By David Stockman as originally published on Contra Corner and reprinted here with permission
For the last five years the S&P 500 has been dancing up its ascending 200-day moving average (200-DMA), bouncing higher repeatedly whenever the dip-buyers did their thing. Only twice did the index actually break below this seeming Maginot Line: In August 2015, after the China stock crash, and in February 2016, when the shale patch/energy sector hit the wall.
As is evident below, since the frenzied peak of 2873 on January 26, the index has fallen hard twice—on February 8 (2581) and March 23 (2588). Self-evidently, both times the momo traders and robo-machines came roaring back with a stick-save which was smack upon the 200-DMA.
But here’s the thing. The blue line below ain’t no Maginot Line; it’s just the place where the Pavlovian dogs of Bubble Finance have “marked” the charts. And something is starting to smell.
In fact, it’s starting to smell very much like an earlier go-round when Pavlov’s 200-DMA barkers had enjoyed a prolonged ascent—-only to find an unexpected cliff-diving opportunity at the end.
We refer to the nearly identical five year run-up to the March 2000 top at 1508 on the S&P 500. Back then, too, the 200-DMA looked invincible, and had only been penetrated by the August 1998 Russian bankruptcy and the Long Term Capital Management meltdown a month later.
Indeed, the bounce from the October 8, 1998 interim bottom of 960 was nearly parabolic, rising by 57% to the March 2000 top.
That latter point might sound vaguely familiar. That’s because the rebound from the February 11, 2016 interim bottom (1829) to the January 26th top (2873) this year was, well, 57%!
Of course, we don’t cotton to numbers magic, but we do have some decent regard for history, logic and the politico-economic facts of life. And on that score, it would appear to us that what transpired last time may be a walk in the park compared to what present circumstances may bring.
As it happened, the S&P ground lower for a few months in the spring and summer of 2000 while the dotcom/NASDAQ 100 stocks were being immolated, but then cut loose decisively from the 200-DMA in early October.
Alas, five months thereafter the S&P 500 index was down 20% from its peak, and then tumbled deep into bear market territory from there.
By the bottom at 775 in October 2002, the index was down 50% from its peak, and it did not get back on the north side of its 200-DMA until the spring of 2003.
And it was exactly at that crossover point where things got interesting, and exceedingly relevant to the current context. During the three months between the March 12, 2003 double-bottom at 804 and mid-June, the S&P 500 soared by 25%, and was off to the races from there.
The proximate trigger, of course, was the clear end to the mild 2001-2002 recession and a concentrated, sustained burst of monetary stimulus from the Greenspan Fed that took the funds rate in June 2003 to the unprecedented level of 1.00%.
At that point, carry traders thought they had died and gone to heaven and did not hesitate to start buying the index hand-over-fist.
To be sure, after 10 years during which the Fed funds rate has been lashed close to the zero bound, the casino has lost all memory of Greenspan’s sustained interest rate slashing campaign designed to atone for the ignominy of the dotcom crash. But the fact is, there was still something called an actual money market rate in the fall of 2000, and it then stood at 6.5%.
As shown below, Greenspan’s forced march lower was relentless during the next 30 months. At length, the funds rate was cut by either 25 or 50 basis points on 17 consecutive occasions. The monetary spigots had never previously been opened with such reckless abandon.
Still, our point is not merely to chastise Greenspan for the housing boom and sub-prime madness which resulted from his rate cutting spree. The more important point is that it can’t happen again. The Maestro had 550 basis points of cutting room, and actually 650 points as it later turned out in the dark winter of 2008-2009 when the funds rate was cut to zero.
By contrast, what stands on the south side of the S&P 500’s current 200-DMA is essentially a paralyzed Fed: The Eccles Building is out of rate cutting power and desperately committed to shrinking its bloated balance sheet in order to get positioned to combat the next recession.
For that reason, the kind of stock market reflation that erupted during the spring of 2003 per the above chart is not in the cards. Yet the casino has been house-trained for so long by the Fed “put” that it has lost all fear or what lies below the 200-DMA, thereby making the current dip-buying spasms all the more exuberant and dangerous.
Indeed, the stock market is now in acute danger of being bushwhacked by the impending fiscal/monetary collision in the bond pits—yet such a thing wasn’t even on the radar screen last time around.
In this regard, we have been documenting in recent weeks that Washington has now abandoned even a shred of fiscal restraint, and is heading for a $1.2 trillion deficit, or 6% of GDP in what is the tenth year of so-called recovery (FY 2019). That’s happening in the teeth of the Fed’s historic pivot to QT, which is the opposite of the circumstances of 2000, and also the opposite of the fiscal equation extant back then, as well.
In fact, the tech boom of the 1990s had generated massive capital gains in the stock market, causing Federal receipts from the capital gains tax to soar. There also was a respite during the entire decade from tax-cutting owing to last gasp of the old-time religion, which had generated large deficit reduction packages during both the George H. W. Bush administration as well as under Clinton.
At the same time, the cold war had ended early in the decade and the neocon war-mongers had not yet seized the reins of power completely nor effectively launched permanent wars of invasion and occupation. Accordingly, real defense spending reached modern lows relative yo GDP over the course of the decade.
Needless to say, those parallel trends made for excellent fiscal math. By the end of the decade, Federal receipts were at a modern high at 2o% of GDP and spending had been pushed to a 30-year low at 18% of GDP. For what will surely be the last time in American history (as we know it), the Federal budget crossed over into surplus, reaching more than 2% of GDP in FY 2000.
The result was a debate in Washington that was way premature, and which sounds entirely alien to present-day ears. To wit, long-term budget projections showed large and rising budget surpluses as far as the eye could see; and, in fact, the disappearance of the last dollar of Federal debt within the decade!
Would that it were, of course, and in more ways than just on the matter of national solvency. What caused the real wailing and gnashing of teeth in the early 2000s was a stark fear in the Eccles Building that it would be put out of business!
That’s right. Greenspan himself warned that with no government bonds, notes and bills to purchase, the Fed’s ability to shepherd the American economy would be effectively eliminated.
That part of the surplus nightmare never happened, of course, but what did happen is the very opposite of today. To wit, rather than “crowding out”, the bond pits experienced a brief interval of crowding in.
During FY 1998-2000, the publicly held debt was reduced by $430 billion, and that amounted to 11% of the $32.8 trillion of public debt outstanding at the end of 1997.
Needless to say, the sky-high stock market in March 2000 perched on its 200-DMA was in no danger of being bushwhacked by an outbreak of massive Federal borrowing. When the dotcom bubble finally collapsed, it did so owing to the sheer mania that had over-taken the casino.
This time around the mania is back in spades. But also what lies ahead is a catalyst for collapse like was not even imaginable in the spring of 2000.
We have referred to this as the “yield shock” and it is surely on the way. In fact, even as the Fed shrinks it balance sheet in an unprecedented manner under QT, the borrowing requirement over the next decade now totals $17 trillion or 115% of the current Federal debt held by the public.
And that’s night and day compared to the scenario in March 2000.
This seems obvious enough if you are even remotely paying attention to the facts, which most definitely the revilers and dip-buyers in the casino are not.
We got a solid reminder of that again during our appearance on Fox Business this week. Even Steve Forbes assured us that the $200 billion of seed money that the Donald was peddling that day in Ohio for the launch of his infrastructure boondoggle was no sweat because it could be paid over several years!