Don't Buy the Dip … 

On Friday, the Dow suffered its worst one-day percentage decline since November 2011. The index plunged by nearly 2%. The S&P 500 didn't fare much better. It plunged by 2.1% – its biggest one-day percentage drop since June 2012.

So far in 2014, the S&P 500 has lost 3.1%. And the Dow is down 4.2%. Mainstream pundits say the big fall in US stocks had to do with China. Or with the Fed's tapering of QE. Or with bad labor reports … a slowdown in capital spending … or the drop in foreign trade. 

Take your pick. Does this mean the bull market is over? Is it time to sell stocks? Or should you buy the dip? 


A Troubling Place

We never know what markets will do next. And now, we are in a particularly troubling place. Never before in the history of the world have markets and economies been the subjects of so much experimentation and innovation. 

Thanks to the Fed, the Bank of England, the Bank of Japan, the European Central Bank, the Swiss National Bank, the People's Bank of China … and every other central bank bent on "fixing" what ails their economies … every price in the global capital market is now manipulated, twisted, tortured and distorted.

We live in a bubble of faith in central banks, where nothing is quite what it seems. Trying to fashion a coherent economic view or an enlightened investment strategy has never been so difficult.  And remember, no paper currency has ever survived a complete credit cycle. 

What will happen when interest rates revert back to their historic norms? We don't know. But when it comes, we doubt you will be happy holding a portfolio concentrated around US stocks and bonds. What will happen next? 

We've tried to figure it out. Inflation? Deflation? Hyperinflation? Boom? Bust? Bubble? Our guess is that we will see all those things … in good time. In the meantime, not having much to guide us, we fall back on old formulae.

 "Buy low, and sell high," for example. 

So forget buying the dip. US stock prices would have to be almost cut in half before they were really attractive on a valuation basis. And as for selling, that is what you should have done last week, last month, last year – or whenever was the last time we recommended it. Still, it's not too late. This market could go a lot lower. 


Why Stock and Bond Prices Will Fall

Here is all we know:

First, sooner or later the price of debt and equity in the US (and most major economies) will have to come down. To make a long story short, today's prices depend on real growth rates that haven't existed since the early 1980s. 

Second, when asset prices begin to fall seriously, the Fed will stop talking about tapering QE. The Fed has broken the stock and bond market. Now, it owns it. Its meddling in the Greenspan and Bernanke years caused a big run-up in prices. It stands to reason that if the Fed stops meddling, prices will go back down to where they ought to be.

The resulting "poverty effect" will be even more unpleasant than the "wealth effect" was pleasant. Janet Yellen won't permit that. She will add stimulus, not remove it.

But we will have to wait to see how this little sell-off develops. Stay tuned this week for more on that … 



The above article is from Diary of a Rogue Economist originally written for Bonner & Partners.

Bill Bonner founded Agora, Inc in 1978. It has since grown into one of the largest independent newsletter publishing companies in the world. He has also written three New York Times bestselling books, Financial Reckoning Day, Empire of Debt and Mobs, Messiahs and Markets.





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