The Lull Before The Storm-----It's Getting Narrow At The Top, Part 2

The danger lurking in the risk asset markets was succinctly captured by MarketWatch's post on overnight action in Asia. The latter proved once again that the casino gamblers are incapable of recognizing the on-rushing train of global recession because they have become addicted to "stimulus" as a way of life:

Shares in Hong Kong led a rally across most of Asia Tuesday, on expectations for more stimulus from Chinese authorities, specifically in the property sector.......The gains follow fresh readings on China’s economy, which showed further signs of slowdown in manufacturing data released Tuesday (which) remains plagued by overcapacity, falling prices and weak demand. The dimming view casts doubt that the world’s second-largest economy can achieve its target growth of around 7% for the year. The central bank has cut interest rates six times since last November.

More stimulus from China? Now that's a true absurdity----not because the desperate suzerains of red capitalism in Beijing won't try it, but because it can't possibly enhance the earnings capacity of either Chinese companies or the international equities.

In fact, it is plain as day that China has reached "peak debt". Additional borrowing there will not only prolong the Ponzi and thereby exacerbate the eventual crash, but won't even do much in the short-run to brake the current downward economic spiral.

That's because China is so saturated with debt that still lower interest rates or further reduction of bank reserve requirements would amount to pushing on an exceedingly limp credit string.

To wit, at the time of the 2008 crisis, China's "official" GDP was about $5 trillion and its total public and private credit market debt was roughly $8 trillion. Since then, debt has soared to $30 trillion while GDP has purportedly doubled. But  that's only when you count the massive outlays for white elephants and malinvestments which get counted as fixed asset spending.

So at minimum, China has borrowed $4.50 for every new dollar of reported GDP, and far more than that when it comes to the production of sustainable wealth. Indeed, everything is so massively overbuilt in China------from unused airports to empty malls and luxury apartments to redundant coal mines, steel plants, cement kilns, auto plants, solar farms and much, much more----that more borrowing and construction is not only absolutely pointless; it is positively destructive because it will result in an even more costly adjustment cycle.

That is, it will only add to the immense already existing downward pressure on prices, rents and profits in China, thereby insuring that even more trillions of bad debts will eventually implode. And that, in turn, will prolong the CapEx depression, which is the inexorable flip-side of the credit driven investment spree that has so massively bloated and deformed China's economy.

In short, the kind of dead cat bounces like those registered in the Asian bourses last night have virtually nothing to do with prospects that the unfolding global recession can be reversed by central banks or other state fiscal actions. These mini-rallies are entirely financial spasms triggered by the vestigial algorithms of robo-machines and chart-point chasing day traders.

But that is exactly why bubbles eventually splatter. When peak debt is reached, additional credit never leaves the financial system; it just finances the final blow-off phase of leveraged speculation in the secondary markets.

Indeed, what is happening now is that the herd of buy-the-dip speculators is being pushed into a narrower and narrower slice of the market. A few weeks ago we pointed this out with respect the quartet of FANG stocks:

In fact, there were some fireworks in last week’s gains, but if history is any guide they were exactly the kind of action that always precedes a thundering bust. To wit, the market has narrowed down to essentially four explosively rising stocks—–the FANG quartet of Facebook, Amazon, Netflix and Google—–which are sucking up all the oxygen left in the casino.

At the turn of the year, the FANG stocks had a combined market cap of $740 billion and combined 2014 earnings of $17.5 billion. So a valuation multiple of 42X might not seem outlandish for this team of race horses, but what has happened since then surely is.

At this week’s close, the FANG stocks were valued at just under $1.2 trillion, meaning they have gained $450 billion of market cap or 60% during the last 11 months——even as their combined earnings for the September LTM period were up by only 13%.

This means that the FANG stocks were driven to a 60X PE as the gamblers piled on the last trains out of the station.

Yet after 27 failed attempts to rally, including today's low volume melt-up, the modest rebound of recent weeks is surely just another spasm of the dying bull.
^SPX Chart

^SPX data by YCharts

That’s especially the case coming as it does on the heels of a flood of negative domestic economic news, the onset of the fifth recession in 7 years in Japan, more cratering of credit and industrial activity in China, another plunge lower in Brazil that Goldman has described as an outright depression, continued severe pressure on exchange rates and credit markets in the DM and the specter of a Thermidorian Reaction to the Paris terrorism events in Europe.

Indeed as the old Wall Street adage holds, market tops are a process, not an event. Another peak under the hood of the S&P 500 index, in fact, reveals exactly that.

It turns out that the Tremendous Ten mega-stocks listed in the chart below currently have a combined market cap of $3.76 trillion. That's up by the considerable sum of $440 billion or 14% since the start of 2015.

But what is not up is the net income of the group as a whole. It weighed in at $158 billion for the 12 months ending in September, and that's down by 17% from the $190 billion of net income the Tremendous Ten posted for the LTM in December 2014..

David Stockman's Contra Corner is the only place where mainstream delusions and cant about the Warfare State, the Bailout State, Bubble Finance and Beltway Banditry are ripped, refuted and rebuked. Subscribe now to receive David Stockman’s latest posts by email each day as well as his model portfolio, Lee Adler’s Daily Data Dive and David’s personally curated insights and analysis from leading contrarian thinkers.

Get Access