"Extreme Fear"
The biggest policy error is the Fed’s fantasy that it knows what it is doing... and makes
any policy decisions at all. And if we are right, the Primary Trend will tell the tale.
by Bill Bonner
Poitou, France - "Not to worry! The standard, accepted, certified correct view of the stock market is that it always goes up ‘over the long-term.’ Based on figures from the S&P 500, investors have come to expect a total return of 10% per year. And the ‘price’ of getting these long-term gains, according to the sales pitch, is that you have to suffer occasional episodes of FOMO NO MO’, with a median temporary setback, since 1928, around 13% each year.
This is just one of those ‘drawdowns,’ says Wall Street. CNN: "US stocks wavered Wednesday, giving back earlier gains as investors tried to recover from the week’s bruising losses. The Dow fell 234 points, or 0.6%, after gaining more than 400 points earlier in the day. The S&P 500 declined 0.8% and the Nasdaq Composite lost 1.1%. CNN’s Fear & Greed Index, which measures seven barometers of market sentiment, closed in “extreme fear” territory."
Extreme fear? A 0.6% loss? Our point today is that CNN may have to readjust its index. When we look at it in terms of real, durable wealth - gold - we get a very different picture. In 1928, you could buy the S&P 500 for one ounce of gold. Now, after at least thirty years of price manipulation by the Fed, the S&P will cost you two ounces. That’s the entire real capital gain over a 96-year period. And more than likely, in the next major episode of FOMO NO MO’, it will disappear. The price of US stocks should return to a more normal level, where you’ll again be able to buy the S&P for one ounce of gold.
In other words: stocks do not always go up. In fact, it appears that they never really go up at all. Take away the fake dollar, the fake interest rates... and ten years of lending at zero by the Fed... and what do you have? Stocks at about the same real value they had in 1928. All amateur investors have really gotten since then are dividends. But wait. What about those drawdowns? Are they only 13% per year?
S&P 500 to Gold Ratio
Click image for larger size.
In 1967, you could buy the S&P for 2.6 ounces of gold. Then, over the next thirteen years, a drawdown took the price down to 0.17 of a single ounce - a 96% loss. The price of the S&P didn’t fully recover until 1997 - thirty years after the drawdown began.
And in the summer of 2000, the S&P/gold ratio rose to an all-time high over five ounces to the S&P. Then, it began to fall, eventually dropping down to 0.70 of an ounce in September 2011 - a drawdown of 86%. Now, almost a quarter of a century later, after the most aggressive central bank stimulus in history, investors have not even recovered half of what they lost. Sell the S&P today and you can buy just a bit more than two ounces of gold.
Bonds are different. The interest rate (the coupon) doesn’t change. So the value of the bond is said to be more stable and reliable than a stock. Investors typically retreat to bonds when they fear a drawdown in the stock market. But since 2020, we’ve seen that bonds are no guarantee of financial safety; they’ve just suffered the worst sell-off in history.
Why did this happen? Because the Fed kept real interest rates below zero for more than ten years. This was ‘misinformation.’ And it misled the bond market. Investors overpaid for tiny yields. Then, when interest rates returned to more normal levels (the Fed had to raise rates to fight inflation in 2022) bond prices fell.
Again, we turn to gold to keep score... The yield on a 10-year bond was only 0.84% in 1928. If we understand the research from NYU’s Stern School of Business correctly, a $100 bond purchased in 1928... if it had been held to the present... would have given you a total return of $7,278. Again, adjusting for inflation (using gold as our measuring stick), we see that $100 would have bought 4.8 ounces of gold back then. Today, $7,278 buys just 3 ounces of gold – representing a real loss of $4,309.
Stock investors generally accept episodes of FOMO NO MO’ gracefully. They believe they get a ‘risk premium’ (over bonds) to compensate. The sell-off from the last three weeks, for example, will set them back about 10%. But it comes after a 20% gain over the last 12 months... leaving them ahead of the game.
Still, hopes for an ‘emergency’ rate cut are rising. Seasoned investors are no dummies. They are like people who got into a Ponzi scheme early. They know it’s a scam... but they believe that they are the ones who will benefit from it.
As we saw yesterday, the Fed has an obvious bias. Whatever it does is sure to be a policy error (it can’t possibly know what interest rates the economy actually needs today... let alone those that it will need until the next quarterly FOMC meeting). But it won’t be a random error. The Fed is a creature of Wall Street and Washington... it will err on the side of easy money, with interest rates that are generally too low, not too high. This bias assures the pros that help is on the way. The Fed will soon make another policy error... putting the S&P back on track for another unhealthy gain.
The biggest policy error is the Fed’s fantasy that it knows what it is doing... and makes any policy decisions at all. And if we are right, the Primary Trend will tell the tale. While the Fed may be able to goose up nominal prices - for stocks and bonds - in the short term…the real, long-term trend is down... meaning, they are both going down in terms of gold. For stocks, the loss is likely to be 50% or more. For bonds... especially, US treasuries... the loss is expected to be even greater. ‘Extreme fear’ will come; but only when investors realize that the Fed’s policy errors won’t save them."
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