The international bellwether measure of U.S. stock markets, the Dow passed through 14,000 this week.
Market-related commentators hailed it as yet another record.
However, to equal the "real" (inflation adjusted) previous high of 11,750, set on January 14, 2000, the Dow must now reach a whopping 16,443.
Nevertheless, 14,000 is a large number, particularly as it represents a 7.7 percent increase on the 13,000 set as recently as April 20.
[Editor's Note:Buffett: The best book ever written on investing.]
As my colleague David Frazier points out, this rise is despite the slowdown in U.S. retail sales, a housing slump, and a hike in oil prices.
Story Continues Below
He also points to the fact that, "fewer and fewer companies (and their stock prices) are participating in the price gains." Under normal conditions, with such a "thinning" market, one might expect a correction.
On July 12, CNBC mentioned that there was some $45 billion in shorts overhanging the market. [So a significant number of investors share our reasoning and concern.]
But, as increasingly narrow markets roar, backed by massive corporate buybacks and M&A activity, particularly amongst major corporations, many of these short-holders may lose their nerves and start to cover, by buying stocks.
Investors appear increasingly to have followed our advice to concentrate equity purchases among those major corporations (less susceptible to a credit crunch) with a high proportion of overseas earnings, participating in the healthy looking global economy. Indeed these companies are often the focus of new money entering the market.
[Editor's Note:Big Gains as Stocks Go Up ... Or Down! -- Find Out How]
Fueling demand still further for such companies is the growing demand from overseas (especially from India and China) for the products of such U.S. corporations, selling financial services, manufactured goods, and commodity supplies, such as food stuffs —even soft drinks.
This foreign demand is, we feel, offsetting the recessionary influences now bearing down upon the American consumer, thus prolonging the financial effects that would normally cause a correction on stock prices.
So, despite the cautionary signals usually considered "normal," American stock markets continue to rip.
Indeed, despite America's apparent economic and feared financial woes, foreign investors continue to gobble up U.S. financial assets, with ever cheaper dollars, at an ever increasing rate. (See charts 1 and 2).
Chart 1:
Chart 2:
This foreign buying helps drive U.S. stock prices up and holds U.S Treasury yields at levels that do not indicate a fear of U.S. inflation.
Clearly the U.S. stock and bond markets are now largely dominated by the "bulls," many of them from overseas.
But of more significance, we believe, is that, by and large, the "bears" have left the stock markets, at least temporarily. We suspect that some of them supported the $45 billion of short positions.
If we are correct, then the "bulls" in the American stock markets now represent a "one way street" and are roaring.
[Appalling as my tennis is, even I could win at Wimbledon, if there was no one on the other side of the net!]
[Editor's Note:The 3 Best Income Stocks in the World]
Essentially, we see a thin, one-way market in U.S. stocks, supported strongly from abroad and by vast new orders for financial services, manufactured goods, and supply commodities, such as food stuffs.
So good has the picture become that, according to a report in the International Herald Tribune, even, "Central banks [are] looking for higher returns." Apparently, they are being drawn away from their traditionally low yielding assets towards instruments of higher risk. It seems as if they are looking to join the massive, liquidity driven world-wide "party" in a search for higher returns.
According to the report, UBS (the world's largest wealth manager) held a seminar attended by the central bank reserve managers of some 78 countries. Together, they command the world's largest pool of liquid assets, or a staggering $4.8 trillion, some 88 percent of the world's foreign exchange reserves. That is real money.
Although many of the major central banks see inflation threatening their own economies, and have been raising their rates progressively for the past six or eight months, they apparently still believe that the U.S inflation rate is only some 2 percent!
And there, we see the rub. We find it very hard to accept the Fed's view that the CPI figures are correct at some 2 percent.
If we are correct in seeing American inflation, even calculated on the pre-Clinton CPI basis at least 6 percent, then we see trouble ahead.
In our view, the American stock markets are roaring on the basis of massive, low cost liquidity, based in turn, upon the belief that U.S. inflation is only some 2 percent.
In short, we feel the American stock markets are rising like a massive wave, driven ever higher, not by the cold ocean wind, but by the hot air of government claims to a falsely low inflation rate (and therefore falsely low domestic interest rates).
While the wave continues to rise, surf-boarders will both look impressive and feel exhilarated. But when a 100 foot wave breaks, only the nimblest of surfers will escape unhurt. Many will be left with tales of woe.
Editor's note:
Big Gains as Stocks Go Up ... Or Down! -- Find Out How
Bernanke Reveals `Fiscal Crisis` Ahead
The 3 Best Income Stocks in the World
Buffett: The best book ever written on investing.
