"A Bug In Search of a Windshield"

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(This is an excerpt from Friday's blog for Decision Point subscribers.)

The title above is a phrase coined by John Mauldin to describe Japan's financial condition, a subject upon which he expands further in his new book, written with Jonathan Tepper, Endgame: The End of the Debt SuperCycle and How It Changes Everything. Also in the book is his belief that the recent financial crisis "was more than a half-century in the making. The Great Financial Crisis, however, was merely Act I. Act II has now begun. The massive household deleveraging and historic shift of private debt onto government balance sheets now underway all over the world represents the end of a sixty-year global Debt Supercycle. We have now entered the Endgame, a time when bankruptcies and defaults (disguised as "restructuring") will not be of households and companies but of governments. The stakes are now higher. The coming crises will offer policymakers few good choices and many bad ones. It will require extraordinary clarity and courage from leaders, courage that so far is largely completely lacking." (Quote from the inside flap.)

I am happy to give John's book a free plug, but my purpose was to introduce the subject of Japan's madness, because I think it provides a rough roadmap of where we and the rest of the world are headed.

I think a long-term chart of the Nikkei says it all. There was a massive bubble in stocks and real estate that began in 1982 and climaxed in 1989. While stocks quickly corrected to flush excesses out of the system, the government elected to take the "easy" way out of the debt bubble, lowering interest rates to insane levels in the hopes that inflation would cause the debt bubble to evaporate. Or to say it another way, they stole from savers in order to bail out gamblers who lost their bets.

Chart copy

The chart of the Nikkei shows how well this worked. It didn't! Japan has had to endure over 20 years of misery, and the problem still has not gone away. From 1992 to the present the Nikkei has been in a basing pattern, a deteriorating basing pattern I might add. This is the kind of pattern that normally follows the collapse of a parabolic. It is a pattern that normally characterizes a period of rebuilding and repair that normally ends with the beginning of a new bull market. Unfortunately, in Japan there has been no rejuvenation, only more of the same old dishonest policies that caused the problem. Thus, a basing pattern that reflects continued deterioration. They are in a hole, yet they continue to dig.

Sadly, Japan is not the only bug in search of a windshield -- a plague of locusts fills the sky. Insurmountable debt is a global disease that will only be cured through years of pain. There is no easy way out, but you can be assured that global policy makers will try to find one, thereby prolonging the pain.

Bottom Line: I admit that this is not a useful technical commentary, but this is a subject I needed to address, because it is the looming context within which we make our technical decisions. The debt crisis is a problem that I think about and worry about every single day. It has probably created the most dangerous investing environment that we will ever experience, and it should be a major consideration in our decisions of how to allocate resources and how much risk to take. The chart demonstrates what it looks like when people behave like idiots.

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Technical analysis is a windsock, not a crystal ball.

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About Carl Swenlin