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Dow 10,000 Not a Bubble, Time to Abandon Old Stock Market Valuation Ideas?

Stock-Markets / Stocks Bull Market Oct 15, 2009 - 06:01 AM GMT

By: Andrew_Butter


Best Financial Markets Analysis ArticleOne of my favorite comments on an article I posted on Seeking Alpha was on something I wrote in May earlier this year, it went like this:

"Wow...the more I look at this the more I think this is the worst piece of work I have seen in a long time…..big mistake, my friend…The baseline is just so wrong it screams! Ouch!”

I printed that out big and framed it, I posted the same article on Market Oracle but don't get many comments, I do get e-mails from time to time though, some are very nice (thank you), but my all time favorite there was, "Eat sand you ***** raghead"…keep 'em coming !

The particular article in question ( ) said that the Dow would not have a serious reversal until it hit 10,000 (at the time it was 8,300). That was a follow up to a series of articles that started in January saying (1) the Dow would bottom at 6,600 (it did) and then rally strongly (it did) [1].

But I wasn't using any of the old valuation ideas that were so popular prior to the recent spate of bubbles and busts (, Housing, RMBS (yes that was a bubble, they weren't worth half what people paid for them), oil, and in my opinion now Treasuries, and horror of horrors gold).

Did the penny finally drop that many of those theories in the past that are still rolled out as an explanation for what is going to happen in the future, don't actually work very well?

One thing that I can't understand is that from March this year to at least May, ninety percent of articles published covering the valuation of the New York stock market, explained in gory detail, page after tedious page, one hundred and one reasons why the Dow would go back down below 6,400.

So let me get this straight. According to the immutable theories of valuing stock markets that have been in use successfully  (plus or minus a Black Swan or two, which can of course provide a get out for anything), proved beyond any reasonable doubt that the Dow at 8.300 was complete lunacy and the rally was in the words of Professor Nouriel Roubini a "dead-cat-bouncing-sucker".

What I don't understand is why aren't those same old flat-earth-theories that proved to be so utterly unreliable in the past, being rolled out again, FORTISSIMO; now that the Dow is 10,000?

The silence is deafening!

After all, unemployment is still going up, the consensus appears to be that house prices have another leg down, FDIC is broke, commercial loans are defaulting left right and center, resets are starting to reset, the Fed isn't even hinting it might raise interest rates to signal the end of a recession, there is no end in sight to the "forbearance" on valuations of toxic assets (the current regulation and the "Stress tests" appears to say that you can put whatever value you like on those), and P/E or "Q" ratios or Fibonacci, don't even talk about it!

Here's an idea, perhaps all the yardsticks that were so fashionable BEFORE the recent catastrophe (a) didn't actually work very well, and (b) were part of the problem - like perhaps they were a cause of the problem?

Reality check, what happened, happened, and it happened for a reason, it wasn't a Black Swan; it wasn't greed or skullduggery (that's not new). It was because (many) market participants were not able to understand value. It's no good whining if you paid twice the right price for something (using borrowed money), only to find out that you can't find anyone "dumber than you" to buy it from you at more than half what you paid.

That's the whole theory of bubbles, you buy something from someone smarter than you and sell it to someone dumber than you, the only risk is that can't find anyone dumber than you are.

I remember watching Warren Buffet on TV the other day, a really-really smart interviewer asked him:

"So Mr. Buffet, how do you know if an investment you make is a good investment?"

Great question! The interviewer had clearly been up all night crafting that searching question, perhaps they had had a whole team working on it. He replied somewhat testily:

"I know how to do a valuation".

You mean he doesn't go with Fibonacci? What a Bozo!!

Perhaps that's the secret? A lot of people forget that the stock market wasn't designed as a proxy for a casino which is what many of the "get-rich-quick" formulas and systems seem to be designed to provide:

 "You too can turn $100 into $100,000 in four weeks...Special Offer $99.99 and you can have the magic formula".

The point of a stock market is for decent companies to raise equity with investors who are looking for a reasonable return. Somewhere that idea got lost, and replaced by the 2% and 20% rule, which "incentivized" gamblers to bet big in a game where they got huge pay-offs if they won, but lost nothing if the bets went wrong. But the people who fronted the money for them to gamble with got screwed if they lost, that's a great deal (for the gamblers).

But apart from being, dare I say it "dumb" in the medium term, there is something unethical about that, I have no sympathy for anyone who stakes a gambler on those terms, even if he wears a $10,000 suit and says he is a "professional".  So long as people give the gamblers a stake for that system, there will be bubbles, and there will be busts.

But not until the Dow hits 13,000 which it will, although there may well be a significant dip on the way there particularly if the 30-Year Treasury Yield starts to go up, but that's not about bubbles or busts, that's about the valuation of the base-line.

Once the Dow hits 13,000 that will be an inflection point, depending on whether or not the highly efficient market participants can create a bubble so that they can get their 20% incentives, for a while, just until the day they skip town, or not.

Here's another thought, bubbles are zero sum, all they do is reward (some of) the players, not the investors.

And do they create economic value? Well the head of HSBC, Goldman Sacks and the Bank of England had two words to describe it the other day..."socially useless". Like gambling presumably, which is fun while it lasts, and dig the free-drinks, but is there any difference from all the other addictive things people can do?

Allan Greenspan, the doyen of the "inflation targeting but I can't quite figure out where the target is" school of economic thinking, once said, "you can't tell you are in a bubble when you are in one".

Here's another idea, don't hire people to run your economy who can't tell if they are in a bubble when they are in one, and equally can't tell if they are not in a bubble when they are not in one, before they put the other half of America out of work.

[1]: Links

By Andrew Butter

Andrew Butter is managing partner of ABMC, an investment advisory firm, based in Dubai ( ), that he setup in 1999, and is has been involved advising on large scale real estate investments, mainly in Dubai.

© 2009 Copyright Andrew Butter- All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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