Why the Big Bust Is Years Away

The scourge of terrorism is back again, having never really left.

Over the weekend, London was the scene of another tragic event. Sadly, there are no easy answers, no easy ways to stop this evil.

The seeds of terrorism are planted in very young minds, and watered daily by older, more cowardly, more sinister minds.

Sadly, it is very, very difficult to stop this kind of growth.

Money, however, is now pretty much immune to these localised attacks. Stocks are expected to rise in Australia today, following a good session on Wall Street on Friday.

All three major US indices closed at record highs. Along with a rebound in the iron ore price, that should push Aussie stocks into the black today.

For all the kicking and screaming about the Aussie housing bubble and Aussie economy, the market is holding up. Take a look at the chart of the ASX 200 below:

Click to enlarge

After peaking at around 5,950 points at the start of May, stocks sold off, led by the banks. The index retreated to support at around 5,700 points, which represented a decline of just 3.4%.

That’s hardly anything to get carried away with, right?

Judging by the tone of the mainstream media’s reporting, you’d think we’re in the depths of a bear market. Last week, some fund manager got their five minutes of fame by selling all stocks and returning funds to investors. They cited China blowing up ‘later this year’ and the bursting of the Aussie housing bubble as reasons for their decision.

They may be right in this view. In which case they will look like geniuses. But no one knows what the future holds. Making predictions about our massively complex financial system is fraught with danger.

No one has the analytical skills or brainpower to correctly guess when China will blow up or when our housing bubble will burst.

As I often say, knowing that you don’t know is one of the keys to successful investing. Having such an attitude keeps your emotions at bay. Emotions are the enemy of investors.

However, I would make one exception to this rule…

Last week, you heard from my mates at Cycles, Trends and Forecasts. Phil Anderson heads up the publication.

I’ve become friends with Phil over the past few years. His work on the real estate cycle, and how it combines with financial markets, is some of the most original work I have come across.

Because of this, his predications are spot on. Back in 2014, when Phil first joined Port Phillip Publishing, everyone was fretting about a housing bust (including me). Phil confidently proclaimed that housing in Australia was going to boom.

Not because he had a vested interest in this outcome, but because that’s what his cycle research told him was going to happen.

And it’s played out that way. Which is why Cycles, Trends and Forecasts now has an army of loyal followers.

I’m one of them.

One of the things I learnt from Phil is what makes a global credit crunch so potent. That is, a global property bubble simply must precede a nasty credit bust.

That’s because, during a property bubble, banks expand credit for the purchase of property. After a while, the credit expansion gets out of hand and the value of the land on the banks’ balance sheet exceeds its true underlying value.

When the flow of credit slows (usually due to central banks belatedly raising interest rates) it exposes this overvaluation.

The banks, in a panic, then try to offload assets, which pushes prices down and exacerbates the credit contraction. Remember, it is the banks that create credit, not central banks.

This psychology infects the whole market and panic takes hold. Before you know it, you’re in the midst of a nasty credit crunch, which has wiped more than 50% from your portfolio.

The global economy is clearly a long way from that point now. Hence the very low probability of experiencing another 2008 style meltdown anytime soon. It will happen again, but not for a while.

You could argue that the situation in Australia is different. Banks have been creating credit for the purchase of property for years. Their balance sheets are groaning under the weight of land.

However, you need a trigger for a credit crunch. And that trigger is higher interest rates or a higher cost of credit from our international lenders.

In Australia, it doesn’t look like interest rates will rise for some time. In fact, the market is starting to entertain the likelihood of another interest rate cut. From Bloomberg:

A month can be a long time in economics.

Since the Reserve Bank of Australia’s last policy decision on May 2, market bets on an interest-rate cut by the end of this year have doubled. While that chance is still only less than 20 percent, swaps traders late Friday saw the nation as the only developed economy where cuts are possible in the coming year after data during May pointed to anemic growth in the first quarter.

For now, a mixed picture means Governor Philip Lowe will likely hold the benchmark rate at a record-low 1.5 percent on Tuesday. While reports since the RBA’s last meeting show strong employment gains and a surprise rebound in retail sales, construction has been soft and wage growth stagnant. Signs of a cooling housing market could also give the central bank leeway to ease down the track, after prices dropped in May for the first time in 18 months.

If the RBA stays on hold or eases, it’s highly unlikely you’re going to see the property bubble burst anytime soon. And with the global economy growing nicely, the flow of global credit (which allows our banks to lend) will continue unabated.

Aside from all this, Phil says it’s not the right time in the cycle for a bust. A mid-cycle slowdown is coming. Then the market will take-off again. A major bust is still years away.

If you’re nervous about property or stocks right now, I urge you to get a hold of Phil’s research. It will help you take the emotion out of investing and give you a whole new perspective on how property and land interact with financial markets.

Having this knowledge will make you a more confident and better investor. You can read more about Phil’s work at Cycles, Trends and Forecasts, here.

Tomorrow, I’ll explain perhaps the biggest insight of Phil’s work. When you understand it, you’ll wonder how you ever managed to miss it in the first place. And you’ll marvel at just how most of the world’s economists still manage to miss it.



Greg Canavan is a Feature Editor at Money Morning and Head of Research at Fat Tail Investment Research.

He likes to promote a seemingly weird investment philosophy based on the old adage that ‘ignorance is bliss’.

That is, investing in the Information Age means you have all the information you need at your fingertips. But how useful is this information? Much of it is noise and serves to confuse, rather than inform, investors.

And, through the process of confirmation bias, you tend to read what you already agree with. As a result, you often only think you know that you know what is going on. But, the fact is, you really don’t know. No one does. The world is far too complex to understand.

When you accept this, your newfound ignorance becomes a formidable investment weapon. That’s because you’re not a slave to your emotions and biases.

Greg puts this philosophy into action as the Editor of Crisis & Opportunity. As the name suggests, Greg sees opportunity in a crisis. To find the opportunities, he uses a process called the ‘Fusion Method’, which combines traditional valuation techniques with charting analysis.

Read correctly, a chart contains all the information you need. It contains no opinions or emotion. Combine that with traditional stock analysis and you have a robust stock-selection strategy.

With Greg’s help, you can implement a long-term wealth-building strategy into your financial planning, be better prepared for the financial challenges ahead, and stop making the basic, costly mistakes that most private investors do every time they buy a stock.

To find out more about Greg’s investing style and his financial worldview, take out a free subscription to Money Morning here.

And to discover more about Greg’s ‘ignorance is bliss’ investment strategy and the Fusion Method of investing, take out a 30-day trial to his value investing service Crisis & Opportunity here.

Official websites and financial e-letters Greg writes for:

Money Morning Australia