Why the Easy Money Party is Coming to an End

by Michael Lombardi, CFP, MBA

Okay, so maybe some people might not call it a party, especially those who have lost their jobs and businesses. But there’s definitely a free money part going on and I believe that party is soon coming to an end. Here’s what I am talking about:

After the real estate market bubble started losing air in 2006, and the credit crisis hit in early 2008, the “flood gates” of money were opened. The Fed dropped interest rates to practically zero. The money supply was expanded aggressively and the Administration committed trillions of dollars to help fend off the next Great Depression.

But it was not only the U.S. taking drastic economic measures. It was countries all around the world taking steps to protect their economies. Those steps are slowly starting to be reversed and I don’t think the U.S. is far behind in this strategy.

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In Canada, where the government stepped in and bought residential mortgages in bulk from banks to protect the banks and consumers, the Canadian dollar is flying mighty high these days — getting very close to parity with the U.S. dollar. What does this mean? Yes, the Canadian dollar has been rising in value on the weakness of the U.S. dollar, but I believe that interest rates hikes in the Canada of at least 50 basis points have already been reflected in the value of that country’s currency.

Halfway around the world, China is planning to tighten the capital requirements of its banks in an effort to curb record lending.

In Germany and France, both countries posted positive GDP in the second quarter of this year, technically ending their recessions.

In the U.S., the “cash for clunkers” car program is coming to an end. The Fed’s program to buy U.S. T-bills will end in October of this year. Hence, economic incentives are slowly starting to be taken off the table.

Next round: a slow tightening of the money supply? A gradual increase in interest rates? Higher taxes? Well, let’s put it this way; if a large American corporation were to approach the White House for a bailout these days, I believe they would have a difficult time getting any money. The easy money party is ending.

Michael’s Personal Notes:

I’m very concerned about the commercial real estate market in the U.S. I’m hearing stories of building owners receiving letters from their banks advising they will not be able to renew their mortgages. In many cases, the owners of these commercial properties have enjoyed the same mortgages for years. The banks are nervous that rising vacancy rates will put pressure on commercial property values. In fact, according to Moody’s Investors Services, commercial property values have fallen by 35% since the fall of 2007. If interest rates start to rise, commercial properties could be in real trouble. Good buying opportunities in the commercial real estate market are at least two years away.

Where the Market Stands:

I don’t want to get too technical, but these are important numbers (and my interpretation of them). The Dow Jones Industrial Average is up 6.5% for the year. Hence, investors would have done a lot better this year investing in the stock market as opposed to T-Bills, CDs or GICs.

Next, from its low point on March 9, 2009, the Dow Jones is up an astounding 45% — one of the Dow’s best performances ever. The great majority of retail investors have missed this advance.

Finally, if we take the high of the Dow Jones in 2007 and the low of the Dow in March 2009, we can see that the Dow Jones had fallen 7,724 points. Historically, when the market has such a big fall, it tends to recoup one-third to half of its loss. To date, the Dow Jones has only regained 38% of its losses. Hence, my contention that Dow Jones 10,000 is a very strong possibility. (I think I’m the only analyst out there predicting Dow Jones 10,000). But remember; I believe that we are still operating in the confines of overall bear market.

What He Said:

The year “2000 was a turning point of consumer confidence in high tech stocks. 2006 will be remembered as the turning point of consumer confidence in the housing market. That means more for-sale signs going up, longer time periods to sell homes, bloated for-sale inventory and eventually lower prices for homes. But this time, the turnaround in consumer confidence will have a bigger impact on the economy. Hold onto your seats, this is going to be a nail-biter.” Michael Lombardi in PROFIT CONFIDENTIAL, August 24, 2006. Michael began talking about and predicting the financial catastrophe we started experiencing in 2008 long before anyone else.