Market Rout. Where is the Bottom?

Dear Reader,

In the past week we witnessed a remarkable market rout. The panic in certain days was palpable. Fear was omnipresent. And no wonder after the recent euphoria and the buy the dip mentality which together with other factors caused a remarkable stock market rally since march 2009.

So where is the bottom of the stock market? Personally, I think the main indices S&P 500, DJIA, and Nasdaq Composite will shed 15-20% of their value from the their peaks in January, before recovery ensues.

Is there a danger for a systematic shock for the global financial system? Yes, there is danger. And it lurks in the proliferation of exchange traded funds(ETFs). ETFs have seen huge influx of money in the recent years which greatly contributed to the stock market rally in recent years. Now, the danger is what happens when the ETFs start selling? There could be an avalanche effect. Many banks, especially in Europe, have produced structured ETFs which basically hang on the creditworthiness of the issuing bank. Look what happened last week to the volatility ETF of Credit Suisse . If banks start incurring losses, the crisis could easily morph into a global systematic financial and economic shock.

Will the recent stock sell off turn in a global financial and economic shock? No, I do not think so. Basically, banks are now much more capitalized and look more stable. The global economy does not grow euphorically as in  2006 and 2007. Another wild card is China. If China's debt burden topples China, the crises could still become global.

In a nutshell, I think when the  S&P 500, DJIA, and Nasdaq Composite fall by more than 15% from their recent peaks, global stocks should begin to recover.

Will the economic cycle end soon, i.e. is a recession coming soon? Yes, I think there will be a shallow recession in the next two or three years, basically by 2021. However, it will not be provoked by the current market fall.

And after that, as in recent years, the global economic growth(GDP growth) will stay quite subdued 2-3% at the most per year.


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Kind regards,
Petar Posledovich