One the heels of last week’s propaganda by the Fed, the Godfather of newsletter writers, Richard Russell, writes about the end of the current monetary system, the bond market collapse, volatility in stocks and the end of the Federal Reserve. This is a fantastic piece where Russell includes two key charts.
Richard Russell: “The great bull market that started in 1982 with the Dow at 776 possessed one great advantage — It had a bull market in Treasury bonds behind it. At the time (in 1982) the yield on long T bonds was around 15%. The bond market and the stock market rose together until the 2000s. The stock market hit its bull market high on October 7, 2007 at 14,164.53 on the Dow. The bond market hit its bull market peak in May of 2013.
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Now the great bond bull market has topped out, and a new bear market in bonds is underway. This will mean rising interest rates for as far as the eye can see, with accompanying interest rate pressure on stocks.
Question — Russell, you stuck your neck out last week and stated that the stock market may be in major trouble. How come?
Answer — First, I believe the bull market in bonds is over. That means that we may face many years of irregularly rising interest rates. Remember, the Bernanke Fed artificially depressed interest rates with its huge QE program, during which it bought massive quantities of bonds. The Fed’s program cannot continue forever — in fact, Bernanke has recently conceded that the Fed is making plans to “taper” (down) its bond buying program. When the Fed tapers, bond prices will decline towards their normal, free-market levels, and interest rates will rise (bonds and their yields move in opposite directions).
Next, one crucial characteristic of a bear market bottom is the appearance of great values in blue-chip stocks. At the lows of 2009 we never saw blue chip stocks selling at classic great values. At the bear market lows of 1932, 1942, 1949, 1974 and 1982, the Dow sold at less than 10 times earnings with dividend yields in the 5-7% range.
For instance, in 1974 dividend yields on the Dow were as high as 7%. In 1932 dividend yields on the Dow were 10%. The absence of great values at the 2009 low made me suspicious and led me to believe that the low of 2009 was not a true bear market bottom. The fabulous values that accompany true bear market lows were just not there.
Last night I read through the latest issue of Barron’s from cover to cover, and nowhere did I see a single mention of a primary bear market. This made me suspicious. Obviously, I can’t guarantee that we’re in a primary bear market, but I certainly can suspect as much. The worst part is that if indeed we are in a bear market, then the vast majority of investors are not positioned or prepared for such an event. I believe that most investors think that last week’s sell-off was simply a gut-check reaction to Bernanke’s remarks about a potential cessation of QE.
If indeed a bear market has started, one hint will be provided by volume. On declines in a bear market, volume will tend to expand, while during rallies volume tends to subside. Also, in a primary bear market the down-legs tend to be extended and “dragging,” while the counter-trend rallies will usually be sudden and violent. Therefore, volatility will be on the high side during a primary bear market.
Of course, price limits have to do with classifying a bear market. By common acceptance, a decline of 20% from the preceding peak identifies a bear market. I pick Dow 10,000 as a key level. Below 10,000 is the point of no return.
… Now we come to the question of consequences. What are the consequences if you sit stubbornly with your portfolio of stocks, insisting that we are simply experiencing a correction, and it turns out that you are wrong? The consequences could be catastrophic.
For that reason, I suggest that my subscribers act “as though” we are possibly in the second part of the primary bear market that started in 2007 — we will know more as we go along.
… To repeat, I maintain that the bear market that began in 2007 was never completed. In my worst scenario, the remainder of the bear market that started in 2007 is now on its way to completion.