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January 20, 2014

Superstition Ain't the Way

John P. Hussman, Ph.D.
All rights reserved and actively enforced.

Reprint Policy

“The problem with QE is that it works in practice but it doesn’t work in theory.”

- Ben Bernanke, Outgoing Federal Reserve Chairman, January 16, 2014

"When you believe in things that you don't understand, then you suffer. Superstition ain't the way."

- Stevie Wonder, Superstition, 1972

Bernanke clearly meant it as a joke, but it is also an unfortunate statement on recent monetary policy. It's poetic that Stevie Wonder recorded Superstition in 1972, just before the stock market fell by half. A few weeks ago, William Dudley made the same point as Bernanke – even the Fed doesn’t quite understand how quantitative easing works. What FOMC officials are really saying is that aside from a very predictable effect on short-maturity interest rates, there is no mechanistic link between the monetary base and any other variables – financial or economic – that they are trying to control. There is a sense that creating more monetary base helps stocks advance, and that this contributes to economic confidence. What’s missing is a transmission mechanism that operates through identifiable banking and economic channels – other than promoting a speculative reach-for-yield and the psychological exuberance that accompanies a bull market.

The fact is that Treasury bond yields are above where they were when QE2 was initiated in 2010, and year-over-year growth in non-farm payrolls, civilian employment, real GDP and real final sales have at best done little but hover at the thresholds that have historically bordered expansion and recession. Good economic policy acts to ease constraints that are binding, and monetary policy can clearly be useful in that regard – particularly during liquidity crises when depositors are rushing for cash. At present, however, quantitative easing acts by massively loosening a constraint that is not binding at all, drowning the economy with idle bank reserves that aren’t even desired. That’s going to have negative consequences.

The chart below shows the ratio of bank reserves to the M1 money supply. We are increasingly moving away from a “fractional reserve” banking system, as the relationship between reserve creation and lending has collapsed. Idle bank reserves now exceed the amount of demand deposits in the U.S. banking system by more than two-to-one, and exceed 25% of all deposits in the U.S. banking system. Keep in mind that these reserves don't "go into" the stock market (every buyer of stocks is matched by a seller who gets the cash). Rather, these reserves may change owners, but stay in the banking system in aggregate, depressing short-term interest rates, and resulting in a pool of zero-interest deposits that change hands from one uncomfortable holder to another.

The crux of the issue is this. QE only “works” to the extent that zero-interest liquidity is treated as an undesirable “hot potato,” forcing investors to seek yield by chasing increasingly speculative assets. Having achieved that end, easy money will do nothing to support stock prices in situations where investors actually find short-term liquidity desirable, or approach speculative assets with the slightest amount of risk-aversion.

Of course, part of the impression that QE is effective also traces to misattribution: the belief that it was responsible for avoiding “global financial meltdown.” As I noted in Did Monetary Policy Cause the Recovery?:

“The novelty of quantitative easing, and the misattributed belief that monetary policy ended the banking crisis, has created financial distortions where perception-is-reality, at least for now. We believe that the modifier ‘for now’ will prove no more durable than it was during the tech bubble or the housing bubble.

“A proper understanding of the credit crisis is essential. Much of the present faith in monetary policy derives from the belief that it was the central factor in ending the banking crisis during what is often called the Great Recession. On careful analysis, however, the clearest and most immediate event that ended the banking crisis was not monetary policy, but the abandonment of mark-to-market accounting by the Financial Accounting Standards Board on March 16, 2009, in response to Congressional pressure by the House Committee on Financial Services on March 12, 2009. The change to the accounting rule FAS 157 removed the risk of widespread bank insolvency by eliminating the need for banks to make their losses transparent. No mark-to-market losses, no need for added capital, no need for regulatory intervention, recievership, or even bailouts. Misattributing the recovery to monetary policy has contributed to a faith in its effectiveness that cannot even withstand scrutiny of the 2000-2002 and 2007-2009 recessions, and the accompanying market plunges. This faith is already wavering, but the loss of this faith will be one of the most painful aspects of the completion of the present market cycle.”

On Valuation

Ben Bernanke asserted last week that market valuations seem to be within historical ranges at the moment – which is true, if you take price/earnings ratios wholly at face value, with no adjustment for profit margins, and no consideration of the fact that stocks are long-lived claims on future cash flows. The problem here, as I detailed in An Open Letter to the FOMC: Recognizing the Valuation Bubble in Equities, is that the “equity risk premium” models embraced by Bernanke, Yellen and Greenspan are terribly unreliable compared with methods that account for the cyclical variation in profit margins. The fact is that even if year-to-year earnings are volatile, the discounted value of a long-term stream of those cash flows is very smooth. As a result, the most reliable valuation measures generally have a very smooth denominator. That’s why a dozen alternative measures are far better correlated with actual subsequent total returns (these include market cap/GDP, price/revenue, cyclically-adjusted P/E, price-to-record earnings, and others).

If one examines the errors of the Fed-embraced “equity risk premium” models, one immediately finds that those errors are highly (negatively) correlated with the level of profit margins. In other words, the higher profit margins are at any point in time, the worse actual subsequent market returns tend to be, compared with the returns implied by those models. That’s not a surprise. If you take cyclically elevated profit margins at face value, you’re going to overpay. This is the principal reason that the Fed overlooks valuation risks here.

The chart below shows corporate profits as a share of GDP, with a reminder of how elevated levels relate to subsequent profit growth. I can’t emphasize enough that the issue is not what happens to profits over just the next 4 years, however. The issue is whether current profit margins are representative of what investors should expect for the next 50 years. More on that below.

Past weekly comments have presented numerous valuation models that all have a roughly 90% correlation with actual subsequent 10-year market returns, based on properly normalized earnings, forward earnings, dividends, revenues, and so forth. All provide a uniform message:

We currently estimate a negative prospective total return for the S&P 500 on all horizons of less than 7 years, with prospective nominal total returns most probably within the range of 0-3% over the coming decade. Notably, these estimates draw from the same valuation methods that – in real time – correctly warned of negative 10-year returns in 2000, defended us against the bulk of the 2007-2009 collapse, and estimated positive 10-year prospective returns in the 10-14% range in early 2009 (our stress-testing response at the time was emphatically not driven by valuation concerns). At an index level, the S&P 500 is richer than it was in 1937, 1972 and 1987. Valuations are similar to those at the 2007 peak and all but the final weeks of the 1929 peak. Index valuations are clearly less extreme than in 2000, but even so, the overvaluation of the median stock has never been greater than at present.

Suppose you own a security that promises a $100 payment, 7 years from today. Your expected return on that security over the next 7 years depends on the current price. If people are paying more than $100 today for that $100 in the future, everyone holding that security may feel “wealthier” in the sense that current prices are high, but those current prices have also “eaten” the future return. In other words, the “wealth effect” of higher current prices comes at the cost of dismal future returns. As the 2000-2002 and 2007-2009 plunges should have made clear, once asset prices become richly valued relative to their properly discounted stream of future cash flows, the piper must be paid.

Criticize me for missed returns from my insistence on stress-testing our estimation methods against Depression-era data in 2009 - despite the fact that our existing methods had performed admirably. Criticize my refusal to believe that “this time is different” in the face of a syndrome of overvalued, overbought, overbullish, rising-yield conditions that have previously appeared exclusively at the 1929, 1972, 1987, 2000 and 2007 peaks. But don’t imagine that there is actually a mechanistic cause-and-effect relationship that links QE to stock prices. Don’t imagine that 7-10 year total returns for the market will be much better than zero, or assume that objective data can be discarded because of our stress-testing miss or the deferred market response to untenably exuberant market conditions. I expect that this will end badly, and there will be far better opportunities to accept risk for those who consider themselves disciplined investors rather than speculative lemmings who again squeak that “this time is different.”

A quick note on the Shiller P/E (the S&P 500 divided by the ratio of 10-year inflation-adjusted earnings). I’ve noted elsewhere that the reliability of this measure is enhanced by also adjusting it for the level of embedded profit margins, as even 10-year averaging doesn’t wipe out the effect of margin variations (see the final chart in Does the CAPE Still Work?). As a technical note, investors should be aware that S&P 500 index earnings declined by about 80% from 1916 to 1921, which has the effect of boosting the Shiller calculation in 1929 with a far greater impact than the very brief earnings declines of the past decade have done. None of our valuation arguments rely on the Shiller P/E, and several metrics are much more reliable (price/revenue being just one), but it’s a convenient measure because it’s readily available. Our own calculations prefer geometric 10-year smoothing to arithmetic, both because it performs better – particularly in post-Depression data – and it’s more sensible than discrete cut-offs for most applications.

Suffice it to say that even on the Shiller P/E, we’ve never seen higher valuations outside of a handful of weeks in 1929 and the period since the late-1990’s bubble. It bears repeating that the 2000-2002 decline wiped out the entire total return of the S&P 500 – in excess of Treasury bill returns – all the way back to May 1996. The 2007-2009 decline wiped out the entire total return of the S&P 500 – in excess of Treasury bill returns – all the way back to June 1995. Even if valuations were to move higher, there is little likelihood that investors will retain any of it. Combine similar valuations (even 30% lower than present levels) with lopsided bullish sentiment, steeply overbought prices, and upward pressure on Treasury yields, and one captures the most memorable market peaks in history. The red bars on the graph below identify other instances where we’ve observed similar overvalued, overbought, overbullish, rising-yield conditions. The green line shows the present level of the Shiller P/E.



My 17-year old daughter made an interesting comment the other day – “I feel like the problem you have is that you try to work honestly within a warped system, but in order to succeed in that system you need to have the same nature as it.” It’s certainly true that the Fed has encouraged reckless behavior and punished historically-informed investors for not going along. Fiduciary behavior is unrewarding here, and as a result, there is likely less of it. But we continue to patiently adhere to our discipline – confident in how both our pre-2009 methods and our present methods would have performed in this and prior cycles across history, in the absence of our awkward stress-testing transition earlier in this cycle.

My impression is that while recent Fed-induced market distortions are well-intended, they lack an adequate grasp of market history, valuation, and consequence. At least over the past couple of years, it’s probably also true that to succeed in this speculative episode has required investors to share that same nature. But over the longer run, market returns turn out to be quite obedient to valuation and historically-informed discipline (as was clearly demonstrated in 2000-2002 and 2007-2009), and I expect that the most durable investment gains will be achieved by sharing that more durable nature.

Regardless of my objections to the course of monetary policy, I think the Fed’s intentions are good, and I share Janet Yellen’s concern for the unemployed. I just believe that there is no demonstrable mechanism that reliably links the actions of the Fed to the outcomes it seeks, and that the unintended effects are greatly underestimated. If there is any lesson to be learned from the past 15 years, it is that the U.S. economy is desperate for scarce savings to be allocated toward productive investment and job creation, and that the economy is enduringly harmed by policies that divert investment activity toward speculative revelry. The impulse to address the collapse of one cyclical distortion through the creation of yet another has the consequence of structurally undermining the economy for a far longer period.

Meanwhile, there is unavoidable damage that is now baked into the cake, because FOMC members seem to be gauging stock valuations only in reference to current earnings without considering the effect of any normalization of profit margins – even decades from now. It’s an unfortunate situation, but unfortunate mainly because we’ve seen it before – nearly always at market peaks that we label, in hindsight, as reckless speculative carnivals. With the Fed now leveraged 74 times against its stated capital, and bond yields above the weighted average at which the Fed accumulated its assets (implying significant capital losses already), the Fed is late but correct to conclude that it has done more than enough.

A Note on Equity Durations

It’s particularly worth observing, in advance, that combination of a very long duration and a very low implied long-term rate of return on stocks creates a powder keg of severe risk and poor expected return here. The duration of the S&P 500 Index – a measure of both investment horizon and price sensitivity – is presently 50 years. Regardless of growth rates, one can demonstrate that if dividends are at least relatively smooth, the duration of stocks works out algebraically to be roughly the price/dividend ratio. For an extensive discussion of this concept, see Buy-and-Hold For the Duration?

Stocks are a claim on a very long-term stream of cash flows. Current earnings, reflecting profit margins about 80% above the historical norm, are not a useful sufficient statistic for those cash flows. Investors (or FOMC officials) who take them at face value must effectively assume that profit margins will remain at these extremes not just for a year or two, but for about five decades. Emphatically, durations rise with valuations, meaning that as stocks or bonds become more richly priced, they also become riskier and longer-term investments from a present-value standpoint.

For passive buy-and-hold investors who don’t hold any particular view about market direction, the general rule in financial planning is to align the duration of your assets with the duration of your liabilities (the horizon over which you’ll spend). For example, an investor that expects to start drawing from a retirement account 10 years from now, and then spend down the assets over the following 20-25 years, has an effective duration of something close to 20 years overall. A passive investor would target a similar portfolio duration. Given that stocks have a duration of about 50 years and 10-year bonds have a duration of about 9 years here, one could achieve a duration of about 20 years with a portfolio equally weighted between stocks, bonds and cash. Of course, our estimate is that the 10-year prospective return on such a portfolio is likely to be less than 2% annually, and we strongly believe that opportunities to achieve higher prospective returns at controlled durations will emerge over the course of the present market cycle. So our own preference is to align our durations more strategically, by extending them in response to high return/risk prospects and shortening them when – as we presently observe – return/risk prospects are dismal.

Low market durations are associated not only with high prospective returns, but also make equities appropriate for a larger fraction of a portfolio. The duration of the S&P 500 Index was just 7 years at the trough of the Depression in 1932, followed by market returns of about 34% annually over the next 5 years before overvalued, overbought, overbullish conditions (less extreme than today) prompted another plunge; the duration was 10 years in 1917, followed by market returns over 20% annually in the 12 years that led up to the 1929 crash; and the duration was 16 years at the 1982 trough, when the market returned 19% annually over the 18 years that preceded the 2000 peak.

In contrast, high market durations are associated with lower prospective returns, and also make equities appropriate for a smaller fraction of a portfolio. The duration of the S&P 500 was 33 years at the 1929 pre-crash peak; 37 years in January 1973, just before stocks lost half their value; 38 years at the August 1987 peak; 90 years at the 2000 peak, from which the S&P 500 has – even now – seen annual total returns averaging little more than 3% (with the likelihood of still another decade of similarly low returns); and 58 years at the 2007 peak. Again, the duration of the S&P 500 is presently 50 years – about double its historical average.

If you wonder why bear markets seem to be more severe since 2000 than in the past, it is because the high duration implies enormously larger price impact in response to increases in required risk premiums and expected returns. Risk premiums (estimated not using single-year earnings but far more reliable cyclically-adjusted methods) are now thinner than at any time other than the final advance to the 2000 peak, and about the same as they were in 1929 and 2007. The sensitivity of stock prices to any increase in required return is likely to be similarly breathtaking.

In honor and remembrance of Dr. Martin Luther King, Jr.

Dr. King noted that he tried to speak on the subject below at least once a year. That still seems an appropriate way to honor him. If you've never read Dr. King's writings, this talk is a good place to start.

Loving Your Enemies
November 17 1957

“I want to use as a subject from which to preach this morning a very familiar subject, and it is familiar to you because I have preached from this subject twice before to my knowing in this pulpit. I try to make it a, something of a custom or tradition to preach from this passage of Scripture at least once a year, adding new insights that I develop along the way out of new experiences as I give these messages. Although the content is, the basic content is the same, new insights and new experiences naturally make for new illustrations.

“So I want to turn your attention to this subject: "Loving Your Enemies." It's so basic to me because it is a part of my basic philosophical and theological orientation—the whole idea of love, the whole philosophy of love. In the fifth chapter of the gospel as recorded by Saint Matthew, we read these very arresting words flowing from the lips of our Lord and Master: "Ye have heard that it has been said, ‘Thou shall love thy neighbor, and hate thine enemy.' But I say unto you, Love your enemies, bless them that curse you, do good to them that hate you, and pray for them that despitefully use you; that ye may be the children of your Father which is in heaven."

“Over the centuries, many persons have argued that this is an extremely difficult command. Many would go so far as to say that it just isn't possible to move out into the actual practice of this glorious command. But far from being an impractical idealist, Jesus has become the practical realist. The words of this text glitter in our eyes with a new urgency. Far from being the pious injunction of a utopian dreamer, this command is an absolute necessity for the survival of our civilization. Yes, it is love that will save our world and our civilization, love even for enemies.

“Now let me hasten to say that Jesus was very serious when he gave this command; he wasn't playing. He realized that it's hard to love your enemies. He realized that it's difficult to love those persons who seek to defeat you, those persons who say evil things about you. He realized that it was painfully hard, pressingly hard. But he wasn't playing. We have the Christian and moral responsibility to seek to discover the meaning of these words, and to discover how we can live out this command, and why we should live by this command.

“Now first let us deal with this question, which is the practical question: How do you go about loving your enemies? I think the first thing is this: In order to love your enemies, you must begin by analyzing self. And I'm sure that seems strange to you, that I start out telling you this morning that you love your enemies by beginning with a look at self. It seems to me that that is the first and foremost way to come to an adequate discovery to the how of this situation.

“Now, I'm aware of the fact that some people will not like you, not because of something you have done to them, but they just won't like you. But after looking at these things and admitting these things, we must face the fact that an individual might dislike us because of something that we've done deep down in the past, some personality attribute that we possess, something that we've done deep down in the past and we've forgotten about it; but it was that something that aroused the hate response within the individual. That is why I say, begin with yourself. There might be something within you that arouses the tragic hate response in the other individual.

“This is true in our international struggle. Democracy is the greatest form of government to my mind that man has ever conceived, but the weakness is that we have never touched it. We must face the fact that the rhythmic beat of the deep rumblings of discontent from Asia and Africa is at bottom a revolt against the imperialism and colonialism perpetuated by Western civilization all these many years.

“And this is what Jesus means when he said: "How is it that you can see the mote in your brother's eye and not see the beam in your own eye?" And this is one of the tragedies of human nature. So we begin to love our enemies and love those persons that hate us whether in collective life or individual life by looking at ourselves.

“A second thing that an individual must do in seeking to love his enemy is to discover the element of good in his enemy, and every time you begin to hate that person and think of hating that person, realize that there is some good there and look at those good points which will over-balance the bad points.

“Somehow the "isness" of our present nature is out of harmony with the eternal "oughtness" that forever confronts us. And this simply means this: That within the best of us, there is some evil, and within the worst of us, there is some good. When we come to see this, we take a different attitude toward individuals. The person who hates you most has some good in him; even the nation that hates you most has some good in it; even the race that hates you most has some good in it. And when you come to the point that you look in the face of every man and see deep down within him what religion calls "the image of God," you begin to love him in spite of. No matter what he does, you see God's image there. There is an element of goodness that he can never slough off. Discover the element of good in your enemy. And as you seek to hate him, find the center of goodness and place your attention there and you will take a new attitude.

“Another way that you love your enemy is this: When the opportunity presents itself for you to defeat your enemy, that is the time which you must not do it. There will come a time, in many instances, when the person who hates you most, the person who has misused you most, the person who has gossiped about you most, the person who has spread false rumors about you most, there will come a time when you will have an opportunity to defeat that person. It might be in terms of a recommendation for a job; it might be in terms of helping that person to make some move in life. That's the time you must do it. That is the meaning of love. In the final analysis, love is not this sentimental something that we talk about. It's not merely an emotional something. Love is creative, understanding goodwill for all men. It is the refusal to defeat any individual. When you rise to the level of love, of its great beauty and power, you seek only to defeat evil systems. Individuals who happen to be caught up in that system, you love, but you seek to defeat the system.

“The Greek language, as I've said so often before, is very powerful at this point. It comes to our aid beautifully in giving us the real meaning and depth of the whole philosophy of love. And I think it is quite apropos at this point, for you see the Greek language has three words for love, interestingly enough. It talks about love as eros. That's one word for love. Eros is a sort of, aesthetic love. Plato talks about it a great deal in his dialogues, a sort of yearning of the soul for the realm of the gods. And it's come to us to be a sort of romantic love, though it's a beautiful love. Everybody has experienced eros in all of its beauty when you find some individual that is attractive to you and that you pour out all of your like and your love on that individual. That is eros, you see, and it's a powerful, beautiful love that is given to us through all of the beauty of literature; we read about it.

“Then the Greek language talks about philia, and that's another type of love that's also beautiful. It is a sort of intimate affection between personal friends. And this is the type of love that you have for those persons that you're friendly with, your intimate friends, or people that you call on the telephone and you go by to have dinner with, and your roommate in college and that type of thing. It's a sort of reciprocal love. On this level, you like a person because that person likes you. You love on this level, because you are loved. You love on this level, because there's something about the person you love that is likeable to you. This too is a beautiful love. You can communicate with a person; you have certain things in common; you like to do things together. This is philia.

“The Greek language comes out with another word for love. It is the word agape. And agape is more than eros; agape is more than philia; agape is something of the understanding, creative, redemptive goodwill for all men. It is a love that seeks nothing in return. It is an overflowing love; it's what theologians would call the love of God working in the lives of men. And when you rise to love on this level, you begin to love men, not because they are likeable, but because God loves them. You look at every man, and you love him because you know God loves him. And he might be the worst person you've ever seen.

“And this is what Jesus means, I think, in this very passage when he says, "Love your enemy." And it's significant that he does not say, "Like your enemy." Like is a sentimental something, an affectionate something. There are a lot of people that I find it difficult to like. I don't like what they do to me. I don't like what they say about me and other people. I don't like their attitudes. I don't like some of the things they're doing. I don't like them. But Jesus says love them. And love is greater than like. Love is understanding, redemptive goodwill for all men, so that you love everybody, because God loves them. You refuse to do anything that will defeat an individual, because you have agape in your soul. And here you come to the point that you love the individual who does the evil deed, while hating the deed that the person does. This is what Jesus means when he says, "Love your enemy." This is the way to do it. When the opportunity presents itself when you can defeat your enemy, you must not do it.

“Now for the few moments left, let us move from the practical how to the theoretical why. It's not only necessary to know how to go about loving your enemies, but also to go down into the question of why we should love our enemies. I think the first reason that we should love our enemies, and I think this was at the very center of Jesus' thinking, is this: that hate for hate only intensifies the existence of hate and evil in the universe. If I hit you and you hit me and I hit you back and you hit me back and go on, you see, that goes on ad infinitum. It just never ends. Somewhere somebody must have a little sense, and that's the strong person. The strong person is the person who can cut off the chain of hate, the chain of evil. And that is the tragedy of hate – that it doesn't cut it off. It only intensifies the existence of hate and evil in the universe. Somebody must have religion enough and morality enough to cut it off and inject within the very structure of the universe that strong and powerful element of love.

“I think I mentioned before that sometime ago my brother and I were driving one evening to Chattanooga, Tennessee, from Atlanta. He was driving the car. And for some reason the drivers were very discourteous that night. They didn't dim their lights; hardly any driver that passed by dimmed his lights. And I remember very vividly, my brother A. D. looked over and in a tone of anger said: "I know what I'm going to do. The next car that comes along here and refuses to dim the lights, I'm going to fail to dim mine and pour them on in all of their power." And I looked at him right quick and said: "Oh no, don't do that. There'd be too much light on this highway, and it will end up in mutual destruction for all. Somebody got to have some sense on this highway."

“Somebody must have sense enough to dim the lights, and that is the trouble, isn't it? That as all of the civilizations of the world move up the highway of history, so many civilizations, having looked at other civilizations that refused to dim the lights, and they decided to refuse to dim theirs. And Toynbee tells that out of the twenty-two civilizations that have risen up, all but about seven have found themselves in the junk heap of destruction. It is because civilizations fail to have sense enough to dim the lights. And if somebody doesn't have sense enough to turn on the dim and beautiful and powerful lights of love in this world, the whole of our civilization will be plunged into the abyss of destruction. And we will all end up destroyed because nobody had any sense on the highway of history.

"Somewhere somebody must have some sense. Men must see that force begets force, hate begets hate, toughness begets toughness. And it is all a descending spiral, ultimately ending in destruction for all and everybody. Somebody must have sense enough and morality enough to cut off the chain of hate and the chain of evil in the universe. And you do that by love.

“There's another reason why you should love your enemies, and that is because hate distorts the personality of the hater. We usually think of what hate does for the individual hated or the individuals hated or the groups hated. But it is even more tragic, it is even more ruinous and injurious to the individual who hates. You just begin hating somebody, and you will begin to do irrational things. You can't see straight when you hate. You can't walk straight when you hate. You can't stand upright. Your vision is distorted. There is nothing more tragic than to see an individual whose heart is filled with hate. He comes to the point that he becomes a pathological case. For the person who hates, you can stand up and see a person and that person can be beautiful, and you will call them ugly. For the person who hates, the beautiful becomes ugly and the ugly becomes beautiful. For the person who hates, the good becomes bad and the bad becomes good. For the person who hates, the true becomes false and the false becomes true. That's what hate does. You can't see right. The symbol of objectivity is lost. Hate destroys the very structure of the personality of the hater.

“The way to be integrated with yourself is be sure that you meet every situation of life with an abounding love. Never hate, because it ends up in tragic, neurotic responses. Psychologists and psychiatrists are telling us today that the more we hate, the more we develop guilt feelings and we begin to subconsciously repress or consciously suppress certain emotions, and they all stack up in our subconscious selves and make for tragic, neurotic responses. And may this not be the neuroses of many individuals as they confront life that that is an element of hate there. And modern psychology is calling on us now to love. But long before modern psychology came into being, the world's greatest psychologist who walked around the hills of Galilee told us to love. He looked at men and said: "Love your enemies; don't hate anybody." It's not enough for us to hate your friends because—to to love your friends—because when you start hating anybody, it destroys the very center of your creative response to life and the universe; so love everybody. Hate at any point is a cancer that gnaws away at the very vital center of your life and your existence. It is like eroding acid that eats away the best and the objective center of your life. So Jesus says love, because hate destroys the hater as well as the hated.

“Now there is a final reason I think that Jesus says, "Love your enemies." It is this: that love has within it a redemptive power. And there is a power there that eventually transforms individuals. That's why Jesus says, "Love your enemies." Because if you hate your enemies, you have no way to redeem and to transform your enemies. But if you love your enemies, you will discover that at the very root of love is the power of redemption. You just keep loving people and keep loving them, even though they're mistreating you. Here's the person who is a neighbor, and this person is doing something wrong to you and all of that. Just keep being friendly to that person. Keep loving them. Don't do anything to embarrass them. Just keep loving them, and they can't stand it too long. Oh, they react in many ways in the beginning. They react with bitterness because they're mad because you love them like that. They react with guilt feelings, and sometimes they'll hate you a little more at that transition period, but just keep loving them. And by the power of your love they will break down under the load. That's love, you see. It is redemptive, and this is why Jesus says love. There's something about love that builds up and is creative. There is something about hate that tears down and is destructive. So love your enemies.

“There is a power in love that our world has not discovered yet. Jesus discovered it centuries ago. Mahatma Gandhi of India discovered it a few years ago, but most men and most women never discover it. For they believe in hitting for hitting; they believe in an eye for an eye and a tooth for a tooth; they believe in hating for hating; but Jesus comes to us and says, "This isn't the way."

“As we look out across the years and across the generations, let us develop and move right here. We must discover the power of love, the power, the redemptive power of love. And when we discover that we will be able to make of this old world a new world. We will be able to make men better. Love is the only way. Jesus discovered that.

“And our civilization must discover that. Individuals must discover that as they deal with other individuals. There is a little tree planted on a little hill and on that tree hangs the most influential character that ever came in this world. But never feel that that tree is a meaningless drama that took place on the stages of history. Oh no, it is a telescope through which we look out into the long vista of eternity, and see the love of God breaking forth into time. It is an eternal reminder to a power-drunk generation that love is the only way. It is an eternal reminder to a generation depending on nuclear and atomic energy, a generation depending on physical violence, that love is the only creative, redemptive, transforming power in the universe.

“So this morning, as I look into your eyes, and into the eyes of all of my brothers in Alabama and all over America and over the world, I say to you, "I love you. I would rather die than hate you." And I'm foolish enough to believe that through the power of this love somewhere, men of the most recalcitrant bent will be transformed. And then we will be in God's kingdom.”

The foregoing comments represent the general investment analysis and economic views of the Advisor, and are provided solely for the purpose of information, instruction and discourse. Only comments in the Fund Notes section relate specifically to the Hussman Funds and the investment positions of the Funds.

Fund Notes

The Hussman Funds continue to be strongly defensive toward equities, with Strategic Dividend Value Fund limited to hedging about 50% of its equity exposure. Strategic Total Return Fund remains modestly constructive toward bonds and precious metals shares, but we there is presently no investment sector that we view as an aggressive opportunity. This will change as valuations and market conditions shift. As I’ve frequently noted, our strongest estimates of prospective market return/risk tend to emerge when a moderate to significant retreat in valuations is coupled with an early improvement in market action on measures that capture the uniformity and divergence across individual securities, sectors, and security types. Our most negative estimates correspond to overvalued, overbought, overbullish, rising-yield conditions as we observe presently. In my view, this is the wrong time for investors to accept significant investment risk in the pursuit of return. Conditions are unusually speculative from a historical standpoint, but again, these conditions will change, and we will respond proportionately.

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Prospectuses for the Hussman Strategic Growth Fund, the Hussman Strategic Total Return Fund, the Hussman Strategic International Fund, and the Hussman Strategic Dividend Value Fund, as well as Fund reports and other information, are available by clicking "The Funds" menu button from any page of this website.

Estimates of prospective return and risk for equities, bonds, and other financial markets are forward-looking statements based the analysis and reasonable beliefs of Hussman Strategic Advisors. They are not a guarantee of future performance, and are not indicative of the prospective returns of any of the Hussman Funds. Actual returns may differ substantially from the estimates provided. Estimates of prospective long-term returns for the S&P 500 reflect our standard valuation methodology, focusing on the relationship between current market prices and earnings, dividends and other fundamentals, adjusted for variability over the economic cycle (see for example Investment, Speculation, Valuation, and Tinker Bell, The Likely Range of Market Returns in the Coming Decade and Valuing the S&P 500 Using Forward Operating Earnings ).


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