This essay ties into this subject. Problem that I see is that demographics don't suppport a substantial nor sustainable recovery.
Demographic Reasons For Market Bubbles & Crashes
From Baby Boom To Market Boom To Market Bust
By Ya-Gui Wei
During previous general market commentaries, I have asserted that:
- The stock market’s accounting method makes it a very deceptive pyramid scheme; it requires the continuous recruitment of new players for it to keep going up;
- Movement of money in and out of the market is translated into much bigger changes in the market’s valuations; only a tiny portion of the stockholders’ account balances is real money;
- Based on experience from past market bubbles, once the downward momentum has started, the money exodus is likely to continue until the market indexes have lost at least 2/3 of their peak values.
All these should be ample reasons enough to stay out of the market. Yet many people continue to resist taking losses, believing that the stock market is still the best place to put their savings, and hoping that the bull market will perhaps return in a few years, and Yahoo will again go back to $250 a share. Will this really happen? To answer this, we need to find out how the last bull market had come about, and why it came when it did.
We will approach this through a basic cash flow analysis for the entire market.
The Individual’s Peak Earning Period
For each individual member of society, no matter which metrics you look at, their ability is likely to increase as they grow up, then peak at a certain age, finally decline as they get older. This is true whether you are measuring their strength, their sexual prowess, or their money earning power.
The figure at the right shows the average income for each age group, based on data from the U.S. Census Bureau, indicating that the 45-54 age group has the highest average income. Another indicator is that this age group also constitutes the largest portion (32%) of the top 1/5 income bracket, followed by the 35-44 age group (25%).
One should be able to look at the census data at more detail to establish a more precise period for the average person’s peak earning power. Various authors have put the age for peak productivity and income at around 46 years of age.
If you are the average citizen, before you were 46 years old, your income level is likely to continuously go up. During this period, you’ll also be thinking about your retirement, and have more and more disposable income to put into retirement and saving funds. After 46 yrs of age, your income level is likely to go down, as will the portion of your money available for savings.
The U.S. Economy’s Peak Period
The economy is consisted of many individual persons engaging in their own economic activities. Therefore, the amount of money available in a society is the sum of all individuals’ earning power, and the economy’s peak income producing period is therefore the period when there is the most number of individuals reaching their own peak earning period, or 46 yrs of age.
After WWII, the U.S. experienced a baby boom – there was an explosive increase of newborn babies during the 15 years after the end of the war. Right now, the peak group of these baby boomers have just reached their peak earning years. In Fig. 2 (left), I have taken the year 2000 U.S. demographic data and plot it in such a way that it shows the number of people reaching 45 years of age during each five-year period. (This graph was plotted based on
year 2000 U.S. demographic data, without adjusting for mortality rates.)
Apparently, as a result of the baby boom, the number of people reaching their peak productivity and earning ages has been steadily increasing, and has more than doubled during last 20 years. The productivity and earnings from the boomers propelled one the longest economic expansions during this period (except for a few short interruptions). During this period, the Dow Jones Industrial Average increased from around 1000 points to the peak of around
11,600.
Unfortunately, the number of U.S. peak earners has now peaked and is set to decrease during the next 15 years. This will lead to slower growth in the economy, or even economic contraction, which means slower corporate earning growth or decline in earnings, both of which call for lower stock prices.
Demographic Reasons For Past Market Bubbles
During the 1980’s, there was a similar economic expansion and bull market in Japan, with the key Japanese market indexes increasing more than 1000%. At the end of the decade, the Japanese market collapsed, losing more than 2/3 of its peak value. Eleven years later, the Japanese market decline is still continuing today, although at a slower pace.
If you look at the Japanese demographic data (Fig. 3), there is likewise an apparent peak of 45-year olds around the year 1990. Apparently, the Japanese baby boom occurred immediately after the war, and reached its peak about a decade before the U.S. baby boom.
The 1920s U.S. bubble is also likely to have arisen from the baby boom following the American civil war. The U.S. population increased by almost 30% in the 10 years after the civil war, the babies born during this period would have reached peak earning period during the 1920s, producing the great market bubble of that era.
So here’s how the market bubbles were likely to have developed: as a new generation of baby boomers came of age, their increasing earning power drove economic expansion, and their savings and investments propelled the stock and asset markets upward. The increasing markets began to attract speculators. At the later stage of the bubbles, speculation became the main force driving the markets to sky-high levels.
Market bubbles driven by speculation is simply not sustainable. While the general public’s participation in speculation is quite irrational, there was a group of speculators who were quite rational: they were the first to get in, and the first to get out. Once these speculators have gotten out, the bubble was punctured. Other speculators soon followed, but many lost a lot of money. During the market’s downward spiral, consumer confidence
collapsed, and the economy fell into deep recession. The stock markets’ deflation eventually led to deflations in the real estate markets and consumer goods markets.
The Gold bubble, being a bear market bubble, has arisen from the other side of the coin. The severe baby bust (reduced birth rate) during the 1930s Great Depression era – when the U.S. population grew only 7% in 10 years – would have lead to a shortage of peak earners during the 1970s to early 1980s, causing the economy stagnation of that era. The gold price’s initial rise was caused by its own unique set of circumstances, including the
dollar’s decoupling from gold and the oil crisis, but eventually attracted enough speculators to form a single-sector bubble. In terms of the amount of money involved, the Gold bubble probably cannot compare to the Japan bubble or the current U.S. bubble.
Looking Out into the Next Ten Years
So far, the Nasdaq has behaved just as other past bull/bubble markets have. I think history does repeat, as I have time and again tried to remind us during the past 16 months, and I think it is quite valid to look back into the past to try to predict the future. Therefore, to know what will happen in the U.S. over the next 10 years, one only needs to look back at Japan during the last 10 years, or look at the U.S. during the 1930s.
Looking across the next 10 years, I see the following in the U.S. economy:
- Prolonged economic stagnation, with intermittent recessions;
- Deflation in the equity market, with the Dow falling quickly below 5000 and ending the decade at around 4000;
- Deflation in the real estate market, with houses in hot markets falling more than half their values;
- Zero inflation, with intermittent deflation, in the consumer goods market;
- Increased saving rate, with most money sitting in banks, stock market no longer favored as saving vehicle;
- The dollar peaking during 2000/2001 and continues to lose value to Yen and Euro;
- Bankruptcy rates rise, some banks will fail;
- U.S. returns to budget deficit, projected budget surplus never materialized.
On the international front, Germany’s baby boomers would reach their peak earning period around 2005. China’s baby boomers would reach their peak earning period around the year 2010. This would come at the heel of China’s joining the WTO, making China the prime candidate for the next market bubble.
In Japan, the number of peak earners would reverse to a rising trend around 2005, and there would be an echo peak around 2015. The children of U.S. baby boomers would reach their peak at around 2025. These echo peaks do not have the same potential as the original baby boom peaks.
Looking out at the next 40 years, the U.S. bull market of the last 15 years is just not going to repeat.
