By PINCHAS LANDAU
In the week that began on Wednesday, October 21, and ended Wednesday, October 28 (eight days really), there was a very sharp reversal across almost all the financial markets. Remarkably, this change was so sharp and sudden that its onset can be pin-pointed - equities, bonds, currencies, commodities, you name it - recorded a disturbance, like a tremor on a seismograph, shortly after 3 p.m. New York time on Wednesday, October 21.
Over the previous days, the markets had been moving steadily in the general direction of the previous weeks and months: meaning that share prices were rising, the dollar was weakening against other currencies and commodities generally, but precious metals and oil in particular were rising.
However, from that point on, everything moved in the opposite direction to the one it had been moving previously: the dollar began rising and other currencies fell, while stocks in particular moved lower. At first, it seemed that whatever its immediate cause had been, this tremor on Wednesday was only a transient phenomenon. Thursday was much calmer. But on Friday the reversal returned and strengthened in every subsequent day through Wednesday of this week.
In other words, for a whole week the markets were moving against the trends of recent weeks and months. The cumulative move was quite significant in several sectors - notably in the Transportations Index, which is often seen as a critical market barometer and which dropped some 10 percent over the week. The financial sector was singled out for particularly harsh treatment, raising memories of the hammering it had received in 2007-2008 and fears of a further crisis.
Above all, the dollar swung around. After almost unrelieved weakness since April, the American currency began to rise, with the Canadian loonie, in particular, slumping by some 6% over the week in question. The dollar is the key to developments in all the markets, because it has become the funding currency used by speculators everywhere to finance their activities. With interest rates on the dollar close to zero and the Federal Reserve promising to hold them there for some time, everyone is taking cheap dollar loans and using the proceeds to buy oil, gold or their favorite share. This borrowed money has been the fuel driving the tremendous boom in the financial markets that has been under way since March.
Serious analysts - not the ones who work for brokerage firms and investment banks - have noted repeatedly that the company valuations represented by recent share prices would, at any time prior to the late 1990s, have been considered stretched even in a booming economy, let alone one as weak as today's. The chances of rapid profit growth over the next year or two are slim, so the justification for high prices is basically nonexistent in fundamental terms. But with bank deposits and bonds offering next to nothing by way of return, investors are clamoring for higher yields and pouring money into riskier asset classes, such as equities and even commodities.
This is, of course, a reprise of the trends in the markets in the run-up to the crash. Even though interest rates were then much higher than they are today, they were considered very low - which indeed they were, by historical standards. The general disregard of risk, perhaps fueled by the hunger for yield, drove investors into equities and other higher-risk sectors, with well-known results.
You would think that since all this happened only a year or two ago, it would act as a constraining factor, deterring people from doing the same kind of thing. But the opposite is the case. The now-classic dictum of Citibank's ex-CEO, Chuck Prince, that "so long as the music is playing, we have to get up and dance," has become the mantra of the markets and of investors.
But one thing has changed: everyone knows that at some point the music will, or at least might, stop. They have an ear constantly cocked to try and ascertain whether that point is close, in which case they will make a dash for the exit. It looks like just such a dash took place last Wednesday and, typically, triggered a chain reaction over the following days.
This Thursday saw a break in this chain of selling dragging in more selling, with the dollar falling sharply and shares and commodities jumping higher. Whether this is an interruption in the newly established downward trend, or rather a resumption of the older-established uptrend, will become clear over the next few days. But given that the economic and corporate fundamentals do not support the current price levels, and that technical analysis suggests the markets are headed lower, the sidelines and out of harm's way looks like a sensible place to be.
landaup@netvision.net.il
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