Saturday, January 26, 2013

FLASH CRASH on Steroids!

Most investors think that even if things go downhill fast that they will be smart enough to get out of the markets. After the debacle in 2008 where they saw the market do nasty and violent swings they learned a few things, this time they figure they will make the right moves before it is to late. But what if it hits like the flash crash on steroids? We know that can't happen because circuit breakers have been put in place to arrest panic style moves, but imagine a market that falls, trade is halted, and the market simply does not reopen for days, or even weeks.

For a long time I have been trying to develop a scenario for a market "super crash" and a reasonable map that would arrive at such a situation. To say I'm negative about this economy is a gross understatement. I saw the last housing bubble coming and predicted the crash in my book Advancing Time. We have never recovered from the Great Recession. By printing money, imploding interest rates, and exploding the Federal Governments deficit we have only delayed the "big one".

I recently came upon these two quotes on macroeconomic stabilization and crisis. First, from Macresilience;
"As Minsky has documented, the history of macroeconomic interventions post-WW2 has been the history of prevention of even the smallest snap-backs that are inherent to the process of creative destruction. The result is our current financial system which is as taut as it can be, in a state of fragility where any snap-back will be catastrophic."
And next from Nassim Taleb (author of The Black Swan);
"Complex systems that have artificially suppressed volatility tend to become extremely fragile, while at the same time exhibiting no visible risks. In fact, they tend to be too calm and exhibit minimal variability as silent risks accumulate beneath the surface. Although the stated intention of political leaders and economic policymakers is to stabilize the system by inhibiting fluctuations, the result tends to be the opposite."
These quotes suggest an analogy with ideas about forest management when natural fires are suppressed. If random fires do not periodically clear away forest underbrush, we see a build-up of flammable material sufficient to power a massive conflagration. I certainly think an equivalent truth applies to financial markets. The longer it has been since a painful collapse, the greater the willingness to pile on leverage and complexity, such that the next crisis becomes unmanageably awful. The "Too Big To Fail" and other policies implemented since 2008 have laid the groundwork for "The Big One", or what we will someday look back on as the mother of all sell-offs.

By not taking steps to correct many of our ills in a way we have made things worse. We have not made the structural changes necessary for our economy to become sustainable. We have put band-aid upon band-aid, upon band-aid while what was necessary was the amputation of a diseased limb. After all the threats that this market has avoided, and sidestepped, it is possible that many now think of it as invincible. This market has overcome the death of the euro, the financial cliff, and the end of Greece as we knew it. My studies in micro-economics, and observations in the current real-estate market, both as a owner and hands on landlord allows me to predict, we ain't seen nothing yet!

Footnote; These low interest rates come at a price, a dark side exist, in the long run the benefits they bring may be out weighed by  the distortions they cause. For more on the subject please see the post below. I have also listed two other more recent articles that may be of interest. Other related articles may be found in my blog archive, thanks for reading, your comments are encouraged,



  1. Here's a short essay I recently had published forecasting the inevitable burst:THE CYPRUS EXPERIMENT

    What can we learn from Cyprus? A new bailout method is replacing the unpopular taxpayer grab that has worked well up until now. European finance ministers have come up with a plan to divide banks into “good” and “bad” (perhaps they draw straws, or roll dice) and salvage the one by shifting the deposits and liquid assets to the first while loading all the toxic debt onto the other. In a bold move to secure a prosperous future, 60% of the deposits over 100.000 euros will be collected in a one time savings tax called the “Mandatory Stabilization Contribution” (MSC).

    It's too bad that ordinary Canadians can't get ahead of the curve somehow, and begin to move all of their savings and make all of their deposits into a local Credit Union account, removed from the stormy uncertainty of the teetering global economy. That way, when the Federal Reserve of the United States finally allows interest rates to rise, (causing an eruption of hyper-inflation and the inevitable tsunami of bankruptcies and lay-offs, leaving behind the desolation of crushed stock markets around the world), we can breathe a sigh of relief and continue on a local scale of commerce. When our elected representatives start pounding on their desks and vote unanimously to bring in the MSC as the salvation for our precious charter banks, we can politely shake our heads, herd these ravenous dinosaurs together and cheer as they stampede into the pages of history.
    From "

    1. What happened in Cyprus should serve as a warning to anyone who thinks money in the bank is safe. A bad haircut, in this case means you have been robbed. That may be the case if the government reaches in over a long weekend and steals money from your bank account. This is a horrible precedent to set, and the worst part may be how many people accept it saying it is ok as long as it is only on the larger accounts and only impacts the savings of someone else! The post below goes deeper into this subject,

  2. Bruce, I want to compliment you on this excellent commentary. I have tried to explain this concept to my friends and to my readers. My own explanation has left them confused and inevitably causes their eyes to glaze over. You have done an excellent job of explaining this complex issue in terms that are irrefutable and easy to understand. I will send you article to my contacts, I guess the highest compliment I can give you from one writer to another is to say, ‘I wish I had written that’. My writing is more in the direction of economic satire. Here is a sample of my work. I hope it makes you laugh. kindest regards , David Hague

  3. On August 16th Bloomberg News reported a story that so far has gotten little play here in America. It appears that the biggest swing in China’s benchmark equity index since 2009 took place on Friday. China’s shares were roiled by a trading error at Everbright Securities Co. that spurred a 53 percent surge in volumes and a swing of more than 6 percent in the Shanghai Composite Index. The gauge jumped from a loss of as much as 1 percent to a gain of 5.6 percent in two minutes during the morning session, then ended the day with a 0.6 percent drop. “The timing was not good for trading errors in China,” Brian Jacobsen, who helps oversee $221.2 billion as chief portfolio strategist at Wells Fargo Advantage Funds in Menomonee Falls, Wisconsin, said by phone yesterday. “There are already a lot of skeptics out there and an event like that can erode some people’s confidence.”

  4. Before there can be a crash there needs to be a real economic boom.... in late 90s we had the tech boom and mid 00s the housing boom... these were real booms with real capital in play and real people making real money.

    Right now I supposed we could say that we have a social media boom, facebook, twitter, whatsapp etc. and somewhat of a 2nd wave tech boom, amazon, apple, google, tesla etc....

    but it doesn't feel like a 'real' boom, just some distortions and over hyped expectations....

    so the question is do we call this post 2008 run and social media boom a real boom or just a weak and watery recovery ?

    in absence of a real boom, we're unlikely to have a real crash.... just a lot of stagnant action.... S&P could go into a holding pattern for 10 years, topping out where it is now or a little higher and gyrating back and forth.....

  5. Past Bubble only went when WallStreet by design had effectively badly mutilated MainStreet. The great recession saw mainstreet in total distrust thus creating a vacuum. Some one has to remain the cash cow - voila the FED to the tune of $4T.With just $65 billion left to taper, WallStreet must find other avenues to make.
    How is it that the hand writing on the wall is not being read accurately? May be X # of Fund Managers buy today & Y# of fund manager sell tomorrow - either way the floor is bound to come off. Pozi schemes always end so badly - ask the culprits.

  6. As someone who has been writing and commenting about all of this since predicting the Great Recession, I applaud your article, Bruce. Well said. For those who wonder why people don't see it coming, the answer is simply that they never do. If they did, it wouldn't come.

    --David Haggith
    The Great Recession Blog