China Syndrome might signal something worse
THE Dow dropped 614 points on Monday, its worst day since October 2020 — and most analysts blamed worries about Chinese real estate. That would seem an odd thing to be causing such fear and loathing in the US stock market, but don’t discount it — such seemingly unrelated spasms are often the spark of something far worse.
What appears trivial often forces market players to focus on all that’s wrong with the economy, corporate earnings, fiscal and monetary policy — the main drivers of stocks. History shows corrections often start with a random headline or event that’s a catalyst for something bigger.
And there is enough wrong in the US economy that people are looking at the half-empty part of the glass.
I don’t know if Monday’s correction will make meme stocks trade like the penny stocks they were or force some rational valuation of Tesla. (The electronic-car maker has just become profitable, yet it has a bigger market cap than the Big 3 combined.)
But a quick look back at some past corrections followed the same scary pattern. Take early 2000, during the Internet-stock craze, when a few big tech bulls in the Wall Street analyst community casually worried about some dot-coms being “overvalued.”
It wasn’t long before these rather meek warnings became a brick in a growing wall of worry that included potential interest-rate hikes and whether many dotcoms (see Pets.com) would ever make money. By March, the rush for the exits began in the tech- and dot-com-heavy Nasdaq, and it didn’t stop for the next two years.
Likewise, you can trace the spark of the financial crisis in the late summer of 2008 to the implosion about a year earlier of a couple of esoteric, superficially unimportant hedge funds sold by Bear Stearns.
Bear Stearns clients with a particular appetite to take big risks in mortgage-related stocks took a chance on investments that did not seem essential.
They ultimately were. Their summer of 2007 collapse got smart investors thinking
maybe it’s not just these funds, and maybe every major bank on Wall Street is holding all these same hard-to-price securities that will need to be marked down in price along with the decline in housing prices all across the nation.
By March 2008, that is just what happened. Bear Stearns was out of business because of the mortgage-asset write-downs. Lehman Brothers was next, and a government bailout prevented a wider collapse of banks and brokerages.
The Great Recession was on, and by March 2009, the Dow fell to below 6,500. So what bad stuff could the Chinese real-estate collapse get investors to focus on and continue to dump stocks as they did on Monday?
Housing may not reflect the irrational exuberance that occurred before the 2008 collapse, but prices seem particularly lofty these days in places like Florida and the
Sun Belt. Most housing is bought with leverage, or borrowed money, exaggerating the boom and then the bust.
So-called “transient inflation” isn’t looking so transient, many top Wall Street executives tell me privately. Blame the Fed’s near-zero interest-rate policy and continued hyperactive fiscal stimulus coming out of the Biden administration and the Democratic-controlled Congress. In the short term, this one-two punch helps propel the economy, as well as stocks, including those aforementioned risky meme stocks. (The Dow is up more than 400 percent since the 2009 low, and nearly 80 percent since the start of the pandemic.)
That double whammy of spending is also a cause for alarm given the perils inflation presents to the masses. (It is a particularly nasty tax on the working class.) If inflation persists, the Fed will have no choice but to raise rates that will slow down the economy and depress stock prices.
The federal government, meanwhile, is already trying to pay for its spending spree by raising taxes on individuals, small businesses and investors, which will have the same effect.
Again, I cannot tell you Monday’s market rout is the beginning of the end. I can tell you there is enough wrong with markets, the economy and government policies that if it’s not Chinese real estate today, it will be something else at some point and possibly soon.