Thursday, February 28, 2008

Financial Palmistry

This just in from our "cocktail party tricks" department:
Amaze your friends by demonstrating that all they need to know about market excesses during 2004-07, and their future course, can be seen in the palm of their hand.

Here's how...

Hold your hand up as if you were to perform a military salute. Think of your fingers as bars in a bar chart with your palm being the X axis and your fingers rising along the Y axis. See picture below.

Point out that the four fingers are rising smartly above zero and that the thumb is "holding up" the X axis. You'll come to the thumb in a minute; first, identify the other fingers as "stocks", "bonds", "real estate" and "commodities", in no particular order. This was an unprecedented, "Everything Up" situation. As the economy and markets go through cycles, one or two of the "fingers" should be negative, e.g. stocks should rise and bonds drop during an expansion and vice versa, etc.

But not this time. Before the bottom dropped out of the credit market in mid to late 2007, every single "finger" was doing extremely well.

Lets' look at the "fingers" between January 2004 and August 2007 (all numbers approximate).
  • S&P 500: +40%.
  • US High Yield Corporate Bond Credit Spreads: Down from 360 bp to 250 bp (i.e. credit-worthiness way up).
  • Case Schiller Home Price Index: +40%.
  • Goldman Sachs Commodity Index: +33% (as of 1/2008 it is +66%).
How was this possible? It's all about the "thumb": look at the picture again and notice how it is holding everything up. Now let's identify it as "Debt" (though for a time it was ludicrously misnamed "liquidity"), and everything falls into place:
  • Total debt: +35% (includes all sectors, i.e. government, corporate, household, financial).
Lastly, point out to your friends that the "thumb" is now getting crushed from the credit market contraction, then leave it up to them to make predictions for the rest of the "fingers".

Floral gypsy dress (for the ladies) or Johnny Carson-type Carnac The Magnificent turban (for the gentlemen) strictly optional.


  1. Very soon only the middle finger will still be pointing up. That will be Mr. Market saying F.U. losers, debt alone is not wealth. You can only reap what you sow, no more, no less.

  2. To bad Shrub is leaving office soon. He an Norquist could definitely achieve Rebublican wet dream of total budjet destruction. WWhy do they desise working Americans? Could be they fear the unknown.

  3. Re: synonyms for debt

    Jason B noted that "capital" has become another synonym for debt. Very good, Jason!

  4. But I thought Prof. Hellasious had been teaching a while back that

    liquidity = credit
    credit = money
    money = debt
    debt =liquidity

    Or did I miss a class? Or does that still hold true but we have just slammed our fingers in the car door so badly that we may face amputation unless we have really good insurance (which we don't)?

  5. Re: liquidity...

    That's exactly the point. They kept talking about liquidity like it was such a wonderful thing; and all the time it was just more debt, particularly financial leverage debt.


  6. To complete the finger "graph" analogy, fold your fingers down on your palm as if you were going to give a hitch hiker's signal. Now all the fingertips are below the line of the x-axis and all prices have collapsed below the level of debt and cash will be king.

  7. we can only hope that shrub does leave office soon... and not invent another war and hold on to the office to "protect us".

  8. The executives that engineered and profited from this calamity should have their assets confiscated and their future wages garnished. That can pay for the bailout.

    Jason B

  9. The Shrub isn't just going to leave office, he will depart the nation. There is no question in my mind that he is deservedly destined to become the most reviled President in the history of The Republic. Herbert Hoover will look warm and fuzzy next to the present son of a bitch in Chief. So it's Hasta La Vista U.S. (having left you in a shambles) and off to Paraguay and the vast Bush family ranch/compound that sits on the largest aquifer in South America. Hanging is too good for the prick and we will have to settle for him being a mere pariah.

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  11. Edwardo- I hadn't heard about the Paraguay compound, but its seems believable that he'll flee the country. BTW, my friends call the Shrub "Smirky" due to that ever present, obnoxious, imappropriate smile he always has.
    All- Has anyone else read PJ O'Rourke's new book "On The Wealth of Nations" (he condenses Adam Smith's 900 page original)? Basically, there isn't any permanent money (including gold, you survivalists). Interesting.

  12. dink-- please expound. I am into econophysics so it sound up my interests

  13. Thai-
    As I understand it, he was trying to say an economic system needs a stable social system for values to stay stable. And that no social system is stable if people don't have freedom (defined as each individual able to choose what to do with their bodies,what they've produced, and their time). A government is needed to make sure that others don't take an individual's freedoms away, but not too much else. Apparently, there have been situations where a country had a lot of metal, but was still considered impoverished (Spain centuries ago). Maybe USSR earlier this century?
    I think Smith in 1776 was only considering physical coercion and couldn't have guessed the overpopulation/environment threat to social stability that we face today.

  14. Dink thanks, I will check out the book!


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