“I think it’s a tremendous opportunity to buy. Really a great opportunity to buy.” – President Donald Trump, Christmas Day 2018
As we bid farewell to the past year, it’s time to reflect and look ahead. With the dawn of a new year upon us, we bring a mixture of good wishes, contemplative thoughts, and some foreboding predictions. The arrival of the New Year often prompts us to embrace fresh opportunities—be they dreams, aspirations, or even illusions. It’s the perfect moment to seize the possibilities that lie ahead.
Prepare yourselves for a year where events will unfold as they are meant to, encompassing both triumphs and adversities. Each day promises a blend of harmony and discord, shaping our journey into the unknown.
But what awaits us in this new chapter? What are the key expectations as we embark on another orbit around the sun? What should we anticipate regarding stocks, the 10-Year Treasury note, gold, and the state of society? Are we on the brink of a societal collapse? Could this finally be the year that the Fed’s safety net fails? Today, we delve into these questions, acknowledging the speculation inherent in predicting the future.
We embark on this exercise with modesty. Our approach is certainly unscientific, embracing conjecture over conventional forecasting methods. By drawing upon facts, fiction, and a sprinkle of intuition, we aim to discern what lies ahead.
Before we progress, a wise reminder from Yogi Berra comes to mind:
“It’s tough to make predictions, especially about the future.”
With this in mind, we bravely confront our limitations and present a series of predictions for the year to come.
Stocks, Treasuries, and Gold in 2019
Stocks – A Major Meltdown
While we understand that the stock market contains numerous individual stocks that don’t all behave the same way, we must simplify for our analysis. Our focus here will be the broad U.S. stock market, exemplified by the S&P 500.
It’s anticipated that the stock market’s downturn, which began following the S&P 500’s recent peak of 2,940 on September 21, will continue to escalate throughout 2019. In fact, it could be a decade or longer before we see such heights again.
The Federal Reserve’s tightening measures, including elevating the federal funds rate and reducing its balance sheet, have fundamentally shaken the stock market. A crucial element of the previous bull market—affordable credit provided by the Fed—has been withdrawn, making it difficult for the stock market to sustain its inflated valuations.
In the first half of the year, expect erratic fluctuations of several hundred points in the S&P 500. Algorithmic trading will drive these unpredictable oscillations, resulting in a battle for dominance between bulls and bears—both human and mechanical.
However, as mid-year approaches, the bulls are likely to run out of steam. Savvy investors will begin selling during the temporary rallies leading up to the summer and shift their focus to cash and gold. Concurrently, the brief upturn in the economy spurred by President Trump’s tax cuts will dissipate, paving the way for an impending recession.
Outdated predictive models based on inaccurate earnings forecasts will become irrelevant. As programmed buying transitions to programmed selling, a steep market collapse will ensue. By October, Wall Street and Washington will demand action from the Fed, prompting new strategies involving Zero Interest Rate Policy (ZIRP), Negative Interest Rate Policy (NIRP), and quantitative easing (QE). Nevertheless, these attempts to inject liquidity will amount to little more than a futile gesture, as reality strikes investors like a frosty surprise.
A sudden and damaging bear market will continue into early 2020, ultimately resulting in a staggering 60 percent drop in the S&P 500 from its historical peak.
This pale in comparison to what Treasury investors might experience in terms of capital loss…
The End of the Great Treasury Bond Bubble
As we approach the end of the year, the yield on the 10-Year Treasury note hovers around 2.77 percent, down from about 3.20 percent in early November, yet still above last year’s yield of 2.40 percent. Historically, a yield of 2.77 percent is extremely low, but it marks a significant increase from the unprecedented low of 1.34 percent seen in July 2016.
For almost a decade, we have been anticipating the decline of the Treasury bond bubble, only to face repeated instances of fleeting interest rate rises followed by lengthy periods of falling rates.
However, the trend that began in 1981 has shifted, and we firmly believe that 2019 will mark the start of a long-term increase in yields. After years of miscalculating the demise of this bubble, it seems we may finally be correct.
In the coming decades, the cost of borrowing will rise markedly. This change will play a pivotal role in the economy. Moreover, the Fed’s ability to influence this trajectory will be significantly diminished.
There’s a widely held fallacy rooted in three decades of aggressive credit market interventions, suggesting that the Fed can eliminate risk from financial markets. The belief that it can perfectly calibrate the money supply to ensure stable stock and bond growth is fundamentally flawed.
Similarly, there is an unwavering conviction that during any major market downturn, the Fed can soothe the fallout and restore financial stability quickly. Advocates of the Fed’s omnipotence point to a three-decade history where it has effectively inflated stock and bond markets.
But what happens if the end of this artificial risk-free market era is on the horizon?
Death to the Fed Put
The original “Greenspan put,” established by Alan Greenspan following the 1987 Black Monday crash, was initiated under favorable market conditions. Interest rates, which had peaked in 1981, were still relatively high, offering room for borrowing costs to decline.
The mechanics of the Greenspan put—and subsequently the Fed put—are simple. When the market slides by around 20 percent, the Fed reacts by lowering the federal funds rate. This typically generates negative real yields and an influx of cheap credit.
This strategy creates two observable market distortions. Firstly, it sets an elevated floor for the market’s decline, functioning as a safety net. Secondly, reducing interest rates drives bond prices upward, due to their inverse relationship.
Wall Street asset managers have welcomed the Fed put, as it diminishes market volatility and establishes predictability in behavior. They can rest easy during downturns, knowing their bond holdings will appreciate, while stock prices are likely to rebound post-correction.
This dynamic has defined U.S. financial markets and investment strategies from 1987 to 2016. Despite some harrowing sell-offs—like in 1987, 2001, and 2008—the Fed always intervened, cutting rates, boosting bond values, and fueling market recoveries. Few doubted this intervention would ever cease.
Portfolio strategies advocating a 60/40 allocation between stocks and bonds flourished, as the Fed put offered comforting certainty: when stocks were down, bonds were up.
However, what if in 2019 this safe haven of bonds turns into a perilous trap?
The next downturn may reveal that the relationship between stocks and bonds is not fixed and could be shown to be a temporary phenomenon, indicative of a time when disinflation ruled.
The current conditions—rising rates coupled with overwhelming debt—stand in stark contrast to the foundation that allowed the Fed put to flourish. As policies aimed at mass money debasement have driven both stocks and Treasuries to unsustainable extremes, a simultaneous collapse looms on the horizon for both markets.
The prediction of a catastrophic dual market failure becomes all the more plausible in 2019. When the Fed lowers the federal funds rate in a desperate attempt to stabilize both markets, brace yourself for an unforeseen panic—so monumental that the Fed put will struggle to contain it. This notion of a safety net could turn out to be a relic of a bygone era.
Gold Shines
Gold has underperformed significantly since reaching a peak of $1,895 per ounce in 2011, plummeting to approximately $1,200 by early 2015 and hitting a low of $1,060 by the end of that year—a staggering 44 percent decline. By the end of 2018, gold had stabilized around $1,275 an ounce, almost unchanged from the previous year.
Nevertheless, the drivers that spurred gold’s 645 percent rise between 2001 and 2011 remain very much intact. The national debt, now nearing $22 trillion, continues to grow uncontrollably, while the dollar’s status as the world’s reserve currency increasingly finds itself in doubt.
A dual collapse of both the stock and bond markets will leave investors with few viable options for preserving their capital. In this scenario, gold and cash will emerge as the most reliable assets. Positioned as the ultimate refuge from instability, gold is poised for a resurgence.
Despite its recent struggles, gold’s price resilience late in 2018 suggests a strong rebound ahead. Additionally, gold mining stocks are currently undervalued, presenting a potential opportunity reminiscent of a significant market speculation.
The Recline and Flail of Western Civilization
Complete Societal Breakdown
In essence, the challenges our economy faces are rooted less in market fluctuations and more in the actions of central government. Over the past 30 years, a collusion between the Fed and the Treasury has distorted the financial system, resulting in wealth increasingly concentrated in the hands of a select few. This growing disparity has reached a level impossible to ignore.
This trend will likely intensify during the anticipated economic depression, expected to fully unfold by 2020. Public resentment towards wealthy insiders will escalate, resembling a discontent greater than what was observed in past business cycles. The resulting crisis is bound to morph from an economic downturn into a complete societal collapse, revealing the government’s failures.
Instead of adopting small government and sound monetary policies, the ensuing chaos may provide fertile ground for more extensive government control, as leaders promise solutions while perpetuating even greater inequalities.
Thus, 2019 could exacerbate the growth of big government, while public dissatisfaction fuels various movements demanding grand governmental interventions for problems stemming from governmental overreach.
The remaining middle class could face destruction as society crumbles under the weight of its own dysfunction.
Culture Circling the Toilet Bowl
This past year has unveiled a plethora of eye-raising insights. The rapid dissemination of new ideas through social media has been relentless, often stemming from academia and an increasingly zealous adherence to political correctness.
For instance, on Thanksgiving, we learned the animated special A Charlie Brown Thanksgiving is deemed racist, with criticisms mounted against character placement around the table. Following Twitter’s logic, this portrayal is a sign of prejudice.
In another peculiar advancement, California has recognized a nonbinary gender option on state IDs, reflecting a move towards greater inclusivity in personal identification.
Furthermore, the holiday classic Baby, It’s Cold Outside has been recast as a song about sexual assault, prompting numerous radio stations in the U.S. and Canada to exclude it from their playlists.
Instances like these do not signify societal progress but rather illustrate the ongoing decline of Western civilization. The “recline and flail” phase depicts just one of the many downward trends seen over the past 50 years. Unless reversed, this cultural deterioration is set to continue well into 2019.
Fake News Haymaker
Yet, amidst the prevailing gloom, there’s a flicker of hope for 2019. Bright minds dedicated to truth-telling and integrity are tirelessly working to deliver a significant blow to the fake news media landscape. Anticipate major disruptions in mid-2019 as their efforts materialize.
Here’s to a joyful and fruitful New Year!
Sincerely,
MN Gordon
for Economic Prism
