faith in the current system is as high as it has ever been, and folks don't want to hear otherwise.

This extreme optimism extends beyond the Economy. In the Energy sphere, in news headlines discussion of the "shale miracle" is still omnipresent -- without, of course, any mention of net energy, extraction costs or depletion rates. In the Environment, coverage of the real-time collapse of key fisheries or water shortages likely to impact food production rarely get any mainstream notice.

In short: if you're one of those people who thinks it prudent to have intelligent discussion on some of these risks -- that maybe the future may turn out to be less than 100% awesome in every dimension -- you're probably finding yourself standing alone at cocktail parties these days.


The Madness of Crowds

Charles MacKay's excellent classic reference book Extraordinary Popular Delusions and The Madness of Crowds explains the nefarious nature of public manias: they strive to suck in as many participants as possible before collapsing.

We are seeing classic signs of the abandonment of concern by the public in favor of not missing out on 'easy gains'. In addition to the examples mentioned above, signals that the fear trade has given way to the greed trade are abundant these days:

"All markets are bubbly" ~ Bill Gross, Nov 29 2013

"In many countries the stock price levels are high, and in many real estate markets prices have risen sharply...that could end badly. I find the boom in the U.S. stock market most concerning," ~ Robert Shiller, Dec 1 2013

"Now, five years later, signs of frothiness, if not outright bubbles, are reappearing in [at least 17 global] housing markets"
"What we are witnessing in many countries looks like a slow-motion replay of the last housing-market train wreck. And, like last time, the bigger the bubbles become, the nastier the collision with reality will be." ~ - Nouriel Roubini, Nov 29 2013

When this latest global asset bubble bursts as Roubini reminds us, by definition, it must; the public will cry "Why didn't anyone warn us?" The media will reflexively utter "Nobody saw this coming". But the truth is, there is evidence galore for those who choose to look for it.


The Wisdom of Looking Like an Idiot Today

The other key characteristic about popular manias/bubbles is that they collapse suddenly. Much more swiftly than they took to build.

The resultant carnage catches the masses like deer in headlights. The Kubler-Ross stages of grief begin quickly, and since Denial is Stage 1, most folks delay taking action out of disbelief. Soon Bargaining is reached, and they continue to delay reaction as prices continue falling - praying for the chance to get out if a reversal would just happen. It's not until Acceptance that most will take action, selling after the down draft has largely run its course.

Here are some useful stats to keep in mind that show how sudden and savage the 2008 market collapse was:

The takeaway here is that the wealth destruction caught most investors flat-footed. Most were unprepared -- both psychologically as well as with their portfolio positioning -- to react.

Many investors thought themselves savvy and nimble enough to avoid the losses they ultimately suffered, telling themselves a similarly ill-fated narrative as Charles Prince told his shareholders:

"When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you've got to get up and dance. We're still dancing," ~ Chuck Prince, Citigroup CEO, Jul 9 2007

Most readers remember how Citigroup's price dropped from over $500/share when Prince made this comment, to $10/share in March 2009. Prince was booted from his CEO role in late 2007 due to emerging losses resulting from the bank's MBS and CDO positions, investment classes which proved to be at the heart of the 2008 crisis.

So, a smart question to ask at this time is: is the moment in time we're in today closer to January 2006, when there were several years left of exuberance to ride? Or are we more like September 2008, poised at the precipice?

A smarter answer is: there's no way to know with acceptable certainty.

Like grains of sand piling up or snowflakes falling on a cornice, we can assess the growing level of risk, but we can't identify the grain of sand or snowflake that will cause the eventual cascade. We can't predict the collapse timing with confidence. We can -- and will -- continue to make our best educated estimates; but the exact timing is unknowable.

So, given that fact, as John Hussman so pithily captures, bubble markets force us to make a choice:

The problem with bubbles is that they force one to decide whether to look like an idiot before the peak, or an idiot after the peak.

And so your choice is upon you. Look at the evidence around you -- a movie nearly identical to one you saw in 2008 and in 2000 -- and either decide to party with the herd while the music plays (look smart today), or park yourself in safety now (look smart tomorrow).

Since the timing of the next correction is unknowable, the prudent choice is obvious. But it's not easy for all the reasons mentioned at the start of this article.

A helpful question to ask yourself is: if I could talk to my 2009 self, what would s/he advise me to do?

For most of us, our past self, recently reminded of the anguish of wealth destruction, would say "Run to safety!" at the first whiff of anything bubblicious. Research has shown that when the chips are down, the benefits of loss aversion are always preferred to the joys of gain.

Don't put yourself in a position to relearn that lesson so soon after the last bubble. Exercise the wisdom to look like an idiot today.


The Need For Discipline is Greater Than Ever

OK, so what should today's "idiot" focus on doing?

Essentially, the approach here is to dismiss what is not in our control and focus on what we can best do with what is. Be practical. Be prudent. Be dull to those watching you from the dance floor.

John Hussman signed off his latest report with the advice: "Risk dominates. Hold tight." I agree. Now is the time act with the courage of our convictions.

As Kipling put it at the end of his poem:

If you can force your heart and nerve and sinew
To serve your turn long after they are gone,
And so hold on when there is nothing in you
Except the Will which says to them: 'Hold on!'

If you can talk with crowds and keep your virtue,
Or walk with Kings - nor lose the common touch,
If neither foes nor loving friends can hurt you,
If all men count with you, but none too much;
If you can fill the unforgiving minute
With sixty seconds' worth of distance run,
Yours is the Earth and everything that's in it,
And - which is more - you'll be a Man, my son!

 


 

Adam Taggart

Author: Adam Taggart

Adam Taggart
Peak Prosperity

Adam Taggart

Adam is the President and Co-Founder of Peak Prosperity. Basically, his job is to handle the business side of things so that Chris is free to think & write.

Adam is an experienced Silicon Valley internet executive and Stanford MBA. Prior to partnering with Chris (Adam was General Manager of the earlier site, ChrisMartenson.com), Adam was a Vice President at Yahoo!, a company he served for nine years. Before that he did the 'startup thing' (mySimon.com, sold to CNET in 2001). As a fresh-faced college graduate, he got a first-hand look at all that was broken with Wall Street as an investment banking analyst. Most important, he's a devoted husband and dad.

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