Pete Wargent blogspot

CEO AllenWargent Property Buyers, & WargentAdvisory (institutional). 6 x finance author.

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Wednesday, 19 November 2014

The Trouble with Bubbles

US Stock Bubble

When the Dow Jones industrial index (DJIA) moved above 12,500 at the beginning of July 2011 we started seeing the first references (at least, the first references I remember taking in) to a "US stock bubble", at the point circled on the chart below.

The bubble calls appeared to be absolutely vindicated when in August 2011 fear of European debt contagion stemming from Spain and Italy ripped through markets causing sharp corrections across global indices, while France's AAA rating also came under threat.

By August 6 2011 America had its own S&P credit rating downgraded from AAA to AA+ for the first time in history, with suggestions and fears that further downgrades could follow.

Fear Abounds

Investors may recall that mid-2011 was therefore an exceptionally hairy time for stockholders.

As the holder of a few heavy long positions at that time I can remember watching stock indices and talking heads on Bloomberg news around the clock...while eating breakfast, in the gym, before bed...hint: if you find yourself doing this, you probably don't have an appropriate long-term strategy in place!

In my experience, the only strategy which allows me to sleep at night through such markets is averaging into diversified products, because I know I'll likely be buying more units at a better price next month. Shareholdings in individual companies are another matter entirely (for me at least).

During Australian trade on August 9 stocks collapsed by as much as 5.5 percent as investors wondered whether the US Fed Reserve might act as a circuit-breaker to support markets, before rebounding within the same trade to close up by more than 1.2 percent.

I stand to be corrected but I don't believe such a whipsaw trade has ever been seen in Australia, either before or since. What is certainly the case is that it took a hardy soul to stay long through all of the talk of double-dip recession and debt contagion, 

Yet look at the Dow Jones (DJIA) close today, at more than 17,700. That is, the index has soared more than 42 percent higher before dividends.

Of course there will be a correction at some point, as is the nature of markets, and no doubt all and sundry will be experts after the event. 

Reading the chart from right to left is a cinch. Calling market turning points in real time when reading the chart from left to right is close to impossible.

Real estate bubbles

Not dissimilarly, Case & Shiller called a US real estate bubble in July 2003 when the index read 142.99, yet the index ran all the way to 206.52 in July 2006 before reversing all the way back from whence it came to 134.07 in March 2007. 

The latest Case-Shiller reading in 2013 showed the index to be 16.7 percent above the level it was tracking at the time of the original bubble call.