I thought I would have a go at offering an opinion on where the Big picture is going.....
[A disclaimer first .... I do have a personal bias towards gloom and so I more easily believe the worst ... and I am an amateur just trying to understand]
The argument which sways me is ... there is now a level of debt in the system which is going to force a major downturn.
The reasoning runs this way:- GDP growth depends on there being a surplus of profits which can be directed into new capacity. There is a threshold limit where debt starts to interfere i.e. cashflow is being consumed in the servicing of debt and there is no surplus. That can become a self enforcing loop where business cuts costs, lays people off, it stops investing in itself etc. .... which when prolonged reduces the middle class spending power. [the so called slowing of the 'velocity of money' i.e. money changes hands more slowly and everybody feels a bit poorer]
From the above way of looking at things:- the GFC can be understood as a sudden experience of major debt. The crisis in 2007 was triggered when large assets overnight transformed into large liabilities ... the mortgage backed securities which were AAA rated against US real estate valuations. Those valuations were using 'bubble' prices and when the bubble burst everything straight away was under water. The problem was not just the bubble on its own but the amounts of money involved were huge. Almost every bank in the World got their fingers burnt, as did pension funds, insurance companies and as we saw in Oz some government bodies.
The action taken, at first by the US Fed but soon to be copied by everyone else, was to directly support the banks by buying the 'toxic' assets and recapitalizing them. That action saved the day.
However, the basic problem remained .... there was now a huge overhang of debt. What has been happening ever since is interest rates have been kept extremely low. This was to allow the economies of the World to keep functioning as close to normal as possible i.e. business did not have consume all of its cashflow on debt servicing but could instead borrow at effectively zero interest and the idea is the World could 'trade its way' back to growth.
The result we have now is there is about 30% more debt in the World than before the GFC and on recent projections World GDP is contracting. In other words ... the plan is not going to plan.
Valuations for stock markets are high but the economy does not seem vigorous enough to provide the profits to validate those PE's. A lot of cash has been borrowed in the US to fund share buybacks... this artificially inflates a company's earning per share ratio but the debt level of the company rises. Those share buybacks were done with money borrowed in a zero interest rate environment. The calculation changes to the downside if the US pushes ahead with interest rate rises. [Is that a good argument that the DOW is in a bubble?]
The intervention by central banks must be terminated at some stage. It is not clear how that is possible. While the system is being supported in this way it can probably continue for a long time. The guessing game is ..... what are the limits?
We are seeing a few bright spots here and there. Right at this moment biotechs are running. Is it because they are in a genuine boom? Maybe .... but there is also the chance its because it is another form of 'chasing yield'. In an environment of zero interest rates there is minimum risk for the borrower but, on the other side of that same coin, there is no prospect for a risk free return i.e. there is no AAA place to invest which produces a profit .... so the only path left is to speculate. This is how bubbles grow.
My only trading experience is through the GFC. In any other downturn I was a merely bemused citizen. The impression I have from 2007/8 is when things turn nasty, while it is unfolding, it is extremely confusing. One day the markets are down ... next day they are up .... things are quiet for a few days then it gets frantic.
After the GFC I did a lot of reading. Plenty of books came on the market which explained what happened. A few people at the time understood the key points and acted wisely .... most people didn't know what hit them. This time around [if this is .... a this time around situation?] I think all anyone can do is try to get their head around the 'headlines' and understand what they might actually mean. Failing that in a few years time [well after the fact] plenty of books will come out explaining it all.....
