Tuesday, November 17, 2009

Irrational Exuberance Reader

Here is a collection of articles intelligently explaining why the market rally is ill-founded and why we are in for a bigger bust some time in the future. All that the Americans have done is put a giant humongous band-aid on their economic wounds without doing anything substantive to solve the underlying problems.

Lessons of Financial Crisis Forgotten in Heady Speculation
In order to rescue the financial markets, the US government has put its credit on the line by bailing out shaky institutions and offering guarantees on deposits and loans. Obama has also revealed that America is likely to increase its debts by $9 trillion in the next ten years. Add this figure to the existing $12 trillion of federal debts, that is more than $20 trillion.

Assuming an interest rate of 5%, that is about $1 trillion which has to be allocated in the budget to pay creditors yearly. Where is Uncle Sam going to get the bulk of this money except to turn to its printing press? And we are not even thinking about other liabilities in its social security and health care.

Is there a point where the party stops and nothing works anymore? Very likely yes. The Federal Reserve cannot cause the market to rise indefinitely by printing money at will. Its status as the global reserve currency is at stake after abusing it for so long.

It is a matter of time before we experience another major recession because the key lessons from this financial crisis were forgotten easily and people are back to their greedy speculative ways. But the next time round, the Federal Reserve may find its hands tied, with very few options available.

The Next Financial Crisis
During this crisis, Bernanke--while saving the financial system in the short term--has done nothing to break this long-term pattern; worse, he exacerbated it. As a result, unless real reform happens soon, we face the prospect of another bubble-bust-bailout cycle that will be even more dangerous than the one we’ve just been through.

Irwin Kellner: Irrational exuberance takes an encore
Based on the fundamentals, neither stocks nor oil should be trading at today's lofty prices, nor should gold, for that matter. Yet people are chasing their prices up, so anxious are they to buy.

In the case of the dollar, it has fallen so much that it is now undervalued, in terms of purchasing power parity, yet investors continue to sell.

Underlying this behavior is what I would call twisted logic.

When it comes to the world of investments, rising prices cause people to buy while falling prices beget selling. This is exactly the opposite of what they do out there in the real world of goods and services.

Here, most of us look for bargains -- we tend to buy more when prices are low. When prices go up, we step back and buy less or none at all.

For their own sakes, it is too bad that investors do not carry their real-world attitudes to the world of stocks, bonds and commodities. If they did, we would experience fewer, if any, bubbles no matter how much liquidity fills the financial system.

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