Similarities Between the 2010 and 1997 Market Crashes

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


My blog post on May 4th mentioned the stock market was rolling over and on May 5th, I made the comparison between the problems in Europe today with those of Asia in 1997. I specifically pointed out that the Dow Jones Industrial Average had a one-day 7% drop because of the Asian crisis. The next day, the Dow was down 9.9% intraday on the current European crisis.

The Asian crisis in 1997, frequently referred to as the Asian contagion because it eventually spread from country to country, started with a currency crisis in Thailand. It soon engulfed most of East and South Asia. While Thailand's economy was small, it had been vibrant for many years. Its currency was overvalued though and this is where the problem began. Few people would characterize Greece as having a vibrant economy at the moment, though it is certainly represents a very minor part of overall eurozone economic activity. As the Asian situation in 1997 demonstrated, problems that show up in small countries can easily spread throughout an entire region and have global consequences.

So what did the EU leadership do? Despite this recent historical lesson, they decided to continually postpone dealing with the situation in Greece. Not surprisingly, contagion began to spread to the other PIIGS countries (Portugal, Ireland, Italy, and Spain), the euro tanked and this in now endangering the export based economies of currency union, and finally, world markets have sold off. Fortunately, EU authorities weren't faced with an outbreak of bubonic plague - otherwise we'd all be dead.

The U.S. stock market drop in 1997 mostly took place on October 27th.  The Dow Jones Industrial Average closed at 7715 on Friday the 24th. It then dropped 554 points on Monday, closing just off its low for the day. The loss was 7.2%. The bottom wasn't hit until intraday on the 28th however. At the low, the Dow had lost another 225 points and was trading at 6936. From top to bottom, the index was down 10.1% in a little over a day. On Thursday, May 6, 2010, the Dow at its intraday low was down 9.9% from the previous day's close. So far at least, the percent of the two drops is almost identical.

The 200-day moving average was an important barrier in 1997 and probably will be so in 2010 (at least for now).  The markets were trading way above the 200-day before the drop in 1997, as they have been recently. There was some piercing of the 200-day both times. It could happen again in the next few days, but the 200-day should be considered an important support level that the market will try to hold or return to quickly on a break.

The VIX, the volatility indicator, spiked into the high 40's in 1997. In 2010, it rose to 42.14. While the highs are somewhat different, the rallies of the VIX in both cases are very similar. In October 1997, the VIX had been slowly rising for almost two years from a low of around 10 and was trading around the 20 level. The low of 15.23 in 2010 was hit in early April. The VIX rose approximately 47 points from its value a few weeks earlier during both crashes.

The important question now of course is what is going to happen. The markets recovered rapidly in 1997, but this was during a long-term secular bull market. We are now in a low-term secular bear market and such buoyancy can't be assumed. The 1997 crash was not the end of the market's problems either. Regional financial crisis after all can easily cause problems for a couple of years. A deep, but short, bear market followed in August 1998 caused by the collapse of Long-Term Capital. Central banks reacted by pumping liquidity into the financial system and the tech stock blow-off followed. If they do that this time, and they most certainly will, expect a commodities blow-off instead.

Disclosure: None relevant.

Daryl Montgomery
Organizer, New York Investing meetup
 http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

The Good News, Bad News Jobs Report

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


There was something for both bulls and bears in the April employment report. The government stated that 290,000 jobs were created last month, a solid enough number. Despite these job gains, the headline unemployment rate rose to 9.9%. If certain discouraged workers and forced part-timers were added, the unemployment rate would have been an incredibly high 17.1%.

It is of course puzzling that the unemployment rate can go up from 9.7% to 9.9% while the U.S. economy is supposedly adding 290,000 jobs. The mystery is solved according to the BLS (Bureau of Labor Statistics) by noting that 805,000 jobseekers reentered the labor market in April. Interestingly, a similar number of workers left the U.S. labor market in a one-month period between December 2009 and January 2010. Perhaps the BLS just misplaced them for four months and finally found them again? Labor force participation is one of the areas where it is easiest to fudge the numbers to make the employment statistics look better.

Seasonal 'adjustments' can also improve the numbers quite a bit as well. The economy usually adds jobs at this time of year and they are appearing right on schedule in the employment report. For an example of how seasonal adjustment works, note the employment numbers in the education category in June. There is generally a 20% reduction in education employment once the school year ends. You will see no such drop in the employment report. The BLS should perhaps give the seasonal adjustment term another name, such as 'make-believe adjustment' for instance, so the public can have better insight into how the employment numbers are created.

The BLS did at least admit that the government hired 66,000 temporary workers in April to help conduct the census. Census hiring has been going on since March 2009 and should have peaked in the last two months. Sources estimate total census-hiring in the range of 1.2 million. I have not found anything near this amount added to the government category in previous reports. However, temporary workers in the Business and Professional category have ballooned during the census hiring period. A footnote in the employment report indicates that jobs added in 'other' categories may be included in the Business and Professional category. We will have to see what happens there in a few months when almost all of the 1.2 million census workers are no longer employed.

To see if the job situation is actually improving, it is always a good idea to compare year over year figures. According to the BLS, the number of people 'not in the labor force' is over two million higher in April 2010 than it was in April 2009. This increase reduces the reported unemployment rate. The employment to population ratio is more than a percent lower today than a year earlier. The worse comparison though is for long-term unemployment (27 weeks or over). This number has grown considerably and is on its way to doubling. A year ago there were 3.7 million long-term unemployed and last month there were 6.7 million. This indicates that the unemployment rate is not just high, but a significant number of the unemployed are having trouble getting new jobs - and this will continue to be the case.

According to recent polls, just 21% of Americans consider the economy to be in good condition. The view of the average person is very different from the numbers produced by the statisticians in Washington. Even with the job increases that took place in April, there are approximately 1.5 million less people employed in the U.S. today than one year ago. When the $800 billion stimulus bill was passed in February 2009, the Obama administration claimed it would create 3.5 million additional jobs. There seems to be some inconsistency between the hype and what has actually taken place. Is it any wonder that the American people don't trust the numbers coming out of Washington?

Disclosure: None relevant.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Why Thursday's Market Crash Was Caused by Computer Failure or Errant Trades

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


The trading pattern on the U.S. markets on Thursday, May 6th can be explained by only one of two things - a huge erant trade or a computer system failure.  Even after the market close, the NYSE was claiming that there were no technical problems with its trading system. Citi specifically issued a statement that it had nothing to do with implementing an errant trade. Nasdaq however said that it was investigating possible erroneous transactions executed between 2:40 and 3:00PM.

It wasn't so much the drop that was unprecedented. The waterfall decline that took place for approximately eight minutes somewhat after 2:30PM is common in crashes. Even during crashes however, numerous intra-period gaps on the one-minute chart aren't common. There were four such gaps yesterday in S&P 500 trading. Large market indices almost always trade continuously and the probability of this type of trading pattern is extremely small. Even less probable was the instantaneous recovery of the indices. The S&P 500 also has four gaps on the upside in only eight minutes, when it rose approximately 50 points.  During that same time the Dow Jones Industrial Average was rising around 500 points. None of this represents a normal trading pattern.

The major indices were damaged enough as is on the day.  The Dow was down 348 point of 3.2%. The S&P 500 dropped 38 points or 3.2%. Nasdaq gave up 83 points or 3.4% and the small cap Russell 2000 lost 28 points or 4.0%. Of all the major sectors, financial stocks were hit hardest closing 4.1% lower. The confusion caused the VIX, the volatility index, to spike above 40. It was in the mid-20s only two days ago. It closed at 33.19, up 41% on the day. This type of movement in the VIX is extreme and is likely to be reversed in short order. Gold rallied in the confusion.

Having looked at the charts as the sudden trading plunge and the subsequent recovery that took place during and after the market close, I noted the charts changed over time. Some of the gaps on the charts disappeared and a straight-line trading pattern the existed for a while before and just after 3:00 disappeared on later charts. The straight-line trading pattern only exists if trading has been halted or if there has been a break in the information feed from the exchanges so no data is forthcoming. Either way, traders and investors are entitled to an explanation of what really went took place. Otherwise, they might think there is either a cover-up of a serious technical glitch or collusion by the big players in manipulating the market.

Disclosure: Sold VXX.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Why Decisive Action is Needed to Save the Euro

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


This morning, the euro has traded as low as 126.55 to the dollar. The currency has extremely strong support around the 125 level, so some bounce up from there should be expected. While some short-term relief is likely, in the longer term the survival of the euro is threatened until some significant changes are made in how the currency union is managed.

The current problems in Greece have exposed the flaws behind the euro. The currency was created with a set of rules that were meant to insure stability, but the eurozone seems incapable of enforcing its own standards. Because of this, the euro is losing credibility in the world markets. At this point, the EU has only two choices if it wants to regain an image of responsibility for its currency. It can either enforce its maximum 3% budget deficit to GDP limit or change the limit to something that can be accomplished and make sure all member countries stick to it. The Credit Crisis has made the first choice impossible, but the EU has yet to try to deal with this realistically. The second choice, while it would tend to lower the value of the euro, would allow it to keep functioning as a viable currency.

So far, the EU has chosen neither of these alternatives. Instead it has decided to take the bailout route. This is only a stopgap measure to deal with the problem and is not a workable solution in the long-term. It can be done for Greece, although it will be expensive, because Greece represents only 2% of the EU economy. It also could be implemented for Portugal and maybe even Ireland. At that point though the amount of bailout money being spent would be tremendous and would certainly create an inflationary strain on the entire eurozone. As the situation in Greece has shown, the cost of an actual bailout will be much larger than initial estimates. The funds for a proposed Greek bailout have already almost tripled from the first proposal and they will ultimately be much higher. The bailout solution has its limits though. Spain will be the breaking point. Italy is not even possible.

A good question is: Why are bailouts even being considered? Dollarization could easily have solved the problem - let Greece continue to use the euro, but remove it from the currency union (Greece would almost certainly have defaulted on its debt already if this had been done early on). The answer of course lies in who is really being bailed out. French and German banks together have funded the majority of external Greek government debt. They also have a decent chunk of Portuguese government debt. Just as was the case with the subprime crisis in the United States, the big banks are the ones being bailed out. Most large European banks were already bailed out is some way, shape, or form then as well. This would represent a second series of bailouts for them.

At some point, the EU has to make some tough decisions. This is something that governments throughout the world seem incapable of doing these days. Up to now, the governing body in Brussels has reacted like a deer caught in the headlights - frozen and incapable of action. Greece not only violated the EU's debt to GDP limits by a factor of four, but also lied to the EU about its numbers for many years. Instead of being punished for these serious infractions and being thrown out of the currency union, the EU and IMF have decided the best course is to reward Greece for its bad behavior with a bailout. The EU is sending the markets a clear message that their supposed standards behind the euro are meaningless. The market, not surprisingly, has sold down the euro in response.

As I said repeatedly during the Credit Crisis, there is no such thing as a single bailout. This will certainly be the case in the eurozone. If the EU wants to save its currency, it will have to take decisive action at some point. If it won't do so now, it will have to do so once it becomes obvious to them that the bailout approach is just too costly. Unfortunately for the rest of us, this can have a serious negative impact on world markets at any point in time. The Nikkei in Japan was down 3.3% last night and China's Shanghai composite was down 4.1% and they are not anywhere near Europe.

Disclosure: No position in euros.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Financial Crises Compared: Eurozone 2010, Asia 1997

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Current market action has all the earmarks of a global financial crisis. Stocks and commodities are selling off, money is flowing into safe haven treasuries and the U.S. dollar, and the VIX and TED spread are up sharply. We've seen this before in 2008 and also during the Asian contagion in 1997.

As we all know by now, the problems started in Greece, a small economy that represents only 2% of the eurozone GDP. Greece had been lying about its budget deficit and true financial position for many years (and is certainly not the only country doing so). Even though it submitted obviously ridiculous financial numbers to the EU central HQ in Brussels, they were not officially questioned. Greece itself, like Bernie Madoff, finally confessed to the scam because it was falling apart. The EU, which has had more than six months to deal with the situation, consistently failed to take action. What was at first a minor problem has festered and grown into a problem gnawing away at the world financial system. The simple and obvious solution of using dollarization - letting Greece continue to use the euro, but removing it from the currency union (which it should never have been allowed to join in the first place) - was not even considered by EU authorities. Instead they have gone the bailout route and because they have dragged their feet, the cost of the bailout has tripled in the last few weeks alone.

A small country with a currency problem causing major problems in the global financial system has a recent precedent in Asia in 1997. The Thai baht, which was pegged to the U.S. dollar, came under speculative attack in May of that year and the government was forced to drop the dollar peg and float the currency on July 2nd. The problems in Thailand, a relatively small economy, then spread throughout East and South Asia. They eventually washed up on the shore of the U.S., with an October 27th mini-crash in the stock market  that dropped the Dow Jones Industrial Average 7% in one day. The selling may have been worse, but stock trading was halted early that day.

The euro has been seriously weakened in the last several months, falling from over 1.50 to the U.S dollar in December to under 1.28 this morning (key support is around 1.25).  Problems in Greece are spreading to other parts of Europe, just as problems in Thailand spread to other parts of Asia. Indonesia and South Korea were seriously affected first and then Hong Kong, Malaysia and the Philippines suffered damage. Problems even spread to China, India, Taiwan, Singapore and Viet Nam. Portugal, Spain and Ireland are the next dominoes to fall in the eurozone. Italy also has troubled finances, but its economy is too big to be bailed out. Bailing out Spain might also be problematic. There is a one key difference between Asia in 1997 and the eurozone today. The Asian economies were strong and had been so for many years before the crisis hit, while the eurozone economies have been relatively weak for many years and have been mired in recession for the past two.

Major stock indices in Europe and North America were down around 2% to 3% yesterday. In the U.S. the Dow dropped 2.1%, the S&P 500 2.4%, Nasdaq 3.1% and the small cap Russell 2000 3.4%. Smaller markets in Europe were down 4% to 7%. Gold was down only slightly on the day, but oil was down over 6% at one point. The VIX, the volatility index, was up 27% during the day's trading and the TED spread, a measure of stability in the financial system, rose almost 9% (the higher the number, the less stability). U.S. treasuries rallied and the U.S. trade-weighted dollar not only rallied, but also had a significant breakout above the 82 range. If this all sounds familiar, it is because this is how the market frequently traded during the fall of 2008 during the height of the Credit Crisis.

While events in 1997 had their biggest impact in East and South Asia, echoes of the problem wound up impacting U.S. and other stock markets into 1998. The collapse of hedge fund Long-Term Capital caused a severe bear market, with the Nasdaq dropping around 30% in August of that year. Regional financial crisis do not tend to get resolved quickly, and their impact can easily last for at least a couple of years and be felt half way around the world. Events in the spring can cause market sell offs in the fall. The current situation is much worse in 2010 though than it was in 1997. Bailouts and pumping liquidity into the global financial system (which lead to the tech bubble blow off in 1999 and early 2000) were used to deal with the problems in 1997.  Governments and central banks have already used these tools to a massive extent for the last two years. If we are having another crisis, clearly they aren't working.

Disclosure: Long VXX.

Daryl Montgomery
Organizer, New York Investing meetup
 http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Is the Stock Market Rolling Over?

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Volatility is a sign of a top. The triple digit up and down moves on the Dow in the last few days should make bullish investors reconsider their view on the market. The 15-month rally has been overdone for quite a long time now and even a small event could do some serious damage to prices.

Investors need to realize that the stock rally has been created on a wave of liquidity even though the mainstream media has continually cited an improving economy and good corporate earnings as the basis for stocks ongoing rise. Careful examination of U.S. economic statistics indicates anything but an improving economy. They instead show an economy dependent on government spending, stimulus and easy money. As for good earnings, if you believe them, ask yourself what earnings looked like in Q3 1929, Q3 1987 and Q1 2000. They were great, but that didn't prevent the market from crashing shortly thereafter.

As for small problems, they have a way of getting bigger. The oil spill in Louisiana is not just a major environmental disaster, but could cause significant damage to the U.S. economy as well. The entire global financial system could take a hit because of problems with the PIIGS in Europe. The euro (FXE) fell to just above the 130 level this morning and that is an important support level. We will have to see if it holds. The EU has handled the situation ineptly from the beginning and has chosen denial instead of action, and proven failed approaches over innovative thinking. China, the epicenter of global growth, also restricted bank credit yesterday for the third time this year.

There is also no question that the technical picture on the U.S. stock market is deteriorating rapidly. However, this has happened before during the last year and the market managed to miraculously recover. Each time, more liquidity came to its rescue. At some point though there is no longer enough extra liquidity  to juice the market. While the U.S. Fed has made it clear that it will be keeping interest rates close to zero for a while longer, it is slowly closing down special support programs created during the Credit Crisis. The U.S. is no longer in control of the world economy, nor markets however. Investors need to pay more attention to what is going on in China. There is a severe risk of inflation there and they will have to do something about it sooner or later. This will not be a plus for world markets when it occurs.

Investors who want to short the markets can use ETFs to do so. To short the Dow, S&P500, Nasdaq 100 and Russell 2000, ProShares ETFs DOG, SH, PSQ and RWM can be used. For aggressive investors who want to take a 200% short position, the ETFs DXD, SDS, QID, and TWM are the respective choices. For super aggressive investors, Direxion offers 300% short BGZ on the Russell 1000 and TZA on the Russell 2000. Alternatively, shorting can be done by going long on the volatility index VIX with ETFs VXX or VXZ.

Disclosure: Long VXX

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Lousiana Oil Spill Threatens Future U.S. Oil Supply

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


As the easy to get to oil on land has become scarcer, the industry has increasingly been forced to develop offshore wells in deeper and deeper water. This strategy is not without its risks, as the recent explosion of the Deepwater Horizon drill rig off Louisiana last week made evident. The event is rapidly turning in to one of the worst environmental disasters of all time and may surpass the Exxon Valdez spill in Alaska. The opening of new offshore wells is likely to be suspended for some time and consequently long-term projections for oil production should be lowered.

The Gulf of Mexico is a prime source of offshore oil and gas production, but it is by no means the only one in the world. Major offshore production also exists in the North Sea and even the Middle East. New discoveries off the west coast of Africa and the waters off Brazil have gotten the media's attention as the great hope for oil production in the future. When I first read the hype about the large deep-water deposits east of Brazil (which are also under a lot of earth as well as water), I noted a brief comment that stated the technology doesn't currently exist to tap these deposits. The recent disaster off Louisiana demonstrates that the technology also doesn't exist to fix a blow out or spill from currently existing offshore wells.

The description of the size of the oil spill varies considerably from one report to another. At first it was just a few thousand barrels a day, then some sources stated 42,000 gallons a day were leaking, while higher estimates have now reached 210,000. There is a device called a blowout preventer that was supposed to have kept the explosion and leak from happening, but it failed. Working around it is now something that is a major factor in trying to fix the problem. There are actually three leaks and there are now plans to cap the biggest one with a dome that is currently being constructed for this purpose. This has never been attempted in a well 5,000 feet under water. It has worked in shallow water. The U.S. Coast Guard is also planning a controlled burn of the oil slick, as it is nears coastal Louisiana  and is heads toward the beaches of Florida. Burning has been done in rivers, but this would be a first attempt in the ocean. The oil industry is in clearly in uncharted territory in trying to deal with this disaster. Perhaps we should ask ourselves how reliable are their other deep-water wells?

There was a spill in a Gulf of Mexico well, the IXOT 1, in 1979, but it was in 150 feet of water, not 5000 feet below the water's surface as is currently the case. It leaked up to 30,000 barrels of oil a day for nine months. Attempts to cap the well, more easily done considering the more favorable circumstances, failed at first. Two relief wells had to be drilled and only then could the leak be stopped. It would take months to drill a relief well now in the offshore Louisiana location.

Needless to say, oil service stocks have taken a hit because of the Louisiana disaster. ETF OIH has declined more than ETF XES though. British Petroleum (BP) has been down as much as 13% so far. Anadarko (APC) also has a 25% stake in the well and Mitsui a 10% stake. President Obama has declared that they are fully responsible for all clean up costs. The first class action suit relating to the spill has already been filed and claims for damages to fishing and related industries could be enormous. Trans Ocean Ltd (RIG) owned the rig and its stock has dropped 21% so far, Halliburton (HAL) was in charge of the drilling and Cameron International (CAM) supplied the failed blowout preventer.

Ironically, president Obama just announced the expansion of offshore drilling one month ago. There is going to be considerable blow back from this oil spill that is likely to put any future U.S. offshore drilling on hold for some time to come. And that is going to have serious consequences. The Gulf of Mexico is the only place in the U.S. where oil production has grown in the last 15 to 20 years. Unfortunately, it is a region fraught with problems. Only five years ago, BP's Thunderhorse platform was supposed to start producing 250,000 barrels of oil a day (under three miles of water). It never happened. Before Rita and even before Katrina came along, the fairly minor hurricane Dennis blew past it and wiped it out. As if there aren't already enough problems in the Gulf, hurricane seasons starts next month.

Disclosure: Long oil.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.