Tuesday, June 1, 2010

BubbleOmics: 10 Predictions for 2010 Reviewed

Seeing that events move so fast these days … what with high frequency trading and trillion dollar bailouts being produced like rabbits out of a hat, and more discoveries about more creative ways to “fix” an audit or a credit rating being revealed by the second, I’ve decided to put out forecasts every six months.

Thus, I’m updating my January 1, 2010, forecasts (see in italics):

1) S&P 500

It won’t go above 1,300 in 2010 but it won’t go down much until hits at least 1,200, at which point it risks a 15% to 20% reversal that will be relatively short-lived.

It hit 1,200 for a few days, then it went down 13% (closing prices) and 15% intraday -- interesting that 1,200 was about (one of many) Fibonacci numbers. I was expecting it to carry on at least until 1,300 before a reversal; but the question I’m asking myself is whether 13% down is a blip, a reversal or a correction?

My view (a real minority) is that the S&P 500 is 20% or so below its “fundamental” (that’s based on working out what International Valuation Standards calls “other-than-market-value,” which I do using historical correlations between price and nominal GDP and long-term interest rates.

But, and this is the kicker; it’s in the slump that happens after a bubble pop which is when mal-investments made in the bubble get washed out. Typically (in the past) you don’t get big corrections (like over 20%) at that stage of the cycle, and although the drama-queens were all over the place with the recent “crash,” well 13% isn’t exactly Armageddon.

There's no reason to change January's forecast now, as then, it’s a “value-picker’s market.”

2) Oil

Oil will drift sideways between $65 and $85 unless there is an “event” of which the most likely is a war of some sort … it won’t go down below $60.

That is pretty-much what happened so far, and I don’t think it will go down below $65 unless more skeletons are found in the financial closet,. I still think that within a year it could be playing with $90.


The gold market is struggling to understand value and the path ahead is therefore likely to be choppy. This is great for traders to show off their surfing prowess but perhaps a bit risky for “buy and hold.”

My view then and now is that gold is a bubble and that its price is driven by fear. Interestingly, the view I had in January was probably the first accurate prediction I ever made on gold, it went down from $1,200 to about $1,000; then it went back up above $1,200, and like I said, it's great for traders.

With regard to the year ahead, who knows what terrors lie hidden? And who knows what other skeletons are concealed like plastic land-mines by the clever auditors and rating agencies? My view remains that at some point it’s going down to below $800, whether it gets there via $3,000 is anyone’s guess.

4) US House Prices

S&P Case-Shiller 20 City Index will drop 10% from where it was in October 2009 before the end of 2010.

In the New-Year there was talk of a “bounce,” that didn’t happen; and in any case house prices don’t bounce, they go “splat.” I still think there is a little to go down before the bottom, foreclosures are not going away, but then that all depends on how much taxpayer’s money (or the money of future taxpayers) is thrown at overcoming the forces of nature, which is impossible to predict.

5) UK House Prices

There is one more leg down to come, possibly to beat the previous bottom on the Nationwide Index, but this could be delayed by Labour artificially pumping up the economy (by borrowing) so that they can have a good showing at the election.

I was saying last summer that the “bounce” was an illusion, in the short-term that was clearly wrong, I’m a bit mystified by the strength of UK house prices, I suspect that might have something to do with (a) the fact most mortgages are adjustable and (b) the British have been doing a very good job of trashing the value of the pound.

Now that the election is over the next question is whether the New-Boys will continue the peculiarly British tradition of bribing the electorate with high house prices, or whether they will come around to the idea that the complex mix of subsidies for home ownership and restrictions on building that make UK such a nightmare for the poor, is bad economics.

I suspect that because most mortgages in UK are ARM (i.e. linked to short-term interest rates) meant that the necessary adjustment of prices down to an economically sustainable level have been kicked down the road, and will continue to be kicked down the road. As always, it’s hard to predict how far politicians will go selling the birthright of their children to hang on to power.

6) US 10-Year and 30-Year Treasury Yields

By end 2010 the 10-year yield will be at least 5% and the 30-year will be at least 6%.

Last September I was the odd man out saying that yields would rise and they did, a bit. But by December I had started to change my mind (my January prediction was lower than most), and by February I had gone 180 degrees, just in time to be the odd-man out again.

Nowadays even Nassim Taleb has come out of the closet and broken his golden rule “I never make predictions,” and has predicted that US Treasury yields will rocket, this is what he said on February 3rd:

Every single human being should bet US Treasury bonds will decline.

Then the 10-Year was 3.7% now it’s 3.3%. I understand that Nassim has taken up a consultancy position with ACA (the people who took the long-position on the CDO cooked up by Goldman (GS)).

My logic then and now is simply that there is a demand for good quality debt (US Treasuries, suspect as they may be, are the best quality you can buy, at least in any quantity), and since the supply of non-toxic-AAA is limited, and getting more limited now that euro denominated debt is suspect, demand is likely to exceed supply … regardless of whether or not the US Treasury sells $2 trillion more in the next year.

Remember in 2007 the “shadow banks” were creating $2 trillion a year of AAA rated garbage; and the suckers were lining up around the block to buy it.

So long as pension funds and insurance companies are obliged to keep a proportion of assets in investment grade debt, the demand will still be out there. I don’t see yields going up much in the next year, although it’s hard to imagine how they can go down a lot more.

One thing that is predictable though, is that this time next year, there will still be plenty of “economic experts” going on, and on and ... on, about hyperinflation just around the corner (just like this time last year).

7) US Commercial Property

It will bottom in 2010 and the Moody’s index will be up end 2010 on end 2009.

I think that’s right; there are more funds being put together to buy distressed properties, sales are up although the banks are being allowed to practice “forbearance” so there is not much to buy. I think it’s highly unlikely the market will go down much now and that end 2010 will be (slightly) up on end 2009, but it won’t be a “bounce,” just an opportunity for anyone who knows what they are doing (i.e. didn’t get hammered by the downturn), to go back in.

8) Hong Kong Property

This is not a bubble.

Well if it was it still didn’t burst, prices went up and although I would expect prices to be muted if, as looks likely, China starts to cool down. By the way I found a great site for property prices.

9) Dubai Freehold

If you can find something Dubai property is a reasonably good investment now (if you like that sort of thing).

There is no change, although it’s harder to get a bargain than it was nine months ago, then you could buy a “standard” villa on the Palm for $1.8 million, nowadays you would be lucky to find one for less than $2.3 million.

At the more “affordable” end of the market, the increase in inventory is still keeping rents down and will do for some time, although the economy is starting to grow (albeit on two cylinders and from a low base). Still hard to find anything that doesn’t have something wrong with it.

10) Shanghai Stock Exchange

This is not a bubble, it will hit 4,000 before the end of 2010 (up 25% on end 2009), but it could be choppy.

It looks like I got that one completely wrong. Today it’s down over 20% on the end of 2009; and well I did say “choppy”, but perhaps the Big Idea about bubbles is wrong?

The SSE had a big bubble in 2007 (5,900) and it bust down to 1,728 which according to the “Big Idea” should put the “fundamental” at about 3,000 in early 2008. And if China has grown since then well it should be heading up in the direction of 4,000.

OK there are still six months to go but 4,000 looks out of the question from here, although the “Big Idea” says that unless China implodes, and the world stops buying from them, it has to head up towards that number at some point. With regard to when, well that’s what you got your risk premium for.

On reflection, perhaps the part of the Chinese economy that is represented by the SSE is not growing as fast as the official figures say it is. China is effectively two economies (a) the Special Economic Zones who are the backbone of the SSE which generate 80% of China’s exports (b) the hugely inefficient and corrupt part of the economy outside the SEZ which is the part that is (allegedly) having a housing bubble and is the part where much of the Chinese “stimulus” was directed.

The “evidence” of what happened over the past six months is that although mainland China might be booming, the SEZ are not. Which makes sense, they depend on exports, and there is no huge reason to be in an SEZ if you are selling into the mainland.

For the next six months, I think the SSE is going to do whatever the world economy does, i.e. not very exciting, particularly now that European banks have stopped lending to each other; but I don’t think it will go down much.

Article from Seekingalpha.com

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