Financial analysts and investment bankers love to predict the year coming. They have the illustrious track record of predicting the future correctly less than 20% of the time. This is a very low rate and therefore something that should not be taken too seriously, but the average person on the street listens with intent and then bases their decisions on these guesses.
So why predict? Well you have to have something to base your company growth (or lack there of) on. Furthermore, in the world of investments, your outlook is critical in planning where to allocate investment dollars for the coming year. Now as a trader I tend to hold an outlook only for as long as it takes to find some anecdotal evidence that my views are wrong and then I change gear. But with that said I will give it my best shot and we will see where we end up at the end of 2011.
My first prediction is that Santa will show up again and will place presents under trees all around the world. How many is the question that needs answering? It appears that the season will be relatively strong but for select products. For example, Microsoft's new Kinect video game product is flying off the shelves whereas Blackberry is struggling so be careful which retail stocks you buy.
Prediction two is that the Federal Reserve will blow through its next $600 billion with limited impact other than on stocks and commodities. It appears that even bad news is being rewarded in the stock market. To use one of Yogi Berra's quotes, "It's Deja vu all over again." Apparently any news is good news for the stock market as bad news means more easing and good news is always good! Well this is the same type of hysteria that occurred prior to the 2000 crash and the 2007 crash. Sure the Federal Reserve is printing money and interest rates are still being held artificially low, but the desired effect of lowering unemployment and supporting housing has not happened so in a last ditch effort the Federal Reserve is turning its attention to the markets.
They will create another bubble and they are already doing so. Take Salesforce.com as an example. It is trading at a price to earnings ratio of over 250 and its CEO is selling $1.5 million of stock every day, but the price continues to spiral higher. Does anyone remember CMGI or WorldcCom or any of the other myriad of higher fliers from 1999? I think you get the picture. This will not last and the Federal Reserve is setting us up for the biggest crash the world has ever witnessed.
Prediction three is that the market will continue higher for the first quarter of 2011. This is completely due to the continued printing from the Federal Reserve. This could be offset by the continuous plunge in the price of the long bond, but I believe that the Federal Reserve will soon turn its attention to propping up the price of these bonds. They have to or face the problem of a completely lopsided market where short term rates are at or near zero while 30-year rates move beyond 5%.
Prediction four is that at some point the USD will crater. A loss of faith in the US economy and continued money printing has to result in a weak dollar. This will drive inflation to an uncomfortable level at which point the Federal Reserve will have lost the battle.
Prediction five is that by year-end the market will sell off violently and we will experience a serious correct and maybe a complete collapse as all faith in US policy makers is lost.
What could change this outlook? A more austere government, a Federal Reserve that stops printing money and supports the dollar, a rapidly improving unemployment rate and a bottoming of housing prices. In fact I believe that we will need all of these things to happen to save us. What are the chances of this happening? In my view slim to none, but that is the peril of predicting, no sooner have you thrown your hat into the ring than everything changes. One thing I will say is that while all of this may not happen in 2011 it will occur at some point and delaying the inevitable will only make the drop worse.
Regardless of what happens be prepared to move with the changes, protect your downside and do not get too greedy. As the old axiom of the stock market says, "the bulls make money, the bears make money while the pigs get slaughtered." Happy holidays, see you all next year.
Tuesday, December 21, 2010
Tuesday, December 14, 2010
PPI Spike - Cause for Alarm?
Today it was reported that the Producer Pricing Index (PPI) increased 0.8% in November. This is the strongest increase since March and was well above consensus. Federal Reserve officials were quick to discount this spike as a one off and no cause for alarm. It is the opinion of this blog that this is the first sign of inflation (see blog Inflation Is Coming 10/14/10).
Now while one data point does not make a trend the signs for inflation are starting to feed into the numbers. Digging deeper into the numbers reveals the cause of the spike was energy and food. Readers of this blog should not be surprised as most commodity prices have been trending higher for months. Oil is over $90 per barrel, copper is up 31% since August, wheat, corn and soybeans are near highs, cotton is limit up today and almost at multi-year highs, sugar and cocoa are near to multi-year highs, so what exactly is surprising?
To me the most fascinating part of it all is that our so called "leaders" at the Federal Reserve continue to bury their heads in the sand and claim that they have everything under control. Australia, China, Brazil and other emerging markets are all trying to tame inflation while we continue to aimlessly print money. Now is this printing working?
One of the main uses of the money is to keep US interest rates low by buying US treasury debt. Looking at the 30-year Treasury Bond and the 10-year Treasury Note shows a completely different picture. The yields on these and other bonds around the globe are rising rapidly even with the Federal Reserve trying to keep them low. The market is essentially snubbing its nose at Bernanke and his team and is pointing to a rapid rise in inflation.
It is my contention that in the near term inflation will start to surge forcing the Federal Reserve's arm to look into raising rates. This could take effect by the middle of 2011 and would cause the market to sell off sharply. While I am no soothsayer, the signs are there, the bubbles are being created and a misstep at this stage of the recovery would put the economy into a tailspin.
Now while one data point does not make a trend the signs for inflation are starting to feed into the numbers. Digging deeper into the numbers reveals the cause of the spike was energy and food. Readers of this blog should not be surprised as most commodity prices have been trending higher for months. Oil is over $90 per barrel, copper is up 31% since August, wheat, corn and soybeans are near highs, cotton is limit up today and almost at multi-year highs, sugar and cocoa are near to multi-year highs, so what exactly is surprising?
To me the most fascinating part of it all is that our so called "leaders" at the Federal Reserve continue to bury their heads in the sand and claim that they have everything under control. Australia, China, Brazil and other emerging markets are all trying to tame inflation while we continue to aimlessly print money. Now is this printing working?
One of the main uses of the money is to keep US interest rates low by buying US treasury debt. Looking at the 30-year Treasury Bond and the 10-year Treasury Note shows a completely different picture. The yields on these and other bonds around the globe are rising rapidly even with the Federal Reserve trying to keep them low. The market is essentially snubbing its nose at Bernanke and his team and is pointing to a rapid rise in inflation.
It is my contention that in the near term inflation will start to surge forcing the Federal Reserve's arm to look into raising rates. This could take effect by the middle of 2011 and would cause the market to sell off sharply. While I am no soothsayer, the signs are there, the bubbles are being created and a misstep at this stage of the recovery would put the economy into a tailspin.
Monday, December 6, 2010
QE3 Already?
This weekend the "chief" of the Federal Reserve Bank, Ben Bernanke, spoke of a possible round three to the quantitative easing program. I say "chief" as it is becoming more and more obvious that he is a one man team on a mission to prove a point regardless of the costs. He is an "expert" on the great depression and he "knows" that he has the right answer and he will pursue his policies with no regard of the costs should he fail. The world has never seen money creation on such a large scale before. All previous attempts have ended in failure and it is the contention of this blog that this one will end in a similar state, although this time the mess will be on a far grander scale than anything previously witnessed.
Let's explore what he has done in printing all this money to date. On the plus side he did stave off an almost certain collapse of the global financial system as we "still" know it today. This was required at the time but since then he has continued to print money in leaps and bounds but from that moment forward the results have been poor. I say "still" as it is my contention that after the next wave of financial problems the financial landscape will be changed beyond my lifetime.
The economy is still in a quagmire. Unemployment is stuck at elevated levels, price stability is non-existent (specifically if you look at the massive swings in the VIX index, a measure of market volatility) and his admittance to the requirement of a further round of easing shows that he has little faith that round two will work and this is stated before it has even really begun.
A well known Austrian economist, Ludwig Von Mises, stated that "The idea of government interference as a "solution" to economic problems leads, in ever country, to conditions which, at the least, are very unsatisfactory and often quite chaotic." In answer to the question of is there a solution he said, : "I would say, yes, there is a remedy. And this remedy is the power of the citizens, they have to prevent the establishment of such an autocratic regime that arrogates to itself a higher wisdom than that of the average citizen. This is the fundamental difference between freedom and serfdom."
Does Ben Bernanke know what he is doing? Absolutely not. Does he think he knows what he is doing? Yes. Will it work? No-one will know for sure until the economy is stable and the money that is printed is paid back in an orderly fashion. Will this happen? It never has before and so it is my take that this time, as in all the past times, it is not different and history will repeat itself.
That is not to say that this will occur in the short term (3 to 6 months) but it is my view that once the globe and the market realizes that this strategy has failed there will be a huge loss of confidence in the Federal Reserve, the US economy and the government. At that point it is too late to repair any damage and the market will collapse. For now enjoy the rally while it lasts but hedge yourself against the imminent failure as it will be swift and, if I am wrong, there will still be plenty of time to make money in the secular bull market that would ensue.
Let's explore what he has done in printing all this money to date. On the plus side he did stave off an almost certain collapse of the global financial system as we "still" know it today. This was required at the time but since then he has continued to print money in leaps and bounds but from that moment forward the results have been poor. I say "still" as it is my contention that after the next wave of financial problems the financial landscape will be changed beyond my lifetime.
The economy is still in a quagmire. Unemployment is stuck at elevated levels, price stability is non-existent (specifically if you look at the massive swings in the VIX index, a measure of market volatility) and his admittance to the requirement of a further round of easing shows that he has little faith that round two will work and this is stated before it has even really begun.
A well known Austrian economist, Ludwig Von Mises, stated that "The idea of government interference as a "solution" to economic problems leads, in ever country, to conditions which, at the least, are very unsatisfactory and often quite chaotic." In answer to the question of is there a solution he said, : "I would say, yes, there is a remedy. And this remedy is the power of the citizens, they have to prevent the establishment of such an autocratic regime that arrogates to itself a higher wisdom than that of the average citizen. This is the fundamental difference between freedom and serfdom."
Does Ben Bernanke know what he is doing? Absolutely not. Does he think he knows what he is doing? Yes. Will it work? No-one will know for sure until the economy is stable and the money that is printed is paid back in an orderly fashion. Will this happen? It never has before and so it is my take that this time, as in all the past times, it is not different and history will repeat itself.
That is not to say that this will occur in the short term (3 to 6 months) but it is my view that once the globe and the market realizes that this strategy has failed there will be a huge loss of confidence in the Federal Reserve, the US economy and the government. At that point it is too late to repair any damage and the market will collapse. For now enjoy the rally while it lasts but hedge yourself against the imminent failure as it will be swift and, if I am wrong, there will still be plenty of time to make money in the secular bull market that would ensue.
Friday, December 3, 2010
Remove the Housing Tax Credit?!
It has been recently bandied about that one of the most effective ways to get America out of its debt problems is to raise more tax revenue. A simple way to do this is to eliminate all of the tax credits thereby raising the tax revenue without raising the actual tax rate.
While this may have some political merit (as no politician at this stage would agree to increasing the tax rate on the lower and middle classes), and while I agree that at some stage the tax revenue will have to increase, eliminating the housing tax credit at this stage of the recovery would be an economic disaster.
A recent study by the National Association or Realtors estimated that removing the housing tax credit would lead to another 15 percent decline in the value of housing. I personally think that that is a low ball estimate and that the effect would be far worse.
Many people (myself included) find that a house is affordable only because of the tax credit. Remove the tax credit and the disparity between a rental payment and a house payment swings heavily in favor of renting.
Furthermore. the current recovery is underpinned by the banks being solvent. A large portion of this "solvency" is due to the fact that performing loans are recorded at the face value of the note. Plenty of these performing loans are supported by real estate that has a value of less than the note (they owe more than the house is worth). Remove the tax credit and the benefit of paying on a debt worth more than the asset itself makes no sense. Turn these marginal loans into bad debt on the balance sheet of the banks and it is my estimate that this forced mark to market would reveal that our largest banks are insolvent.
We all witnessed first hand the effects of an insolvent banking system recently but this time around the economy would be without the Federal Reserve to support it. Why? The Federal Reserve would lose credibility if it printed more money. Interest rates would be driven through the roof dragging the housing market lower and creating further instability. The result would be another severe recession at best and at worst you wash the slate clean with a depression.
Therefore, why the politicians are even debating this is beyond me but if the vote is for removing the tax credit then watch out below. While I doubt that this will happen it is always good to be prepared.
While this may have some political merit (as no politician at this stage would agree to increasing the tax rate on the lower and middle classes), and while I agree that at some stage the tax revenue will have to increase, eliminating the housing tax credit at this stage of the recovery would be an economic disaster.
A recent study by the National Association or Realtors estimated that removing the housing tax credit would lead to another 15 percent decline in the value of housing. I personally think that that is a low ball estimate and that the effect would be far worse.
Many people (myself included) find that a house is affordable only because of the tax credit. Remove the tax credit and the disparity between a rental payment and a house payment swings heavily in favor of renting.
Furthermore. the current recovery is underpinned by the banks being solvent. A large portion of this "solvency" is due to the fact that performing loans are recorded at the face value of the note. Plenty of these performing loans are supported by real estate that has a value of less than the note (they owe more than the house is worth). Remove the tax credit and the benefit of paying on a debt worth more than the asset itself makes no sense. Turn these marginal loans into bad debt on the balance sheet of the banks and it is my estimate that this forced mark to market would reveal that our largest banks are insolvent.
We all witnessed first hand the effects of an insolvent banking system recently but this time around the economy would be without the Federal Reserve to support it. Why? The Federal Reserve would lose credibility if it printed more money. Interest rates would be driven through the roof dragging the housing market lower and creating further instability. The result would be another severe recession at best and at worst you wash the slate clean with a depression.
Therefore, why the politicians are even debating this is beyond me but if the vote is for removing the tax credit then watch out below. While I doubt that this will happen it is always good to be prepared.
Thursday, December 2, 2010
A Christmas Rally?
As we approach the end of the year it is looking more and more likely that a Christmas rally may be coming. The charts of both the 10-year Note and the 30-year bond are looking very bearish. If they break down there could be a flight of capital to the stock market.
On the other side of the coin stocks seem to be breaking out of their recent consolidation and appear to be headed higher. What could torpedo this is the continued strength in the dollar unless this strength is met with a change of sentiment.
Up to now market sentiment has been that a strong dollar will cause inflation and is bad for the market. This relationship will change at some point in the future if the currency strength is based on a fundamental shift in the economic outlook of the US economy.
Turning to the economic numbers that are coming forward it appears that there is a modest recovery on its way. It appears that the stimulus is finally taking hold and with the continued pumping of cash into the economy that there may be a glimmer of hope. To be honest I am not really surprised by this as if you throw enough money at something it will eventually either recover or blow up.
This time around it appears as if the world still has enough faith (unwarranted in my opinion) in the US economy and the Federal Reserve to cure the market ailments and therefore we will have to wait for the blowup to occur in the years to come. The renewed confidence seems to be feeding into more risk taking and a rise in the stock market. Should this take hold it could result in a rally in the market.
Looking further out I am still completely convinced that in our lifetime we will have a severe depression to deal with, but for now I will ride on the tail of the illusionary recovery until it rolls over and dies.
On the other side of the coin stocks seem to be breaking out of their recent consolidation and appear to be headed higher. What could torpedo this is the continued strength in the dollar unless this strength is met with a change of sentiment.
Up to now market sentiment has been that a strong dollar will cause inflation and is bad for the market. This relationship will change at some point in the future if the currency strength is based on a fundamental shift in the economic outlook of the US economy.
Turning to the economic numbers that are coming forward it appears that there is a modest recovery on its way. It appears that the stimulus is finally taking hold and with the continued pumping of cash into the economy that there may be a glimmer of hope. To be honest I am not really surprised by this as if you throw enough money at something it will eventually either recover or blow up.
This time around it appears as if the world still has enough faith (unwarranted in my opinion) in the US economy and the Federal Reserve to cure the market ailments and therefore we will have to wait for the blowup to occur in the years to come. The renewed confidence seems to be feeding into more risk taking and a rise in the stock market. Should this take hold it could result in a rally in the market.
Looking further out I am still completely convinced that in our lifetime we will have a severe depression to deal with, but for now I will ride on the tail of the illusionary recovery until it rolls over and dies.
Wednesday, November 24, 2010
Thanksgiving Cheer
Thanksgiving is tomorrow in the United States and in line with that celebration the market is giving thanks for some reasonably good numbers.
Initial claims dropped to a level that signals the economy may be entering into a recovery zone. While one data point does not make a trend it is certainly encouraging to see some improvement in this number.
Gains in October payrolls along with the subsequent increase in hours and wages resulted in an increase in consumptions of 0.4%. Once again not incredibly robust, but we will take whatever we can get at this stage.
Finally consumer sentiment reached a five month high. The move was driven mainly by the performance of the equity markets and the improving unemployment numbers.
Although these three indicators have not formed a legitimate trend it is encouraging that they are starting to improve. Further improvement will assist the market and hopefully will allow continued strength in the dollar as this will keep inflation down to a manageable level and allow the authorities the time to begin to implement austerity measures. We will see if they take the opportunity presented to them or whether they squander it.
Happy thanksgiving to everyone.
Initial claims dropped to a level that signals the economy may be entering into a recovery zone. While one data point does not make a trend it is certainly encouraging to see some improvement in this number.
Gains in October payrolls along with the subsequent increase in hours and wages resulted in an increase in consumptions of 0.4%. Once again not incredibly robust, but we will take whatever we can get at this stage.
Finally consumer sentiment reached a five month high. The move was driven mainly by the performance of the equity markets and the improving unemployment numbers.
Although these three indicators have not formed a legitimate trend it is encouraging that they are starting to improve. Further improvement will assist the market and hopefully will allow continued strength in the dollar as this will keep inflation down to a manageable level and allow the authorities the time to begin to implement austerity measures. We will see if they take the opportunity presented to them or whether they squander it.
Happy thanksgiving to everyone.
Tuesday, November 23, 2010
The Greatest Ponzi Scheme Ever
Charles Ponzi is credited with the scheme in which he defrauded investors of their money by paying fictitious returns to investors with new investors' money. All the while he was pocketing the proceeds. While he was not the first to perform such an act (he obtained his infamy in 1920 but there are reports of smaller schemes dating back to the 1850's) he was by far the largest and hence gained notoriety sufficient to have his name attached to these types of fraudulent activities.
Several Ponzi schemes have been uncovered over the years but the largest of them all (so far) was that of Bernie Madoff who made off with $64 billion. This was by far the largest ponzi scheme in the world until now. Madoff's count of $64 billion is being made to look insignificant when compared to the trillions of dollars of new money being printed by the Federal Reserve.
Bill Gross of Pimco fame (the largest bond fund in the world) stated: "Check writing in the trillions is not a bondholder's friend: it is in fact inflationary, and, if truth be told, somewhat of a Ponzi scheme." And later he wrote; "It seems that the Fed has taken Charles Ponzi one step further. One and one-half trillion in checks written in 2009, and trillions more lie ahead. The Fed, in effect, is telling the markets not to worry about our fiscal deficits, it will be the buyer of first and perhaps last resort. There is no need - as with Charles Ponzi - to find an increasing amount of future gullibles, they will just write the check themselves. I ask you: Has there ever been a Ponzi scheme so brazen? There has not."
There has never been a Ponzi scheme that has worked. At some point you have to pay the money back. As Warren Buffet stated; "It is only when the tide goes out that you see who is swimming naked." The tide always goes out and redemptions always occur whether you are the Federal Reserve or Madoff. Therefore at some point the U.S. government has to start to become more austere or face the real possibility of a total collapse.
Inflation is coming. it is everywhere. To offset this the United States needs to ensure that the dollar is not destroyed but remains strong. To support the dollar the Federal Reserve needs to stop printing money and the White House needs to take some hard steps to balance its budget. The United States is desperate for a leader to stop the madness but I fear that we have none.
While there is still time to fix these structural problems the time in which to do so is rapidly subsiding. In my opinion we have less than five years to put our house in order or face the wrath just like all other Ponzi scheme operators.
Several Ponzi schemes have been uncovered over the years but the largest of them all (so far) was that of Bernie Madoff who made off with $64 billion. This was by far the largest ponzi scheme in the world until now. Madoff's count of $64 billion is being made to look insignificant when compared to the trillions of dollars of new money being printed by the Federal Reserve.
Bill Gross of Pimco fame (the largest bond fund in the world) stated: "Check writing in the trillions is not a bondholder's friend: it is in fact inflationary, and, if truth be told, somewhat of a Ponzi scheme." And later he wrote; "It seems that the Fed has taken Charles Ponzi one step further. One and one-half trillion in checks written in 2009, and trillions more lie ahead. The Fed, in effect, is telling the markets not to worry about our fiscal deficits, it will be the buyer of first and perhaps last resort. There is no need - as with Charles Ponzi - to find an increasing amount of future gullibles, they will just write the check themselves. I ask you: Has there ever been a Ponzi scheme so brazen? There has not."
There has never been a Ponzi scheme that has worked. At some point you have to pay the money back. As Warren Buffet stated; "It is only when the tide goes out that you see who is swimming naked." The tide always goes out and redemptions always occur whether you are the Federal Reserve or Madoff. Therefore at some point the U.S. government has to start to become more austere or face the real possibility of a total collapse.
Inflation is coming. it is everywhere. To offset this the United States needs to ensure that the dollar is not destroyed but remains strong. To support the dollar the Federal Reserve needs to stop printing money and the White House needs to take some hard steps to balance its budget. The United States is desperate for a leader to stop the madness but I fear that we have none.
While there is still time to fix these structural problems the time in which to do so is rapidly subsiding. In my opinion we have less than five years to put our house in order or face the wrath just like all other Ponzi scheme operators.
Friday, November 19, 2010
Funny But True
Today's blog is just a link. While the link takes you to a video that is a tongue in cheek poke at the Federal Reserve it is funny because the facts are true. As sad as it is to say this video pretty much sums up my view on the state of the Us and the global economy. Regardless of this it is still some light hearted humor to end the week. Enjoy.
http://www.youtube.com/watch?v=PTUY16CkS-k
http://www.youtube.com/watch?v=PTUY16CkS-k
Tuesday, November 16, 2010
Accepting Responsibility
The current trading and economic environment is very tough. Making it even more tough are the majority of people that either by choice or through ignorance refuse to accept responsibility for their actions. This is prevalent throughout society and goes all the way to the top. For the best example look no further than the US congress, the senate or the Federal Reserve. How many times do they say one thing, do another and then try to receive praise when they did not even participate? It makes me sick and shows a complete lack of responsibility.
Now let's put it into a trading perspective. Most everyone I know reads the newspapers, follows the news on television and listens to what their "leaders" tell them. When something untoward happens it is easy for them to palm off the problem as being"out of their control" or "it caught everyone by surprise" or "the government will fix the problem". All of this shows a lack of responsibility and needs to be changed and quickly if you want to be successful at trading or any other endeavor.
There are a few simple tips that will stand you in good stead. Stop listening to what others have to say. This includes the so called "experts" on TV and in news print. Did you know that they are right less than 25% of the time? The problem is that they are never called back to report the score. All the producers and editors want is to scare people into believing that this will happen when in most instances it does not.
Do your research and make your own decisions. Now a fool is a person that guesses, gets lucky and calls it skill. Do your research as thoroughly as you can and then make your own assessment of the situation and act under those assumptions. What this will do is provide you with a plausible theory on which to base investment decisions. It will also alert you early when you are wrong, in time to save yourself from large losses. Relying on other peoples opinions such as tips or articles in newspapers will not give you any idea of when to exit as you will never know when things went wrong.
Follow these simple rules and I believe that you will find great success in trading and all business endeavors.
Now let's put it into a trading perspective. Most everyone I know reads the newspapers, follows the news on television and listens to what their "leaders" tell them. When something untoward happens it is easy for them to palm off the problem as being"out of their control" or "it caught everyone by surprise" or "the government will fix the problem". All of this shows a lack of responsibility and needs to be changed and quickly if you want to be successful at trading or any other endeavor.
There are a few simple tips that will stand you in good stead. Stop listening to what others have to say. This includes the so called "experts" on TV and in news print. Did you know that they are right less than 25% of the time? The problem is that they are never called back to report the score. All the producers and editors want is to scare people into believing that this will happen when in most instances it does not.
Do your research and make your own decisions. Now a fool is a person that guesses, gets lucky and calls it skill. Do your research as thoroughly as you can and then make your own assessment of the situation and act under those assumptions. What this will do is provide you with a plausible theory on which to base investment decisions. It will also alert you early when you are wrong, in time to save yourself from large losses. Relying on other peoples opinions such as tips or articles in newspapers will not give you any idea of when to exit as you will never know when things went wrong.
Follow these simple rules and I believe that you will find great success in trading and all business endeavors.
Monday, November 8, 2010
Fiscal Policy Implications
Now I am not one to hammer constantly on the Federal Reserve, nor am I one to hammer on anything for long. I am a trader and to win at this game you have to be able to realize when you are wrong and change directions quickly or lose a lot of money being stubborn. However, some times you have to stick to your guns or, in my case, have a trading strategy that is able to go with momentum while continuing to prepare for the inevitable.
At present the fiscal policy being implemented in the United States is one of quantitative easing. Not that I am completely opposed to quantitative easing, I am just opposed to how it is being implemented. For me the best example is one of starting a business. When you start a business it takes money, hard work, a belief in what you are doing and innovation. Of all these, innovation and money are most important. I can always find a better management team to get the job done, but without some core competency and the money to withstand a poor economy or lack of management, even the best ideas will fail.
Now assuming that the idea is fantastic and that you have unlimited sums of money, in theory you will not fail. It is just a matter of time before your product or service is noticed and then you are off to the races (unless someone steals your idea of course). Now let's turn our attention to the government quantitative easing program.
Essentially they have as much money as they need. Having their idea stolen is not an issue. so there is no problem there either. Now all they need is an idea. Well this is where they are falling flat. They are not even looking for ideas. Instead they are throwing good money after bad by buying junk debt from banks and the like. This is effectively supporting the banking system and allowing them to recover from their greed just to do it all again I fear. Where is the lesson other than now as tax payers we will be stuck holding the can for all of these government purchases disguised as "stimulus"?
Now what if we spent the money on ideas? Sure this is tough to quantify but if you had spent a large portion of the money on research and development, education and infrastructure projects then the future would look far more healthy as these ideas and projects would be the backbone of an American resurgence. Furthermore the American people would once again have their belief back instead of walking around with bowed heads. Unfortunately this opportunity has been wasted on political cronyism and paying bankers ridiculous bonuses for their greed. Certainly the dissatisfaction of the people was highlighted in the recent election results.
In the meantime the world continues to move away from investment in the United States. China, India, Brazil and other emerging economies are starting to take the lead and at some point in the future they will be the world leaders. I think that the demise has started and at some point the orderly decline in the dollar will turn ugly. This will drag stocks with it so be prepared. Furthermore I would advise you to have an allocation to gold and silver.
At present the fiscal policy being implemented in the United States is one of quantitative easing. Not that I am completely opposed to quantitative easing, I am just opposed to how it is being implemented. For me the best example is one of starting a business. When you start a business it takes money, hard work, a belief in what you are doing and innovation. Of all these, innovation and money are most important. I can always find a better management team to get the job done, but without some core competency and the money to withstand a poor economy or lack of management, even the best ideas will fail.
Now assuming that the idea is fantastic and that you have unlimited sums of money, in theory you will not fail. It is just a matter of time before your product or service is noticed and then you are off to the races (unless someone steals your idea of course). Now let's turn our attention to the government quantitative easing program.
Essentially they have as much money as they need. Having their idea stolen is not an issue. so there is no problem there either. Now all they need is an idea. Well this is where they are falling flat. They are not even looking for ideas. Instead they are throwing good money after bad by buying junk debt from banks and the like. This is effectively supporting the banking system and allowing them to recover from their greed just to do it all again I fear. Where is the lesson other than now as tax payers we will be stuck holding the can for all of these government purchases disguised as "stimulus"?
Now what if we spent the money on ideas? Sure this is tough to quantify but if you had spent a large portion of the money on research and development, education and infrastructure projects then the future would look far more healthy as these ideas and projects would be the backbone of an American resurgence. Furthermore the American people would once again have their belief back instead of walking around with bowed heads. Unfortunately this opportunity has been wasted on political cronyism and paying bankers ridiculous bonuses for their greed. Certainly the dissatisfaction of the people was highlighted in the recent election results.
In the meantime the world continues to move away from investment in the United States. China, India, Brazil and other emerging economies are starting to take the lead and at some point in the future they will be the world leaders. I think that the demise has started and at some point the orderly decline in the dollar will turn ugly. This will drag stocks with it so be prepared. Furthermore I would advise you to have an allocation to gold and silver.
Friday, November 5, 2010
The Trend is Your Friend - Until it Isn't
The market continued to roll higher yesterday, steamrolling all shorts out of the way. Many technical indicators point to further upside and the age old mantra of the trend is your friend is at the forefront of most traders minds. The problem with this is that until the economy is on solid footing there is a very high probability that all of this ends poorly, hence the trend is your friend until it isn't.
Nobody knows for sure when that will be and certainly we have had our share of excessively volatile days, but ignoring the fact that the market is rolling higher and sticking to your guns as a short is cause for not only angst but also large losses. The problem is that no sooner have you taken your protection off than the market has a large draw down. So what to do?
Certainly at this point it is difficult to continue to add to your long positions. The problem is that there are so many people out there waiting for a pullback to buy that it never comes, but adding here is a dangerous proposition. Hopefully you had a decent long position going into the rally and you are slowly leaking some stock into the run taking profits as they are handed to you. Stay disciplined and take the position off if your target is met.
Trail all positions with a stop. Certainly any positions that have been implemented due to the market momentum should always have a stop, but at this point I would also think it prudent to put in stops on certain volatile issues that you own.
Finally look for deep out of the money put options. These can be purchased cheaply and form a good deal of protection and potential upside if and when any large market draw down occurs. One thing I have learned over the years is that when markets turn they are fierce, quick and lethal and these options should reward you well at that point in time. Up until then they will all slowly die worthless so you need to be vigilant and constantly top up your holdings.
Remember that we are still well below the market highs and therefore are still in a secular bear market. Furthermore the rallies in the market are being driven by an ever weaker dollar. This is not a good environment for stocks as at some point the orderly downward spiral of the dollar could turn nasty at which point stocks will be hammered along with the currency, but for now that relationship remains intact.
The key here is to be extremely vigilant and cautious. Do not chase things higher and make sure that you have your downside protected as either a dollar rally or a dollar capitulation could derail the bull's party but for now the trend is definitely your friend.
Nobody knows for sure when that will be and certainly we have had our share of excessively volatile days, but ignoring the fact that the market is rolling higher and sticking to your guns as a short is cause for not only angst but also large losses. The problem is that no sooner have you taken your protection off than the market has a large draw down. So what to do?
Certainly at this point it is difficult to continue to add to your long positions. The problem is that there are so many people out there waiting for a pullback to buy that it never comes, but adding here is a dangerous proposition. Hopefully you had a decent long position going into the rally and you are slowly leaking some stock into the run taking profits as they are handed to you. Stay disciplined and take the position off if your target is met.
Trail all positions with a stop. Certainly any positions that have been implemented due to the market momentum should always have a stop, but at this point I would also think it prudent to put in stops on certain volatile issues that you own.
Finally look for deep out of the money put options. These can be purchased cheaply and form a good deal of protection and potential upside if and when any large market draw down occurs. One thing I have learned over the years is that when markets turn they are fierce, quick and lethal and these options should reward you well at that point in time. Up until then they will all slowly die worthless so you need to be vigilant and constantly top up your holdings.
Remember that we are still well below the market highs and therefore are still in a secular bear market. Furthermore the rallies in the market are being driven by an ever weaker dollar. This is not a good environment for stocks as at some point the orderly downward spiral of the dollar could turn nasty at which point stocks will be hammered along with the currency, but for now that relationship remains intact.
The key here is to be extremely vigilant and cautious. Do not chase things higher and make sure that you have your downside protected as either a dollar rally or a dollar capitulation could derail the bull's party but for now the trend is definitely your friend.
Thursday, November 4, 2010
Soak it up
So the Federal Reserve has officially unveiled the next round of quantitative easing. For those of you following this blog you will recall that I called that back in August (see blog on 8/10/2010). Well now it is official. Another $600 billion to start and maybe more later. On the announcement the market went berserk and volatility spiked, but at the end of the day the market ended up and most commodities spiralled higher as the dollar plunged.
The Federal Reserve is intent on "bailing" us out of this mess by driving the dollar lower. A weak dollar will strengthen exports. It will also have the effect of creating inflation as pretty much all commodities are traded in dollars. This will feed into the economy and inflation will start to surface sooner rather than later. For now however the Federal Reserve believes that more stimulus is needed (correctly) and that this can be achieved through continued money printing (incorrect).
The reason that they believe this is they feel that they "have the tools" available to soak up the money printed when there is any threat of inflation. What a joke! They cannot, have not and will not ever get that right. The methods for soaking it up are so arcane and so politically sensitive that it will never work. Let's look at this in terms of a scenario.
Inflation appears, gradual at first, but then it starts to accelerate. The cause of the inflation is two fold, too much "stimulus" cash in the system and a weak dollar. So let's start to soak it up. First we will deal with inflation by raising rates. Ouch that will hurt. Goodbye housing and the consumer who will now have to pay more for their debt. This will choke off any kind of recovery and cannot be done until we have a vibrant economy with strong employment.
Next we will start to sell off some of the government held debt (most of it junk). This will drive rates even higher and will reduce an already anemic rate of money velocity. Essentially the two methods combined will drive interest rates to excessive levels, choking off the recovery and driving the US economy into another recession.
Alternatively they could just let inflation spiral out of control but they will never let that happen without a fight. The Federal Reserve has at is core the mantra to fight inflation at all costs. Their ability to contain inflation within a target range is anything but stellar so I expect that as in the past they will wait too long to turn off the spigot. This will result in inflation will accelerating well above their target level of 2.5%. Not that controlled inflation is a problem it is uncontrolled inflation that can derail an economy.
So can they soak it up? Not a chance. Will their current policies end in failure? At this juncture there is a very high probability that another recession will be upon us within the next twelve months. Prepare yourself and your portfolio accordingly.
The Federal Reserve is intent on "bailing" us out of this mess by driving the dollar lower. A weak dollar will strengthen exports. It will also have the effect of creating inflation as pretty much all commodities are traded in dollars. This will feed into the economy and inflation will start to surface sooner rather than later. For now however the Federal Reserve believes that more stimulus is needed (correctly) and that this can be achieved through continued money printing (incorrect).
The reason that they believe this is they feel that they "have the tools" available to soak up the money printed when there is any threat of inflation. What a joke! They cannot, have not and will not ever get that right. The methods for soaking it up are so arcane and so politically sensitive that it will never work. Let's look at this in terms of a scenario.
Inflation appears, gradual at first, but then it starts to accelerate. The cause of the inflation is two fold, too much "stimulus" cash in the system and a weak dollar. So let's start to soak it up. First we will deal with inflation by raising rates. Ouch that will hurt. Goodbye housing and the consumer who will now have to pay more for their debt. This will choke off any kind of recovery and cannot be done until we have a vibrant economy with strong employment.
Next we will start to sell off some of the government held debt (most of it junk). This will drive rates even higher and will reduce an already anemic rate of money velocity. Essentially the two methods combined will drive interest rates to excessive levels, choking off the recovery and driving the US economy into another recession.
Alternatively they could just let inflation spiral out of control but they will never let that happen without a fight. The Federal Reserve has at is core the mantra to fight inflation at all costs. Their ability to contain inflation within a target range is anything but stellar so I expect that as in the past they will wait too long to turn off the spigot. This will result in inflation will accelerating well above their target level of 2.5%. Not that controlled inflation is a problem it is uncontrolled inflation that can derail an economy.
So can they soak it up? Not a chance. Will their current policies end in failure? At this juncture there is a very high probability that another recession will be upon us within the next twelve months. Prepare yourself and your portfolio accordingly.
Friday, October 29, 2010
China's Housing Bubble
The Chinese housing market appears to be in a bubble and that bubble appears to be bursting right before our eyes. On my recent trip to China it was impossible not to be impressed with the number of cranes that dotted the skyline of each city I visited. During my meetings and in subsequent meetings at my office, Chinese CEO's defended the housing market with the same answers. "In China owners have to put 30 percent down so banks are protected." "The Chinese economy is growing so fast that the demand for housing from over 1 billion people will support the housing market for a long time." "The Chinese government will never let a disaster like the US housing market happen in China."
While most of this is true it does not negate the two critical facts that China has overbuilt and that the affordability ratio is at an all time low. As with the US, housing bubbles take time to burst. First you have to have overbuilding, then you need prices that take the man in the street out of the market. Finally price increases slow while speculators toss the proverbial hot coal around, but once speculators realize that prices are softening they stampede for the exits and the market bursts.
Currently there are 64 million housing units that are empty and building continues on another 30 billion square feet. The Chinese government recently concluded stress tests at banks based on a 50% drop in the price of housing. A drop of this magnitude would clearly wipe out the home buyers 30% deposit and put the market into a crisis worse than the US.
Why would it be worse? If this were to happen a significant portion of the construction projects underway would be placed into mothballs resulting in millions laid off from work. This could result in the type of social unrest that the Chinese government has feared for years. Furthermore the Chinese government would be forced to implement a massive stimulus program targeting the laid off workers. In other words massive infrastructure projects would be undertaken. Where would all this money come from? More than likely a massive withdrawal from US government bonds.
If this theory works out correctly, expect the global repercussions to be severe as rising interest rates would drag the US economy once more into a recession and this time Bernanke and his Federal Reserve cohorts will have no ammunition left to fight off the collapse.
While most of this is true it does not negate the two critical facts that China has overbuilt and that the affordability ratio is at an all time low. As with the US, housing bubbles take time to burst. First you have to have overbuilding, then you need prices that take the man in the street out of the market. Finally price increases slow while speculators toss the proverbial hot coal around, but once speculators realize that prices are softening they stampede for the exits and the market bursts.
Currently there are 64 million housing units that are empty and building continues on another 30 billion square feet. The Chinese government recently concluded stress tests at banks based on a 50% drop in the price of housing. A drop of this magnitude would clearly wipe out the home buyers 30% deposit and put the market into a crisis worse than the US.
Why would it be worse? If this were to happen a significant portion of the construction projects underway would be placed into mothballs resulting in millions laid off from work. This could result in the type of social unrest that the Chinese government has feared for years. Furthermore the Chinese government would be forced to implement a massive stimulus program targeting the laid off workers. In other words massive infrastructure projects would be undertaken. Where would all this money come from? More than likely a massive withdrawal from US government bonds.
If this theory works out correctly, expect the global repercussions to be severe as rising interest rates would drag the US economy once more into a recession and this time Bernanke and his Federal Reserve cohorts will have no ammunition left to fight off the collapse.
Thursday, October 21, 2010
Boredom
Now I want to make it clear up front that I do not make this stuff up. It is impossible to do so as who in their right mind would suggest that boredom would be the cure for the US economy's woes. Well your answer is that it was Alan Greenspan, the creator of most of the mess that we are in. That is not to say that Bernanke is not making it better. He is in fact managing to improve on the mess created by Greenspan by creating an even bigger mess!
Can you believe that the hero of the US economy (in many people's eyes) is so ridiculously naive to suggest that boredom will fix the world's problems. His theory is that if the economy remains stable with no growth that eventually executives will just get bored and start to spend money. And to think that he was in charge of the Federal Reserve, hailed as possibly the best ever and now Bernanke is following in his footsteps.
Why people actually feel that the Federal Reserve is doing a good job is beyond me. We have high unemployment, anemic growth, spiralling budget deficits, a lack of faith in all governments and asset bubbles being created before our eyes. Now what is there to cheer? If your investment thesis is based on more quantitative easing helping the economy then I would advise that you recast your thesis before you invest too heavily in an already over bloated stock market.
Can you believe that the hero of the US economy (in many people's eyes) is so ridiculously naive to suggest that boredom will fix the world's problems. His theory is that if the economy remains stable with no growth that eventually executives will just get bored and start to spend money. And to think that he was in charge of the Federal Reserve, hailed as possibly the best ever and now Bernanke is following in his footsteps.
Why people actually feel that the Federal Reserve is doing a good job is beyond me. We have high unemployment, anemic growth, spiralling budget deficits, a lack of faith in all governments and asset bubbles being created before our eyes. Now what is there to cheer? If your investment thesis is based on more quantitative easing helping the economy then I would advise that you recast your thesis before you invest too heavily in an already over bloated stock market.
Wednesday, October 20, 2010
Good News is not Always Good
Once again the cheerleaders on Wall Street were out in full force pointing out all the advances in price today. The thought suddenly struck me that most people view all this chatter as positive and that prices going up is "always" a good thing. One would think that in all cases a bull market is the best cure for all evils and that a bear market hurts all and sundry. This in not always the case.
Today the best rally came from grain commodities. As a group they were up over 3%. Let's think about this for a minute. Up 3% means that prices at the grocery store will continue to rise as the feedstocks seep into the prices of everything from our cereal to the price we pay for beef and poultry. At a time when the consumer is already strapped this will hurt economic growth.
Now let's turn to the price of houses. Certainly in general an upward move in the price of housing is good for an economy. What of our current economic environment. Falling house prices mean that the inventory of houses will clear quicker as more and more people are able to afford what they previously could not. Eventually the low prices will clear out the overhead allowing prices to appreciate once again and benefiting the economy. As long as prices are propped up artificially this cannot happen and this can mean long periods of slow or no growth.
The rally in stocks can suck in the innocent looking for a quick reward. Earning next to nothing in their savings accounts the Federal Reserve is begging people to risk their hard earned savings on risky investments one of which is a punt on the stock market. As prices spiral higher it gets harder and harder for the public to sit on the sidelines. As time has proven over and over again, just as soon as the public jumps in the wind leaves the sails of the market. It appears that this is another setup waiting for the public to take the bait.
I would prefer to see a market that is based on rational investment at a reasonable price than the current market that is filled with speculation. This to me means that a bear market is a benefit rather than a curse. Obviously I am aware that this would mean that the public will be stung for another loss; but until the economy is on a solid footing it would be preferrable for the public to continue with their austerity measures as this will help in righting the economy far more quickly than investing in another speculative market.
My view (which is based on where we are in the current economic cycle) is that prices should be let to fall to a point where we can clear the dead wood out of the barn and make way for the new season. As long as we tinker with the normal functions of a free market we will continue to drag this economic turmoil out for an extended period. Therefore I for one do not applaud the current market rally but see it as another vain attempt to prop up a weak market that is in desperate need of being washed clean. One thing I do know is that the old axiom of the commodity market: "High prices end high prices." I have no doubt that at some point the high prices in stocks, commodities and real estate will undermine the "recovery" and we will once again find ourselves in another bear market.
Today the best rally came from grain commodities. As a group they were up over 3%. Let's think about this for a minute. Up 3% means that prices at the grocery store will continue to rise as the feedstocks seep into the prices of everything from our cereal to the price we pay for beef and poultry. At a time when the consumer is already strapped this will hurt economic growth.
Now let's turn to the price of houses. Certainly in general an upward move in the price of housing is good for an economy. What of our current economic environment. Falling house prices mean that the inventory of houses will clear quicker as more and more people are able to afford what they previously could not. Eventually the low prices will clear out the overhead allowing prices to appreciate once again and benefiting the economy. As long as prices are propped up artificially this cannot happen and this can mean long periods of slow or no growth.
The rally in stocks can suck in the innocent looking for a quick reward. Earning next to nothing in their savings accounts the Federal Reserve is begging people to risk their hard earned savings on risky investments one of which is a punt on the stock market. As prices spiral higher it gets harder and harder for the public to sit on the sidelines. As time has proven over and over again, just as soon as the public jumps in the wind leaves the sails of the market. It appears that this is another setup waiting for the public to take the bait.
I would prefer to see a market that is based on rational investment at a reasonable price than the current market that is filled with speculation. This to me means that a bear market is a benefit rather than a curse. Obviously I am aware that this would mean that the public will be stung for another loss; but until the economy is on a solid footing it would be preferrable for the public to continue with their austerity measures as this will help in righting the economy far more quickly than investing in another speculative market.
My view (which is based on where we are in the current economic cycle) is that prices should be let to fall to a point where we can clear the dead wood out of the barn and make way for the new season. As long as we tinker with the normal functions of a free market we will continue to drag this economic turmoil out for an extended period. Therefore I for one do not applaud the current market rally but see it as another vain attempt to prop up a weak market that is in desperate need of being washed clean. One thing I do know is that the old axiom of the commodity market: "High prices end high prices." I have no doubt that at some point the high prices in stocks, commodities and real estate will undermine the "recovery" and we will once again find ourselves in another bear market.
Monday, October 18, 2010
The End of the Baby Boomer
This certainly is not news. The baby boomer generation is definitely at the end of its productive life cycle and is headed into the retirement phase, but this demographic shift certainly brings with it a change in the way that we should look at the American economy going forward.
Think of health care. The system was recently "improved" to capture millions of uninsured Americans just when the demographic shift makes the hole in this budget item even more acutely painful. The health care investment thesis basis its analysis on the spending side of the equation and to be sure this should accelerate as more and more baby boomers advance in age. However as more and more baby boomers die there is less and less demand and as time goes by this demand will fall off a cliff.
In addition just as the cost of financing health care and a burgeoning budget deficit spiral ever upward, the base of tax payers paying the bulk of the taxes (the middle class) will level off and could even shrink. This is not a long term trend that bodes well for future government plans to reign in spending. Just take one look at the struggle that Japan is having since their bubble population moved into the retirement years. At present Japan's pension fund is liquidating assets at 5 times its normal rate to support pension payments and the economy is still struggling 20 years after the Nikkei peaked. This could easily point toward an extended period of contraction in the US economy and is certainly not a scenario that the market or the Federal Reserve is taking seriously at present.
Furthermore the age at which people are getting married is rising rapidly. This bodes poorly for population growth and for housing. Home ownership is far more likely when married than when single. Married couples normally have less children the older they are. Less children mean less demand in the future and less marriages mean less demand for housing at present. Certainly not an ideal situation for the housing sector particularly in this poor economic environment.
Now do not get me wrong, this is not going to happen overnight. Demographic shifts happen over decades and not minutes, but it certainly is a theme that should be monitored and should slowly be factored into your investment strategies going forward. At the very least these demographic trends point towards an extended slow down in the US economy for at least the next decade and maybe longer.
Think of health care. The system was recently "improved" to capture millions of uninsured Americans just when the demographic shift makes the hole in this budget item even more acutely painful. The health care investment thesis basis its analysis on the spending side of the equation and to be sure this should accelerate as more and more baby boomers advance in age. However as more and more baby boomers die there is less and less demand and as time goes by this demand will fall off a cliff.
In addition just as the cost of financing health care and a burgeoning budget deficit spiral ever upward, the base of tax payers paying the bulk of the taxes (the middle class) will level off and could even shrink. This is not a long term trend that bodes well for future government plans to reign in spending. Just take one look at the struggle that Japan is having since their bubble population moved into the retirement years. At present Japan's pension fund is liquidating assets at 5 times its normal rate to support pension payments and the economy is still struggling 20 years after the Nikkei peaked. This could easily point toward an extended period of contraction in the US economy and is certainly not a scenario that the market or the Federal Reserve is taking seriously at present.
Furthermore the age at which people are getting married is rising rapidly. This bodes poorly for population growth and for housing. Home ownership is far more likely when married than when single. Married couples normally have less children the older they are. Less children mean less demand in the future and less marriages mean less demand for housing at present. Certainly not an ideal situation for the housing sector particularly in this poor economic environment.
Now do not get me wrong, this is not going to happen overnight. Demographic shifts happen over decades and not minutes, but it certainly is a theme that should be monitored and should slowly be factored into your investment strategies going forward. At the very least these demographic trends point towards an extended slow down in the US economy for at least the next decade and maybe longer.
Thursday, October 14, 2010
Inflation is Coming
For a while now it has appeared that the level of inflation will be held down with the two inflation busters of high unemployment and factory capacity. These two have provided a buffer against inflation for more than a year but it has always been my contention that with all the quantitative easing happening around the globe that eventually there would be inflation even with no growth. The economic term for an economy with high unemployment and high inflation is stagflation.
Stagflation seems to be taking hold right before our eyes as this morning producer prices once again moved higher by 0.4 percent which was the same level of increase as was reported in August. This was "unexpected" as it was consensus that August was an anomaly. Now for all of you that trade futures and commodities like I do you would have known that this was anything but an anomaly.
Oil is over $80 per barrel, all the grains are at or near new twelve month highs, sugar and cocoa are trending higher and gold (the official barometer of inflation) has broken to all time highs. The official reason for the big jump was due to finished foods specifically meat and poultry. The reason for their move higher was a 26 percent increase in the price of corn which is used to feed these animals. So the inputs (raw materials) are finally starting to feed through to the output prices and this will lead to inflation.
Why do these prices continue higher? As the Federal Reserve continues to print money the dollar is plummeting, This will result in a move higher in the price of internationally traded commodities such as oil, grains and softs. In the end this will and has always lead to inflation. The question is when will the Federal Reserve try to combat it?
My answer is that they will wait too long mainly due to the fact that they believe it is under control. In addition attacking inflation now will result in another recession as it will choke off any growth and will certainly destroy a fragile housing market and banking sector. For these reasons they will leave rates too low for too long and the result will be high inflation with no growth for an extended period. My advice is to be prepared for a long dry spell in stocks (other than those tied to commodity prices) as the money will be made in commodities.
Stagflation seems to be taking hold right before our eyes as this morning producer prices once again moved higher by 0.4 percent which was the same level of increase as was reported in August. This was "unexpected" as it was consensus that August was an anomaly. Now for all of you that trade futures and commodities like I do you would have known that this was anything but an anomaly.
Oil is over $80 per barrel, all the grains are at or near new twelve month highs, sugar and cocoa are trending higher and gold (the official barometer of inflation) has broken to all time highs. The official reason for the big jump was due to finished foods specifically meat and poultry. The reason for their move higher was a 26 percent increase in the price of corn which is used to feed these animals. So the inputs (raw materials) are finally starting to feed through to the output prices and this will lead to inflation.
Why do these prices continue higher? As the Federal Reserve continues to print money the dollar is plummeting, This will result in a move higher in the price of internationally traded commodities such as oil, grains and softs. In the end this will and has always lead to inflation. The question is when will the Federal Reserve try to combat it?
My answer is that they will wait too long mainly due to the fact that they believe it is under control. In addition attacking inflation now will result in another recession as it will choke off any growth and will certainly destroy a fragile housing market and banking sector. For these reasons they will leave rates too low for too long and the result will be high inflation with no growth for an extended period. My advice is to be prepared for a long dry spell in stocks (other than those tied to commodity prices) as the money will be made in commodities.
Tuesday, October 5, 2010
India versus China
There is much debate over whether India will be able to eclipse China's growth. Having recently visited China I have to say that this may be a stretch in the near term (5 to 10 years). Post this period India may well have its day.
To start with China has far superior foreign currency reserves, infrastructure and a government that will not let anything or any person in its way to stop their meteoric rise. Every policy is aimed at making it the next economic super power and their desire seems to be far more focused and intent than India's. That said there may be blocks to growth in the longer term.
India for all its drawbacks has a few things that make it appealing for the long term. First they have a better demographic due to China's restrictive one child policy. This will serve them well in the long term as their youth of today power India's growth of tomorrow. Just look at how it benefited the USA during the baby boom generation.
Second, being a democratic country has enabled superior levels of competition. China on the other hand has the government's finder prints all over large business operations and it is difficult to see how this will benefit them in the long run or how easily they will be able to extract themselves from these companies to foster competitive growth. At some point they must let these companies survive on their own if they are to become true global players and at present it is difficult to see the Chinese government giving up control.
Finally, India is far safer from an intellectual property stand point. This is why most of the large technology companies prefer to use India as a low cost hub rather than China where copying intellectual property is common place.
It will be interesting to see if over time India can repair its broken infrastructure and bring it up to the international standards required to move it into an economic super power, or whether China will be able to transition to a more open market economy that fosters competition over government intervention while cracking down on the breaches of international intellectual property law.
Personally I will remain more heavily invested in China for the foreseeable future but will continue to be watchful of a sustained Indian growth wave that will create investment opportunities.
To start with China has far superior foreign currency reserves, infrastructure and a government that will not let anything or any person in its way to stop their meteoric rise. Every policy is aimed at making it the next economic super power and their desire seems to be far more focused and intent than India's. That said there may be blocks to growth in the longer term.
India for all its drawbacks has a few things that make it appealing for the long term. First they have a better demographic due to China's restrictive one child policy. This will serve them well in the long term as their youth of today power India's growth of tomorrow. Just look at how it benefited the USA during the baby boom generation.
Second, being a democratic country has enabled superior levels of competition. China on the other hand has the government's finder prints all over large business operations and it is difficult to see how this will benefit them in the long run or how easily they will be able to extract themselves from these companies to foster competitive growth. At some point they must let these companies survive on their own if they are to become true global players and at present it is difficult to see the Chinese government giving up control.
Finally, India is far safer from an intellectual property stand point. This is why most of the large technology companies prefer to use India as a low cost hub rather than China where copying intellectual property is common place.
It will be interesting to see if over time India can repair its broken infrastructure and bring it up to the international standards required to move it into an economic super power, or whether China will be able to transition to a more open market economy that fosters competition over government intervention while cracking down on the breaches of international intellectual property law.
Personally I will remain more heavily invested in China for the foreseeable future but will continue to be watchful of a sustained Indian growth wave that will create investment opportunities.
Thursday, September 30, 2010
The Best September for 70 Years
So here we are on the last day of September 2010 and the market has just closed. It turns out that not only was this the best monthly performance for the stock market of the past 15 months but it was also the best September performance for 70 years! Who would have "thunk"?
Going into September the market sentiment was extremely negative (I for one was very bearish and remain so), in fact it was so negative that any form of a rally would squeeze the life from the shorts. For those of you less in tune with trading jargon that means that the people that were betting on a market capitulation would be forced to reverse their positions driving the market higher as they rushed for the exit. It appears that this is exactly what happened.
There was not a lot of conviction in the move as the volumes for the month were not overly bullish, but the market just kept on churning north. Each day as the market continued higher more shorts were squeezed and this drove prices even higher. A closer analysis of the move shows that certain sectors of the market did the lion's share of the work. Industrials, consumer discretionary and technology were all up over 10 percent while finance and utilities although still up were a drag on the overall performance.
So where are we now? I still feel that the train wreck will happen in the near future. Quantitative easing signals have driven yields back to their lows, unemployment remains stubbornly high, consumer sentiment remains in the doldrums (with the holiday shopping season just around the corner), housing is still weak, banks are still struggling and the dollar is being pounded. This is not a macro picture that lends itself to being overly bullish so I am sure that most money managers will trail the September index return by a significant percent.
However, with the elections coming in November the rally could continue through the end of the year. I am cautiously pessimistic on this view and expect to see a violent pullback at some point in the near future particularly if consensus starts to shift to the bullish camp en masse. Trade cautiously and enjoy the prosperity while it is upon us.
Going into September the market sentiment was extremely negative (I for one was very bearish and remain so), in fact it was so negative that any form of a rally would squeeze the life from the shorts. For those of you less in tune with trading jargon that means that the people that were betting on a market capitulation would be forced to reverse their positions driving the market higher as they rushed for the exit. It appears that this is exactly what happened.
There was not a lot of conviction in the move as the volumes for the month were not overly bullish, but the market just kept on churning north. Each day as the market continued higher more shorts were squeezed and this drove prices even higher. A closer analysis of the move shows that certain sectors of the market did the lion's share of the work. Industrials, consumer discretionary and technology were all up over 10 percent while finance and utilities although still up were a drag on the overall performance.
So where are we now? I still feel that the train wreck will happen in the near future. Quantitative easing signals have driven yields back to their lows, unemployment remains stubbornly high, consumer sentiment remains in the doldrums (with the holiday shopping season just around the corner), housing is still weak, banks are still struggling and the dollar is being pounded. This is not a macro picture that lends itself to being overly bullish so I am sure that most money managers will trail the September index return by a significant percent.
However, with the elections coming in November the rally could continue through the end of the year. I am cautiously pessimistic on this view and expect to see a violent pullback at some point in the near future particularly if consensus starts to shift to the bullish camp en masse. Trade cautiously and enjoy the prosperity while it is upon us.
Monday, September 27, 2010
The End of the Recession
So the recession is officially over, but tell that to the millions of unemployed Americans. Furthermore there is more than a fair chance that another round of quantitative easing will happen in the very near future. Certainly it is not "normal" for more stimulus to be required when the recession is over but maybe that is me calling a spade a spade.
Having just returned from a visit to China (the main reason that my blog went silent for a while) I can tell you that there is a stark contrast between our recession ended economy and their in full flight economy. Without a doubt they still have a way to go and the divide between the haves and the have nots is widening (which is particularly worrying), but there is no reason that I can see why in a couple of decades their economy will not be at least on par with the United States.
How the next few decades are handled politically on both sides of the Pacific will have a massive impact on the global economic landscape for the rest of the millennium, This will be very interesting to watch but as my long term view is of significant Chinese growth I am still a firm believer in investing in China.
To be sure there are numerous pitfalls with investing into China and Chinese stocks. The one that jumped out at me during my trip was that growth at the expense of cash flow and shareholders (through dilution) seems to be the norm. As a shareholder this does not please me in the least so I will be extra vigilant to ensure that the companies that I invest in have their shareholders at heart. I would advise that you do the same.
Having just returned from a visit to China (the main reason that my blog went silent for a while) I can tell you that there is a stark contrast between our recession ended economy and their in full flight economy. Without a doubt they still have a way to go and the divide between the haves and the have nots is widening (which is particularly worrying), but there is no reason that I can see why in a couple of decades their economy will not be at least on par with the United States.
How the next few decades are handled politically on both sides of the Pacific will have a massive impact on the global economic landscape for the rest of the millennium, This will be very interesting to watch but as my long term view is of significant Chinese growth I am still a firm believer in investing in China.
To be sure there are numerous pitfalls with investing into China and Chinese stocks. The one that jumped out at me during my trip was that growth at the expense of cash flow and shareholders (through dilution) seems to be the norm. As a shareholder this does not please me in the least so I will be extra vigilant to ensure that the companies that I invest in have their shareholders at heart. I would advise that you do the same.
Saturday, September 4, 2010
Zweig Breadth Indicator
This is an indicator that was developed by Dr. Martin Zweig. The Breadth Thrust Indicator measures market momentum. I will not go in to how the indicator is calculated but suffice it to say that the "Breadth Thrust" occurs when during a 10-day period the indicator rises from below 40% to above 61.5%. This indicates that the market has rapidly changed from an oversold condition to one of strength but is not yet overbought.
According to Dr. Zweig there have only been 14 of these thrusts since 1945. Each time the thrust occurred the market rallied significantly and the average gain in the market was 24.6% over the next eleven months. In fact most of the best bull markets start with a Breadth Thrust.
I always check this indicator and as of Friday the indicator closed at 61.3% in only eight days. This is within a whisker of fulfilling the indicator requirement which may be achieved on Tuesday. Should this occur it appears that the market will enter a year long bullish phase with significant upside.
This certainly goes against what I expect so I will be monitoring the indicator very closely but it does appear that there is a fundamental shift happening in the market. The bond market appears to be rolling over which could lead to additional gains being made on the long side for the foreseeable future. Furthermore there is a chance that the market rallies for the next year based on more quantitative easing from the Federal Reserve. This could place a temporary support under the housing market and risk aversion could reignite the market to rally.
While it is still my contention that all of this will still be a short term fix to a long term structural problem, if you are trading and are expecting a market collapse (as I am) this indicator could be pointing the way and it is in the opposite direction. Do not get too wedded to your opinions as if the market does rally 25% from here there will be a lot of pain to be felt if you are short.
According to Dr. Zweig there have only been 14 of these thrusts since 1945. Each time the thrust occurred the market rallied significantly and the average gain in the market was 24.6% over the next eleven months. In fact most of the best bull markets start with a Breadth Thrust.
I always check this indicator and as of Friday the indicator closed at 61.3% in only eight days. This is within a whisker of fulfilling the indicator requirement which may be achieved on Tuesday. Should this occur it appears that the market will enter a year long bullish phase with significant upside.
This certainly goes against what I expect so I will be monitoring the indicator very closely but it does appear that there is a fundamental shift happening in the market. The bond market appears to be rolling over which could lead to additional gains being made on the long side for the foreseeable future. Furthermore there is a chance that the market rallies for the next year based on more quantitative easing from the Federal Reserve. This could place a temporary support under the housing market and risk aversion could reignite the market to rally.
While it is still my contention that all of this will still be a short term fix to a long term structural problem, if you are trading and are expecting a market collapse (as I am) this indicator could be pointing the way and it is in the opposite direction. Do not get too wedded to your opinions as if the market does rally 25% from here there will be a lot of pain to be felt if you are short.
Thursday, August 26, 2010
The Trader's Edge
Recently two of the most prominent hedge fund managers of our time closed up shop. Stanley Druckenmiller and Paolo Pellegrini decided to call it quits. Both were not having good years after long periods of market out performance.
In trying to understand why it is my belief that they had lost their "edge". That is not to imply that they are not excellent at what they do but it appears to me that over the past few years the rules of the game have changed. With the advent of quant funds that use super computers to execute trades at lightning speed there has been a massive spike in the volume of trades on all markets while the market capitalization of the S&P 500 has remained relatively flat for the same period (I looked at the last 10 years).
These funds have taken control of the markets and are running rampant at the expense of the "old school" investors. This is why there are days when ever hourly tick is a measured move higher with no draw downs. Only trades placed by computers with no rational thinking would continue to buy as prices increase only to offload all at once, as in the flash crash, when certain trigger points are hit.
The regulators have turned a blind eye to these trades as they make up the bulk of the stock exchange revenues, but it is my view that this is delaying another bad ending. Rather than being proactive and fixing the problem now the regulators are waiting until their gravy train is gone before supposedly helping the general public (after the public's portfolios have been decimated).
So what to do? Either you can close up shop as the managers above did or you can adapt to the "new" market order. As there has recently been a huge exodus from these funds mainly because the "safety" that they offered proved to be fleeting it is my opinion that the market is now on the verge of a very violent push lower. To take advantage of this, buy deep out of the money puts for ten to fifteen cents each and capture a huge windfall if my theories prove correct. If I am wrong you have only risked a small portion of your capital. While you wait for the market to implode read the book "The Black Swan" by Nassim Taleb.
In trying to understand why it is my belief that they had lost their "edge". That is not to imply that they are not excellent at what they do but it appears to me that over the past few years the rules of the game have changed. With the advent of quant funds that use super computers to execute trades at lightning speed there has been a massive spike in the volume of trades on all markets while the market capitalization of the S&P 500 has remained relatively flat for the same period (I looked at the last 10 years).
These funds have taken control of the markets and are running rampant at the expense of the "old school" investors. This is why there are days when ever hourly tick is a measured move higher with no draw downs. Only trades placed by computers with no rational thinking would continue to buy as prices increase only to offload all at once, as in the flash crash, when certain trigger points are hit.
The regulators have turned a blind eye to these trades as they make up the bulk of the stock exchange revenues, but it is my view that this is delaying another bad ending. Rather than being proactive and fixing the problem now the regulators are waiting until their gravy train is gone before supposedly helping the general public (after the public's portfolios have been decimated).
So what to do? Either you can close up shop as the managers above did or you can adapt to the "new" market order. As there has recently been a huge exodus from these funds mainly because the "safety" that they offered proved to be fleeting it is my opinion that the market is now on the verge of a very violent push lower. To take advantage of this, buy deep out of the money puts for ten to fifteen cents each and capture a huge windfall if my theories prove correct. If I am wrong you have only risked a small portion of your capital. While you wait for the market to implode read the book "The Black Swan" by Nassim Taleb.
Tuesday, August 24, 2010
The Dichotomy of the Market
It appears that there are two markets. There is the market for the high flier stocks such as Salesforce.com (ticker CRM) with a price to earnings ratio of 195. Then there is the market for small cap stocks like SinoHub (ticker SIHI) trading at a price to earnings ratio of 3.
Now it appears obvious to me that you should buy the cheap stock and short (or sell) the expensive stock (which I have done). Certainly there is more to fundamental analysis than this high level approach, but for the purposes of this blog I want to keep it simple to make a point.
The market however continues to support the price of the high fliers while continuing to sell the cheaper stocks. I expect that this trend will reverse itself at some point and this will be a signal that the momentum has shifted and that growth stocks are out of favor.
The key point here is that growth stocks normally fair well during a bull market if that bull market is occurring on the back of a solid economic base while value plays normally hold up far better during a bear market. As it is my view that due to weak economic fundamentals we are still in a secular bear market. Furthermore I expect that the lows of March 2009 will not hold and therefore I would advise you to exit any of your high fliers and, if you need to replace these with new stocks, look for value plays.
Now it appears obvious to me that you should buy the cheap stock and short (or sell) the expensive stock (which I have done). Certainly there is more to fundamental analysis than this high level approach, but for the purposes of this blog I want to keep it simple to make a point.
The market however continues to support the price of the high fliers while continuing to sell the cheaper stocks. I expect that this trend will reverse itself at some point and this will be a signal that the momentum has shifted and that growth stocks are out of favor.
The key point here is that growth stocks normally fair well during a bull market if that bull market is occurring on the back of a solid economic base while value plays normally hold up far better during a bear market. As it is my view that due to weak economic fundamentals we are still in a secular bear market. Furthermore I expect that the lows of March 2009 will not hold and therefore I would advise you to exit any of your high fliers and, if you need to replace these with new stocks, look for value plays.
Thursday, August 19, 2010
Racheting Down Growth Forecasts
Today JP Morgan became the latest casualty of forecasters when they racheted down their predictions of US economic growth for the second time this year. The numbers were huge. They reduced GDP growth for the third quarter down to 1.5% from 2.5% and for the fourth quarter down to 2.0% from 3.0%. For those of you not too up on mathematics that equates to a 40% reduction in growth for the third quarter and a 33% reduction in growth for the fourth quarter.
Furthermore they increased their expectation of the unemployment level to 10%. Previously they had estimated that unemployment levels would drop to 9.6%. The reality of the weak underlying economy is starting to show up these overly optimistic forecasts and I expect that this will start to be reflected in the stock market.
Already today the market is off more than 1.5% and I expect that this is just the start of a very long drawn out demise in the value of all stocks.
Furthermore they increased their expectation of the unemployment level to 10%. Previously they had estimated that unemployment levels would drop to 9.6%. The reality of the weak underlying economy is starting to show up these overly optimistic forecasts and I expect that this will start to be reflected in the stock market.
Already today the market is off more than 1.5% and I expect that this is just the start of a very long drawn out demise in the value of all stocks.
Wednesday, August 18, 2010
The Chinese Are Coming
This week there was a very important event that the press and most analysts seem to have completely missed. The Chinese have begun to issue international bonds denominated in yuan. This is an incredibly important step towards becoming a player in the global financial markets.
At present the markets are controlled by the major exchanges in Europe, Japan and the United States. The dollar is the reserve currency of the world and because of this status the United States has the ability to print money in an uncontrolled fashion and get away with it. This is all about to change.
In order for the Chinese to establish a credible currency that could one day challenge the dominance of the dollar they need to have a large float of the currency. The first step towards this is to open their markets to international investors by selling bonds to foreigners. Creating the first bonds this week is a step in that direction.
While it will take time to supplant the dollar, the Chinese have shown their intent and dislike of being controlled by fluctuations in United States policies. Now I am not suggesting that the yuan takes the place of the dollar outright but I do believe that in the not too distant future the dollar will be replaced as the currency of choice in certain parts of the world and that accepting yuan, euros or dollars will be just as acceptable as the dollar is today.
Once that happens, the United States will lose its ability to print money recklessly and will need to become far more austere in order to keep its place in the global hierarchy. When this happens the pain of repayment will be upon us. Let us hope that our leaders can preempt this and begin to implement the measures that we require today - but I doubt it.
At present the markets are controlled by the major exchanges in Europe, Japan and the United States. The dollar is the reserve currency of the world and because of this status the United States has the ability to print money in an uncontrolled fashion and get away with it. This is all about to change.
In order for the Chinese to establish a credible currency that could one day challenge the dominance of the dollar they need to have a large float of the currency. The first step towards this is to open their markets to international investors by selling bonds to foreigners. Creating the first bonds this week is a step in that direction.
While it will take time to supplant the dollar, the Chinese have shown their intent and dislike of being controlled by fluctuations in United States policies. Now I am not suggesting that the yuan takes the place of the dollar outright but I do believe that in the not too distant future the dollar will be replaced as the currency of choice in certain parts of the world and that accepting yuan, euros or dollars will be just as acceptable as the dollar is today.
Once that happens, the United States will lose its ability to print money recklessly and will need to become far more austere in order to keep its place in the global hierarchy. When this happens the pain of repayment will be upon us. Let us hope that our leaders can preempt this and begin to implement the measures that we require today - but I doubt it.
Tuesday, August 10, 2010
QE2
Now this is not the ship we are talking about, it is the next round of Federal Reserve quantitative easing. As round one has officially not worked, they are extending their holdings of treasuries and other securities. Effectively this is the second round of quantitative easing.
Currently the market is rejoicing but I feel that this will be short lived. Investors need to realize that if the $1.75 trillion did not work in round one, there is no reason to believe that it will work in round two. Once the market realizes this the rubber will meet the road and it is my expectation that this will end badly.
You do not repair a debt problem with more debt and you do not create more jobs by burning the dollar. This will result in inflation and the Fed will have no-where to go. It is officially over (although the market may rejoice) and beginning later this month or early September I would be short the market and long gold.
Currently the market is rejoicing but I feel that this will be short lived. Investors need to realize that if the $1.75 trillion did not work in round one, there is no reason to believe that it will work in round two. Once the market realizes this the rubber will meet the road and it is my expectation that this will end badly.
You do not repair a debt problem with more debt and you do not create more jobs by burning the dollar. This will result in inflation and the Fed will have no-where to go. It is officially over (although the market may rejoice) and beginning later this month or early September I would be short the market and long gold.
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