Albert Edwards, the Societe Generale economist known for his dire predictions, warns that stocks will plunge 75 percent if the U.S. economy could plunge into a recession sparked by global deflation and weak U.S. manufacturing output.
"(Quantitative easing in the U.S.) may not have done much to boost U.S. growth, but it certainly inflated global asset prices into the stratosphere," he said in the note, CNBC
The main thrust of the thesis is that central bankers inflated asset prices after the 2008 crisis and didn't let stocks hit the lows they should have done, Business Insider
"Central banks also caused a huge debt bubble to expand in the emerging markets and China, which is now pressuring emerging-market currencies to devalue, which could lead to a deflationary spiral and a U.S. recession," BI said. "Now that central banks have used up their ammunition to prop up stocks, asset prices will fall dramatically if the recession does hit. Stocks will be valued at seven times earnings."
Edwards thinks the U.S. is on the brink. Weak manufacturing data is the warning sign.
"When an economy is hurtling towards recession it is almost always the manufacturing sector that takes the less volatile services sector by the hand and leads it into a recessionary underworld," BI said.
"If I am right, the S&P would fall to 550 (points), a 75 percent decline from the recent 2,100 peak. That obviously will be a catastrophe for the economy via the wealth effect and all the Fed's QE hard work will turn (to) dust," he warned.
The S&P is already in correction mode, falling more than 10 percent from its recent high. The S&P 500 lost 48.4 points, or 2.5 percent, Wednesday to 1,890.28. The S&P 500 is now down 11.3 percent below its May 21, 2015, closing lifetime high.
Meanwhile, Edwards sees a full blown trade war "not unlike that in the 1930s" on the horizon.
"If I am right and we have just seen a cyclical bull market within a secular bear market, then the next recession will spell real trouble for investors ill-prepared for equity valuations to fall to new lows," he added, using the cyclically adjusted price-to-earnings ratio, known as Shiller P/E, for his gloomy prediction on the S&P 500, CNBC explained.
"The Fed will fight the next bear market with every weapon available including deeply negative Fed Funds rates in addition to more QE. Indeed, negative policy rates will become ubiquitous," he said.
Meanwhile, other experts aren't as gloomy and expect the market to eventually recover.
The plunge in U.S. stock markets are an “emotional response” obscuring expansion in both the American economy and corporate profits, said Abby Joseph Cohen, president of Goldman Sachs Group Inc.’s Global Markets Institute.
The fair value for Standard & Poor’s 500 Index is 2,100, Cohen said. The benchmark last closed above that level on December 1 and has fallen 10 percent since, after turbulence in China’s stocks and currency spurred a global market rout.
“What is happening is really very much an emotional response,” Cohen told Elliot Gotkine on Bloomberg Television. “We need to put things into perspective. Stocks are probably the best place to be.”
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