Market Overview

No Bottom In Sight For Stocks? Financial Crisis 2.0


It is my belief that we are headed for another major financial crisis, as the problems which catalyzed the first crisis simply were not addressed, but rather papered over with bailouts, government stimulus, and quantitative easing. The difficulty with this prognostication, however, as always, is timing. It could be beginning right now with the spate of dismal economic data, or it might be 5 or even 10 years before the major collapse occurs - if the powers that be can kick the can down the road for that long.

Given the stock market declines of the last month, combined with highly disappointing economic data, and the end of QE2, there is some evidence that we may be at an economic crossroads right now. The key question is what is going to happen if the economic "soft patch" that we are currently in, turns out to be the beginning of another recession? The Fed has already bloated its balance sheet to grotesque levels, and through their quantitative easing program, they have driven the price of commodities skyward. In fact, many believe that, on balance, QE2 was basically ineffective. While I believe that QE3, in some form, is likely, it may be met with derision by the markets.

Given that the Fed has been holding interest rates at historic lows for years now, and has pumped unprecedented amounts of liquidity into the markets, one has to wonder if they would have any policy measures left to combat another recession. I don't think that they do. This reality comes against the backdrop of a Treasury that is so deeply in debt, that austerity measures are going to have to be instituted in this country, and soon. The Federal Government simply cannot take on more stimulative spending burdens.

A recently released Treasury report showed that the U.S. debt to GDP level will exceed 100% this year, which is 3 years before what had been previously estimated. Simply put, the Government and the Fed are out of options with regard to the economy, the housing market, and the job market. The whole Keynesian wet dream should have never occurred in the first place, and if it fails, the ensuing consequences will be totally devastating.

I would urge readers to consider the blinking warning signs of deflationary pressures that refuse to go away, despite the Fed and the Government's desperate attempts to expunge them. Home prices hit a new low last week and Robert Shiller, the creator of the Case-Shiller Home Price Index said that he thinks home prices could fall for the next 20 years. The second warning sign is the performance of bank stocks, which are trading like another financial crisis could be on the horizon. Citigroup (NYSE: C) is down 20% over the last 3 months, while Bank of America (NYSE: BAC) has lost an unreal 28%. The other financial stock charts do not look much better. The final deflationary siren is the unemployment rate which continues to hover above 9%. Even more worrisome is the fact that last week's Nonfarm payrolls report showed that hiring has slowed to a crawl.

The scariest part of all of this is that the Fed and Wall Street economists are telling us that this is a temporary economic soft patch - but what if it is something much more ominous? These are the same people that told us that the subprime mortgage mess was "contained." Recessions are a normal part of the business cycle, occurring every 3-4 years. We are due for another one, and the data is suggesting that we may be experiencing a contraction by as early as the beginning of next year. Given the reflationary policies that were enacted to fight the financial crisis, and the attendant consequences of those policies, where public liabilities were transferred onto the Treasury and Fed's balance sheets, it is hard to imagine that we will be able to avoid the full brunt of what could be an incredibly devastating economic fallout. Essentially, the next time around there will be no fiscal and monetary smoke and mirrors to avoid the full consequences of the deflationary pressures that remain as remnants of the financial crisis.

Of course, the exception to this line of thinking is money printing, which we know is a distinct possibility given the Fed's track record and Mr. Bernanke's past comments. Inevitably, this will lead to a level of inflation experienced by a long procession of countries who sought to assuage their debt and economic problems through the use of the printing presses. The unfortunate possibility exists that the United States will take this Road to Perdition as well, and it will end, as always, in disaster. It may not be too late for our country to reverse course, but we could be approaching that dark hour of calamity - and any permanent solution to the problems that many Americans had hoped (unrealistically) that we buried in the ashes of the financial crisis will involve shared sacrifice and coherent leadership, which unfortunately is in short supply right now.


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