Research & Commentary

Deflation: Elliott Wave International Versus the Consensus

“The risks to today’s investors are tremendous and cannot be overstated.”

A poll of 60 economists reveals that they all agree that a recession will not happen any time soon. Also, the Fed has stopped worrying about a Japan-like deflation. Does that mean we should all rest easy? Well, not so fast …

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[Editor’s note: The text version of this video is below.]

No recession. No deflation. At least, not any time soon, according to a group of economists and the Fed.

Let’s take you back to an April 16 Wall Street Journal headline:

“Fed Officials Dispel Specter of Deflation”

Plus, a group of economists recently joined the chorus about the likelihood of a recession, and they all shared the same view.

The June 2018 Elliott Wave Financial Forecast, a monthly publication written by EWI’s Chief Market Analyst Steve Hochberg and Pete Kendall, said this:

According to a Bank of America/Merrill Lynch poll, just 2% of fund managers said a recession will happen by the end of 2018. Among economists, this belief is even more dominant. In fact, it is unanimous. A survey conducted by The Wall Street Journal from May 4 to May 8, found that not one of sixty economists expects the economy to enter a recession in 2018. … Most are sure that the economy will continue to expand until sometime in 2020.

Let’s also throw in this June 1 CNBC headline:

“The US economy suddenly looks like it’s unstoppable”

Now, the Fed and the economists might be right. Yet their collective outlook may simply be a linear projection of today’s trend into tomorrow. For example, the jobless rate fell to 3.8% in May. So, the prevailing view is that the next round of economic news will also be “good.”

But, as history has shown time and again, trend changes in markets and the economy usually arrive when they are least expected.

EWI founder and president Robert Prechter writes the monthly Elliott Wave Theorist. He has said,

Linear extrapolation makes most people convinced of the continuation of a … trend when it is in fact at an extreme. … A consensus of opinion coupled with evidence of widespread linear extrapolation is a reason to suspect a trend extreme, and therefore a turn, is at hand.

That recent survey of economists which shows no fear of a recession any time soon certainly represents a consensus of opinion.

So: Do EWI’s analysts see signs that a downward economic turn — even deflation — is at hand? Yes, they do.

First, be aware that financial history shows that the stock market leads the economy. In other words, a bull market leads to a strong economy, and a bear market leads to a weak economy. If a bear market is extraordinarily severe, a deep recession or even an economic depression could follow.

With that in mind, the Elliott wave model is sending a major warning about the stock market.

Beyond stocks, let’s return to the June Elliott Wave Financial Forecast:

Credit quality is so degenerated that even the credit ratings agencies are commenting on the surging risk. A record-high 80% of all new leveraged loans in 2017 were covenant-lite, meaning that covenants that protect lenders in the event of default are either diminished or missing altogether. “This is not an oversimplification, today’s vintage of leveraged loan covenants is nothing like anything we’ve ever seen, even when compared to the frothy loan market a decade ago,” observes an analyst at Moody’s. He adds, “The risks to today’s investors are tremendous and cannot be overstated.”

The amount of low-quality debt in the financial system — combined with an epic complacency — strongly suggests that a major wave of defaults is just around the corner.

The carnage may be far worse than the credit agencies expect.

Even as the economy appears strong, the setup is already in place for a major deflation.

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