Wednesday, August 10, 2011


We are not experiencing 2008 price action, but we might have already experienced our 2011 version of the 1987 crash.

What about the comparison to 2008?

Circumstances are far different as, in 2008, stocks crashed based on a nearly insolvent banking system and a domestic economy in contraction. Today, in 2011, the banking system is liquid, and our economy is growing -- albeit, at a moderate pace.

In 1987, similar to now, the machines took over. Twenty-four years ago, it was portfolio insurance that delivered the toxic blow. Today, it is high-frequency traders that are motivated not by fundamentals but by price momentum. Add super-reverse ETFs to the mix and a lethal cocktail has been served, rendering our markets temporarily dysfunctional and contributing already to an October 1987-like crash.

Mr. Market's bearings have been lost in inconsistent, lumpy and random prices, in which macroeconomic judgments, technical analysis and guesswork are replacing hard-hitting fundamental company analysis (the microeconomic).

The marketplace has almost become a random walk.

As an example, Bill Fleckenstein succinctly describes "the overriding game theory at present relating to the Washington, D.C., circus":

* Debt ceiling debate matters and is resolved one way or another: It gets raised, stocks knee-jerk rally, bonds tank as the slosh ebbs and flows. Or maybe the reverse happens.

* Debt ceiling does not get raised on time, stocks tank, bonds rally, dollar goes nuts in some fashion, or maybe everything tanks.

* While all the debt ceiling hype churns around, jerking players back and forth, Europe implodes and various parts of the "circus" go nuts in assorted directions.

Run, don't walk, to read why Harvard economist Ken Rogoff feels that the Fed is ready to launch QE3.

From my perch, the message from the Fed is that it recognizes that the pace of economic growth will be moderate (which is something we all know already).

In response, the Fed has defined or fixed a period of time in which they will keep interest rates low for the purpose of turning around the domestic economy (which is something we didn't know).

It is a message to the administration and to our legislators that the Fed will do its part -- now it's up to them to their part.