Sunday, December 31, 2006

Reading The Tea Leaves

I warn you right away that this post is a bit complicated - arithmetically. I hope it won't bore you if you stick with it...

In the previous post (Bubble Implosion) I presented the possibility of a drop in household assets by $22-25 trillion (in 2006 dollars) when the asset/debt bubble collapses. In today's post I will examine in more detail the various assets held by households to see which assets may decline and by how much.

The chart below details US household assets by type (data from the Federal Reserve).

"RE" stands for Real Estate, "Pensions" refers to assets held by private and public pension funds (Social Security not included), "Stocks and MF" are stocks and Mutual Funds held directly by households and "Business Equity" is the equity value of non-incorporated small businesses; the rest are self-explanatory. Note that pension assets are almost 80% invested in stocks, bringing the total direct and indirect household ownership of stocks to $19 trillion.

The total equity and real estate assets of households come to $47 trillion. It will be there that the $22-25 trillion decline will occur. In gross terms, the combined value of real estate, stocks and small businesses will have to decline by some 45-53% to wash out the excess that has been built up over the past 20 years. We need to refine this further:
  1. It is unlikely that house prices will drop by 50% - people need a roof over their heads. They will preferentially liquidate financial assets to service mortgages before they give up their homes. Let's pick 35% as the percentage drop for real estate, or $7 trillion.
  2. Small businesspeople will also try to hang on to their shops, etc. as a way to make a living; let's also pick 35% as the drop for small business value, or $2.5 trillion.
  3. So far we have accounted for $7+2.5 = $9.5 trillion out of a total $22-25 trillion drop expected. This means that $12.5-15.5 trillion will be wiped out from stocks. Let's pick the lower value, just to be on the "conservative" side.
US household stock assets include holdings in foreign stocks - approximately 20% of total. Therefore, out of the $12.5 trillion decline the domestic portion is $10 trillion. Since the total market capitalization of US equities is currently $17 trillion, this implies an ultimate drop of 59% from current levels for US stocks.

This implies a projection for the various popular stock indexes...The levels below are in 2006 equivalent dollars and won't/can't happen immediately. It will be a long decline lasting several years as assets lose value in step with debt liquidation. If I had to guess, the whole process will take at least five years and more likely ten. Note that this is not a prediction based on technicals, super-cycles, Elliot waves, Gann angles and such arcana. It is a top-down fundamental macroeconomic projection based on restoring US asset/debt ratios to more sustainable levels and will be affected by the ultimate asset/debt ratio and the relative performance of other asset classes (i.e. real estate, bonds, etc). Still, the levels below are useful as signposts...


DJIA: ~5,100-6,100
S&P 500: ~580-700

A warning (needless, I hope): Macro-economics is known as the dismal science; it is equal parts science and the equivalent of goat-bone reading. Not only are data grossly and routinely massaged to fit given perceptions of reality (eg seasonality, hedonic pricing, etc), but proper interpretation is always a challenge. Example: the inventory to sales ratio has been dropping for years. Does that mean that businesses are depleting stock and will shortly increase orders? Or does it mean that just-in-time transportation systems and technology have permanently altered logistics? wary of Oracles.

In the next post I will attempt to create a projected time perspective for the above Bubble Implosion process. In the meantime, have a:



Mane the Mean said...

Thanks a lot for your informative blog.

Happy new year. Although it may not be that happy for those whose assets will depreciate fast.

Guaranteed SEO said...

Shanghai Fashionorganic makes
Bamboo Clothing,Bamboo fabric ,
Hemp clothing,Organic Cotton,
Organic cotton clothing,Hemp Sandal
Soybean clothingVinyl Bag
Vinyl Packaging
laser engraver which is also the perfect choice for stamp making.cnc router
Super file encryption,folder encryption,A powerful and easy-to-use program for encrypting and protecting your data
iVANTEE is a professional outsourcing consulting and management company which focuses on outmanaging service
include software development outsourcing
webサイト 開発ソフトウェア 開発

Guaranteed google results said...

We review the bestonline poker bonus
online poker rooms
online poker guide
poker room reviews
poker sites
and so on.
We offer the highest quality flowers melbourne from around Australia at excellent prices - online casino reviews
with best online casino,
usa online casino, strategy, news!

Guaranteed SEO company said...

Laser marker,Laser Marking Machine,Laser Engraver
MCSEflexible coupling
Japan tour
Japan tours
Japan holiday
stair lifts
bath lifts
wheelchair ramps
access ramps
disabled ramps
wheelchair ramp
mobility scooters
Counselling Aberdeen
Hypnotherapy Aberdeen
Hypnosis Aberdeen

coco said...


Anonymous said...




runescape money runescape gold runescape money buy runescape gold buy runescape money runescape money runescape gold wow power leveling wow powerleveling Warcraft Power Leveling Warcraft PowerLeveling buy runescape gold buy runescape money runescape itemsrunescape accounts runescape gp dofus kamas buy dofus kamas Guild Wars Gold buy Guild Wars Gold lotro gold buy lotro gold lotro gold buy lotro gold lotro gold buy lotro gold runescape money runescape power leveling runescape money runescape gold dofus kamas cheap runescape money cheap runescape gold Hellgate Palladium Hellgate London Palladium Hellgate money Tabula Rasa gold tabula rasa money Tabula Rasa Credit Tabula Rasa Credits Hellgate gold Hellgate London gold wow power leveling wow powerleveling Warcraft PowerLeveling Warcraft Power Leveling World of Warcraft PowerLeveling World of Warcraft Power Leveling runescape power leveling runescape powerleveling eve isk eve online isk eve isk eve online isk tibia gold Fiesta Silver Fiesta Gold
Age of Conan Gold
buy Age of Conan Gold
aoc gold

china tour
beijing tour
beijing travel
china tour
tibet tour
tibet travel
computer monitoring software
employee monitoring

wow gold said...

If wow goldfocal point of wow gold our new buy wow goldOpen RvR buy wow goldInfluence system cheap wow gold is mortal combat cheap wow goldbetween players of wow power levelingenemy realms. wow power levelingIn order power leveling to ensure that power leveling Keeps, and Fortresses. wow gold buy wow gold cheap wow gold