Financial-Market ‘Stockholm Syndrome’: Markets Headed for a Stumble?

Financial-Market ‘Stockholm Syndrome’: Markets Headed for a Stumble?

We’ll admit it.

Some days, we just don’t get the markets.

Take this, from the Financial Times:

Tesla turned to Wall Street for another $1bn cash injection on Wednesday as it sought a bigger financial cushion for the planned launch of its mass-market Model 3 this summer.

Elon Musk, chief executive of the US electric carmaker, signalled last month that the company’s ambitious plans would push its finances “close to the edge”, and indicated he was thinking of raising more money.

We don’t know about you, but, if a company we’re invested in said that its finances were ‘close to the edge’, we’d get the heck out of there.

Yet Tesla Inc. [NASDAQ:TSLA] appears to be lapping it up. In after-hours trading, the stock was up more than 2%.

It seems to us that we may have the financial-market equivalent of the ‘Stockholm Syndrome’. Perhaps investors in Tesla have become hostages, and now feel sympathy with the company — in the face of what seem to be severe financial problems.

Or maybe it’s an extension of the saying, ‘When you can’t pay a $1 million debt, you have a problem. When you can’t pay a $100 million debt, the bank has a problem.’

Maybe investors are willing to tip in more cash, not because they’re bullish on the stock, but because they fear the whole enterprise could go ‘bottom over elbow’ if they don’t.

But, whatever the reason, and despite the rising share price, it still strikes us that, with over 6,000 stocks on the US market, there must be (there has to be) better investment propositions for your hard-earned money than Tesla.

As we’ve noted before, Tesla is a one-man PR machine, and little else. We think we’ll start calling it ‘DeLorean Mk II’.

Three steps…

In what was a complete surprise to no one, the US Federal Reserve raised interest rates this morning.

It’s the third rise since 2009. It’s also the third rise since December 2015.

That means the upper range for the US Fed Funds Rate is now 1%.

That’s some achievement. It has taken the Fed eight years to get to that level, after squatting on 0.25% from 2008 until 2015. Since then, it’s been a painfully slow ratchet higher to the current level.

The question now is what impact — if any — will it have on stocks and major indices?

And does the old Wall Street saying, ‘three steps and a stumble,’ have any relevance to today’s markets?

David Stockman, the former director of the Office of Management and Budget under former US president Ronald Reagan, swears that the old saying holds true.

But, back in 2004, at the start of the last bull market run, CNN wasn’t too sure. Here’s what they said:

The old adage “three steps and a stumble” still has fans on Wall Street, but some analysts think it’s ready for the glue factory.

Dreamed up by the late technical analyst and guru Edson Gould, the catch phrase refers to the market’s tendency to fall after the Federal Reserve has raised interest rates three times.

When that story appeared on the CNN website, the Fed had just raised interest rates for the third time.

The impact on the market? Stocks climbed 45% before topping out. Not a good indicator then, right?

Not so quick.

Check out the chart below. Three times since 1985 when the Fed has raised rates, the market has suffered significant falls soon after:


Source: Bloomberg
Click to enlarge

After the Fed’s third rate rise in 1987, the US stock market soon collapsed by more than half.

After the third rate rise in 1994, US stocks fell more than 9% — just short of the common definition of a ‘correction’.

And when the Fed raised interest rates three times from 1999 to early 2000, it didn’t take much longer before the market topped out and stocks began a long and painful 50%-plus collapse.

As we’ve noted, the market didn’t collapse or fall to a large degree in 2004. But, then again, no predictive system is 100% perfect.

Yet we would also point out that, in 2004, interest rates were so low to begin with, and the stock market was still well below the record high, that euphoria hadn’t yet entered the market.

Now look at where the market is today.

The S&P 500 index is 312% above the 2009 low. That alone is significant. More than that, it’s more than 58% above the pre-crash 2007 high.

To our mind, that represents an extraordinary period of growth.

So, if anything, our way of looking at history is that, given the high index level, and this being the starting point for interest rate rises, the chart pattern looks much more similar to the 1987–2000 period than it does to the 2004–2008 period.

Admittedly, we don’t know much about charts. So take that with whatever sized grain of salt you like.

But, as we’ve pointed out countless times, while we may not know much about charts, we do know something about common sense.

We know that interest rates have been at a record low in the US for eight years.

We know that household, government and corporate debts are at record highs. And we know that wages growth is almost non-existent.

And circling back to our favourite whipping-boy of the stock market, Tesla, we question how a company that raises so much money, and which has access to funds at low interest rates, still can’t manage to make a profit.

Something ain’t right. And that ‘something’ is this market.

Regards,

Kris Sayce,
Publisher, Money Morning

Editor’s note: The above article is an edited extract from Port Phillip Insider.

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Kris Sayce

Kris is never one to pull punches when discussing market developments and economic events that can affect your wealth. He’ll take anyone to task — banks, governments, big business — if he thinks they’re trying to pull a fast one with your money. Kris is also the editor of Microcap Trader — where he reveals the best opportunities he’s discovered in the markets. If you’d like to more about Kris’ financial world view and investing philosophy then join him on Google+. It's where he shares investment insight, commentary and ideas that he can't always fit into his regular Money Morning essays.

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