Stock Markets Plunge - The Economic "Red Wedding" Begins

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MoneyMorning.com Michael E. Lewitt writes: I love being right…Does that make me a bad person?

I have been warning for months that the market is overvalued, that the global economy is sick, and that stocks are headed for a fall. While CNBC and the rest of the clueless bulls break out the arm-bands, readers at Money Morning – who have been paying attention – should not have been surprised by what happened last week.

The collapse in commodity prices that began a year ago was a raging canary in the coal mine, screaming that something was wrong in the global economy. And that was the faltering of Chinese growth, which all along had been built on a fragile foundation of debt.

Just as I forecast two weeks ago, U.S. stocks saw their biggest weekly losses in four years. The Dow Jones Industrial Average plunged -5.8% or more than 1000 points to close at 16,459.75 and is now officially in correction territory, down more than 10% from its recent sugar high. The S&P 500 was not far behind, falling -5.77% to 1970.89. The S&P 500 is now down 4% on the year and has generated a negative return over the last 12 months. The high-flying Nasdaq Composite Index lost even more last week, collapsing by -6.78% to 4706.04. The small cap Russell 2000 fell -4.6% to 1156.79.
But these numbers don't convey the hard, cold reality of the losses. Let's put some meat on the bones. The U.S. stock market lost $1.4 trillion in value last week according to Wilshire Associates, with more than half the loss coming in Friday's rout.

The world's favorite company and investors' favorite stock, Apple (Nasdaq: AAPL), has lost $72 billion in market cap from its recent high while Facebook, (Nasdaq: FB), Amazon.com (Nasdaq: AMZN), Netflix (Nasdaq: NFLX) and Google (Nasdaq: GOOG) lost a combined $100 billion.

China Syndrome has Spread

China's debt has increased by at least $20 trillion since the financial crisis, but China's numbers are notoriously unreliable and opaque. The figure is likely much higher. A debt-fueled boom is bound to bust and that is exactly what happened beginning in mid-2014. The first symptom of this was the collapse in the prices of commodities like oil, iron ore, copper and aluminum over the second half of last year.

Despite this obvious warning sign that the global economy was heading to another downturn, stock market investors chose to keep worshipping false idols – the world's central bankers. These are the same people who sit around fancy conference tables debating whether inflation is too low when, if they looked out the window, they would see that the prices of virtually everything other than gasoline has been raging higher for years. The blind have been leading the blind and the brick wall is now right in front of them. As they say in the comic books – KABOOM!

While there are other reasons for the stock market to sell-off – over-valuation, weak U.S. economic growth, etc. – the real culprit is China. And what ails China is not going to be fixed. Chinese authorities have already panicked twice. The first time resulted in a series of ham-handed moves that destroyed the free market mechanisms of the country's stock markets (and naturally didn't work).

The second time we saw the devaluation of the yuan, which sent a signal to the world that the Chinese economy was sicker than it had previously admitted. The Chinese may well launch further stimulus moves, but there is little they can do to stop a debt-engorged economy from slowing further.

The Naiveté of Neglect

The recent chemical explosion in Tianjin was also one of those remarkably timed events that demonstrate all that is wrong with China's economic model. Not only was a hazardous chemical warehouse built dangerously close to residential neighborhoods, but it was obviously poorly regulated.

This is typical of a country that, in addition to burying itself in nearly $30 trillion of debt, has also destroyed much of its physical environment during its so-called economic miracle. And after the facility blew up – killing more than 100 people and poisoning the surrounding air and water – the government resorted to its usual modus operandi and lied about what happened and the risks it posed to its citizens.

The world should not be as gullible as Chinese citizens who are under the thumb of a totalitarian regime, which can jail them (or worse) with little pretext. China's economic numbers are phony and the country is in serious economic trouble.

Why does that matter to investors in the United States? Because China has been the marginal buyer of everything from commodities to iPhones over the last few years. That role is now coming to an end. We've seen the effects of that in the prices of oil, iron ore, copper and other commodities. We are going to see more effects as many companies that were relying on China for growth start to report that, as Gertrude Stein famously said…there is no there there.

The Red Wedding has commenced but it is not over yet.

Source http://moneymorning.com/2015/08/23/the-economic-red-wedding-begins/

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