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Birinyi’s S&P 3200 Call——Bull From A 30-Year Bull

This is a syndicated repost published with the permission of David Stockman's Contra Corner » Stockman’s Corner. To view original, click here. Opinions herein are not those of the Wall Street Examiner or Lee Adler. Reposting does not imply endorsement. The information presented is for educational or entertainment purposes and is not individual investment advice.

When stock market guru Laszlo Birinyi told bubblevision today that S&P 3200 would be reached by 2017, his argument was essentially to keep on keeping on:

“What we’re really trying to tell people is stay with it, don’t let the bad news shake you out…There’s no reason we can’t keep on going,” he said.

That got me to thinking about when I first ran into Birinyi at Salomon Brothers way back in 1986. He was then a relatively underpaid numbers cruncher in the equity research department who was adept at making the bull case. Nigh onto 30 years later he has become a rich man crunching the numbers and still making the bull case.

Indeed, I don’t ever recall when he wasn’t making the case to be long equities, and as the chart below shows, you didn’t actually have to crunch the numbers to get there. Just riding the bull from 200 in January 1986 to today’s approximate 2100 on the S&P 500 index computes to a 8.4% CAGR and a 10% annual gain with dividends.
^SPX Chart

^SPX data by YCharts

Even when you take the inflation out of it, the 30-year run is something close to awesome. But, alas, that’s my point. It’s too awesome.

In inflation-adjusted terms, the S&P 500 index rose by 6.2% per annum over the last three decades. That compares to just a 2.2% annual advance for real GDP, meaning that the market has risen nearly 3X faster than national output in real terms.

You don’t have to be a math genius to realize that a few more decades of that kind of huge annual spread, and the stock market capitalization would be several hundred times larger than GDP.

Likewise, you don’t have to be a PhD in quantitative historical research to recognize that the last three decades are utterly unique. If you run the clock backwards by 30 years from the January 1986 starting point, for instance,  you get a totally different picture.

Between the relative sunny Eisenhower times of 1956 through the eve of Greenspan’s ascension to the Fed, the S&P index rose by only 4.4X, not 10X. Even more significantly, when you strip out the inflation, the real index rose by 1% per year, not 6.2%.

Moreover, those dramatically less awesome stock market trends occurred during an era when the US economy was riding at its post-war high and clocked GDP growth of 3.5% per annum. That’s 60% more than the most recent equivalent period.

And while we are at it, let’s throw in the ultimate litmus test by comparing the real median family income growth between the two periods. During the 1956-1986 interval this basic measure of the main street standard of living rose from $36,000 to about $60,000 or 1.7% annually.

Since then, not so much. Between the days when Birinyi was peddling stock charts at Salomon Brothers and the present, the real median family income has risen by less than $4k or by 0.2% per year. You could call that flat-out stagnation for 30 years—-unless you like to quibble about rounding errors.

So the question recurs. If real GDP growth has decelerated so sharply and if family incomes have stagnated so unfortunately during the last 30 years why has the stock market been so relentlessly hyper-bullish?

Enter Alan Greenspan at the Fed in August 1987. At length, something else started growing like gangbusters.

To wit, the Fed balance sheet exploded by 22X during the last three decades. That amounts to 11.5% per annum in nominal terms; 9.2% in real terms; and four times the growth rate of real output.

The linkage between the Fed’s erupting balance sheet and stock market’s 30-year bull run is not at all hard to fathom. Well, not unless you are a Keynesian economist and resolutely insist that balance sheets don’t matter; that it’s all about flow and “aggregate demand”.

But that’s a ridiculous self-serving rationalization that Greenspan era central bankers blather about and Wall Street finds stupendously convenient. In fact, what happened was that the Fed’s relentless money printing caused a sweeping financialization of the US economy driven by a supernova of credit market debt.

During the approximate span of the modern bull run, credit market debt outstanding in the US—–household, business, financial and government—-has soared by $50 trillion. That compares to just a $13 trillion gain in GDP. Self-evidently, it doesn’t take a spread sheet to recognize that the nation’s leverage ratio soared in lock-step with the upward bounding stock market.

In fact, the 2.0X leverage ratio of 1986 was already significantly elevated from the historic 1.5X leverage ratio that had prevailed for a century prior to Nixon’s 1971 folly of destroying Bretton Woods at Camp David. But by the time of the financial crisis it had soared to 3.5X, and since then has retraced hardly at all.

In short, the last three decades have essentially witnessed a national LBO in which the productive capacity of the main street economy was hocked to a massive accretion of fiat credit. That is, the staggering growth of debt and leverage shown above did not result from some kind of rollicking outbreak of thrift and honest savings out of current income. Indeed, the household savings rate has been plunging ever since 1971.

This collapse of domestic savings, of course, raises the question of the economic dog which didn’t bark. That is to say, in a closed economy this kind of massive outbreak of fiat credit should have caused a nasty surge of consumer inflation.

But it didn’t because just as Greenspan was cranking up the printing presses, China’s Mr. Deng proclaimed that it was glorious to be rich, and that communist party power under the new regime of red capitalism would no longer issue from the barrel of a gun. Now it would come from the end of a printing press.

Accordingly, Greenspan exported the massive dollar liabilities that accumulated on the Fed’s balance sheet, while China, the oil exporters and the Asian mercantilists including Japan mopped them up by printing staggering amounts of their own money.

So doing, they inflated their own currencies, thereby suppressing their exchange rates and showering America and much of the DM world with artificially cheap goods and a tidal wave of wage compression otherwise known as the “China price”.

In the short run, it all amounted to a giant economic swap. The vast rice paddies of Asia were awaked and brought into the global trading system and monetary economy. So doing, they absorbed the Fed’s monetary inflation and permitted main street American to inflate its living standard with debt financed consumption, while not inflating the cost of goods and labor.

At the same time, America’s $50 trillion uptake of new debt provided the financial fuel that funded a massive increase in stock market speculation and corporate financial engineering in the form of LBOs, stock buybacks and incessant M&A deals. In effect, the East Asian central bank printing presses recycled the Fed’s monetary inflation back into financial asset inflation.

That is the true reason for the stock market’s 30 year bull run. There has been a huge increased in the capitalization rate of national income or the implied PE ratio of the stock market. But that did not reflect a permanent improvement since 1986 in the productive efficiency or profitability of the US economy.

The fact that the US stock market capitalization rose from 60% of GDP upon Greenspan’s ascension to 200% today is purely a monetary effect. In practical terms, it reflects a giant ratchet upwards of leveraged speculation in the financial system.

At the end of the day, that’s what ZIRP, QE and the implicit Greenspan/Bernanke/Yellen put do. They fuel a cycle of debt funded speculation that drives asset prices ever higher, which, in turn, become the collateral for even more credit-financed asset purchases.

Corporate Equities and GDP - Click to enlarge

In sum, at the time that Birinyi was peddling his Salomon stock research reports back in 1986, the financial sector—defined here as the market value of equities plus credit market debt outstanding—- was about $12 billion. Today it is $93 trillion.

Total Marketable Securities and GDP - Click to enlarge

You might call the above the mother of all bubbles. And you might also ask why that bubble can be expected to “keep on keeping on” when at last something epochal has changed. Namely, the world convoy of central banks have run up against the limits of money printing.

This means that they do not have the firepower to keep inflating the global financial bubble, and are helpless in the face of a worldwide deflationary wave that is the product of their own falsification of asset markets and systematic financial repression.

Birinyi’s 3200 call is bull because the central bank enabled 30-year bull run is over.

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