Say It Ain’t So…

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Just finished reading the latest book by economic forecaster and demographics guru H.S. Dent. “The Great Crash Ahead”.

Hot off the press, published September of 2011, this was a quick but useful rehash of the ideas first presented in December 2009, titled “The Great Depression Ahead”.

This book and its predictions merit careful reading by investors. Dent has used his demographics-based prognoses to accurately forecast the demise of the Japanese economy years before any other observers. As far back as 1994, when the Dow was languishing at 3000, he foretold its rise 10000, a prediction for which he was amply ridiculed. Yet he was proved right. That same year, he also foresaw a new recessionary phase starting in 2008. This also proved accurate.

Dent’s critics rightly point out that he missed the boat entirely on how high the DOW would go, he first saw it peaking at 30000, then later revised that to 18,000. That’s a big miss. Actual DOW highs never surpassed 14000. But he did get the strong move of the market right, as well as its timing. That alone is an incredible feat 14 years ahead of time. In my view, that clearly demonstrates the validity of the high impact of demographics on a country’s fortunes.

In his last two books, Dent uses demographics-based analyses, supplemented by a careful study of the alarming state of US consumer and government debt, to make a series of very sobering projections. The predictions?

  • The DOW will drop to 3800 over the next 13 years, with a deep slide beginning in early to mid 2012
  • The US economy will enter into a decade long recession that will match the Great Depression in length and severity
  • The US economy will not rebound until around 2023, due to the spending patterns and renewed entrepreneurial dynamism of the more numerous “Echo Boom” generation
  • Stocks worldwide will be dragged down. No stock market will be spared whether in Europe, Japan or the Emerging Markets
  • Traditional safe havens – gold and silver – will plummet.
  • Cash and treasuries will provide the only safe harbor in the storm
  • Deflation – not inflation – is the new malaise of the next decade. Dent argues that the massive deleveraging of personal and financial debts will overwhelms the Fed’s attempts to relaunch the economy by injecting massive liquidity into the system.
  • Real estate prices will drop another 20-30% – back to the lows of 1998 – before the housing bubble began.
  • Innumerable banks will fail, and many local and regional governments will default on their municipal bond obligations
  • Taxes will rise AND government will shrink.
  • The dollar so maligned and weakened in the last decade will – like the proverbial phoenix – rise again – as investors worldwide flee to its relative safety

Many of these thoughts reflect the thinking and findings of other market observers – Robert Prechter or Peter Schiff come easily to mind. What Dents brings as a unique perspective to this macroeconomic picture is his careful scrutiny of demographic data. Like Prechter, but unlike Schiff, Dent believes the US faces massive deflation, not inflation.

At the heart of Dent’s analysis is his compilation of US population data, adjusted for immigration. Dent shows that US consumer spending grows in a predictable fashion from age 20 to its peak around age 46, hits a four year plateau, then declines steadily from that age.

Courtesy of

Because 93 million baby boomers are retiring over the next 12 years, to be replaced by a much smaller subseqent generation (around 58 million by my figures, not Dent’s), US consumer spending will inexorably decline year after year. This normal generational spending wave will be exacerbated by a historically unprecedented accumulation of debt on all levels of society, from individuals, to banks, to state and local governments and on to corporations.

Courtesy of

This brief synopsis does not do justice to the breadth and quality of Dent’s research. Readers are advised to read Dent’s books, or visit his free online webinars.

So what is my take on this? Long-time followers of this blog know that I’ve taken a bearish about the US economy for the last 3 years. In February 2010, in a post “How Would You Like Your Dollar Printed?”, I outlined the bleak state of our economy, and stated then that the most likely outcome of this gruesome economic picture would be inflation – not deflation.

I did so at the time because I felt that printing money was the path of least political resistance by that would be chosen by our Fearless Leaders. (Do I mean Feckless Leaders?)
The works of Dent and Prechter have led me to call that conclusion into question. Perhaps deflation – not inflation – is indeed the order of the day.

In my mind, there is no doubt we’ll have another massive wave of house foreclosures and bankruptcies as this downturn drags on. This will be exacerbated by the total lack of political consensus that exists in Washington, and for that matter in the capitals of Europe. See my posting America, Divided We Fall.

Already, all major banks in the US, to my thinking are bankrupt. They maintain a position of balance-sheet solvency only due to the governments relaxation of its “mark-to-market” rules with regard to depressed real estate assets. Most of these banks are still counting the real estate assets they hold in guarantee for their mortgages and CDO’S at pre-crash prices = thereby inflating assets by about 30%.
These banks still exist – and even thrive – only by government fiat.

Already, financial stocks are diving, and a further drop in real estate prices due to foreclosures and continued unemployment, would likely be the “coup de grace” putting many of these banks out of business. We can expect innumerable bank failures, as well as continued pattern of bank concentration into fewer government-supported hands.
I do not expect a complete financial meltdown and a run on all banks, because the US public largely believes in the strength of the FDIC guarantee.

Unfortunately, what affects the banks affects us all. As long as banks are not adequately capitalized, they will not serve their main function in a modern economy. They will not make loans to worthy consumers and businesses.

So this process of debt reduction through bankruptcies, home short sales and foreclosures may well continue to overshadow any loosening of monetary policy by the Fed and any belated attempts by desperate politicians to stimulate growth through fiscal measures.

Policymakers are faced with a daunting – some would say impossible – task. How to slow the deleveraging of around 56 trillion dollars of consumer, business and government debt?

Whether we have a depression, in my mind, is a foregone conclusion. It’s length and severity are still open to manipulation by the policies we choose as a country.

If we adopt – and indeed accelerate the policies of quantitative easing – a move more likely pursued by a Democratic administration if re-elected, I believe we’re likely to see a combination of inflation and deflation. Raw materials, commodities, gold and silver will continue to rise at an ever-increasing pace (think in the high teens). This is the inflationary side. But wages, housing and many consumer cyclical goods and services will drop as unemployment grows and domestic demand shrivels. There’s your deflation.

If on the other hand, a Republic administration comes to power in 2012 with a heavy emphasis on tea-party doctrines,
the outcome will be deflationary. The loose money will stop and government budgets will be dramatically reduced. But even if these “tough love” policies were to ultimately allow the US to mend, don’t kid yourselves. The intermediate downturn would be severe.

Does this mean stocks have to drop as low as 3800? A 70% drop? I wouldn’t say that’s a foregone conclusion, but it is a definite possibility. Unfortunately, I give it better than 50% odds.

Readers may want to review a posting I made on my trading blog, labeled “Technicals on The Wilshire Look Scary”. Market technicians know that when this pattern appears on an index’s chart, it’s a bad sign that comes true over 80% of the time.

Debating about whether stocks will fall by 20% or 70% is, in my view, a waste of time. Regardless of how much they fall, the fall is likely to be severe enough that there’s little reason to not take shelter. Remember the fate of Japan, where a buy and hold investor after Japan’s real estate meltdown would still have only recovered 30% of his initial investment in the stock market after more than 2 decades of patience!

So what’s an investor to do? Stay nimble, would be my advice, and pay attention to political developments. Sin on the side of caution, and take shelter in safer investments: cash, treasuries, and rock-solid corporate bonds . But above all, stay nimble, a lot rides on the outcome of the next election and developments we cannot control: namely the decisions taken by European governments.

In a future posting, I’ll discuss specifics.

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