Best of the Week
Most Popular
1. Investing in a Bubble Mania Stock Market Trending Towards Financial Crisis 2.0 CRASH! - 9th Sep 21
2.Tech Stocks Bubble Valuations 2000 vs 2021 - 25th Sep 21
3.Stock Market FOMO Going into Crash Season - 8th Oct 21
4.Stock Market FOMO Hits September Brick Wall - Evergrande China's Lehman's Moment - 22nd Sep 21
5.Crypto Bubble BURSTS! BTC, ETH, XRP CRASH! NiceHash Seizes Funds on Account Halting ALL Withdrawals! - 19th May 21
6.How to Protect Your Self From a Stock Market CRASH / Bear Market? - 14th Oct 21
7.AI Stocks Portfolio Buying and Selling Levels Going Into Market Correction - 11th Oct 21
8.Why Silver Price Could Crash by 20%! - 5th Oct 21
9.Powell: Inflation Might Not Be Transitory, After All - 3rd Oct 21
10.Global Stock Markets Topped 60 Days Before the US Stocks Peaked - 23rd Sep 21
Last 7 days
Ravencoin RVN About to EXPLODE to NEW HIGHS! Last Chance to Buy Before it goes to the MOON! - 21st Oct 21
Stock Market Animal Spirits Returning - 21st Oct 21
Inflation Advances, and So Does Gold — Except That It Doesn’t - 21st Oct 21
Why A.I. Is About To Trigger The Next Great Medical Breakthrough - 21st Oct 21
Gold Price Slowly Going Nowhere - 20th Oct 21
Shocking Numbers Show Government Crowding Out Real Economy - 20th Oct 21
Crude Oil Is in the Fast Lane, But Where Is It Going? - 20th Oct 21
3 Tech Stocks That Could Change The World - 20th Oct 21
Best AI Tech Stocks ETF and Investment Trusts - 19th Oct 21
Gold Mining Stocks: Will Investors Dump the Laggards? - 19th Oct 21
The Most Exciting Medical Breakthrough Of The Decade? - 19th Oct 21
Prices Rising as New Dangers Point to Hard Assets - 19th Oct 21
It’s not just Copper; GYX indicated cyclical the whole time - 19th Oct 21
Chinese Tech Stocks CCP Paranoia, VIES - Variable Interest Entities - 19th Oct 21
Inflation Peaked Again, Right? - 19th Oct 21
Gold Stocks Bouncing Hard - 19th Oct 21
Stock Market New Intermediate Bottom Forming? - 19th Oct 21
Beware, Gold Bulls — That’s the Beginning of the End - 18th Oct 21
Gold Price Flag Suggests A Big Rally May Start Soon - 18th Oct 21
Inflation Or Deflation – End Result Is Still Depression - 18th Oct 21
A.I. Breakthrough Could Disrupt the $11 Trillion Medical Sector - 18th Oct 21
US Economy and Stock Market Addicted to Deficit Spending - 17th Oct 21
The Gold Price And Inflation - 17th Oct 21
Went Long the Crude Oil? Beware of the Headwinds Ahead… - 17th Oct 21
Watch These Next-gen Cloud Computing Stocks - 17th Oct 21
Overclockers UK Custom Built PC 1 YEAR Use Review Verdict - Does it Still Work? - 16th Oct 21
Altonville Mine Tours Maze at Alton Towers Scarefest 2021 - 16th Oct 21
How to Protect Your Self From a Stock Market CRASH / Bear Market? - 14th Oct 21
The Only way to Crush Inflation (not stocks) - 14th Oct 21
Why "Losses Are the Norm" in the Stock Market - 14th Oct 21
Sub Species Castle Maze at Alton Towers Scarefest 2021 - 14th Oct 21
Which Wallet is Best for Storing NFTs? - 14th Oct 21
Ailing UK Pound Has Global Effects - 14th Oct 21
How to Get 6 Years Life Out of Your Overclocked PC System, Optimum GPU, CPU and MB Performance - 13th Oct 21
The Demand Shock of 2022 - 12th Oct 21
4 Reasons Why NFTs Could Be The Future - 12th Oct 21
Crimex Silver: Murder Most Foul - 12th Oct 21
Bitcoin Rockets In Preparation For Liftoff To $100,000 - 12th Oct 21
INTEL Tech Stock to the MOON! INTC 2000 vs 2021 Market Bubble WARNING - 11th Oct 21
AI Stocks Portfolio Buying and Selling Levels Going Into Market Correction - 11th Oct 21
Stock Market Wall of Worry Meets NFPs - 11th Oct 21
Stock Market Intermediate Correction Continues - 11th Oct 21
China / US Stock Markets Divergence - 10th Oct 21
Can US Save Taiwan From China? Taiwan Strait Naval Battle - PLA vs 7th Fleet War Game Simulation - 10th Oct 21
Gold Price Outlook: The Inflation Chasm Between Europe and the US - 10th Oct 21
US Real Estate ETFs React To Rising Housing Market Mortgage Interest Rates - 10th Oct 21
US China War over Taiwan Simulation 2021, Invasion Forecast - Who Will Win? - 9th Oct 21
When Will the Fed Taper? - 9th Oct 21
Dancing with Ghouls and Ghosts at Alton Towers Scarefest 2021 - 9th Oct 21
Stock Market FOMO Going into Crash Season - 8th Oct 21
Scan Computers - Custom Build PC 6 Months Later, Reliability, Issues, Quality of Tech Support Review - 8th Oct 21
Gold and Silver: Your Financial Main Battle Tanks - 8th Oct 21
How to handle the “Twin Crises” Evergrande and Debt Ceiling Threatening Stocks - 8th Oct 21
Why a Peak in US Home Prices May Be Approaching - 8th Oct 21
Alton Towers Scarefest is BACK! Post Pandemic Frights Begin, What it's Like to Enter Scarefest 2021 - 8th Oct 21
AJ Bell vs II Interactive Investor - Which Platform is Best for Buying US FAANG Stocks UK Investing - 7th Oct 21
Gold: Evergrande Investors' Savior - 7th Oct 21
Here's What Really Sets Interest Rates (Not Central Banks) - 7th Oct 21

Market Oracle FREE Newsletter

How to Protect your Wealth by Investing in AI Tech Stocks

How to Identify a Classic Market Bubble

Stock-Markets / Liquidity Bubble Jul 28, 2015 - 02:20 PM GMT

By: Michael_Pento

Stock-Markets

One of the most ironic and fascinating characteristics about an asset bubble is that central banks claim they can't recognize one until after it bursts. And Wall Street apologists tend to ignore the manifestation of bubbles because the profit stream is just too difficult to surrender.

The excuses for piling money into a particular asset class and sending prices several standard deviations above normal are made to seem rational at the time: Housing prices have never gone down on a national basis and people have to live somewhere, the internet will replace all brick and mortar stores, and perhaps the classic example is that variegated tulips are so rare they should be treated like gold.


I am willing to let the Dutch off the hook; back in the seventeenth century asset bubbles were virtually nonexistent because money was still in specie. But central banks have created the perfect petri dish for asset bubbles over the past three decades. Therefore, it's imperative for investors to understand the classic warning signs of a bubble so you can avoid the inevitable carnage in the wake of its collapse.

As I identified in my book "The Coming Bond Market Collapse", there are three classic metrics to determine when an asset has grown into a bubble: it becomes extremely over supplied, over owned and overpriced compared to historical norms.

The real estate market circa 2005 was a great example of a classic bubble. The supply of new homes boomed as new home construction rates peaked around 2 million units per annum in the middle of the last decade. That's about 400k units higher than what would be considered the historical average.

Just prior to the start of the Great Recession the level of home ownership in the U.S. soared. This rate hit a high of 69% in during 2005, after bouncing around 64-66% for decades. Today's home ownership rate has fallen back to just 63.7%, which is the lowest in 25 years.

And finally, during the real estate bubble homes were massively overpriced. According to Trulia, at its 2006 peak home prices were 39% overvalued based on consumer incomes and cost to rent. On a national level the median home price to income ratio shot to 4.7 in 2006, compared to the 2.6 historical average. The current home price to income ratio has climbed back to 4.4 on a national basis. However, even though home prices are currently vastly overvalued, the housing market is not in a classic bubble because the real estate market is not currently in the conditions of being over owned or over supplied.

But the bond bubble is a classic bubble thanks to Wall Street and the Federal Reserve.

The bond market qualifies as being in a state of over supply because there has been an additional $60 trillion in total global debt that has accrued since 2007.

During the first half of this year, $891 billion in bonds were issued in the U.S. alone. That's up 7.5% from the same period in 2014, which was itself a record year, according to the Securities Industry and Financial Markets Association.

Higher-yielding "Junk Bonds" led the way with $185 billion so far in 2015. Volume for June topped out at $29 billion from 60 issuers, the most for any June on record. The previous June saw just $12.8 billion in volume from 31 issuers. June also follows the two busiest months of this year, with April and May pulling in $39 billion and $37 billion, respectively. That makes for a record quarter of $105 billion, the largest recorded quarterly volume ever. Talk about being oversupplied!

But just as more risk was taken toward the final stages of the housing bubble in the form of sub-prime mortgage issuance, for every speculative-grade company that has had its credit rating upgraded this year about two others have been downgraded. This is the worst ratio since 2009. U.S. companies that issue high-yield debt posted two consecutive quarters without earnings growth for the first time since the financial crisis. And their average level of debt-to-earnings is at an all-time high as well.

Next, bonds are over owned because of investors are yield starved. In the first quarter of this year alone, net cash inflows into bond funds totaled $102 billion, that's the largest inflow since 2001. And last year investors poured $204 billion into bond funds, surpassing inflows of $121 billion into stock funds.

And finally, bonds are overpriced compared to historical norms. Bond yields and prices are inverted; as bond prices fall, yields rise. Today, the yield on the bench mark US 10-year Treasury sits at around 2.3%. This is very close to its historic low and far below the 7% average over the last 40 years. Making the price of bonds massively expensive at the current level--especially in light of record debt levels and the increase in central bank balance sheets.

I first explained the classic signs of a bubble at the start of the real estate crisis to help investors identify a problem before it grows too far out of control. Perhaps the Fed should now take heed and ask the question if seven years of zero percent interest rates could possibly lead to a bubble in fixed income. But even more importantly, the question everyone should be asking is: what happens when bond prices crash and who is going to buy all that debt?

Once the Fed starts raising interest rates investors may start to sell their high-yield junk bonds in the same manner as sub-prime mortgages were the first to crack in the housing bubble in 2008. This would exacerbate the drop in prices and cause yields to rise yet further and faster.

Prices will also tumble because government regulations have stripped banks of their proprietary trading desks; and bids for plummeting bond prices may become as rare as a variegated tulip. Spiking debt service payments will crumble the stock and real estate markets that have been built on synthetic, free-money based economies.

The bottom line is that the bond market is the most dangerous bubble in history precisely because every asset class derives its value from the cost of money. Therefore, even though stocks and real estate aren't in a classic bubble they have still become vastly overvalued due to the frantic search for yield over the course of seven years. When, not if, this classic bond bubble bursts central banks will be the only buyers left in the market. And this bid from central bankers will have to be massive, protracted and unprecedented in nature. The resulting market chaos should be vastly more baneful than the Great Recession of 2008.

Michael Pento is the President and Founder of Pento Portfolio Strategies and Author of the book “The Coming Bond Market Collapse.”

Respectfully,

Michael Pento
President
Pento Portfolio Strategies
www.pentoport.com
mpento@pentoport.com

Twitter@ michaelpento1
(O) 732-203-1333
(M) 732- 213-1295

Michael Pento is the President and Founder of Pento Portfolio Strategies (PPS). PPS is a Registered Investment Advisory Firm that provides money management services and research for individual and institutional clients.

Michael is a well-established specialist in markets and economics and a regular guest on CNBC, CNN, Bloomberg, FOX Business News and other international media outlets. His market analysis can also be read in most major financial publications, including the Wall Street Journal. He also acts as a Financial Columnist for Forbes, Contributor to thestreet.com and is a blogger at the Huffington Post.
               
Prior to starting PPS, Michael served as a senior economist and vice president of the managed products division of Euro Pacific Capital. There, he also led an external sales division that marketed their managed products to outside broker-dealers and registered investment advisors. 
       
Additionally, Michael has worked at an investment advisory firm where he helped create ETFs and UITs that were sold throughout Wall Street.  Earlier in his career he spent two years on the floor of the New York Stock Exchange.  He has carried series 7, 63, 65, 55 and Life and Health Insurance Licenses. Michael Pento graduated from Rowan University in 1991.
       

© 2015 Copyright Michael Pento - 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.

Michael Pento Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in