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Ten years ago, Lehman Brothers collapsed. The decade that followed proved to be incredibly profitable for investors as policymakers around the world made every effort to solve the problem.
Levels of government and corporate debt have exploded. The monetary stimulus has been extreme – and there has been no major legal action against the banks.
And so, the prices of financial assets have skyrocketed: we are in the middle of the longest bull market ever recorded. Apple and Amazon have both recently become one trillion dollar companies. And since the trough in March 2009 to 666, the S & P 500 is up 336% and is approaching the 3,000 mark.
Consumer confidence is out of the charts. Investors are increasingly interested in passive mutual funds and low-cost ETFs, believing that market gains will continue, ignoring the risks of exposure to a handful of large technology stocks. The latest creations of the world of finance are Scooter sharing companies worth billions and digital money created from the ether.
Have we all forgotten Lehman's lessons? It's easy to see why.
Overvalued stocks
For years, stocks have been steadily increasing, as every bump (Brexit, President Trump's electoral victory, euro zone crisis, fiscal cliff, etc.) has turned out to be another opportunity to buy . Inventories are about 50% overvalued by historical standards. Companies used cheap debt to buy their own shares, which artificially boosted earnings per share measures and, consequently, stock prices.
And although the Fed's policy has tightened since 2015, President Trump's aggressive fiscal policy efforts have fueled the economy in an economy that was already operating beyond its potential. As a result, inflationary pressures are increasing – which will encourage a more aggressive rate hike. These are the consequences when the GDP growth rate is higher than the unemployment rate, as it is currently, while the federal budget is $ 1.5 trillion behind schedule.
It is said that risk comes quickly. As in February, when volatility exploded, markets suddenly worried about the consequences of rising long-term interest rates. On the surface, calm has been restored thanks to major US technology stocks, which have pushed the major mid-caps to new highs in recent weeks.
Indicators of fear
But the broader market measures are still frightening: the S & P 500 Equal Weight Index, which filters the market capitalization of stocks like Apple and Amazon, remains below peaks seen in January and late August. US ex-universe Vanguard's stock index is down nearly 12% from the January highs, as emerging and developed country markets have struggled. The Shanghai Composite of China is down 25% in a bear market.
In 2008, lingering concern over the health of the overheated housing market, caused by the infamous $ 2 buyout of a Bear Stearns in March by JPMorgan, quickly turned into panic at full share a few months later.
I remember those times very well. The fast turn of the sunny days of 2006, when apparently everyone had real estate aspirations. Condos in Las Vegas. Mini-mansions in Phoenix. The first earthquakes of the summer of 2007, which former Federal Reserve Chairman Ben Bernanke dismissed, hold interest rates of 5.25%.
Then everything collapsed when Americans learned every day the financial alchemy that had artificially boosted home prices.
Things such as secured debt securities (CDOs), mortgage-backed securities (MBS) and credit default swaps (CDS) have amplified the impact of falling home prices at the same time. 39, nationally. The consequences were catastrophic: 8.8 million jobs were lost and more than 19 trillion dollars of wealth were destroyed.
The government rushed, ignoring populist anger against bankers and the risk of creating moral hazard. The Fed started buying assets, increasing its balance sheet from $ 900 billion before the crisis to a peak of $ 4.5 trillion. The US Treasury has injected capital into the main banks via the "TARP" program. Fannie Mae and Freddie Mac were essentially nationalized.
Forgotten lessons?
Societe Generale's Albert Edwards, one of the few skeptics left on Wall Street after all these years of easy earnings, fears that policymakers and investors have forgotten the lessons to be learned from the collapse of Lehman Brothers and the crisis which resulted. That is, the housing bubble of the mid-2000s was allowed in the first place, thanks to easy credit and widespread speculative fever.
Brad McMillan, chief investment officer at Commonwealth Financial Network, says the real lesson from the collapse of Lehman "was that the system was more vulnerable than anyone thought."
Former Fed official Peter Fisher in a speech last year rebuked the Fed for its perverse resistance to admitting its role in the deal: "Strangely enough, the Fed has not acknowledged any failure. All experiments were successful: no negative side effects, no perverse consequences, only diminishing returns. "
In simple terms: So, as now, investors are unaware of the role played by loose monetary and fiscal policies to boost asset prices beyond what is justified by fundamentals. That's the very definition of a bubble.
This time, when the bubble bursts (which it will eventually lead, probably, as a result of the consequences of the trade war and high inflation), policymakers have already exhausted their toolboxes. What will be used to stem the tide?
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