Markets Revert to the Mean Eventually

This week, we’ve been working our way down the very short list of things we think we know.

At first glance, our second lesson, described yesterday, does not seem very helpful.

‘Nobody knows anything,’ may be Gospel Truth. But it doesn’t tell you what movie to watch or what stock to buy.

Still, it is probably the most important thing we learned in the last 20 years. It establishes a rock-solid foundation for the investor, the parent, or the businessman. He builds on something he can always depend on — ignorance.

No illusions

Of course, the family man needs little reminding; he has his spouse and children to tell him how little he really knows. The wise businessman, too, has no illusions. Instead of thinking he knows what customers want, he listens to them.

But the investor — like the politician, economist, or policy wonk — is always in danger of thinking he knows something; invariably, it turns out to be untrue.

In 1999, for example, he believed the dot-coms offered a whole new era of growth and profits.

In 2007, he believed his house was like an ATM that never ran out of cash.

And in 2019, he is sure that central banks know what they are doing, and that the coming rate cuts will drive both stocks and bonds higher.

How else can you explain yesterday’s news?

The yield curve is inverted. The federal government is closed down. Sales are falling. Industrial production is down. The Donald is now ‘80% Retard’ with his China trade war. The entire world seems to be headed for recession. The bond market is in the biggest bubble in 500 years. The Dow is near a record high. The US is borrowing $5 billion per business day.

And yet, investors bid up the Dow by more than 370 points.

Stable geniuses

Humility is probably the most underrated virtue a person can have.

That’s not a problem for us here at the Diary. We’re humble and we’re proud of it.

Nobody is more humble than we are. When it comes to humility, we’re No. 1…stable geniuses of modesty…the chosen ones of uncertainty.

You know our motto: Sometimes right; sometimes wrong; always in doubt.

But sometimes we’re not so sure…

So we just try to connect the dots…see patterns…and gain insights. Most often, these insights come not from company reports, analyst ratios, or ‘information’ on the internet. Instead, you find them in the distilled wisdom of old-timers…and old wives’ tales.

And here’s one, Lesson #3: That which gets out of whack is likely to get back into whack, sooner or later.

While you never know what will happen, when you see things become unreasonable…weird…out-of-balance, you have better than even odds that they’ll ‘revert to the mean’ eventually.

Measured in time

In 1980, stocks traded at an all-time bottom, in gold terms, when you could buy all 30 Dow stocks for less than 2 ounces of gold. By 1999, they hit an all-time high, when it took 40 ounces.

In terms of time, the move was less dramatic — but it told the same story.

The average working man had to work about 100 hours to buy the Dow stocks in 1980. By 1999, he had to put in 821 hours.

It looked like the stock market was out of whack on both ends.

In 1980, stocks were too cheap. In 1999, they were too dear. But then, the stock market began a ‘correction.’ The Nasdaq started to fall in January 2000. A year and a half later, it was down nearly 80% from its peak.

Measured in time, it took the average person 350 hours of labour to buy the Nasdaq in 1999. By mid-2001, it took only 85.

Meanwhile, the Dow industrials wiggle-waggled around after January 2000, but fell hard after the mortgage meltdown in 2008.

At the bottom, in March 2009, the average person could buy the Dow for about half as many hours of work as it cost him 1999.

Fits and furies

With the help of the late Dow Jones theorist Richard Russell, we began to see that stock and bond markets followed big, long-term patterns.

It took about 20-40 years for the stock market to complete a full cycle — top to top. The bond market took even longer. Scarcely anybody is still around who recalls the top of the last bull market in bonds. It happened in 1949; now, 70 years later, they’re hitting a new bubble high.

While we knew we couldn’t predict the markets, we began to see that we could spot major tops and bottoms by looking at prices in terms of gold.

The yellow metal is not perfect money. Like everything else in the natural world, it is subject to fits and furies. But it is still the most reliable money humans ever found. And over time, it does a fair job of telling us when things are out of whack.

This led to a very simple Capital Loss Avoidance System, which proved to be very effective for long-term capital preservation: Any time you can buy the Dow for less than 5 ounces of gold, you should buy all the stocks you can. Then, when the Dow goes over 15 ounces of gold, you should sell stocks, buy gold, and sit tight until stocks fall again.

The real beauty of it is that it doesn’t require any research or any pretence of knowledge.

You don’t have to know when the trend will reverse, or what the Federal Reserve will do, or how the dollar will trade…or anything else. All you’re doing is buying stocks when they are really cheap and selling them when they are expensive. Otherwise, you sit tight in real money, gold.

But the trouble with this strategy is that it is extremely long-term. It might make your grandchildren rich, but maybe not you.

Over the last 100 years, for example, you would have made a move only once every 20 years — and multiplied your real wealth, measured in gold, some 27 times.

You see, humility pays off!

Next week, we’ll continue rehearsing what we’ve learned so far…

…why ‘stimulus’ never works…

…why America’s money is ‘fake’…

…why the money system, as managed by the Fed, is corrupt and unfair, favouring the rich and the Deep State…

…and how we’ve been set up for a period of financial and political chaos when the next crisis begins.

Stay tuned…

Regards,

Bill Bonner


Since founding Agora Inc. in 1979, Bill Bonner has found success and garnered camaraderie in numerous communities and industries. A man of many talents, his entrepreneurial savvy, unique writings, philanthropic undertakings, and preservationist activities have all been recognized and awarded by some of America’s most respected authorities. Along with Addison Wiggin, his friend and colleague, Bill has written two New York Times best-selling books, Financial Reckoning Day and Empire of Debt. Both works have been critically acclaimed internationally. With political journalist Lila Rajiva, he wrote his third New York Times best-selling book, Mobs, Messiahs and Markets, which offers concrete advice on how to avoid the public spectacle of modern finance.


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