Aging Population Will Cause Great Bear Market to Last till 2025: The M/O Ratio

The Aging U.S. Population Demographic will put great pressure on the Stock Market and cause Stock Crashes and Stagnation for many years, only recovering in 2025.

Zheng Liu and Mark M. Spiegel made a great observation and they found that there is a direct correlation between the Market's Price to Earnings Ratio (P/E) and a Demographic Ratio called the M/O Ratio.

M == Number of people in U.S. between the ages of 40 and 49
O == Number of people in U.S. between the ages of 60 and 69.

Since 1954 to the present, this M/O Ratio has correlated with the market's P/E Ratio.

The theory is that those aged 40 to 49 are the main consumers and main producers.  And those in their 60s are in the retiring age, and those in that demographic will likely sell stocks.  So if the number of people in the "O" Demographic who will likely be selling stocks greatly outnumbers those in the "M" Demographic who are both producing and consuming, then the stock market will be pressured downwards.

When we project the P/E Ratio into the future based on the M/O ratio, the P/E Ratio is theoretically expected to drop from 15 in 2010 to about 8.4 in 2025 and recovering to 9.4 in 2030.

This research suggests that the U.S. (and the World?) might be headed to a long term Bear Market which will last a long time, only recovering around the year 2025.

This matches previous analysis by this blog speculating that we are near a Major Market Top, and that the Debt Crisis, and Demographics will cause a long term Secular Bear Market.

Monster Stock Rally, Blowoff Top then Massive Stock Crash?

In the last post, this blog speculated that we are nearing a Major Market Top and will hit the third peak in a Triple Top, and we may see declines and stagnation for many years.

But what if, instead of a Triple Top Reversal, what if we break out of the previous highs on the S&P 500 (around 1550-1565 on the S&P 500 set in the year 2000 and 2007)?  Then, we will have a very bullish Triple Top Breakout.

We could even be experiencing an Ascending Triangle Formation.  At the end of the Ascending Triangle, stocks could breakout upwards, a bullish sign.

But can this really be sustained?  In previous blog entries, this blog mentioned that there are many headwinds from a National Debt out of control and now at over 100% of GDP, and the Baby Boomer Demographic Retiring. 

This could be part of a major Blowoff Top (like a Volcano) where the mother of all rallies, a massive major rally will be followed up by major stock market crashes and declines.

(The Run-up could be spurred by the Fed continuing to print money (with QE3, and other programs), and short covering rallies as people short near the S&P 500 all time high, and possibly an economy that looks to be improving despite all the headwinds in the market.)

Will we be following Japan's lead (Nikkei 225) if we follow this Blowoff Top Pattern?

Look at the massive runup in stock prices in the Nikkei 225 from 1985 to 1990, and then a multi-decade set of stock market declines and massive crashes.

The U.S. S&P 500 stock index is now (Thursday, September 13, 2012) at 1459.99, is only 7% from the all time high of 1565.

Stock Market Major Triple Top: Big Drop Ahead? Target S&P 600.

The U.S. Stock Market as measured by the S&P 500 index is at 1429 (Monday, September 10, 2012), just 10% below the all time closing high of around 1565 on October 2007.

The S&P 500 is nearing very strong overhead resistance, and it couldn't surpass it in 2000 (top #1) and then again in 2007 (top #2) when it could not surpass the all time high of 1565.

What if S&P 500 Can't Break Resistance: Target: S&P Level of 600, a drop of 58% from here.

There is a very bearish technical pattern called the "Triple Top Reversal" 

The pattern is more than establishing three peaks (and the stock market price not exceeding the last peak).  It also requires the stock pattern to reach the Confirmation Line (currently around S&P 700), which marks the previous valleys in the Triple Top pattern.  Some websites and books say the average decline from a triple top reversal pattern is around 15-20% below the Confirmation Line.

But since the time between Major peaks is more than 6 months (many years in the diagram above), the average drop is less reliable, but the pattern does mark a Major Market top.

It is possible if this scenario takes place, this could mean that the market could suffer many more years of difficulty (with stock market crashes and violent rallies).

The Fundamentals and Demographics support this theory:

All around the world, there is a global debt crisis, with countries planning to default on their debt.  The United States now has $16 Trillion in National Debt, which is more than 100% of GDP (Gross Domestic Product), and currently, there is no sign that the U.S. can control their finances, spending, and revenue.  This number also does not include $62 Trillion in Unfunded Liabilities or Promises to pay (which includes Social Security and Medicare).

The large Baby Boomer demographic is retiring and they will be selling their assets, and also, they will be claiming benefits such as Social Security, Medicaid and Medicare.  The younger generations are supposed to help pick up the slack, but there is not enough to do that, and there is high unemployment among the young adults, and many people are riddled with high debt, underwater mortgages, and ever increasing college tuition.

The Bond rating Agencies, in 2011, for the first time ever, downgraded the U.S. Creditworthiness.

Based on all this (and more), the U.S. Market might be headed towards another lost decade (2000 to 2020)?

S&P 500 Stock Market Crash?: $16 Trillion in National Debt and Bad Demographics

Is the Stock Market and the U.S. S&P 500 in Denial and is a Stock Market Crash Ahead?

Since the great stock market crash of 2008, the U.S. Stock Market has gone up from an S&P 500 low of 683 to 1432 today, September 6, 2012 for a gain of 110%.

However, during the same time, the United States National Debt went from $10.6 Trillion Dollars to today's $15.86 Trillion Dollars for a gain of 50%.

If we look at the ratio of U.S. Debt to GDP (Gross Domestic Product), we went from 74% Debt to GDP towards the end of 2008, to around 101% today, September 6, 2012:

 

 

[Numbers Here]

Is the Stock Market in Denial? 
National Debt and Bad Demographics means Trouble Ahead for the Markets.

The Stock Market has gone up over 100% since the bottom in 2009, but at the same time, the National Debt has reached a record $16 TRILLION, and now, the ratio of U.S. National Debt to GDP is over 100%.

Recently, for the first time ever, the Bond Rating Agencies downgraded the United States Credit Worthiness.

Also, there was a recent budget impasse in the U.S. Government, and the U.S. appears to be nearing a fiscal cliff.

The interest on the national debt alone will top more than $5 trillion over the next decade according to the projections from the Congressional Budget Office.

And there is no sign that this trend will slow down and reverse itself anytime soon, unless drastic and proactive actions are taken.

Bad Demographics:

Bad demographics will make this bad situation worse.   One of the largest demographic groups in the U.S., the Baby Boomers born soon after World War II, are starting to retire and will be claiming Social Security Benefits, and Medicaid benefits.  The Baby Boomers will also be living longer, putting a further strain on the system.

The hope is that the younger generations can fill the gap, but that's a problem, with high young adult unemployment rates, the young having to move home after College, and increasing debt and increasing college tuition costs.  Labor participation as a percentage of population has been decreasing and will continue to decrease, which it makes it more difficult to grow the economy.

Edge of Fiscal Cliff:

We are on the edge of a fiscal cliff, and important very active steps need to be taken to solve this dire financial problem.

The Stock Market could also be in Denial, and there is a risk of a gradual or sudden downturn which may occur soon, or over many years in the future.  There may be many Stock Market Corrections and Crashes and Violent Rallies in our future.

Despite the recent bull market since 2008, we are still in the middle of a Long Term Secular Bear Market.  The Stock Market is currently in Denial with many headwinds from a National Debt Crisis and Unfavorable Demographics.

Much Time is Needed Before Housing Can Recover

According to a recent Realtor.com survey, the top two obstacles to owning a home are (1) High Home Prices and (2) High Down Payments.

High Home Prices

Despite Home Prices continuing to fall, home prices are still too high.

Here's the Standard and Poors (S&P) Case-Shiller 10 City Composite Index since 1987:



Notice the dark blue line and the parabolic pattern reminiscent of the 2000-2002 Bubble.

The magenta line is the one year moving average of the Composite 10 index. If the Composite 10 index is above the One Year Moving Average, Housing Prices are in a Bull Market. If the Composite 10 Index is below the One Year Moving Average, Housing Prices are in a Bear Market. This is currently the case.

Still Unaffordable

According to a study looking at California Home Prices, many counties have incomes that are 50% of the income needed to afford the median priced home.

Previously, before the recent Credit Crunch, people were able to "afford" the homes based on loose underwriting standards, exotic mortgages, low promotional interest rates, and other adjustments. We are now experiencing the downside to this trend.

High Down Payments an Obstacle

Because of the recent Credit Crunch, Lenders have tightened lending standards. According to some, many people are trying to get financing, but they can't. Higher down payments are needed to buy homes now.

But how can these people afford the down payments when gas prices remain high, food prices remain high, the stock market is in a downtrend.

When combined with home prices remaining high and unaffordable, it will take some time before the housing market recovers.

Housing Annual Returns



According to Robert Shiller, author of Irrational Exuberance, and the Shiller in the Case-Shiller Index, from 1890 to 2007, the return on residential real estate was just about zero after inflation. Since 1987, it's been about 6 percent.

Robert Shiller also makes the case that if residential real estate returned 10 percent per year, houses would remain incredibly unaffordable.

In the Original Case-Shiller Composite 10 Index Chart above, there are two lines assuming 3% or 4% annual growth since 1987.

Future Housing Boom?

Is there hope for the future? Is there a future housing boom?

The stock market and the economy will eventually recover. Foreign investors, taking advantage of the cheap dollar, could start investing in U.S. properties.

Demographics will fuel the Next Housing Boom

But the real boom may be pushed by demographics.

Three major demographic groups include:

1. Baby Boomers (est: 1946-1964; 44 to 62 years old): 70 million
   
2. Generation X (est: 1965-1979: 29 to 43 years old): 17 million
   
3. Generation Y (est: 1979-1994: 14 to 29 years old): 60 million
   

As you can see, Generation Y comes close to the large Baby Boomer Demographic.

One of the major booms since 1890 (according to Yale Economist Robert Shiller), occurred after World War II as the demand for homes increased. This boom coincided with the boom of the Baby Boomer Generation.



Now, Generation Y, 2nd in size to the Baby Boomer Demographic, is going to be the right age to start families and buy homes. This might be an event similar to the era right after World War II when the Baby Boomers were growing up.

If we estimate that Generation Y would start buying homes between 26-29 years of age, then that would mean that greater number of Generation Y would be of age within around eight years from now.

After a lengthy period of time for the economy to recover, and for housing prices to stabilize or decline to a more stable and affordable level, there could be a future housing boom as Generation Y starts to buy homes.

Generation Y: The Big Opportunity

According to the Business Week article, Generation Y (or Millenials), are those born between 1979 and 1994 (As of 2007, they would be 13 to 28). In terms of numbers, they are the 2nd largest group in the United States after the Baby Boomers.

Some numbers:

1. Baby Boomers (est: 1946-1964): 72 million
2. Generation X (est:1965-1979): 17 million
3. Generation Y (1979-1994): 60 million

With 300 million people in the United States, if we add Baby Boomers and Generation Y, these two groups make up 44% (132M/300M) of the United States population.

Much attention has been given to making money on the Baby Boomers. But if we are to truly profit, we need to look at the demographics and profit from Generation Y as well.