by David Goldman, Inner Workings
Today’s (August 4) 400-point plunge in the Dow was driven by capital calls on hedge funds, whose ballooning assets constitute the last big bubble in world markets. The surge in hedge fund assets to $2 trillion at last count created a levered market sector vulnerable to investor withdrawals and hair-trigger sell decisions.
Stocks are stupid cheap. A utility paying a dividend yield of over 5% is a no-brainer trade against a 10-year Treasury yielding 2.45%, especially when the utility dividend is taxed at a top 15% rate and the Treasury is taxed at ordinary income tax rates. Narrow corporate bond yields indicate a very low level of risk associated with these earnings. We have never had a market crash of this magnitude in the past without a collapse of the corporate bond market. That alone tells us that something very different is at work. No-one can fund a retirement at 2.45%. The problem is that the people who need retirement income are in no position to buy equities, and the investors with the liquidity to buy equities face massive redemptions.
On fundamentals, the stock plunge makes no sense. We’ve never had this kind of market bloodshed with a corporate earnings above 7% (and well above 8% on a forward-based bottom-up estimate), and the monetary authorities ready to provide unlimited liquidity to the market. Corporate earnings are solid–we aren’t talking about the phony financials’ earnings of 2006 or dot.coms with burn rates of 2000. The problem is one of market segmentation.
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