The Dow’s Flight of Fantasy is Almost Over

Dear Reader,

What do you see in this chart of the Shiller PE 10 ratio?

The Rum Rebellion

Source: Multipl

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There is the obvious pattern of peaks and troughs in the multiple paid for US corporate earnings…going back to 1870.

$1 of earnings in 1920 is only worth five times. Yet, a decade later that same $1 in earnings is priced at 30 times.

What’s the real story in this chart?

It’s far more than just a record of market multiples past and present.

This chart is the history of social mood and human behaviour.

History never repeats itself. Man always does.


And man’s repetitive behaviour is clearly evident in the market’s mood swings.

From the ashes and despondency of the First World War, rose the euphoria of the Roaring Twenties. As spirits lifted, so too did the multiple paid for $1 of earnings.

When man’s mood turned abruptly depressive in the early 1930s, so too did the multiple paid for $1 of earnings.

The pattern repeats itself.

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As discussed in The Gowdie Letter in August 2019:

The tentative Post-Second World War recovery morphed into another period of optimism.

Rising fortunes — generated from a manufacturing boom — made people believe anything was possible. Horizons are expanded.

The peak in social mood was captured by the Time magazine cover of 6 December 1968…the Moon beckoned.


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Source: Time Magazine

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Then along came the unsettling 1970s.

The gold standard was abandoned. Oil shocks. High inflation. Rising interest rates.

An economy in the grips of stagflation…high inflation and high unemployment and stagnant growth. People were more concerned with what was happening on Earth, not the Moon.

The gloomy social mood at that time was reflected in a PE ratio that came within a whisker of the low reached in 1932.

The cover of the August 1979 edition of BusinessWeek magazine, reflected the rather sombre and downcast mood of that period.

The share market was dead.

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Source: Business Week

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Since the lows of early 1980, social mood has been — for the most part — on the up.

There have been episodes when investor confidence has been shaken — 1987 crash, dotcom bust and GFC.

On each occasion, the US Federal Reserve (the Fed) has led the central banker efforts to restore faith (and, optimism) in markets.

Such has been the “success” of these concerted efforts, there’s now an overwhelming belief in the ability of the Fed to insulate us from any serious or prolonged downturn.

The Fed has our backs.

And when confidence is high and money (appears to be) abundant, well…anything is possible.

The cover of Time magazine on 29 July 2019…déjà vu…

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Source: Time Magazine

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The latest cover — a homage to the 1968 edition — is reflective of social mood…the logos of SpaceX (Elon Musk) and Blue Origin (Jeff Bezos) feature prominently.

Both men have been hailed as visionaries and amassed serious personal fortunes (on paper) courtesy of the Fed’s easy money programmes and investors buying into the vision.

When social mood is high and money is flowing freely, flights of fantasy can be entertained.

But when things start to unravel on mother earth, gravity takes over.

As announced in Reuters on 12 May 2020 (emphasis added):

Billionaire Richard Branson’s Virgin Group said on Monday that it may sell up to 25 million shares of space tourism company Virgin Galactic Holdings Inc to raise funds amid the COVID-19 pandemic.

The company said it intends to use the proceeds to support its portfolio of global leisure, holiday and travel businesses that have been affected by the impact of the coronavirus.

The company [Virgin Galactic], which aims to offer the first commercial space flight later this year, said in April it would keep running as a critical infrastructure business during the pandemic.

Periods of peak optimism are fertile ground for grand visions.

Society — financiers and investors and consumers — get swept up in the mood of the day.

But then the bubble bursts. Credit-funded spending patterns change.

Getting people (in sufficient numbers) back into planes, let alone spaceships, will be difficult enough in the looming deflationary recession we’re headed into.

With high unemployment, wage suppression and an inability or desire to access credit, earth-bound tourism is in for a tough time.

Which means those who remain employed — directly and indirectly — in the tourism industry are in for a period of belt tightening.

Commercial space flights — a wonderous dream from the decade just finished — are likely to struggle for lift off in the 2020s.

After the 1968 Time article, the PE 10 came back to Earth with a thud…finally stopping at a near all-time low.

The trip from euphoria to despair took almost 15 years.

Space travel — a wonderous dream from the decade just passed — will struggle for lift off in the 2020s.

We’ve entered a decade when excesses are going to be worked out of the system. This long overdue re-entry into Earth’s atmosphere will come as a nasty surprise to many.

The grandest of visions that gave rise to these flights of fantasy was the notion you can cure a debt crisis with more debt.

The brilliance in that grandest of visions has so many other applications within society.

More alcohol for alcoholics. More nicotine-soaked tar into the lungs of emphysema sufferers. More cholesterol clogging foods into the arteries of the obese.

Do you think the medical profession is taking notes on the pure genius from our learned economic doctors?

I sincerely hope not. And if any medico did, they’d be — quite rightly — labelled a ‘quack’.

The economic quacks, posing as central bankers, have convinced the masses they possess the power to flatten the mankind’s emotional curve.

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Source: Strategic Wealth

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The Fed’s ‘success’ in taking asset prices into another stratosphere, has markets believing we can remain in the ‘exhilaration and euphoria’ range…indefinitely.

Apparently, tens of thousands of years of human nature has now been made redundant by a handful of men and women who own a printing press and can exert downward pressure on an interest rate lever.

Anyone who actually believes that must surely be living on another planet.

Artificial liquidity is no replacement for real earnings

What’s ironic is that those who sprout this rubbish are actually part of history’s emotional pattern.

The New York Times on 16 October 1929 (one week before the crash):

Stock prices have reached “what looks like a permanently high plateau,” Irving Fisher, Yale economist, told members of the Purchasing Agents Association at its monthly dinner meeting at the Builders…”

And now another academic on CNBC on 8 May 2020…

The stock market’s coronavirus-driven bottom in late March is “definitely going to be the low” during the crisis, Wharton School professor Jeremy Siegel told CNBC on Friday. 

In fact, Siegel said the massive monetary policy response from the Federal Reserve, along with additional progress on treatments and possible vaccines for Covid-19, could really boost stocks next year.

“I think 2021 could be a boom year. With the liquidity that the Fed is adding, unprecedented. It could be a really good year,” Siegel said.

Someone should really tap the good professor on the shoulder and let him know that in the long run artificial liquidity is no replacement for real earnings.

Ultimately, companies are valued on a multiple of earnings not from some chimpanzee running an algorithmic trading system.

The rather subdued economic conditions we have for the foreseeable future will cause earnings and social mood to fall in tandem.

Lower earnings multiplied by a lower PE ratio = much lower share prices.

There’s good and bad news for those who reside in this far off intergalactic academic utopia.

The good news is you won’t need one of Branson’s (soon to be defunct) rockets to bring you back to Earth.

The bad news is the trip to Terra Firma comes with a pretty hefty price tag…both professionally and financially.

Wall Street’s premier spaceship — Dow Jones Index — started its descent to Earth in March.

The Rum Rebellion

Source: Trading Economics

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Since then its tried to regain propulsion, but the fuel — credit-funded consumption — is running out.

The Dow’s flight of fantasy is almost over.

The recent arcing pattern is the good ship Dow turning around for a different type of flight…a white-knuckle ride back to reality.


Vern Gowdie,
Editor, The Rum Rebellion

PS: In a brand new report, market expert Vern Gowdie warns of the dangers waiting in a post-COVID-19 world. Plus, he outlines the steps you must take now to protect your wealth. Learn more.

Vern has been involved in financial planning since 1986.

In 1999, Personal Investor magazine ranked Vern as one of Australia’s Top 50 financial planners.

His previous firm, Gowdie Financial Planning, was recognised in 2004, 2005, 2006 & 2007, by Independent Financial Adviser magazine as one of the top five financial planning firms in Australia.

In 2005, Vern commenced his writing career with the ‘Big Picture’ column for regional newspapers and was a commentator on financial matters for Prime Radio talkback.

In 2008, he sold his financial planning firm due to concerns about an impending economic downturn and the impact this would have on the investment industry.

In 2013, he joined Fat Tail Investment Research as editor of Gowdie Family Wealth. In 2015, his book The End of Australia sold over 20,000 copies and launched his second premium newsletter, The Gowdie Letter.

Vern has since published two other books, A Parents Gift of Knowledge, all about the passing of investing intelligence from father to daughter, and How Much Bull can Investors Bear, an expose on the investment industry’s smoke and mirrors.

His contrarian views often place him at odds with the financial planning profession today, but Vern’s sole motivation is to help investors like you to protect their own and their family’s wealth.

Vern is Founder and Chairman of The Gowdie Advisory and The Gowdie Letter advisory service.

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