Tuesday, September 23, 2008

End of a bear market

I've pointed out to subscribers in the past that often a secular market, be it bull or bear will end with the market breaking out to higher highs or lower lows and then reversing. In the first chart we can see the cyclical bear and bull market in the S&P ended with this pattern. Dumb money sees the breakout or break down and follows the trend at the same time that smart money seeing the changing fundamentals takes the opposite side.

A couple of weeks ago I sent out what I considered my most important update of the year. What I was watching was the 30 year bond to see if it was going to follow this pattern. Sure enough bond yields broke to new lows as everyone was witnessing deflation grip the world. A couple of days later though yields reversed sharply. Even though the stock market has since come off the rally sharply in the last two days bond yields are showing no signs of coming back down. In my opinion the 30 year bond is now telling us that the FED is going to risk hyperinflation to save the banking system.

I think what we've just witnessed is the end of a 28 year bear market in bond yields. Unless this reverses soon I think we are now in for many years of rising interest rates. This has nothing to do with an improving economic outlook in my opinion. It has everything to do with what I fully expect to be 70's style inflation. Actually I expect it to eventually become much worse than the 70's before this is over. One way or the other I think we are headed for a depression. The question has been whether it would be a deflationary or a hyperinflationary one.

So far the bonds think we are heading down the hyperinflationary route. This is how the groundwork is laid for a Dow:gold ratio of 1:1.