Monthly Archives: March 2010

Gold set up for another rally?

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I can hardly believe it, but gold has failed to follow through on the decline from December’s $1228 high, despite the extreme and persistent bullishness leading up to that parabolic top. It’s held tight to $1100 and formed a contracting triangle, while DSI bullishness has dropped to the mid-teens. This is very similar to the set-up in sugar last fall before it blasted off from 0.22 to 0.30 and put in its final high (it trades now around 0.17):

Futures.tradingcharts.com

Here’s gold, also in a weekly chart:

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What’s interesting about this juncture is that stocks are extremely overbought on the kinds of readings that typically mark at least an intermediate-term top (put:call, sentiment surveys, waning momentum, etc). Since the dollar broke higher last December while stocks were unphased, we’ve seen somewhat of a breakdown of the old correlations (dollar and yen vs. everything else).

If the PM complex does levitate as stocks decline, it would resemble the action in early 2008. After panic and the deflation trade gathered some steam, the metals eventually succumbed. Here is the GDX mining stock ETF in blue vs. the S&P 500 in red:

Yahoo! Finance

Global stock indexes running on fumes

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When I’m looking at larger trends I like to visit the Bloomberg global stock market pages, rather than stare at the Dow all the time. To that end, here’s a tour of a few indexes from outside the US.

The German DAX always looks like the S&P 500. 5-year view:

Source: Bloomberg, for all charts.

Brazil’s Bovespa, 5-year view. Looks like a huge double-top. Note, the February decline busted the uptrend, and there have been no new highs since January:

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Madrid’s IBEX 35 has been struggling:

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The Athen’s stock exchange is even weaker of course:

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Here’s the Russian Trading System index, possibly stalling out at a typical retracement level for a post-crash bounce:

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The Swedes are feeling frisky, with a recent pattern that looks like the high-flying secondaries in the US:

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Moving east, we see that Chinese stocks topped back in November:

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The Nikkei’s bounce has been pretty weak relative to most others, and its ascent has been shallow and wobbly since last June:

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Nothing looks particularly bullish about the Australian stock market. Its top so far remains back in January, and it’s only barely higher than last October. What will happen when their real estate bubble pops?

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Here’s India’s Nifty Fifty, back near peak bubble levels and asking for another wallop. Not much reward for a whole lot of risk here since October.

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The general impression here is that these markets have simply made giant bear market rallies as part of a de-risking process from the euphoria of 2005-2007. There is no fundamental value in stocks at these prices (the S&P 500 is yielding under 2%, and that’s among the better returns out there), and if I am gauging mood correctly we are not beginning another great bubble but still deflating the last one.

During the winter of 2008-2009 a lot of these indexes formed solid, tradeable bottoms that were tested repeatedly (look at 2500 above in the Nifty for instance) or outright divergences (see the Bovespa). This was a strong clue that we were firming up for a rally to correct the whole decline, despite the US dipping to a deep new low in March. Well, we have pretty strong resistance levels and divergences since fall in many of these indexes, perhaps warning us not to take the highs in the Nasdaq and Russell 2000 too seriously. After all, there is no more speculative market than China, and it’s been very weak for almost six months. Even the crazy Bovespa, though back at nosebleed levels, has not made any headway since December. Greece has already crashed again, and Spain is thinking about it.

A year ago, there was a wonderful technical case for being bullish. That’s now completely gone, and in my opinion we now have nearly as strong a case for being bearish. These markets are more overvalued, more overbought and technically weaker (broken up-trends, waning momentum ) than at any point since late 2007. It is astonishing that they have rebounded as far as they have, but that does not mean that they will continue – given the character of the advances since last summer, these heights only provide more potential energy for the next decline.

Goldilocks is back, better watch out

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It’s official: Goldilocks is back, at least for junk bonds, according to a JPM analyst quoted in Bloomberg:

March 29 (Bloomberg) — Junk bond sales reached a record this month as rising profits and record low Federal Reserve interest rates foster lending and investment to the lowest-rated borrowers.

Companies worldwide issued $38.3 billion of junk bonds in March, passing the previous high of $36 billion in November 2006, according to data compiled by Bloomberg. Yields fell 0.95 percentage point to within 5.96 percentage points of government debt, the narrowest gap since January 2008, Bank of America Merrill Lynch index data show.

This is “an almost ‘Goldilocks’ environment for leveraged credit markets,” JPMorgan Chase & Co. analysts led by Peter Acciavatti, the top-ranked high-yield strategist in Institutional Investor magazine’s annual survey for the past seven years, said in a March 26 report to the bank’s clients.

Sales soared as investors plowed a record $33.6 billion into speculative-grade funds this quarter, according to Cambridge, Massachusetts-based research firm EPFR Global. Bonds of Stamford, Connecticut-based Frontier Communications Corp. and Consol Energy Inc. of Pittsburgh, which sold a combined $5.95 billion of debt last week, rose about 2 cents on the dollar to 102 cents.

That’s a turnaround from February, when companies canceled sales at the fastest pace since credit markets began to freeze in 2007 amid concern that the inability of European governments to trim their budget deficits will threaten a global recovery.

Loan Revival

About $20 billion of high-yield, or leveraged, loans have been completed in February and March, compared with $38 billion for all of 2009, according to New York-based JPMorgan. Speculative-grade securities are rated below Baa3 by Moody’s Investors Service and BBB- by Standard & Poor’s.

Elsewhere in credit markets, yield spreads for company bonds shrank by an average 3 basis points last week to 151 basis points, or 1.51 percentage points, the narrowest since November 2007, according to Bank of America Merrill Lynch’s Global Broad Market Corporate Index. Yields rose to 4.02 percent from 3.98 percent. …

Looks like credit investors are “all-in” again, just like the stock market crowd. This never ends well.

…“Appetite is definitely there,” said Joel Levington, director of corporate credit for Brookfield Investment Management Inc. in New York, which has $24 billion in assets under management.

Sales of high-yield bonds in March more than doubled last month’s total of $16 billion, driving issuance this year to $78.5 billion, the busiest quarter on record, Bloomberg data show. High-yield companies, taking advantage of the lower borrowing costs, said they planned to repay debt with proceeds from at least $20 billion of this month’s sales.

“The mindset of investors is that this spread product is ideally situated for this kind of macro environment,” said Charles Himmelberg, the chief credit strategist at Goldman Sachs Group Inc. in New York.

Just what macro environment might that be? Silly me, I thought we were sliding down the backside of a credit bubble.

The myth of the evil short-seller lives on

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Bloomberg’s Jonathan Weil writes a good column. Here he digs into the falacy often cited by executives of failing companies and politicians that short-sellers are responsible for drops in price:

Still Believing

So I asked a Morgan Stanley spokesman, Mark Lake, this week if the company’s executives still believed what Mack said in September 2008 about short sellers to be true. And if so, based on what evidence? No comment, he said. Mack wouldn’t talk either.

I got the same response at a conference in Phoenix last weekend when I posed similar questions to the SEC’s enforcement- division director, Robert Khuzami, who joined the agency about a year ago from Deutsche Bank AG. How are his staff’s short-seller investigations going? Found anything significant yet? No comment, he said. Cuomo’s office didn’t comment either.

My guess for why they have nothing to say is that the whole thing was a farce to begin with. Yet this same urban legend — that mysterious, unnamed short sellers and speculators somehow are to blame whenever markets plunge — still lives on.

In Greece, Prime Minister George Papandreou has tried to blame his country’s budget crisis on speculators who profited by buying credit-default swaps on Greece’s sovereign debt. Actually, it turns out Greece was shorting itself.

Paulson’s Evidence

One of the largest buyers of such swaps was the state- controlled Hellenic Postbank SA, which made a $47 million profit last year after it sold its $1.2 billion position, the Athens newspaper Kathimerini reported a few days ago. The bank’s former chairman later said Hellenic was just protecting Greek bonds it owns against a possible default, not speculating, though that doesn’t change the economics of the trade.

In his memoir, “On the Brink,” Paulson writes like a true believer. “Short sellers were laying the bank low,” he said, describing Mack’s plight a year and a half ago. “But John and his team weren’t about to go down without a fight.” What facts did Paulson cite in support of the notion that short sellers were harming Morgan Stanley, or that they had the capability to do so? None, of course.

Paulson mentioned only one short seller by name in his book, David Einhorn of Greenlight Capital, who shorted Lehman’s stock and warned other investors that the bank’s books were probably cooked. In that instance, however, Paulson said Einhorn was proven right, a point echoed in the findings of this month’s report by Lehman bankruptcy examiner Anton Valukas. (Paulson’s book didn’t name anyone who had shorted Morgan Stanley.)

Wrong Target

Einhorn also was right when he tried to warn the SEC in 2002 about the accounting practices of a business-development company called Allied Capital Corp. The SEC responded by turning around and investigating him, at Allied’s urging, without any basis for believing he’d done anything improper, as SEC Inspector General David Kotz’s office chronicled in a report released this week. Eventually, the SEC let the company off without any penalty, in spite of what the report called “specific, detailed allegations and evidence of wrongdoing by Allied.”

Here’s another idea for Kotz. How about investigating whether the SEC had any reasonable basis for believing Mack’s short-seller story in September 2008 when it acted on his pleas, and whether Mack had any plausible grounds to believe the story himself? Now there’s a probe that might turn up something.

Read the whole article here.

More here on how CDS traders are being used as a scapegoat for a well-deserved decline in Greek debt.

Manuel Asensio’s Sold Short tells the story of a small hedge fund that sought out frauds to short and was eventually pushed out of the business by high-priced lawyers paid for with cash from pump-and-dumps.

Prechter in the morning (King World News interview)

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Eric King is one of the best financial interviewers out there, so he gets the best guests of anyone I know.

Listen to the MP3 here, recorded last Saturday, March 20.

Take-aways:

The last of the bears are capitulating, just as the last of the bulls turned bearish last winter. Everybody loves stocks after a 73% rally, and there is huge psychological pressure to be bullish.

The market only gives away free money for so long (unbroken strings of up days often come near the end, as in Spring 1930).

The last two times that the market made a double top (July/Oct 2007 and the 2000 top), the Nasdaq surged at the very peak, leaving the Dow and SPX behind. SPX has just barely made a new high, but it feels like it’s much higher than in January.

GDP expansion is very weak compared to the stock rally, bank lending and jobs are still trending negative.

This is not a recession that has ended. This is a depression that has had a big countertrend rally.

States are all bankrupt, because they always spend too much. Governments always go bankrupt in the end. (Interesting factoid: Nebraska’s constitution outlaws borrowing by the state, so they are in the best shape).

All of the dollar-denominated IOUs are going to be worthless in the end. The government’s backstop has delayed this, but the debt will still go bad. The central banks will not take on all the bad debt, so the governments are trying, but they will ultimately default themselves.

Hyperinflation is not an option with all this debt. Default (deflation) is inevitable. Government defaults are deflationary.

Cycles are part of the human social experience. Muni defaults haven’t happened since the 1930s, but that is only because that was the last time we were at this point of the debt cycle. Munis will end up as wallpaper — no way the states can pay them off.

Conquer the Crash was released in 2002, but the stock market rose for 5 more years and the credit bubble got even crazier before finally topping in 2007, but the extra debt is just making things worse now that we’re at the point of no return.

We have a return of confidence. AAII (American Association of Individual Investors) survey shows about 25% bears, same as October 2007 and May 2008 tops. This is not a good buying opportunity.

Every investing group (individuals, pensions, mutual funds, etc) has been overinvested for 12 years. Mutual funds are only holding 3.5% cash. They have never given up on stocks, even in March 2009, which was nothing like in the 1970s and early 1980s.

Very few people think we can end up like Japan, and keep breaking to new lows for 20 years. Everybody always has a “story,” a narrative as to why the market is going to keep going down (at bottoms) and up (at tops).  (Story today, IMO: PPT manipulation and money printing will drive stocks up forever). The story is often exactly wrong at the top and bottom.

Interest rates do not drive stocks. Lower rates are not bullish (just look at the 1930s or 2007-2008). Rates went up from 2003 – 2007 as the market rallied. People’s logic is always incorrect at the turns. Nor do earnings drive prices: stocks fell 75-80% in real terms from 1966-1982 as earnings rose.

Oil and stocks have a correlation that comes and goes – sometimes none, sometimes very positive, sometimes very negative. No predictive power.

Markets have a natural ebb and flow that arises from herding processes in a social setting. Reasoning about causation is a waste of time.

Economists jabber on about all kinds of causation, but they never offer statistics that pass muster.

Bond funds are going to slaughter the masses. The public always buys the wrong thing at the wrong time, and a wave of defaults is coming.

The dollar is likely starting a major rally (up 9% since fall, 11% vs euro). Prechter was early on that call but it still was a good one. Might be the start of a renewed wave of deflationary pressures.

The message in the new edition of Conquer the Crash remains, “get safe.” Find a safe bank, hold T-bills or treasury-only mutual funds, cash notes, and some gold and silver. No downside to safety.

Deflation explained in two simple charts

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The charts below come via Mish’s post today on why it doesn’t matter that Bernanke wants to eliminate bank reserve requirements. The quick answer: Greenspan already did that in 1994 when he allowed overnight sweeps on checking accounts to free them from reserve requirements just like savings accounts. In this era, banks lend first and look for reserves later.

Anyway, way back in 2007 I first became convinced that this would be a deflationary depression because of this simple equation: there was $52 trillion in outstanding debt in the US, and only (at the time) $850 billion in base money (all the “cash” that the Fed had created since it was founded in 1913). As defaults and write-downs started to reduce the amount of debt, the Fed was likely to create new money to bail out banks and monetize deficits. It was plain to see that the difference in scale betwean the two pools, debt and cash, would tip the scales in favor of deflation, along with a shift in attitude towards frugality and a new respect for the value of a dollar.

Well, here we are in 2010, and the Fed has indeed created a fresh $1.2 trillion, but the debt pile has stopped growing over the last year, even taking into account the massive issuance of treasury debt. This chart comes from Karl Denninger:

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I suspect that if properly marked to market, the private debt figures (household, business credit and financial instruments) would be considerably lower. There is a lot of pretending going on at banks, since they do not want to take write-downs. How much of that household credit card and mortgage debt will really be paid off?How much of those financial instruments are junk (and even investment-rated) bonds that will be defaulted on in the next few years? How many business loans are in arrears or just barely being made?

On the other side of the equation, here is the base money supply since 1999:

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If reserve ratios mattered, wouldn’t debt have at least doubled (or more if you believe in the multiplier effect)? The fact is, nobody who can handle a loan wants one, and nobody who wants one can handle it.

Credit conditions and risk appetite are what drive lending, not reserves. Banks simply don’t hold reserves anymore, which is why bubbles get so out of hand and why they are always a few bad loans away from bankrupcy. If bankers’ asses and depositors’ funds were on the line like in the 1800s, you better believe banks would hold reserves. Depositors would sniff out those that tried to scimp, and take their funds elsewhere, nipping any trouble in the bud. Busts were frequent and localized, and freed up capital for productive hands. That’s why that era produced the greatest improvement in living standards and real GDP growth of 3-4% while prices were steady to falling for decades.

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Here’s another chart that shows our state of debt saturation from Nathan’s Economic Edge. GDP no longer grows with debt — this is the point of no-return where interest can no longer be serviced with production, so the whole thing starts to collapse.

Mish in the morning (audio)

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Here’s a wide-ranging interview of Mish Shedlock on King World News.

A few take-aways:

Even if the US economy adds a steady 100k jobs a month, unemployment will be flat at 10% indefinitely.

The depression is masked by food stamps, extended unemployment benefits and a million census workers.

The best thing for underwater homeowners is often to just stop paying the mortgage — odds are you can stay in your house for ages while saving up to rent the equivalent for less than the monthly mortgage payment.

Chris Christie of NJ is the only decent governor in the US. He’s cutting spending in a real way, taking on the unions and municipalities and cutting programs.

If consumer spending is really up, sales tax receipts should be up, but they are not, even though many states have raised their rates. Same store sales are only up because stores are closing, driving more business to those that remain. Those that are closed aren’t counted.

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There’s much more on Greece, Iceland, unions, pensions and deflation.

Max Keiser on Greece: No alternatives to higher taxes? How about insurrection?

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Kaiser’s not one to hold back (he comes in about 3:20):

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Best line in here is when he asks those Greek economists who favor higher taxes, “Why are you selling your countrymen down the road?”

“Get rid of the financial terrorists from your country.”

He could have done a better job here by keeping his cool and more clearly advocating repudiation, but maybe his approach is better suited for the state of Greek temperment at the moment.