Is This The Babson Break?

Certainly the stigmata of a major bubble top are clear. From John Hussman:

What concerns me most is that the present market environment is very reminiscent of other cycles in which deterioration of interest-sensitive securities, following overvalued, overbought, overbullish conditions, was then joined by broad deterioration in market internals. The chart below shows the points where the overvalued, overbought, overbullish syndrome I noted a few weeks ago in Not In Kansas Anymore was followed by a deterioration in utilities, corporate bonds, breadth, and leadership, relative to the prior quarter. There are five instances: 1929, 1987, 2000 and 2007 and today. The prior ones are associated with some of the worst market losses in history. Longer-term readers may recall my concern about this same sequence in 2007 (see the July 30, 2007 weekly comment Market Internals Go Negative). 1973 does not appear in this set because the 1973-74 plunge was not preceded by a deep deterioration in interest-sensitive securities, though they did lose value later in that bear market. 1937 does not appear only because we’re using a particularly tight definition of overvalued, overbought, overbullish conditions. Suffice it to say that the historical record is not encouraging toward speculation here.

Having said the above, one must always be concerned that the top has not yet formed; the “Babson break” was a sharp decline 55 days before the 1929 crash, attributed to (prescient) comments from economist Roger Babson, which was quickly recovered as the dip was bought. We know we’re in a bad neighborhood, but we haven’t actually been mugged yet.

There’s time – the eventual bottom of this cycle is probably a couple of years and 10-12,000 Dow points away. My back of the envelope analysis agrees with that of SocGen’s Albert Edwards ( with which Hussman also concurs) in estimating that it will see S&P 450 and/or Dow 4000 – roughly a 75% “haircut.” Think that can’t happen? Then you under-rate the destructiveness of years of misguided monetary and fiscal policy which, in emphasizing consumption and politically driven malinvestment at the expense of sound investment, has largely destroyed the US’ industrial base and international competitiveness.

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