Friday, January 18, 2008

How to Know When a Bear Market Is Ending

The most prescient time to think bearishly of the stock market was when everything was perfect and it seemed the sky was the limit. The sky is almost never the limit. If stocks are priced on a bedrock-to-sky scale, they will be overpriced when Heaven predictably fails to embrace Earth. Another good time to go bearish was last week, when some commentators were observing that things seemed to be leveling off, and that the stock market was expected to go up in the second half of the year. Predicting the stock market six to twelve months ahead is like predicting your income from a job that you haven't even thought of applying for yet. That was a good time to go bearish because of the logic. Things are leveling off now; things will improve six months from now. What happens between now and then? Are we just going to sit it out and then start up again in July? That was the voice of hope. For a moment, I listened to it. Then I recognized the tone of plaintive hope. "It looks like we're going to die now; but if we can just not die, then we will live, and things will be much better for us." Agreed. If! The curve of pessimism now begins to verge over the rollercoaster cliff. We are looking more sharply downward at this moment. Some experts begin to note that, actually, we do not know where the bottom might be, but we do seem to be picking up speed. There is hope that Congress and the White House will think of something. They might. But what I hear from that quarter is an uncertain trumpet. Act fast (as if they would be likely to) and do the right thing (even though there is significant disagreement on what that might be) and things will not be as bad as they might be otherwise. Or perhaps they will be just as bad or worse, but not as quickly. According to Wikipedia, "Causes of the Great Depression are still a matter of active debate among economists." If all these brilliant people, analyzing a single topic for the better part of a century, are still not sure what went wrong, then it does seem a bit optimistic to assume that economists now have a pretty clear idea of what needs to happen, much less that politicians will get it and will act effectively on it. If we avoid a Great Depression this time, it will probably be because the economy still retains a fundamental soundness that cannot be suppressed by a deluge of bad news. And if we go into another Great Depression, my own guess is that it will be because too many key elements of our economy, and of its governance, were corrupted or impaired by laziness, greed, misunderstanding, and all the other elements that typically combine to create catastrophes. Most likely, the die is already cast. Our policymakers are tinkering (or at least talking about tinkering) with various aspects of the situation. Their choices will have real impacts. But there is some chance that they cannot and/or will not make the right adjustments, and that we will spend a period of years going to the basement and painfully reconstructing the foundations of a working economy. Great things can be built during depressions. The Empire State Building is an example. Shared hardship can forge bonds. It can lay the groundwork for a determined generation, as it may have done for the cohort of my parents, Tom Brokaw's "Greatest Generation." But people will get sick and die, things that cannot be maintained will fall apart, and bad guys who were kept in check during rich times may discover openings that did not exist previously. Hitler, for example, employed Germans' poverty to be elected to national leadership in 1933. World War II is commonly understood to have been the cure for the Great Depression. The productive efforts of millions of people, combined to make a great war machine, got the American economy going as all of FDR's plans and schemes could not. But it is unlikely that we will soon face another opportunity to build millions of guns, tanks, and other weapons and the accompanying mountains of supplies. America is not in the mood for more war right now. Depressions do not always end. Sometimes empires fade. It happened with Rome and Persia. It can happen to us. We are on the right track for that. We have one proposal after another that speaks of obligations in the hundreds of billions (and in some cases trillions) of dollars: Iraq, New Orleans, national infrastructure, massive housing foreclosures, and so forth. That is not sustainable financing. Possibly the way out of a Great Depression would be for the population to experience, once again, the shared hardship of deprivation, over a period of years, followed by a shock to the national consciousness. Such events could forge another cohort like that in which my parents came of age, combining in Tom Brokaw's so-called "Greatest Generation." Shrewd leaders abroad, contemplating such a prospect, may consider it wise to let the U.S. retain its belief in its specialness: do nothing that would radically motivate this or future generations of Americans; encourage their preoccupation with unrealistic impressions of themselves; and let them slip quietly, over the decades, into a background role befitting their foolish expenditures and weak educations. (Such thinking may not appeal to Islamic fundamentalist leaders, for whom America is best prodded and poked until it retaliates in such a way as to encourage recruitment for the cause. But that is another issue.) This seems to be the present situation. Those jobs have been going abroad -- first to Mexico, and then to Asia -- for a long time now; and as Bruce Springsteen observed in the 1980s, they ain't coming back. This has not shown any signs of being a temporary adjustment. With exceptions, it appears to be a relatively permanent change. Within the space of one U.S. president's time in office, we have gone from being the world's sole superpower to its problem child. So it may not be a question of when the bear market is ending, exactly. The better question may be when the decline of the stock market slows down to a point such that one could consider investing in it again. One good idea would be to wait until it stops collapsing. Some will tell you that you cannot time the market. That is nonsense. It is just a market, and markets do go through periods of extraordinary difficulty. You may not be able to time it by the day, but you certainly can time it enough to wait until the bad news is no longer an overwhelming flood. Likewise, it may be wise to wait until people are not quite so eager to say bad things about it. Right now, everyone is looking down that slope, in fear and anticipation of just how steep the rollercoaster's drop will be. After a while, they will lose their preoccupation with that. We may then have then settled into a long, grinding slump; or we may start to see signs of renewed perkiness. I'm not betting on the latter, but it is possible. It is true that you risk losing out on a winning proposition if you aren't already in the market when it starts to turn around. It's a good idea to keep up with what's going on. But it is also true that it took decades for the stock market to recover its valuation following the crash of 1929. If memory serves, the market did not reach 1929's level again until 1954. That's a long time to be invested in the market, waiting for good news.