By Teeka Tiwari, editor, Palm Beach Confidential
Friends, welcome to this century’s version of the 1987 stock market crash.
During the ’87 crash, I was only 16 and had no knowledge of the incredible opportunity it represented. All I saw was the constant flood of headlines predicting the very end of America. Just like we’re seeing today…
Crashes aren’t fun… But if you want the unbridled upside of living in a free market system, they’re a necessary evil. And the first step to accepting this is understanding what’s behind them.
What causes market crashes isn’t so much a big external event like the coronavirus now… or the fear of a collapsing U.S. dollar back in the 1987 crash.
You might be shocked to read that… But it’s true.
What causes a market crash is leverage.
Let me explain…
There are two types of stock buyers present in financial markets at all times: investors and traders. And they treat leverage differently.
Simply put, leverage means using borrowed money to invest under the hopes that your gains will be greater than the interest accrued on the money you borrowed.
Investors look to the long-term earning power of stocks. They care little for day-to-day fluctuations.
Everyone knows that… But what you may not know is, long-term investors typically don’t use leverage. This is how they can weather market volatility. They are secure in the knowledge that, over time, prices will recover.
By comparison, almost all traders use leverage. And the biggest traders can use massive leverage. I’m talking 100-to-1 (borrowing 100 times their own money) or more.
And these are the people who cause market crashes.
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Complacency Has Set In
The longer a bull market goes on (and at 11 years, this was the longest one in history), the more leverage traders use. Some get lazy with their risk management, while others get carried away by their greed.
So when an unexpected event hits and the market drops, traders have to sell. If they don’t, they’ll face margin calls. (A margin call is when your bank/broker demands you put up more money as collateral for your loans.)
This selling then feeds on itself, triggering more margin calls. It causes mainstream investors to panic – and they start dumping stocks, too. And of course, that triggers even more margin calls.
Next thing you know, you’re in the middle of a full-blown crash…
The biggest drivers behind today’s market panic are oil and the spread of coronavirus.
Yes, the coronavirus is a big deal. And yes, oil falling off a cliff – because Saudi Arabia is upping production to spite Russian president Vladimir Putin for not agreeing to oil output cuts – will hurt U.S. companies.
But none of these problems pose the type of world-ending financial Armageddon the 2008 financial crisis did.
It’s true. Banks will get hurt on bad oil loans. And yes, they’ll also get hurt on their lending operations, since U.S. rates are probably going negative.
But banks were in far worse shape in 2008–09… yet the banking system survived.
The coronavirus will smash the hospitality and airline sectors. There’s no doubt we’ll see some bankruptcies and consolidation. But again, they were hurt worse by the 2008 recession and the 9/11 terrorist attacks.
Will it be painful? Yes, it will.
My personal stock account is in the millions – and it’s getting clobbered. Am I worried? No, I’m not. In fact, I’ve been putting hundreds of thousands of dollars to work.
My 31 years in the markets as a professional have given me the ability to “look through” today’s horrible headlines and see where we’ll likely be 18 months from now…
And chances are, by then, the market will be near – or will have already made – new all-time highs.
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What’s Going on With Crypto and Gold?
In addition to stocks, you might be wondering why gold hasn’t boomed much higher… or why bitcoin is showing weakness, too.
Let’s tackle gold, first.
I’m very bullish on gold. In my opinion, gold prices will double over the next few years. You can’t have negative real rates and not have gold go up.
What I learned from 2008 is that, in a crisis, everyone flocks to the most liquid, least-hated asset. In this case, that’s the U.S. Treasury market. That’s why yields have dropped as much as they have on 10-year bonds (below 1% for the first time ever).
That’s always Phase 1. In Phase 2, we see a massive policy response from the government and the Fed (which we’re starting to see happen). And that’s when we see gold prices boom.
So if we look at 2008, gold prices dropped as much as 10%. And Treasury prices – as measured by the iShares 20+ Year Treasury Bond ETF (TLT) – rallied 31%.
Yet by November 2008, people realized we were going to see massive money printing. And gold started an epic run from a low of $682 in 2008 to a high of $1,921 in 2011.
So don’t sweat gold. It’s my belief investors will make a lot of money in gold.
Now, let’s turn to bitcoin…
One of the most prized attributes of bitcoin – and crypto in general – is that it doesn’t give two hoots about what’s happening with coronavirus… the stock market… or the oil markets.
So you might be wondering, “Why in the world is crypto down?”
As I write this on Friday, bitcoin prices are down about 18% over the past 24 hours.
There are two factors at work.
One is what I call the post-Golden Cross “dip.” (You can read more about the Golden Cross here.) Every time bitcoin has seen this particular setup, it’s gone on to “dip” first (sometimes as much as 28%)… and then rally an average of 3,123%.
And the second factor hitting crypto right now has to do with a multimillion-dollar fraud perpetrated by Chinese scammers.
They conned people out of millions of dollars’ worth of bitcoin… and have been hammering the market to get away with their ill-gotten loot.
Every trading desk knows these scammers will dump their bitcoin at any price. So they’re “walking down” their bids to get as much bitcoin as they can – as cheap as they can.
But that’s just good business. You’d do the exact same thing if you knew a massive seller in the market had to sell at any price.
All in, it’s estimated the scammers attracted over 180,000 bitcoin and 6.4 million ether. And they currently still control an estimated 20,000 bitcoin and 790,000 ether (worth around $194 million at current prices). So until that overhang is worked off, crypto prices will stay weak.
Long story short: The crypto market remains in its own sphere, unaffected by global events. And while inconvenient for most, this weakness couldn’t have happened at a better time for us.
The Opportunity Today
You see, we’re at the doorstep of another boom in crypto like the one we saw in 2017.
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