“U.S. would enter a secular deflationary bear market accompanied by continued deleveraging,” says Comstock

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When it comes to guest contributions, I always try and present arguments on both sides of the scale. In this regard, a particularly bearish article on the U.S. stock market comes courtesy of Comstock Partners, the highly regarded investment manager run by Charlie Minter and Marty Weiner.

The opening paragraphs are below.

“The U.S. used unusual methods in handling the bursting of the “Financial Mania” of the late 1990s, the one called the “Dot-Com” bubble. Instead of letting the free markets dictate just how low the prices of stocks and other assets would wind up after the bursting of the bubble, the “powers that be” intervened. The Greenspan-led Federal Reserve reduced Fed Funds from 6 ½ % to 1% and started a second bubble, an unbelievable housing bubble. They attempted to stop home prices from declining, and the intervention generated an enormous increase in total debt ($26 trillion to $53 tn). We have discussed in past commentaries the onerous consequences of excess debt on the economy–especially when the excess total debt occurs in the consumer and housing sector. These two sectors are the main drivers of the U.S. economy and, if these sectors’ debt problems are as structural as we believe, the U.S. economy will have a very difficult time recovering any time soon.

“When the stock market finally broke down in 2000, we were convinced that we had just completed the largest financial mania in history and that the stock market would enter a secular (or long term) bear market. Our conviction was based on the fact that the S&P 500 traded at more than 50% higher than at any prior market peak valuation. The NASDAQ traded at 245 times earnings, 16 times the average NASDAQ P/E from 1971 to 1991. Also, almost every Initial Public Offering (IPO) rose to 3 to 5 times the IPO price, topping all other significant financial manias by a long shot. A large number of these IPOs had no earnings, while others were merely start-ups with no sales.

“We knew that the after-shocks of a financial mania would result in a severe bear market that would be very painful when the market fell back to normal valuations. However, if the “powers that be” had let the free markets work and had let stocks drop to below average valuations typical of major bottoms, the pain would have been much less. Furthermore, housing markets would have also dropped to typical levels in relation to family median income. The free markets would have set the supply-demand balance, and the excess debt build up over the 1990s could have declined to manageable levels, as consumers rebuilt their balance sheets. However, that is not what took place!!!”

A few charts from the report are published below, I strongly suggest that you also read the full article.

Total Credit Market Debt as percentage of GDP

Household Debt as a percentage of Disposable Income

Household Debt as a percentage of GDP

Source: Comstock Partners – Special Report, January 12, 2012.

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