A rerun washout?

Once again, fasten your seat belts. We still need a washout to set us up for a lasting thaw. Adam at goldversuspaper noticed the striking similarity between the pattern of the last few months with that of the 1937-1938 “second dip” crash in the Great Depression:

At first I did a double take and thought I was looking at recent history (with a projection of the next few months).

Just read his post for all of the technical reasons for this prognosis. He does a great job covering them. Basically, we are looking for a bottom of the wave 1 of C that started in July or October 2007. This should be the largest bottom to date in the bear market, yet we have not yet had the panic conditions necessary to scare away the premature bottom feeders and permabulls. Watch the volatility index (VIX) and the put/call ratio. When they spike, we are nearing an important bottom.

My candidate for the meaningless but newsworthy explaination/catalyst for this phase of panic is the trouble that western european banks have created for themselves with eastern european debt. I actually just returned from a visit to Kiev this week, where all of the restaurants and cafes suddenly became empty just a few weeks ago. Steel production is down by half this year, and apartment prices are down by 40% in just six months. Things have come to a standstill, the people are talking about revolution, and there is even the fear of another major war, but all is still calm for now. As elsewhere in eastern europe, the currency has crashed, but the housing, auto and credit card debt is denominated in euros or swiss francs. Ugly.

**Note: This post originaly stated that housing prices and steel production were each down by 2/3. A friend in the Ukraine sent me references for the revised figures.

The Global Dow needs to crash some more.

Last fall, Dow Jones launched the Global Dow index, composed of 150 stocks from around the world. A quick glance at its 10-year chart shows that stock prices have only so far blown off the froth from 2006 and 2007:

Source: wsj.com

Stocks are driven by mood, and mood today seems to be highly coordinated around the globe, so rather than scrutinize the twists and turns in the Dow, DAX or Nikkei, perhaps this new index is the best reference.

What is most striking about this picture, as opposed to that of the S&P500, Eurostoxx 50, or Nikkei, is that stock prices are only 2/3 of the way back to the 2002 lows, as opposed to right upon them.

This says to me that even this first stage of the crash has further to run. Fundamentals are deteriorating with blazing speed, but market participants remain in secular bull market mode. Too many are still buying the dips, or at least ignoring their losses and hoping for a rebound. The stock market is still viewed by most Americans as the best way to save for retirement, and the myth persists that if only your time horizon is longer than a decade or so, stocks will always beat cash.

This wave off of the November lows is looking weaker and weaker. We had our chance for a strong bounce like the one after the crash of ’29 (the Dow was up about 45% from November ’29 to April ’30), and all we could muster was about 20%.

Today’s action is a pretty strong indication that panic has been lurking just below the surface. With the sell-off in bonds possibly having run its course, precious metals stalling out at resistance, and a very low put/call ratio indicating extreme trader optimism, the news of the Great Pork Package and latest bankers’ bailout may be just the catalyst we need for a sell-off. Hope is fading fast.

Oh, and it is worth mentioning that John Mauldin reports that a contact at S&P told him that the latest quarter’s earnings are apparently coming in at a NEGATIVE $7 for the index. I have been saying all along, that if this is a depression (it is), PE’s should bottom out at well under 10 and even dividend yields should be in the double digits. Whatever figure you come up with as a final bottom target for the S&P, it should be a very low multiple of very low earnings.