George Washington has a few good points for all to keep in mind during this Autumn of Distraction. These could be considered economic or marketplace fundamentals:
Everyone being on one side of a trade means everyone is wrong.
Economist Blake LeBaron has discovered an important cause of stock market crashes:
During the run-up to a crash, population diversity falls. Agents begin using very similar trading strategies as their common good performance is reinforced. This makes the population very brittle…
In other words, when everyone is making the same trade, it will likely lead to a crash.
Tyler Durden summarizes this idea even more succinctly:
When everyone is on the same side of the boat, it always inevitably capsizes.
Stoneleigh makes the same point about the herd in her comments on deflation:
If we had a deflationary consensus at the moment I would distrust it, as the herd is always on the wrong side of the bet at major inflection points. Consensus takes time to establish, meaning that the more established it is, the later one is in the trend and the nearer to a trend reversal.
At the present time we have an incorrect inflationary consensus, which is causing people to dump cash in favour of hard assets and disregard the consequences of indebtedness at a critical juncture. Deflation is NOT a hoax. It is a very real threat that very few recognize. Timely warnings are by definition contrarian, and therefore never sound credible at the point where they would actually be useful.
The consensus is that the dollar will collapse, the Chinese yuan is undervalued, that the economy is recovering, and that our crisis is founded in credit rather than energy. This consensus is wrong. At some point the various consensi will unwind and realizations will be unpleasant.
Outcomes include a massive short- squeeze on the dollar, hyperinflation in China, a ‘double- dip’ recession, and stock markets hitting the ceiling @ $80 – 85 oil price level.
Should the stock markets repeatedly stall at this price level, the establishment strategy of dollar devaluation will be at its end and so will the stock market rally.
That is, if some other ‘event’ does not cause the next leg of deleveraging to take place first.
Nouriel Roubini’s rather simple – and fundamental – analysis was also brought to my attention by GW.
Bond yields reflect ‘real’ deflationary interest rates (and will reflect funding risk as well):
Nouriel Roubini writes:
Ultimately, deleveraging requires the writing down of debt as reflationary policies are not a free lunch and won’t solve the debt overhang problem (Dr. Roubini). Important case study: Japan back into deflationary territory despite huge public debt and QE (Chinn). Rather than a sign of inflation, higher long-term yields may be pointing to higher real interest rates which are compatible with a deflationary environment …
As deflation takes hold, real interest rates rise. Not only does the rate reflect the increase in real, or principal indebtedness but also the increasing repayment or funding risk. In other words, as real rates rise, the increase creates a positive feedback loop that renders borrowers less able to repay. This risk increases exponentially to the increase in real rates.
An example of this is underwater homeowners walking away from their mortgages.
This is why it is so important right now to get out of debt by any means necessary. The debts are already compounding. At some point repayment will become impossible, rather than merely difficult.