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Five Things: Only When the Last Man Standing Has a Seat


There continues to be a severe underestimation of the structural shift in time preferences and risk appetites we are experiencing.

1. Last Man Standing?

An old market saying is that stocks bottom only when the last seller has sold. On the one hand, this is clearly a tongue-in-cheek battle tale. But there is something intuitively attractive and correct in the reflexive nature of it. At some point the scale will tip from sellers to buyers, but when? In today's environment who is this "last seller"?

To get to the bottom of this mystery think about who owns stocks in a general sense and, more important, why do they own them? Who do the top shareholders of General Electric (GE), a variety of institutions, really represent?

To answer these questions let's consider what a stock really is, because the past decade of orgiastic risk pursuit has obscured what all these symbols contained in the S&P 500 and Dow Jones Industrial Average really signify.

2. What is a "Stock"?

Let's consider what a stock really represents. Imagine you own a business and are doing fairly well but want to expand. You could borrow money from a bank directly (in the good old days, perhaps). But borrowing this money would, naturally, cost you something in the form of interest payments to the lender who allows you to use his or her money.

As an alternative you could raise money by dividing your business into pieces on paper and then selling those pieces of paper to others. This is what it means to issue stock in your company. The people who buy these certificates are purchasing an ownership stake in your business and are shareholders.

Now, clearly you believe in your business. You started it. You want to expand it. But consider why others would want to own part of your business?

And today, consider what it means in a larger sense to institutionalize risk aversion and punish shareholders, as the government is now unintentionally (perhaps) doing? It then becomes a bit clearer why perhaps the last seller is still out there.

3. Underestimating the Structural Shift

To this day, across the spectrum of market watchers and pundits, there continues to be a severe underestimation of the structural shift in time preferences and risk appetites we are experiencing.

Several years ago when I began identifying and writing about the peak in positive social mood and risk appetites and what it would mean for markets as social mood shifted to negative, I wanted to make clear how this shift would ultimately show up in markets and be adversely reinforced by fiscal and monetary responses to stop it.

It requires a wholesale change in thinking to grasp the magnitude of what is happening. It is now imperative that we "flip the script" and reverse our conceptualization of market "trends." For example, going back to the early 1980s, as social mood began to shift from negative to positive, it became necessary to view long periods of benign economic conditions as the norm, and short periods of negative economic conditions as cyclical interruptions in the primary positive trend. That must be reversed now.

We are going to be experiencing long periods of harsh economic conditions interrupted by far more brief periods of improving conditions. Adjusting to this will be difficult. Many false starts in the form of brief economic bright spots will appear, but the inevitable return to the primary negative trend will crush any brief bursts of optimism until all reasonable people conclude there is no point in embracing optimism because things are only going to get worse. And at that point, we will have reached the bottom.
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No positions in stocks mentioned.

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