	Generational Dynamics
	Forecasting America's Destiny ... and the World's

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Generational Dynamics Web Log for 23-Oct-05
Will there be a stock market crash before the end of October?

Web Log - October, 2005

Will there be a stock market crash before the end of October?

The "Principle of Maximum Ruin" says that it won't happen.

There's an enormous amount of anxiety out there, because a lot of people realize that we could be on the verge of a panic and because several previous huge panics have all occurred in October -- the 1929 crash, the 1987 panic, and the Asian market crash in 1997.

So a crash is on a lot of people's mind, and if you talk to people and read some of the blogs, you realize that a lot of people are very concerned.

The Refco scandal, meltdown and bankruptcy that I've been writing about, might have caused a crash, but the regulators moved very fast to prevent further market damage and to maintain investor confidence. Right now, it looks like a market collapse has been prevented.

Almost everyone will be breathing a sigh of relief when October ends, because panics haven't occurred during the holiday season or in the springtime.

However, one web site reader recently sent me an e-mail message saying that a crash might, in fact, come later after all:

"As far as time frames, I've recently made an observation that may have merit or it may not. It appears that long term stock cycles may be starting to invert, meaning that highs are appearing where lows would be expected. This fits in with what I have been thinking for some time and have expressed indirectly to you ... and that is that since this is the third in a series of 75 year or so complete generational cycles (and the pattern is now well known) that the pattern will change due to our (or the regulators') recognition of it. This might mean that once the September/October "danger period" has passed that the crash could start. There are fundamental reasons to think that is possible such as the runup in home heating fuel prices and recent sudden drop in consumer and CFO (Duke University survey pre-Katrina) confidence. Just a thought."

The writer was referring to the previous two generational crashes -- the crash of 1929 and the Panic of 1857, both of which led to major international financial crises that lasted many ears.

His thought ties in with an essay I've been working on for this web site that's been taking way, way longer than I had expected. It's called "The Principle of Maximum Ruin": If you want to figure out what the market will do during a generational crash, then assume it will take the path that will ruin the most people, and that's the path it will follow.

The purpose of this long-delayed essay is to show why the upcoming crsis will much more devastating than you or anyone expect. I got the idea for it from the following paragraph from John Kenneth Galbraith's 1955 book, "The Great Crash - 1929":

"A common feature of all these earlier troubles [previous panics] was that having happened they were over. The worst was reasonably recognizable as such. The singular feature of the great crash of 1929 was that the worst continued to worsen. What looked one day like the end proved on the next day to have been only the beginning. Nothing could have been more ingeniously designed to maximize the suffering, and also to insure that as few as possible escaped the common misfortune." (p. 108)

Galbraith's point was that there were previous market panics, such as those occurring in 1903, 1907 and 1921, but that the market had recovered from them in a year or two. But that didn't happened after the 1929 panic.

Instead, the market kept falling.

Not only that, the market's up and downs following the 1929 crash occurred in such a way that more and more people were drawn in by false hopes to invest all their savings in the market. It was almost as if Adam Smith's "invisible hand" had turned into a perverse hand of doom.

The same thing is happening today, so far. The market recovered quickly from the panics of 1987 and 1997. The Nasdaq crash in 2000 was bad, and was made worse by 9/11, but now the market has recovered enough so that almost every investor today is back in the market, expecting it to go up.

If I buy a share of stock for $100, and I sell it to you for $200, and you sell it back to me for $300, then we've both made $100, even though the underlying stock certificate is still worth only $100.

A very simple computation, made by me and by other analysts, shows that the fundamental value of the stock market today is around Dow 4500, and yet stock prices are at Dow 12600, making the market far overpriced. This is also shown by current price/earnings ratios, as I've described many times. And yet investors today are in the same state of giddy denial as they were in 1929.

As I've been saying since 2002, Generational Dynamics tells us that we're entering a new 1930s style Great Depression, and that stock prices will fall to Dow 3000-4000 with certainty. As I've said many times, Generational Dynamics tells us where we're going, but not how we'll get there.

So how will we get there? Well, it's impossible to predict for sure, but we can look for guidance from the Principle of Maximum Ruin.

So what's the most likely thing for the market to do to ruin the greatest number of people? Obviously a crash in October would not be it, since everyone is prepared for it and expecting it.

The thing that would ruin the most people is for the market to do OK in October and into November, and then crash. Or maybe even get through the holiday season and then crash in January. Nothing like this has ever happened before, so almost everyone will be fooled. So if you believe the Principle of Maximum Ruin, then expect a panic and crash sometime after October.

This isn't exactly a farfetched concept. One thing that most analysts agree on these days is that there's going to be a recession early next year, thanks to high oil prices and the effects of the hurricane damage. Such a recession would certainly spread to China, and a recession in China could trigger a market meltdown there, which would cause a market meltdown here.

Incredibly, China just announced another quarter of 9.4% growth. China has been growing at 9-10% for twenty years. Each year since 2002, China has been trying to maneuver the economy into a "soft landing," reducing the growth rate to around 7%, but they've failed every year and every quarter, and every quarter they promise to do better next quarter. Obviously, they've failed again. They're in a huge market bubble themselves, and it's very close to bursting, which would cause the same market meltdown here, even if we don't have a recession first.

And, of course, there's always bird flu, which will be devastating to the global economy. In fact, the BBC recently predicted that a bird flu pandemic would cause a new Great Depression.

So keep the Principle of Maximum Ruin in mind as you make your investment plans in the next few months. (23-Oct-05) Permanent Link
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Generational Dynamics Web Log for 23-Oct-05 Will there be a stock market crash before the end of October?

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Generational Dynamics Web Log for 23-Oct-05
Will there be a stock market crash before the end of October?