Another sign of a top in stocks?

Attending the London Money Show last week, I was taken out of my narrowly-focused trading world and into some of the bigger pictures. I recommend all traders do this occasionally – you never know when a topic that someone else mentions will strike a chord and make you open your eyes to an avenue you had ignored.

Such was the mention that monetarism is totally off the radar and Keynesianism is all the rage. The guru of monetarism in the 70s and 80s was Milton Friedman. He was the spokesman for free markets with less government involvement in the economy. Very few even mention his name today, yet he was the leading light in his day. He was on TV all the time.

Today it is Keynes – big government and even bigger involvement in not just the economy, but directly in the financial markets – that holds centre stage with policy makers.

And that set me thinking. Fashion in economic theories is cyclical. In the 70s and 80s it was stagflation – high inflation but low growth and weak stock prices. How to escape that trap was the burning question. That is when governments turned to Friedman’s monetarism theory, where growth could be generated by increasing the money supply.

M1 data was eagerly anticipated and pored over in much the same way as Fed announcements today.

Of course, that lead to hyper-inflation in the 70s as more money chased the same amount of goods – and capacity was constrained (we had no China exporting deflation then!). The first Oil Shock didn’t help. That is when monetary expansion was ditched in favour of tightening to accompany an eventual lowering of CPI at the expense of higher unemployment.

Today, we have the opposite extreme situation – low growth, low and falling inflation, low job creation and a Keynesian tax and spend policy combined with massive borrowings aimed at jump-starting the economies. But it is clearly not working. The elite are worried.

So I foresee an abandoning of Keynes’ ideas in the near future. That cycle is about to end and Keynes will become ignored, as Friedman is today.

One day, governments will understand that their wholesale macro-managing of the economy has been doing more harm than good. But only after a massive bust will this happen. We must be near – wealth inequality is at a record and deflation looms for the eurozone – and beyond. As traders, we can benefit from this knowledge!

Governments do not willingly shed power once grabbed. They keep interfering until the whole machine derails (when debt and sovereign interest rates collide). That is why I am confident we will see a massive depression up ahead. It is starting in Europe.

The markets are quiet overnight as they digest the big moves of last week. I remain short EUR/USD, GBP/USD and T-Bonds as they resumed their downtrends. There is a lot more to go for on the downside.

As for stocks, after the big fall on Thursday/Friday, where the Dow had made a small-scale five waves down, the rally has carried to the exact Fibonacci 78% retrace: