The Icahn Break?

Financier Carl Icahn made some cautionary remarks today, saying that he was very cautious on equities and that the market could have a “big drop.” This caused some modest selling. I am reminded of a piece I posted back in 2004:

“In the words of historian Charles Geisst, “Excessive speculation was creating inflated wealth and a sense of prosperity built upon borrowed money.”

For almost three years, noted economist Roger Babson watched this situation develop with great alarm. The New Era notwithstanding, Babson’s August 24, 1929 statement that he expected a 60 to 80 point stock market crash unsettled many people. During the shortened Labor Day week Babson’s forecast caused what became known as “the Babson Break.” This break or drop in the market bounced back the following week, broke again, and bounced back again; nevertheless, the general direction was down.

By the end of September this volatility caused “the smart money,” like financier Bernard Baruch, to sell their stocks. “I began to sell everything I could…I knew the continuity of confidence was beginning to break.””

The New Era

Of course in 1929 the stock market rallied all summer and then rolled over pretty quickly. Here in 2004, we’ve been in what might be described as a stealth bear market for most of the year. The highs for the year were back in February and March (depending on which index you are watching) and we have seen a succession of lower highs since then.

However, the real point is that what happened in 1929 was that the “real” economy started to decline in July. Indicators of economic decline such as car sales were generally ignored by the stock market, as they have been today. The situation, is of course, quite different today but there are certain similarities that are worth commenting on. The real question, as I’ve mentioned before, is when does the stock market take notice of the real economy? The administration’s distorted statistics are accepted unquestioningly and bullishness is widespread. When does the “continuity of confidence” break?

After posting this, of course, the 2004 pause ended and the housing boom pushed stock prices higher into 2007. And I was wrong again this June. But the fact that the market is so sensitive to a little “truthiness” is interesting. Third time’s a charm? I replay also Babson’s remarks after the crash:

“It is now mid-winter. If I want to know what the temperature is, now, in this room, I go to the wall and look at the thermometer. If I want to know what it has been, up to now, and the existing trend as of the moment, I look at a recording thermometer. But if I want to know what the temperature in this room is going to be, an hour from now, I go to the source which determines future temperatures—I go down to the boiler room and see what is happening down there.

“You gentlemen looked at bank clearings, indexes of business activity, stock car loadings, stock market quotations—you looked at the thermometers on the wall; I looked at the way people as a whole were dealing with one another. I looked to the source which determines future conditions. I have found that that source may be defined in terms of ‘righteousness.’

“When 51 percent or more of the whole people are reasonably ‘righteous’ in their dealings with one another, we are heading into increasing prosperity. When 51 percent of the people become ‘unrighteous’ in their business dealings with their fellows, then we are headed for bad times economically!”

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