Introduction:
I have noticed in various threads that some Rooshv members are currently overly cautious/bearish on stock and property markets causing them too miss out on gains.
I believe that a crash in any developed economy stock or property market is likely still years away. Its not going to happen in 2017 or 2018. Hell, it probably won't happen until the middle of the next decade.
Firstly what do I mean by crash? There is no universally agreed definition of a crash so I am going to define it as being a 20% or greater price drop (in local currency) from peak to trough in the case of real estate and a 40% or greater price drop from peak to trough (in local currency) in the case of stocks. I could explain why I choose 20% and 40% but its a little bit of a moot point. I even believe that lesser pullbacks such as 25% for stocks and 10% for real estate are pretty unlikely in any of the developed markets in 2017 or 2018.
When I talk about real estate I mean the average of the whole country not one specific city and in the case of stocks I mean the "main" index of the country such as the All Ordinaries in Australia, The S&P500 in the U.S.A. and the Nikkei225 in Japan, etc.
Now that we have gotten all the definitions, etc out of the way let me talk a little bit about why I think this is the case despite the high valuations and huge debt piles:
Interest rates:
Interest rates are very low in every developed economy. Yes interest rates are rising in some developed economies but only very slowly and from a very low base. Imagine for example at the current rate of interest rate increases in the U.S.A. how long it will take there for Federal reserve rates to get to 4%? Historically a crash is very unlikely when FED rates are at 1 or 2%, and generally happens when interest rates are much higher. Also the gap in most of these countries between short term rates and long-term rates is pretty wide. Historically the gap is narrow or even inverted (i.e. inverted yield curve) when a recession is about to occur or is occurring. Its a similar story in other developed economies.
Corporate Profits:
In Europe, Australia, U.S.A., etc corporate profits are holding steady or rising and there is nothing to indicate this will reverse any time soon.
Lending standards:
In most developed economies lending standards are not yet at the level of looseness that typically proceeds a crash. Easy credit is almost always a pre-cursor to a crash.
For example in Australia in recent times the banks have tightened lending standards. Its difficult (still possible) to get a loan with less than a 20% down-payment (we call it a deposit in Australia). Also here we now have many tiers of interest rates. We have owner occupier principal and interest loans which have the lowest rate, then owner occupier interest only costs a bit more, then investor principal and interest costs a little more and then investor interest only costs even more. Income requirements are quite high/strict and low doc loans or loans with small down-payments are very expensive and difficult to obtain.
Lending standards are not super loose in any developed economy that I am aware of. Yes interest rates are low but the lending standards are somewhat tough. In addition to this banking capital requirements are typically much looser preceding a crash. The past few years the capital adequacy ratios (e.g. BASEL III, etc) of the banking system in most economies has been becoming more strict (which does also feed into lending standards talked about above) or at least not becoming looser. Its still unclear if the the removal of the Dodd Frank act in the U.S.A. will happen and even if it does it will take a long time and the effects will take years to flow into the system.
Skyscrapper Index:
There is a concept known as the "sky scraper index"
http://www.phillipjanderson.com/forecast...on-effect/
The theory being that the world's biggest/tallest buildings usually are completed around the time of or during a recession. The reason being that they take a number of years to build and they only get built when conditions are booming and investors are euphoric because you need euphoria and easy lending standards to finance their construction (because the economics are often questionable). By the time they are completed the boom has gone over the top and turned to recession. The next world's tallest building is scheduled for completion sometime in 2019 and will be in Saudi Arabia.
http://www.arabnews.com/node/1098066/saudi-arabia
Now I actually think this will cause a slowdown/recession but it will be "mid cycle" slowdown as opposed to the main crash. Think of the 1998 Asian crises or the bursting of the tech bubble in the U.S.A., etc rather than the GFC. Personally I think the major crash will likely be sometime in the middle of the next decade, but I can't say for sure and will have have to keep an eye on numerous indicators every year to have a sense of when it might happen.
There is a theory about an approximate 18 year real estate cycle in U.S.A. real estate prices (and we all know when the U.S.A. sneezes the rest of the world catches a cold). Although certain events such as world wars can disrupt the cycle. The theory being that real estate moves in a predictable, repeatable cycle and every major downturn is preceded by a collapse in real estate prices. You can read up on Phillip J. Anderson, Fred Folvary, Henry George, Fred Harrison, and Homer Hoyt to name a few if you are interested in learning more about this. Phil Anderson and Fred Harrison both predicted the GFC years in advance and unlike the broken clock doom and gloomers like Peter Schiff they accurately (in approximate terms) predicted the subsequent recovery.
Lack of Euphoria in Markets and the general population:
Typically preceding a major crash like 1987 or 2008, etc you see huge Euphoria/"animal spirits" (a Keynes expression). You see all the major media outlets writing a lot of extremely bullish articles about stock and property markets, along with central bankers, the BIS, the OECD, heads of major international banks and corporations making bullish statements.
What we have now is the opposite where we see way more cautious/bearish official pronouncements, articles and TV announcements. In Australia its hard to go a month without seeing news and official warnings about a property bubble from everyone from the RBA to the news outlets to economists, the Bank of International Settlements, officials from the OECD, etc
Contrast that to the types of comments we were getting in 2007:
http://www.theaustralian.com.au/archive/...fe88a94e46
"My own view is that Australian households are in very good shape," Mr Battellino said in a speech in Sydney yesterday.
"They are not in any way exposed or vulnerable - the structure of assets and liabilities is quite sound."
There would obviously be examples of people getting themselves into financial difficulty, he said. "But fundamentally, the household sector as a whole is in very good financial shape.
"We had an adjustment in the housing market over 2005 and 2006, but house prices are now rising again ... and there's no hint the share market is grossly overvalued."
That was what the reserve bank of Australia deputy governor said in December 2007. Go and read what the RBA has said over the past year or two. They speak much more cautiously. Its the same in the U.S.A. and other major economies. Everyone sounds very cautious.
Where are the magazine articles with a picture of a wall street bull on the cover? Where are the the taxi drivers giving you stock tips? Where are all the people at cocktail parties who never had an interest in the stock market suddenly talking about stocks? Where are all the people quitting their day jobs to day trade because its "so easy to make money trading"?
Also we have not seen any very rapid exponential rises (i.e. a blow off top/"melt up" of 40 or 50% in 18 months that often occurs right before a historic market crash.
Other Business and land/housing Indicators:
If you look at construction levels, its booming as are the share prices and profits of property developers.
If they were starting to pull back because financing was too expensive or business conditions were deteriorating or housing was too un-affordable for consumers to buy that would be a red flag.
It has not happened yet. Office vacancy rates are very low at the moment. Construction levels are generally rising. In the U.S.A. residential house prices actually peaked in early 2006 well before the GFC began. Land prices and the share prices of mortgage and construction companies will generally peak will before a major crash so keep an eye on it. Land price downturns are always the cause of the big crashes.
This article talks about the previous housing bubble in the U.S.A. https://en.wikipedia.org/wiki/United_Sta...ing_bubble
Also the amount of major infrastructure projects around the world going to kick into gear is going to be hugely positive for growth and for land prices. I am talking about stuff like the new silk road
http://www.abc.net.au/news/2017-05-14/ch...de/8522682
Conclusion:
A major crash appears to be years away so do not lose sleep over it and do not be unnecessarily cautious. That being said the future is never 100% certain and anything could happen. Also many stock and property markets are overvalued. If that sounds contradictory let me clarify:
Markets are not about to crash so be aggressively invested, but its always dumb to buy overvalued things regardless. So the solution is to aggressively buy things which are not overvalued such as a "small cap value" ETF for U.S. stocks or an emerging markets ETF or individual undervalued stocks, individual undervalued properties, etc.
p.s. I highly recommend the Phillip J. Anderson (he is an Australian economist) and his globally focused investment newsletter (I have no affiliation and receive nothing for recommending it)
http://www.phillipjanderson.com/
If anybody has any questions or a difference of opinion I would be glad to hear it.
I have noticed in various threads that some Rooshv members are currently overly cautious/bearish on stock and property markets causing them too miss out on gains.
I believe that a crash in any developed economy stock or property market is likely still years away. Its not going to happen in 2017 or 2018. Hell, it probably won't happen until the middle of the next decade.
Firstly what do I mean by crash? There is no universally agreed definition of a crash so I am going to define it as being a 20% or greater price drop (in local currency) from peak to trough in the case of real estate and a 40% or greater price drop from peak to trough (in local currency) in the case of stocks. I could explain why I choose 20% and 40% but its a little bit of a moot point. I even believe that lesser pullbacks such as 25% for stocks and 10% for real estate are pretty unlikely in any of the developed markets in 2017 or 2018.
When I talk about real estate I mean the average of the whole country not one specific city and in the case of stocks I mean the "main" index of the country such as the All Ordinaries in Australia, The S&P500 in the U.S.A. and the Nikkei225 in Japan, etc.
Now that we have gotten all the definitions, etc out of the way let me talk a little bit about why I think this is the case despite the high valuations and huge debt piles:
Interest rates:
Interest rates are very low in every developed economy. Yes interest rates are rising in some developed economies but only very slowly and from a very low base. Imagine for example at the current rate of interest rate increases in the U.S.A. how long it will take there for Federal reserve rates to get to 4%? Historically a crash is very unlikely when FED rates are at 1 or 2%, and generally happens when interest rates are much higher. Also the gap in most of these countries between short term rates and long-term rates is pretty wide. Historically the gap is narrow or even inverted (i.e. inverted yield curve) when a recession is about to occur or is occurring. Its a similar story in other developed economies.
Corporate Profits:
In Europe, Australia, U.S.A., etc corporate profits are holding steady or rising and there is nothing to indicate this will reverse any time soon.
Lending standards:
In most developed economies lending standards are not yet at the level of looseness that typically proceeds a crash. Easy credit is almost always a pre-cursor to a crash.
For example in Australia in recent times the banks have tightened lending standards. Its difficult (still possible) to get a loan with less than a 20% down-payment (we call it a deposit in Australia). Also here we now have many tiers of interest rates. We have owner occupier principal and interest loans which have the lowest rate, then owner occupier interest only costs a bit more, then investor principal and interest costs a little more and then investor interest only costs even more. Income requirements are quite high/strict and low doc loans or loans with small down-payments are very expensive and difficult to obtain.
Lending standards are not super loose in any developed economy that I am aware of. Yes interest rates are low but the lending standards are somewhat tough. In addition to this banking capital requirements are typically much looser preceding a crash. The past few years the capital adequacy ratios (e.g. BASEL III, etc) of the banking system in most economies has been becoming more strict (which does also feed into lending standards talked about above) or at least not becoming looser. Its still unclear if the the removal of the Dodd Frank act in the U.S.A. will happen and even if it does it will take a long time and the effects will take years to flow into the system.
Skyscrapper Index:
There is a concept known as the "sky scraper index"
http://www.phillipjanderson.com/forecast...on-effect/
The theory being that the world's biggest/tallest buildings usually are completed around the time of or during a recession. The reason being that they take a number of years to build and they only get built when conditions are booming and investors are euphoric because you need euphoria and easy lending standards to finance their construction (because the economics are often questionable). By the time they are completed the boom has gone over the top and turned to recession. The next world's tallest building is scheduled for completion sometime in 2019 and will be in Saudi Arabia.
http://www.arabnews.com/node/1098066/saudi-arabia
Now I actually think this will cause a slowdown/recession but it will be "mid cycle" slowdown as opposed to the main crash. Think of the 1998 Asian crises or the bursting of the tech bubble in the U.S.A., etc rather than the GFC. Personally I think the major crash will likely be sometime in the middle of the next decade, but I can't say for sure and will have have to keep an eye on numerous indicators every year to have a sense of when it might happen.
There is a theory about an approximate 18 year real estate cycle in U.S.A. real estate prices (and we all know when the U.S.A. sneezes the rest of the world catches a cold). Although certain events such as world wars can disrupt the cycle. The theory being that real estate moves in a predictable, repeatable cycle and every major downturn is preceded by a collapse in real estate prices. You can read up on Phillip J. Anderson, Fred Folvary, Henry George, Fred Harrison, and Homer Hoyt to name a few if you are interested in learning more about this. Phil Anderson and Fred Harrison both predicted the GFC years in advance and unlike the broken clock doom and gloomers like Peter Schiff they accurately (in approximate terms) predicted the subsequent recovery.
Lack of Euphoria in Markets and the general population:
Typically preceding a major crash like 1987 or 2008, etc you see huge Euphoria/"animal spirits" (a Keynes expression). You see all the major media outlets writing a lot of extremely bullish articles about stock and property markets, along with central bankers, the BIS, the OECD, heads of major international banks and corporations making bullish statements.
What we have now is the opposite where we see way more cautious/bearish official pronouncements, articles and TV announcements. In Australia its hard to go a month without seeing news and official warnings about a property bubble from everyone from the RBA to the news outlets to economists, the Bank of International Settlements, officials from the OECD, etc
Contrast that to the types of comments we were getting in 2007:
http://www.theaustralian.com.au/archive/...fe88a94e46
"My own view is that Australian households are in very good shape," Mr Battellino said in a speech in Sydney yesterday.
"They are not in any way exposed or vulnerable - the structure of assets and liabilities is quite sound."
There would obviously be examples of people getting themselves into financial difficulty, he said. "But fundamentally, the household sector as a whole is in very good financial shape.
"We had an adjustment in the housing market over 2005 and 2006, but house prices are now rising again ... and there's no hint the share market is grossly overvalued."
That was what the reserve bank of Australia deputy governor said in December 2007. Go and read what the RBA has said over the past year or two. They speak much more cautiously. Its the same in the U.S.A. and other major economies. Everyone sounds very cautious.
Where are the magazine articles with a picture of a wall street bull on the cover? Where are the the taxi drivers giving you stock tips? Where are all the people at cocktail parties who never had an interest in the stock market suddenly talking about stocks? Where are all the people quitting their day jobs to day trade because its "so easy to make money trading"?
Also we have not seen any very rapid exponential rises (i.e. a blow off top/"melt up" of 40 or 50% in 18 months that often occurs right before a historic market crash.
Other Business and land/housing Indicators:
If you look at construction levels, its booming as are the share prices and profits of property developers.
If they were starting to pull back because financing was too expensive or business conditions were deteriorating or housing was too un-affordable for consumers to buy that would be a red flag.
It has not happened yet. Office vacancy rates are very low at the moment. Construction levels are generally rising. In the U.S.A. residential house prices actually peaked in early 2006 well before the GFC began. Land prices and the share prices of mortgage and construction companies will generally peak will before a major crash so keep an eye on it. Land price downturns are always the cause of the big crashes.
This article talks about the previous housing bubble in the U.S.A. https://en.wikipedia.org/wiki/United_Sta...ing_bubble
Also the amount of major infrastructure projects around the world going to kick into gear is going to be hugely positive for growth and for land prices. I am talking about stuff like the new silk road
http://www.abc.net.au/news/2017-05-14/ch...de/8522682
Conclusion:
A major crash appears to be years away so do not lose sleep over it and do not be unnecessarily cautious. That being said the future is never 100% certain and anything could happen. Also many stock and property markets are overvalued. If that sounds contradictory let me clarify:
Markets are not about to crash so be aggressively invested, but its always dumb to buy overvalued things regardless. So the solution is to aggressively buy things which are not overvalued such as a "small cap value" ETF for U.S. stocks or an emerging markets ETF or individual undervalued stocks, individual undervalued properties, etc.
p.s. I highly recommend the Phillip J. Anderson (he is an Australian economist) and his globally focused investment newsletter (I have no affiliation and receive nothing for recommending it)
http://www.phillipjanderson.com/
If anybody has any questions or a difference of opinion I would be glad to hear it.
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