This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on September 26 - October 2, 2016.
There has been widespread speculation that the next financial crisis is just around the corner. This is due to the unsustainable monetary policies many central banks have adopted to taper the effects of roiling markets.
While measures such as quantitative easing (QE) have helped stimulate the US economy, industry observers note that they may not be sustainable in the long run as global recovery has been subpar and there is a widening wealth inequality gap.
Derick Tan, a practitioner of cycle analysis, says these measures will cease to be effective in the near future. “Former Federal Reserve chairman Ben Bernanke found that the root cause of the Great Depression was deflation. So, he applied QE in 2008 to stimulate the US economy. It worked at the time. But if you observe globally, it may not be sustainable in the long run.
“The Bank of Japan (BoJ) has imposed negative interest rates, is printing a lot of money and pumping it into the Nikkei so that the stock market does not collapse. The Fed is also in a conundrum. If it raises interest rates too much too fast, it will trigger a market crash. If it does not, we will see a collapse in pension funds globally.”
According to Tan, this will eventually lead to the next sovereign debt crisis, which could occur sometime next year. He says this is based on Martin Armstrong’s “86-year sovereign debt crisis cycle”.
“Eighty-six years ago, in 1931, the Great Depression was set off by a ripple of sovereign bond defaults that began in Austria and spread to Greece, the UK, Europe and finally the US.
“In 1845, which is 86 years before 1931, Greece also defaulted on its sovereign bond to the French, Russian and British governments. As a result, Greece was denied access to the international market for decades.
“During this interregnum, the Greek government borrowed heavily from the National Bank of Greece and became dependent. Soon, its borrowings escalated and so did the interest rates — twice the international lending rate.
“With the events currently happening in Europe such as the Greek bankruptcy, Brexit and QE by central banks, we could expect the sovereign debt crisis to come to a head next year, which happens to be 86 years after 1931.”
Cycle analysis
Tan has studied and conducted cycle analysis on financial markets and trends for several years. He explains that unlike fundamental or technical analysis, cycle analysis focuses on economic and financial trends based on historical events. This, he says, helped him to accurately predict the fall in oil prices last year as well as the rise in gold prices, although he is reluctant to divulge too much.
Tan discovered cycle analysis when he was working as an engineer. “Generally, engineers do not earn much in Singapore, so quite a number of them choose to moonlight as property and insurance agents. I chose to invest in stocks because it does not require me to convince anyone or be rejected by anyone. I have found success and have been trading and investing full-time for 17 years now.
“As I was researching how I could grow my wealth, I discovered that most of the wealthiest people in the world were of the Jewish faith. So, I delved into the Torah, the Jewish holy book, and stumbled upon the seven-year sabbatical cycle. This is a commandment to the Jewish people that work be carried out for six years and the rewards or harvest reaped only in the seventh year, ad infinitum.”
So, he decided to compare the cycle with socio-political and economic events and found that major events affected the global economy every seven years. “In 2008, the US subprime mortgage crisis happened. And in 2001, the Sept 11 terrorist attack on the World Trade Centre triggered a major stock sell-off. In 1994, there was a bond crisis and in 1987, there was a major stock market crash called Black Monday. I started to see a pattern and began researching further.
“I even went to the US to meet Martin Arthur Armstrong, the former chairman of Princeton Economics International Ltd. He is known for his economic forecasting based on the Economic Confidence Model. I also enhanced my cycle analysis knowledge through the works of the Foundation for the Study of Cycles, founded by the father of cycle analysis, Edward R Dewey.”
Confident that cycle analysis is a reliable concept, Tan has decided to teach it to the general public. “I realised that the further you go into the past, the further you can go into the future. History will always repeat itself, especially in the financial markets, because how human beings react to market events, such as greed and fear, is universally the same. This will result in recurring patterns and periodical repetition, which can be used to forecast the timing and turning points of different asset classes,” he says.
Breaking down the cycles
According to Tan, he has incorporated several types of cycles, which were discovered by statisticians or economists, into his cycle analysis.
“First, there is the seven-year cycle, also known as the Sabbatical Cycle. It predicts major events that could impact the economy,” he says.
“Second, within the Sabbatical Cycle, there is the 3½-year Kitchin Cycle. It was uncovered by businessman and statistician Joseph Kitchin in 1923. It predicts secondary events that could impact the economy.
“Third, there is the 50-year Jubilee Cycle, also known as the seventh cycle of the Sabbatical Cycle. It predicts major market crashes.
“Other cycles included in my cycle analysis are the 86-year Sovereign Default Cycle and Schumpeterian Cycle of Innovation, which measures the pace of innovation versus time. It was discovered by Joseph Schumpeter in 1927.”
Tan says that by having an understanding of economics, of how factors such as the inflation rate and unemployment numbers impact immigration and central bank policies, investors could make better investment decisions as it paints a big picture of the flow and ebb of finance. “By combining cycle analysis with technical analysis and fundamental analysis, it gives you a three-dimensional picture of where the market is headed. Thus, you will develop more confidence in trading and be able to maximise your profit.”
All of the cycles point to a deep recession between 2017 and 2022, he says. And if history repeats itself, it will happen in three phases.
“In the first phase, I foresee Europe experiencing a sovereign debt crisis. Greece is basically bankrupt due to its inability to honour its debt. Portugal is currently facing a banking crisis. Spain is experiencing unemployment and a debt crisis. Italy has €360 billion worth of non-performing loans and its public debt level is 133% of its gross domestic product (GDP). And France and Germany’s socio-political issues such as refugee immigration could spill over into economic instability,” says Tan.
“During the second phase, Japan will experience a recession due to the sovereign debt crisis as well. This will be due to spillover effects from the recession in Europe as it is Japan’s second largest trading partner, and because Japan has the highest debt-to-GDP at US$9 trillion. This will cause money to flow to the US as the market is perceived as a safe haven in times of crisis.
“In the third phase, the US is predicted to experience a sovereign debt crisis. It has accumulated US$19 trillion in debt and both its medical care and social security programmes will turn into deficit next year. This will see its national debt skyrocket to US$200 trillion, lead to a collapse in confidence in the US government and ultimately, a sovereign debt crisis.”
Benefiting from the crisis
Tan says the crisis will be a positive for China and Asean because when the US experiences a sovereign debt crisis, investors will channel their money to this part of the world. “When the US loses its economic stronghold, China — the second largest economy and the largest holder of US treasuries — will take over as the world’s leading market. Its economic power will be further strengthened when the New Silk Road — or the One Belt, One Road project — is established.
“As Asean is strategically placed within the New Silk Road, it will be able to ride China’s economic affluence as the region is rich in commodities. Thus, we can expect commodity prices to rise in the future.
“[I predict that] during the first and second phase of the sovereign debt crisis, the US dollar will strengthen due to the influx of capital from Europe and Japan into the US. Because of this capital flow seeking safety as well as profit, I believe the Dow Jones Industrial Average could rise up to 30,000 points [in the years to come].”
Tan suggests buying commodities such as gold and silver as well as hedge investments using exchange-traded funds to ride out the recession. “My suggestion is, do not invest in the government bonds of Europe, Japan or the US. Commodity stocks, I believe, are a good buy as prices will rise in the years to come. Also, while waiting for commodity prices to rise, such as gold, which is a hedge against the collapse in confidence of governments, we can track its price rally through ETFs such as SPDR Gold Shares.”
He also predicts that when the US loses its economic dominance, a new reserve currency will emerge. “I foresee that it may not be a single currency, but a basket of currencies that would most likely include the US dollar, renminbi, yen and pound sterling, and probably gold,” he says.
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