STAFF NEWS & ANALYSIS
Why Logic Doesn't Follow Markets Anymore
By Staff News & Analysis - March 04, 2015

Here's why Nasdaq 5000 should spook you … The market is scarier than it looks … On Monday, the Nasdaq Composite index hit 5000 for the first time since March 9, 2000 … Back in 2000, the technology-heavy Nasdaq hovered above 5000 for just two days. After that, it plunged 75%. – Fortune

Dominant Social Theme: The market is a rational beast.

Free-Market Analysis: This is one of those articles that focuses on a rational approach to an irrational market. And the market IS irrational, in our view. Or at least it is responding to stimuli much different than what is often reported.

This market is the product of a great deal of money printing. The money printing started when the Great Recession began and it has only picked up speed since then. Now nations are coordinating around the world to offer various kinds of quantitative easing, which is merely the buying of bonds – usually in the open market – which forces up demand and makes the issuance of new bonds more efficient for the issuer.

More:

The Nasdaq would have to rise another 2,000 points to 7,000 to be worth as much as it was back in 2000. Also, the composition of the Nasdaq has changed … Most of the big companies in the index make money. And there are fewer of them, 2,500 versus around 5,000 back in 2000.

The last point I don't get at all. When is less diversification ever better for the investor? Just the same, it's an argument that the Nasdaq itself began to spoon feed to investors and the media last year (falling stocks are bad for business), and some outlets are parroting it back.

It's the article's last point we don't "get." That there are fewer companies to invest in means less diversification from the standpoint of this article. But from an asset-class standpoint, the differences between individual stocks is almost incidental. Over 90 percent of returns are likely generated via the class not the individual instrument.

The article summarizes price-to-earnings multiples while building the case for a stock-market that is overvalued. The top 20 companies on the Nasdaq have a multiple around 27, but the article tells us that profits are up. "In March 2000, the Nasdaq's 20 largest companies earned a collective $26 billion over the previous 12 months. In March 2015, it's $167 billion."

Bottom line? The Nasdaq 20" would have to earn a collective $600 billion a year by 2030" to continue its growth rate. This is not an impossibility necessarily but certainly an improbability. "And if the group achieves that goal, growth at those companies will surely slow down beyond that point, which means the stocks of these companies will command an even lower P/E."

Interestingly, even with the robust growth of the Nasdaq's largest stocks, the index itself is no higher than 15 years ago. On an inflation-adjusted basis investors haven't made money. Nonetheless, the article concludes that additional growth for the Nasdaq may not be as easy to come by as some think – those in particular who are arguing that the Nasdaq's valuation are not excessive.

This back-and-forth certainly encourages the idea that one can apply fundamental analysis to equity in a rational way. But we are not so sure. As we've pointed out, it is money printing that has gotten the marts to this state, and it is money printing that will sustain them until they cannot be sustained.

One can begin to make this argument by questioning why the Nasdaq and Dow have moved up so aggressively in the past five years when arguably the US economy remains mired in recession.

Every couple of months the Fed or Wall Street proclaims the Great Recession is a thing of the past. And just as surely, every couple of months, Fed officials proclaim they are not yet ready to raise rates based on continued economic weakness.

But still markets climb. They are not climbing a "wall of worry." They are not climbing based on fundamentals. They are not climbing based on technical projections.

They are climbing because central bank policy is exceptionally liquid. And when money printing doesn't itself suffice, central banks are now buying the market directly. And in the US, there is always the "plunge protection team."

We've called what's going on the "Wall Street Party" – and have speculated it is turning into an international financial fiesta based on Japan and Europe's QE. Recently certain British stock exchange averages burst into record territory.

Excessive monetary juice: Such fuel can take markets up much higher … higher than the common wisdom suggests. Higher than numbers indicate. Higher than sensible analysis calculates.

It may not happen, of course. Markets could turn tomorrow. But given the determination of the international financial community and those who control "money stuff," it is perfectly possible that we will see further gains – astounding gains – before the final collapse.

No, rational analyses – technical or otherwise – may not tell us much about today's flash-driven indices and computer-driven averages.

After Thoughts

Perhaps they never did.

Posted in STAFF NEWS & ANALYSIS
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