Watch Out – Even This Rally Parallels The Great Depression

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By, Simon Maierhofer Aug 05, 2009 “If I would have just stayed in cash” were the thoughts of many who tried to go bargain hunting during the Great Depression. The parallels between today and the 1929 – 1932 meltdown are eerily similar. This rally is nearly an exact replica of the six month, 48% rally seen in 1930. A false sense of security, lead to yet another staggering loss.

It’s been said that history does not always repeat itself, but it does rhyme. It’s also been said that those who don’t learn from history are doomed to repeat it. How is this for historic irony, the first leg of the Great Depression reduced the Dow Jones (DJI: ^DJI) by 48%. The subsequent rally lifted the Dow by over 40%. Fast forward and you will find that the first leg of this recession melted the Dow Jones (NYSEArca: DIA), S&P 500 (SNP: ^GSPC), and Nasdaq (Nasdaq: ^IXIC) by just over 50%, while the rally from the March lows – reminiscent of the 1930s rally - also propelled a 40%+ rise in the major benchmarks. For those hoping that the parallels end there, I’d like to quote Billy Mays, “But wait, there’s more!” The stock market – bait-and switch at its best To understand the full severity of what’s at stake for investors, consider what author John Kenneth Galbraith observed about counter trend rallies during the Great Depression. While you read this, think about a bait-and switch trap. As the word implies, a trap is less than obvious, otherwise it would fail its purpose as a trap. “Nothing could have been more ingeniously designed to maximize the suffering, and also to insure that as few as possible escaped the common misfortune.” We will quote another of his sobering observations in a moment, but first let’s see what the parallels were between 1929 – 1932 and 2007 onwards. Put history on your side Easy money, used first for real estate and then for stock market speculations, was the pump that fed the great bubbles leading up to the 1920’s crash and mid 2000’s crash. Real estate prices - as reflected by the Vanguard REIT ETF (NYSEArca: VNQ) and iShares DJ US Real Estate ETF (NYSEArca: IYR) – topped in 2005, two years before the stock market. The great real estate boom of the 1920s, topped in 1926 three years before stocks. Even back then, new and exotic product structures allowed investors to leverage their real estate investments in never before seen fashion. Florida was the hot bed back then and is so today. The AP reported that a southwest Florida condominium high-rise has 32 stories, but just 1 tenant. In the 1920s, Florida marshland was subdivided and readied for building when the buyers dried up.

Don’t look, but the economy is deteriorating

Every single sector of the real economy is deteriorating, whether it is unemployment, production, corporate profits, real estate, credit defaults, federal deficits, or construction. The discrepancy between fact and fiction is seen by the SPDR Homebuilders ETF (NYSEArca: XHB). Builders have nothing to build, yet XHB has rallied over 30% in less than 30 days.

With almost a year of housing inventory yet unclaimed, one wonders who is supposed to be buying homes. Unemployment rates - calculated the way the government used to do it before it was changed in the 1990s – pegs the real unemployment rate around 20%, or 30 million people. During the Great Depression, unemployment reached 25%, the non-farm peak figure of the 1930s clocked in at 35%.

If you think 30 million unemployed is bad, consider the following which puts a face on an otherwise stale statistic. Each of the 30 million unemployed US residents probably supports a family, whether a spouse with children, or just a spouse. Based on 2-4 dependants per unemployed worker, a range of 60 to 120 million Americans are already affected by unemployment; that’s 20 - 40% of the US population.

But wait – there is more

Research shows that the decline in industrial production over the last nine months has been as bad, if not worse than the nine month following the 1929 peak. The world stock markets have fallen even faster this time around, compared to 70 years ago. The volume of world trade is drying up at a faster pace than the Great Depression and government surpluses are the lowest in 100+ years.

I know this sounds paradox, especially since broad market indexes such as the S&P 500 (NYSEArca: SPY) and leading sector ETFs such as the Technology Select Sector SPDRs (NYSEArca: XLK), Financial Select Sector SPDRs (NYSEArca: XLF), and Consumer Discretionary Select Sector SPDRs (NYSEArca: XLY) have been on a tear for several weeks now.

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