As I mentioned in a recent article, the biggest lesson we learned in 2012 was that governments would stimulate without limit to avoid a downturn or a debt deleveraging. In our view, such policies are incredibly unwise and irresponsible. Yet, you can never underestimate the level of denial when a crisis is looming — especially in politicians and central bank officials.
What we have also learned from studying Japan’s continuing quantitative easing over the last two decades is that stocks and the economy keep crashing every several years despite endless stimulus.
Our best forecast for the 2013 stock market is shown in the chart below.
Chart: Dow, Megaphone Pattern, 1995 – 2015
Just as Japan’s stock market rebounded for four years after its first major stock market crash in 1992, the U.S. and world markets are due to see another crash to at least slight new lows. Stimulus only works so long before the economy gets stretched to extremes and one trigger sets off another global stock market crash after debt levels climb ever higher.
We are approaching a very important trend line through the tops of the past two bubbles that suggests that the Dow will not exceed 15,700, nor will the S&P 500 exceed 1,600.
Shorter-term patterns instead suggest that the Dow will rise to around 14,300 and the S&P 500 to around 1,530.
Regardless of where the markets top, they are increasingly likely to do so in the first half of 2013. Then, the crash to the lower trend line that goes through the bottoms of the last two crashes will come. That would be around 6,000 on the Dow and 600 on the S&P 500 around late 2014, when our cycle analysis suggests the next bottom will be. However, cycles have not worked very well in our Fed-manipulated economy and markets.
This means a deeper recession setting in by the second half of 2013, likely lasting into 2015. This also means that yields on the 10-Year Treasury are likely to fall to 1.2% to 1.3%, before spiking back up due to falling credit quality and downgrades — even that of the U.S. government.
Such rates could bounce back up to as high as 3.5% by early to mid-2014, hurting bond holders and raising mortgage rates in the midst of a failing economy.
What should you do if our forecast is on the money? We’ve presented some options for your consideration below.
Investors: Contemplate moving out of stocks first, and then bonds between early and mid-2013. We will keep you abreast of any stock buy opportunities that arise amongst the carnage. You may also want to think about getting out of gold and silver, especially if gold rallies to new highs, which we think is likely first. Contemplate buying safe, short-term Treasury bonds and bills and the U.S. dollar index (UUP). If you are more aggressive, shorting stocks, gold or the euro makes sense. In other words, consider shifting (as we did in 2008 and 2009) from a “risk-on” trade wherein most things go up together in response to monetary injections, to a “risk-off” strategy, which simply means becoming defensive and safe.
Businesses: Consider going into “lean and mean” mode. Think about selling assets you don’t need to create cash. Concentrate on lowering costs to increase cash flow. Instead of making capital expenditures, look at short-term investments in marketing that may immediately increase sales. If you own your office or buildings, does it make sense to sell and lease back your office space? With a sale-leaseback, you can regain use of the capital tied up in property ownership while retaining continued use of the property. And, if you’ve been thinking about selling your business, the first part of the year will present better opportunities.
Households: Focus on cutting costs and hunkering down. Review any investment or personal real estate that you don’t really need, like second homes. Would you benefit from selling your primary home and renting for a few years? Think about putting off any home purchases until at least early 2015. If your children are considering extending their educations, 2013 and 2014 are good years to go back to school. The summer of 2015 forward promises to be a better time for them to enter the job market.
Ahead of the Curve with Adam O’Dell
The Stimulus Effect: On Equities, Bonds and Gold
Unlimited central bank stimulus was the big surprise of 2012. And along with the stimulus came some odd market reactions.