Mid-November 2009 Update of THE GREAT DEPRESSION of DEBT

“The Great Depression of Debt” is a hardcover updated edition of “The Second Great Depression, Starting 2007, Ending 2020.”  “The Great Depression of Debt” can be purchased at most bookstores or at Amazon.com: http://www.amazon.com/Great-Depression-Debt-Survival-Techniques/dp/0470423714 

PROCEDURAL CHANGE   This blog is getting too time-consuming; I actually considered shutting it down.  But, as an alternative, I decided to try a reduced-interface version.  I will still give my updates and readers are still welcome to comment.  But I will not be responding to individual comments.  Instead, I will read all of them and if the subject of a comment or question seems to have broad interest, I will attempt to incorporate it into my next update.  Of course, readers can still be discussing ideas among themselves, as long as the comments are kept civil.

WHAT HAS CHANGED   In this update, I am going to discuss what I think has changed, or surprised me, since I wrote my books on the economy.

POWER OF FINANCE   In 1961, President Dwight D. Eisenhower, in his Military-Industrial Complex Speech, warned, “In the councils of government, we must guard against the acquisition of unwarranted influence, whether sought or unsought, by the military industrial complex. The potential for the disastrous rise of misplaced power exists and will persist.”  Well, by any measure, the military industrial complex has indeed gotten exceedingly powerful.  Why else would we continue fighting unwinnable wars (does anybody even know what the term “win” means in Afghanistan) and our military budget exceed $650 billion? 

But equally frightening is the growth of the financial-political complex that is now in place.  Recent data shows that 44% of Congress is made up of millionaires, which certainly affects their perspective.  President Obama has surrounded himself with graduates from the Wall Street banks.  And to solve the problem of toxic investments, the government changed the accounting rules so the big investment firms could claim that their worthless investments were worth something; then the government bought the toxic investments at the inflated values.  When investment banks were judged as being “too big to fail,” the solution was to give them taxpayer money and combine them to make even bigger banks.  I completely missed seeing this coming.  I predicted bank failures and government rescues, but not the massive government response we have seen that only makes sense if you assume that they are protecting their own.

And now I am afraid that the two complexes, the industrial-military and the financial-political, are so in bed with each other that it will make it very difficult for the general populace to pressure the government to do what is required to get our country back on track.  As I mentioned in my previous update, in order to get our deficits under control, we must go after the money.  And a disproportionate portion of this country’s resources are with the extremely wealthy and in the military’s budget.  Going after this money runs smack into these two power complexes. 

We will need a leader who will take on these power groups.  President Obama came into power with the backing of the ordinary people, but he has yet to show if he has the intestinal fortitude to stand up to these power groups.  Unless he makes a remarkable turnaround (and it may be too late because he has lost a lot of his mystique), we will have to see if in 2012 a leader emerges that has the attraction of the masses yet has the power to take on these power groups.  Also, we have to see if President Obama will put the required resources and pressure to get clean renewable energy so our country can build good jobs that will eventually help us grow out of the depression.

A lot of commenters seem to worry about hyper-inflation.  I worry more about how much turmoil our country will go through once the masses demand their reasonable share of this country’s riches.  And the ordinary people WILL eventually demand their share; it is just a matter of when and how it happens.  The two complexes, the industrial-military and the financial-political, are going to fight them every step of the way.

FORECLOSURES   In my book, I had forecasted the foreclosure issue.  But I am beginning to think that this problem may get to be even bigger than what I had forecasted.  The 6 to 7 million homes now forecasted to go into foreclosure may be understated, because those estimates are based on how many people are already behind in their home payments and the programmed resets of ARMs.  None of these forecasts include the increase in foreclosures likely to come if our unemployment gets up close to 15% (on the media reported number), which I believe is likely.

Even World bank President Robert Zoellick said on November 11, related to the high U.S. unemployment, “You’re going to have problems with delinquencies of credit card loans, consumer loans, people won’t be able to pay their mortgages.  Some banks are going to continue to be troubled by bad loans.”  He also said that after the government stimulus money runs out, consumer spending must take the baton. “If you’ve got large scale unemployment, if you’ve got consumers rebuilding savings and deleveraging, I don’t think the consumer is going to play that role.”

The recent slowdown in foreclosures is temporary because it is caused by some states requiring mediation before foreclosures and lenders delaying foreclosures as they evaluate which borrowers might qualify for the federal loan modification program.  Since relatively few borrowers will qualify, once these delays are passed, increasing foreclosures will resume.  Also, although the number of foreclosures are slightly down, it is unlikely that the dollar value has dropped since more foreclosure have now switched to higher priced homes.

MISCELLANEOUS   One area I may have misjudged is how long it will take our country to recover from the coming depression.  I said 2020, which seems like a long time from now.  But looking at what Japan is going through, it could end up being much longer than that.

Another thing I didn’t foresee is the rising bubble in commodities.  A few people are going to make a lot of money on this; but most investors will buy near the top and ride it down as the bubble breaks, which all bubbles eventually do.

One last thought for those who still believe that our stock market is now okay.  Look at what happened to Japan’s Nikkei 225 Stock Index.  In the last 20 years, it has dropped 72%.  On its way down, it had three “major” recoveries.  But the downward trend always returned.  There are a lot of similarities in Japan’s market in the last twenty years and our current stock market.  

The stock market is charging ahead despite volumes being down 33% from March.  Those who are bullish are obviously willing to pay whatever it takes to buy stocks from others who then in turn buy different stocks from other investors for an even higher price.  Perhaps its time to dust off the books from 10 years ago:  “DOW 36,000” by Glassman & Hassett, “DOW 40,000” by Elias, or “DOW 100,000” by Kadlec.  As ridiculous as those predictions were then, at least they were made in a time of a booming economy, low inflation, rising corporate profits, low unemployment, and, perhaps even more amazing, a U.S. federal budget surplus.  Well, we do have low inflation!  I guess one-out-of-five isn’t bad!

THE STOCK MARKET 

The Price/Dividend (P/D) ratio for the S&P 500 is now 56.5.  This can be compared to the historical median P/D of 26 and the 17.2 target I use to get back into the market.  At current dividends, the market will have to drop 54% to get down to its median P/D and drop 70% to get to my own entry target P/D. 

Do not interpret the P/D ratio as a predictor of the direction of the economy.  It is a historical unemotional measure that I believe reflects whether the market is overpriced.   The P/D ratio can stay very high for many years with little rationale, as it did in the nineties.

Here is where I get my P/D ratios. http://www.indexarb.com/dividendYieldSortedsp.html. Go to the bottom of the table and read the value opposite “Average Dividend Yield (%) of All S&P 500 Stocks.” Take the inverse of this number X 100 to get the price/dividend.

As always, people should use their own judgment/data to affect their own investment strategies; and they should not blindly use the above information.  Intelligent people can, and do, disagree. 

Warren

November 2009 Update of THE GREAT DEPRESSION of DEBT

“The Great Depression of Debt” is a hardcover updated edition of “The Second Great Depression, Starting 2007, Ending 2020.”  “The Great Depression of Debt” can be purchased at most bookstores or at Amazon.com: http://www.amazon.com/Great-Depression-Debt-Survival-Techniques/dp/0470423714 

THE WEEK’S STOCK MARKET AND THE STIMULUS

The important thing to note is that the market gain realized on Thursday when the positive GDP numbers were released was overwhelmed by the down market on Friday when the negative consumer spending numbers were reported.  The S&P 500 actually lost 4% for the week.  Apparently, more investors are recognizing that the 3^rd quarter gain in the economy was driven by the cash-for-clunkers program and first-time-home-buyer credit, which are both now ending.  There was no real economic recovery.

Congress is also aware of this and is thinking about extending both stimulus programs, with some modifications.  For example, on the first-time-home-buyer credit, they are considering extending the end date beyond November and including a $6500 credit for those who want to trade-up from homes they have lived in for more than five years.  Neither program will have much effect except to give money to those who were going to buy anyway.  A $6500 credit to someone to buy a more expensive home in a market with falling prices (and with a difficulty of even being able to sell their existing home) is not likely to motivate anyone.  And most first-time buyers already made their move since they thought that the program was ending in November.  So we will just be giving away taxpayer money to those who are going to buy anyway with no resultant long-term gain in the economy.

In fact, as reported in CNN Money, Edmonds.com has calculated that taxpayers paid $24,000 for every extra car sale generated by the Cash-for-Clunkers program.  Of course, the White House disputes these numbers and the way Edmonds calculated these numbers; but even if the per car costs are off 50%, it was a very expensive program versus any long-term benefit. 

The first-time-home-buyer credit has a similar cost issue.  The National Association of Realtors (NAR) reports that 1.8 million buyers got the first-time home buyer’s credit.  But the NAR estimates that only 350,000 of these sales were due to the first-time buyer credit. The National Association of Home Builders (NAHB) estimates that only 150,000 additional home sales were due to the first-time buyer credit.  On the basis of the above numbers, each additional home sale cost the taxpayer either $41,000 per home or $96,000 per home.  It is worth noting that neither the NAR nor NAHB are politically motivated to make these numbers look worse than what they really are.

In fact, the whole stimulus program has had questionable and costly results.  CNN money reports that after $150 billion in stimulus spending, 650,000 jobs have been created.  That is a $230,769 cost per job.

OUR FRIENDS IN CHINA 

Chinese-made drywall that emits sulfurous gases carbon disulfide, carbonyl sulfide, and hydrogen sulfide, was used in an estimated 100,000 U.S. homes built in 2005/2006 at the height of the home price bubble.  Not only do these homes now smell like rotten eggs and perhaps cause health issues, the pipes and electrical components are corroding.  To repair these homes is going to cost an estimated $80,000 to $100,000 per home.  Insurance companies are not only refusing to pay for the costs of repair, but they are also refusing to renew insurance policies on these homes.  Since most mortgages require home insurance, this and the cost of repair is forcing many of these homes into foreclosure.  Since many of these homes will be unsalable even after repair (would you buy one?), the banks could end up eating the whole cost of the mortgage.  If the home values average $250,000, that will be a total loss of $25 billion. 

As this is going on, a Chinese producer of wind power turbines has just won the contract to supply the components for a $1.5 billion wind farm in Texas.  Just a year ago, T. Boone Pickens attempted to build a giant wind farm in Texas but was thwarted due to lack of funds.  Somehow, our stimulus to help develop clean U.S. renewable energy isn’t working.  And after the Chinese’s performance on baby formula, children’s toys, dog food, dry wall, etc, I don’t think that I would want to stand under those whirling wind turbine blades!

SO NOW WHAT?

Consumers continue to cut spending, foreclosures continue to rise, and unemployment is expected to keep growing.  So, the likelihood of the government being able to cut back on stimulus seems unlikely unless they want to risk the economy getting as bad as it was in The Great Depression.  However, continued high deficits are also unsustainable.  So what’s a government to do?  Here are some examples (note, examples only!) of what our government could do to continue stimulus support for our economy while reducing our deficit.  These steps would reduce the continuing drop in the dollar, reduce the likelihood of extreme inflation, and give our economy the time needed to heal from its excessive consumer and government debt.

For a start, it may be worthwhile to compare the U.S. to other countries.  First, the portion of our country’s wealth that is in the top few percentage of our population far exceeds that of any other democratic country.  In fact, the average annual income of the top 1% of U.S. households is $1.2 million.  So, let’s put a 20% off-the-top tax on this income, which will increase U.S. tax income by $276 billion.  Now, that doesn’t solve our nearly $1.5 trillion deficit; but it sure takes a big bite out of it.  Some may say that this tax is unfair.  But was it fair that this top income group was the only group that has prospered by the economic gains of the last 10 or 15 years?  And, it isn’t like this tax would put this group into the poor house.  The poor dears would just have to learn to get by on an average income of almost a million dollars per year.

Another area where we differ dramatically from most countries is how much money we put towards defense.  The amount we spend on defense is almost equal to the total of all other countries combined.  And we spend nine times as much as China, who, as mentioned above, is coming in to build a wind farm in Texas because we can’t afford to do it ourselves.  Our 2009 Department of Defense budget is $651 billion.  And that includes the $1,000,000 it costs us each year for each added soldier in Afghanistan and nearly $500,000,000 for each soldier in Iraq.  Well, we can no longer afford to be the world’s policeman.  So, let’s cut this in half by bringing half of our boys (and girls) home.  Note!  We want to keep them in the service because otherwise we would add to our unemployment issue.  Our returned military personnel will be used to guard our ports and to help rebuild our infrastructure.  From numbers I can find, there are roughly 300,000 U.S. troops overseas.  If we bring half of them home, that would be 150,000 more people requiring housing and spending money in our own economy, both a positive boost.  And, several of the countries that currently have our troops, like Japan, don’t want them there anyway.

As for us being needed in Iraq, Afghanistan, and near North Korea to protect our security, few can show how troops on our own borders won’t protect us even more.  In fact, many people believe that our presence in the Middle East does more to promote terrorists against the U.S. than anything else.  But, in any case, if we keep running $1.5 trillion deficits, we are likely endangering our long-term future far more than if we pull most of our military back to the U.S.

So, if we cut our military budget back 50%, we will save $325 billion a year, even more than what we gained by taxing the extremely rich.  Between the two, the increased taxes and reduced military budget, we reduce the deficit by $600 billion per year.  That would reduce our deficit from $1.5 trillion to $0.9 trillion.  Still high, but this reduction will greatly reduce the pressure on the dollar and enable us to keep helping the economy until the consumer is whole and unemployment starts to go down.  Then the stimulus can slowly be reduced along with the deficits.

THE STOCK MARKET 

The Price/Dividend (P/D) ratio for the S&P 500 is now 54.  This can be compared to the historical median P/D of 26 and the 17.2 target I use to get back into the market.  At current dividends, the market will have to drop more than 50% to get down to its median P/D and drop 68% to get to my own entry target P/D. 

Do not interpret the P/D ratio as a predictor of the direction of the economy.  It is a historical unemotional measure that I believe reflects whether the market is overpriced.   The P/D ratio can stay very high for many years with little rationale, as it did in the nineties.

Here is where I get my P/D ratios. http://www.indexarb.com/dividendYieldSortedsp.html. Go to the bottom of the table and read the value opposite “Average Dividend Yield (%) of All S&P 500 Stocks.” Take the inverse of this number X 100 to get the price/dividend.

As always, people should use their own judgment/data to affect their own investment strategies; and they should not blindly use the above information.  Intelligent people can, and do, disagree. 

Warren

Mid-October 2009 Update of THE GREAT DEPRESSION of DEBT

“The Great Depression of Debt” is a hardcover updated edition of “The Second Great Depression, Starting 2007, Ending 2020.”  “The Great Depression of Debt” can be purchased at most bookstores or at Amazon.com: http://www.amazon.com/Great-Depression-Debt-Survival-Techniques/dp/0470423714 

THE JUMP IN THE STOCK MARKET   The market is experiencing an unbelievable positive run.  Since March 6, the S&P 500 has jumped 64%.  And, per the measure I prefer, the price/dividend ratio, this ratio is almost double what it was on March 6.  This is because as stock prices have been going up, dividends have been going down.  Investors are now willing to pay much more for much less!  Other measures also show how crazy these stock prices are.  Dan Burrows of Daily Finance, in an Oct 14 article noted that, based on trailing price/earnings multiples, “…the market is in the top 2 percent expensive terrain historically, and those other times basically covered the tech mania of a decade ago.”

HOUSING PRICES   One of the drivers of the market surge seems to be the reported news that housing is now in the recovery stage.  This news is based on the Case-Shiller home price index, which, as reported in my prior updates, is no longer valid because of a switch in sales markets.  Let’s look at housing with current data.

Per the Zillow housing report, which is little affected by a change in the market mix, inflation-adjusted home prices have dropped 25% since their peak in 2006/2007.  However, they still have to drop another 17.5% to get down to the inflation-adjusted home prices of 2000.  Home prices are still dropping at an inflation-adjusted rate of 0.2% per month for the third quarter.  Although the home price drop has slowed, probably due to the increased home buying that the new-home-buyer-credit stimulated, home prices are not going up as has been widely reported. 

 As I said in earlier updates, the problem with the Case-Shiller data is that foreclosures and resultant home sales have now moved into more expensive homes, making the average sales price of homes higher.  This is a change of sales market rather than a general increase in home prices.  Zillow’s chief economist reports that while high-end markets accounted for 16% of foreclosures in 2006, they now account for 30% of foreclosures.  In 2006, subprime loans accounted for 55% of foreclosures.  In 2009 they account for only 35%. 

 And all of this is about to get worse!  Per CNNMoney.com, in the third quarter of 2009, the number of foreclosure filings hit a record high.  Of special note is that the number of homes actually repossessed by lenders jumped 21% from the previous quarter.  This means that lenders are starting to work through the pent-up foreclosure inventory.  This means that even more homes are about to be dumped on the market, putting even more down pressure on home prices.  And in some low-end markets like Cleveland, lenders aren’t even following through on foreclosures.  Per Les Christie of CNNMoney.com, “In ever more frequent cases, delinquent borrowers want out of the mortgage worse than the lenders.” 

 A study by the Chicago Booth School of Management and the Kellogg School of Management determined that when home values drop 10% below the mortgage amount, people start to give up their homes.  You can see from the previous housing price data that most people who bought homes at their price peak in 2006/2007 with 15% down or less are already in that category.  The study also showed that when negative equity approaches 50%, 17% of households default even if they can afford their mortgage payments.  Many people with option rate mortgages are now in that category.

For the last quarter, repossessions were running at a 950,000 annual rate.  As bad as this is, in the last update I mentioned that several studies put the number of forecasted foreclosures at 6 to 7 million.  If this depression is to bottom out in 2012, as I forecast, the repossession rate will have to double to 2 million per year to reach the 6-7 million projections.  And that doesn’t even include the time it will take to sell the home inventory which will be coming on the market.

This continuing drop in housing value and the rise in foreclosures has another associated risk, which Elizabeth Warren, chair of the congressional oversight panel that is monitoring the TARP bailout funds, alluded to.  In an interview with Washington Post, she said that, “I believe that the middle class is under terrific assault.”  She compares middle class families now with their parents a generation ago, and says that the only way families could increase real household income was with a second wage earner, and that option is now used up.  So we now have flat middle class incomes with rising costs like health insurance and the requirements of two cars and childcare to support two wage earners, and the middle class are falling behind.  The loss of equities in their homes is just another hit.  Although the middle class do own stock, Hugh Smith of Daily Finance says that, “the vast majority of households own less than $10,000 in stocks or bonds, including IRAs.”  So loss in home equity means much more for most families that what the stock market does.

At what point does the middle class start actively rebelling against an economic system that continues to reward only those in the top few percent of incomes.  At what point will they no longer tolerate the average Goldman employee making $700,000 this year on what most people think of as non-productive money handling.  And this is after Goldman received a $12 billion government bailout.   I don’t believe that either those in government or in the large investment banks are aware of the seething anger that is building across this country. 

WHAT WILL START THE COMING MARKET DROP?   Frankly I don’t know.  It will be something unexpected, like a large jump in unemployment, retail sales dropping like a stone, or inflation taking off.  But once the drop starts, it is likely to be extremely sharp because there seems to be little real substance behind this current market bounce. 

ARE CONSUMERS BACK TO SPENDING?  An Oct 15 article by AP Economic writers Rugaber and Crutsinger is titled “Consumers Show Signs of Life as Prices Stay Low.”  However, the details are that September retail sales actually fell the most on any month this year.  The authors of the article are saying that without the September drop in auto sales, retail sales would have risen.  Apparently the authors think that September was a stand-alone month for lower car sales.  I don’t believe that!  Another measure of the consumer’s willingness to spend is their willingness to borrow.  August was the seventh straight month that U.S. consumers reduced their borrowing.  Consumers are spending less and saving more, which is good for them but bad for the economy, at least in the short run.

THE STOCK MARKET 

The Price/Dividend (P/D) ratio for the S&P 500 is now 52.  This can be compared to the historical median P/D of 26 and the 17.2 target I use to get back into the market.  At current dividends, the market will have to drop 50% to get down to its median P/D and drop 67% to get to my own entry target P/D. 

Do not interpret the P/D ratio as a predictor of the direction of the economy.  It is a historical unemotional measure that I believe reflects whether the market is overpriced.   The P/D ratio can stay very high for many years with little rationale, as it did in the nineties.

Here is where I get my P/D ratios. http://www.indexarb.com/dividendYieldSortedsp.html. Go to the bottom of the table and read the value opposite “Average Dividend Yield (%) of All S&P 500 Stocks.” Take the inverse of this number X 100 to get the price/dividend.

As always, people should use their own judgment/data to affect their own investment strategies; and they should not blindly use the above information.  Intelligent people can, and do, disagree.

October 2009 Update of THE GREAT DEPRESSION of DEBT

“The Great Depression of Debt” is a hardcover updated edition of “The Second Great Depression, Starting 2007, Ending 2020.”  “The Great Depression of Debt” can be purchased at most bookstores or at Amazon.com: http://www.amazon.com/Great-Depression-Debt-Survival-Techniques/dp/0470423714 

THE COMING MONTHS

In my Depression book written in 2005, I predicted that the depression would start in 2007, the economy would bottom out in 2012/2013 (after a few false recoveries), and the depression would not end until 2020.  Since we are in one of those false recoveries, it seems wise to see if the original premises for the depression are still there and if, indeed, this recovery is truly “false.”

HOUSING   In my last update, I reported that I had a problem with the Standard Poors/Case-Shiller index that showed home prices climbing 1.4 percent in June, the second consecutive monthly gain.  Well, the July Shiller numbers show a similar 1.2% increase. As we discussed, however, the shift in mix of sales towards the expensive zip codes is the cause of this erroneous appearance that housing prices have now bottomed out and are indeed rising.  The Zillow report, which is less affected by a shift in sales mix, still shows home prices dropping.  And it shows that housing must drop another 15% to reach historical inflation-adjusted prices.  This is extremely important because a continuing drop in home prices puts more people under water on their mortgages.  The degree a person is underwater, along with a growing unemployment level, are the main drivers for foreclosures.

We have already discussed how Option Rate ARMs are just beginning to raise their ugly heads, which will cause many people to see their house payments nearly double and drive them into foreclosure.  But let’s look at some other estimates for the number of coming foreclosures.  Michael Barr, assistant Treasury secretary for financial institutions, estimates that more than six million Americans are at risk of foreclosure in the next three years.  Laurie Goodman of Amherst Securities Group, using data related to how many people are delinquent on their mortgages, estimates 7 million homes.  To put these numbers in perspective, per RealtyTrac, in 2007 there were 1.3 million foreclosures; 2008 had 2.2 million foreclosures.  In comparison, the total annual rate of sales for previously occupied homes is only 5.1 million.  The 6 million to 7 million coming foreclosures are going to be a major disaster!

Note that the above foreclosure data is very optimistic because it is based on current percentages of mortgage holders who are delinquent.  It is hard to believe that this percentage of delinquent home owners will not go up as more people get underwater on their mortgages, Option ARMs are reset and unemployment continues to rise.

Given these data, how likely is it that anything about the housing market has bottomed out?  The recent jump in home sales was certainly influenced by the $8,000 dollar credit for first time home buyers.  But August sales of existing homes fell 2.7% as it became impossible to get the sales/financing/move completed by the credit deadline.  And we are now about to see a complete drop-off in home sales.  Sure, the government may come up with an expanded stimulus program to encourage more home buying.  But this will only cause a momentary blip as home sales and builds must eventually adjust to the real market demand.

CONSUMER DEBT   In order for the economy to get back to where it was a few years ago, we need the consumer to get back to spending.  But is that even possible?  Per the Federal Reserve Board data, consumer debt payments as a percentage of disposable income peaked in 2007 at 19.37%. Through second quarter 2009, their payment/disposable-income had dropped to 18.05%, so they are starting to pay down their debts.  But to get back to a more healthy payment debt level as in the early eighties, the consumer payment debt level would have to drop to 15.5%.  We have only moved one third of the reduction in debt payments needed to get down to that more healthy level.  And stimulus programs like Cash-for-Clunkers, which likely pushed up future debt payments for many people, do nothing but delay this needed process of debt pay-down. 

UNEMPLOYMENT   As we have seen, nothing about our economy looks very good.  The Institute of Supply Management’s September index of manufacturing activity fell when it was expected to rise.  The Labor Department said that new claims for jobless benefits rose to 551,000, far more than what was predicted.  Automakers, which had gotten a 700,000 positive hit from the Clunkers program, saw their sales dive (surprise, surprise) in September.  Sales at GM led the drop with a 45% plunge.  All of this data bodes poorly for any kind of improvement in the unemployment picture since manufacturers will respond to any further slowdowns with more layoffs.

BANKS   Banks remain a mess.  Nearly 100 have failed this year and the F.D.I.C. is looking for a $45 billion bailout.  U.S. large-loan bank losses tripled in 2009 to $53 billion.  The IMF, in its Global Financial System report, says that banks face another $1.5 trillion in writedowns.  This is on top of the $1.3 trillion already taken.  And the CIT Group, the largest U.S. lender for medium and small businesses, is again on the brink of collapse.  This financial firm already got $2.3 billion in bailout money a year ago.  Who said that the financial crisis was over?

THE STOCK MARKET AT YEAR END   One of the readers asked for my current estimate (guess?) for the S&P 500 by year end, and my response was 750 (slightly higher than an earlier prediction I had made).  This will be a drop of 27% from the current level.  This seems like a big drop, but exactly one year ago, from October 1 to October 17, the market dropped 38%.  Sure, the specific economic news was different then, but the same underlying weaknesses of the economy are still the same.

THE STOCK MARKET 

The Price/Dividend (P/D) ratio for the S&P 500 is now 54.  This can be compared to the historical median P/D of 26 and the 17.2 target I use to get back into the market.  At current dividends, the market will have to drop more than 50% to get down to its median P/D and drop 68% to get to my own entry target P/D. 

Do not interpret the P/D ratio as a predictor of the direction of the economy.  It is a historical unemotional measure that I believe reflects whether the market is overpriced.   The P/D ratio can stay very high for many years with little rationale, as it did in the nineties.

Here is where I get my P/D ratios. http://www.indexarb.com/dividendYieldSortedsp.html. Go to the bottom of the table and read the value opposite “Average Dividend Yield (%) of All S&P 500 Stocks.” Take the inverse of this number X 100 to get the price/dividend.

As always, people should use their own judgment/data to affect their own investment strategies; and they should not blindly use the above information.  Intelligent people can, and do, disagree. 

Warren