The trade of the decade?

Posted by Ray on July 31, 2010 under Economy, Main, The Federal Reserve | Read the First Comment

The 2Q10 GDP report came out and it was an eye opener for many people as it showed that the recession, depression, was deeper than most believed and things are surely not as rosy as we are being told. Aside from the inventory rebuild there is not much else going on, final sales are dead as a door nail and some firms, like Samsung, are reporting good earnings, but warning of weaker times ahead. I take the Samsung warning pretty seriously as they are a large or the largest supplier of electronics which had shown signs of strength recently. So when they say things may not be rosy in the near future I suspect that will apply to more than just TV sales.

What made the news cycle this week was a report by Fed President Bullard about the threat of a Japanese style deflation here in America. I am kind of shocked that people were caught so of guard by this news, about 10 economic data points already indicated this to be if not already occurring a very real near-term threat. I suspect we are in for some really tough times ahead and worse yet I suspect we will see the Fed start moving towards quantitative easing, again. As I have said, repeatedly, this will not do anything to boost economic demand as we must wait for the deleveraging cycle to be completed by the consumer before demand will return. Zero Hedge just wrote a piece about this tonight which illustrates exactly what I have been saying for a month now, but no one is listening. Here is what they said:

“In other words, all those who say QE2.0 will do nothing to stimulate the economy are correct, as all such a greenlighted action would encourage is the warehousing of yet more cash by banks. And since banks have no incremental incentives to lend it out, it doesn’t matter if the Fed’s liabilities are $2.5 trillion or $2.5 quadrillion. Instead of stimulating inflation, which is the end goal, all such an action would do is to create further doubts about the stability of the dollar, which in turn, as Ambrose Evans-Pritchard discussed, is a sure way to go to hyperinflation without first passing either Go, or inflation.”

They also indicate my thoughts exactly, we bypass money velocity inflation and go straight to dollar devaluation, i.e. currency crisis, hyperinflation. The irony is that you would only feel this pain on imported goods and we do consume 87% of what we produce domestically so it may take some time before any real currency devaluation hits home. Regardless, Bullard indicated along with prior reports by Ben Bernanke himself that QE is on the table. The question is what kind of QE, treasury purchases or other asset purchases? Also, how much, I bet $3-5T in total purchases, but who knows.

What we do know, compliments of David Rosenberg, is that Ben Bernanke said IF we hit a Japanese style deflation that the target rate on the 30 year treasury would be 2.5%. Rosenberg says that if we hit that rate, down from the current 4% yield, one would receive about a 30% rate of return. I think he is right and if one followed his recommendations of treasuries and gold, along with high yield stocks, you would have avoided much volatility this year and had nice returns. I am happy to say I bought 2’s and 5’s when the yield was 1.10% and well over 2% so I am happy. I suspect the rally in treasuries will continue and if QE happens, wow.

The trade of the century, although risky, would be to leverage a long position into the 20+ year treasury market, UBT (2X bull) or TMF (3X bull). IF Rosenberg and I are right and this happens, QE, deflation or a major selloff in equities, those positions would do very well. However, they are risky, they are leveraged ETF’s, but if you time it right I believe that you could do very well. I also believe that the bull market in bonds is in full force again, very similarly to the summer of 2008 I might add which adds a bit of mystery to the rally in treasuries. The mystery is, what is going on and is the bond market telling you that something really bad is coming?

A look at the chart above looks like there is something going on in the bond market. We broke above the 123/4 mark on the 30 year futures and now that is support. I believe it goes higher because of, at least, of deflationary pressures and, at worst, because of QE. However, while I am short-term bullish on treasuries I hate them long-term since it will be impossible for the U.S. to meet its long-term debt obligations which means they will default somehow in the future, in my opinion. I also believe, as stated earlier, that QE will wreck our currency maybe not now, but at some point in the near future which makes gold very attractive as well. If QE is announced treasuries will go nuts and so will gold. If one is levered into treasuries you could do well, if you want the risk.

What QE means for stocks, I do not know. I would think QE would be bad for stocks as it signals things are not good and the economy is weak, but we are living in bizzaro world where good news is fantastic and bad news is even better.

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Recap

Posted by Ray on July 7, 2010 under Economy, Main | Be the First to Comment

Today was interesting to say the least, a massive rally on the back of no real news, I guess stress tests that really don’t stress banks balance sheets were the primary driver along with a technical bounce, but other than that all the other news was negative. Let’s review the bullish news that moves the markets 3%. Dallas Fed President Fisher calls out Congress and the President by saying they are inhibiting growth by creating confusion, no surprise there. Delinquencies on homes are stabilizing at extremely high levels, CNBC.com. Reis Inc. released a report showing that retail shopping center vacancies are rivaling all-time highs at 10.9% and rents are dropping, they should recovery by 2016, somehow that must be bullish. Lindsay Lohan is going to jail, I guess, for 90 days, now that really is bullish for whoever makes the drugs to sober people up.

I guess on the heels of all that bullish news it is little wonder that the market rallied so hard today. The only other piece of news that would have sent us to 11,000 for sure is if we declared war on Iran, based on this track record.  We blew through several layers of resistance on the SPY, which I am short and yes today did hurt, thank you for asking, and we could reach as high as $107.12 on the SPY, but overall it is still in a bearish trend, sorry. The volume was nothing to write home about today either and, frankly, yesterday’s mammoth reversal speaks volumes about the condition of this market, it is structurally unsound. However, we have some pretty big news coming up Thursday morning, retail sales and initial claims data will dominate the headlines.

First, if you watched CNBC this morning and caught El-Erain from PIMCO he said something you might have heard before. He said; “Unemployment is no longer a lagging indicator, but a leading indicator.” Any idea where you would have read that? I have been saying that for months now and many have said some pretty nasty things to me about making that claim. What El-Erain and PIMCO have figured out and the people who have no clue that a “V” shaped recovery does not exist have not figured out is that in a post credit collapse world unemployment is not a symptom of the cancer, but part of the actual cancer itself. If the credit collapse occurred because people could not pay their bills it would stand to reason that the more people who are unemployed the worse the problem will get. Perhaps this is why mortgage modifications are failing and defaults are picking up on credit products, depending on how a default is actually measured nowadays. It is just nice to have a high profile person repeat what you have been saying even though he has no clue who I am.

As for the initial claims tomorrow, my guess is that they will be ugly, again, as in +450,000, but less than the 472,000 from the week before because of the July 4^th holiday. Employers tend not to fire people before the holidays, but they will be elevated in my opinion. If, for some reason, initial claims are above 470,000 that will be horrible news and my guess is that will merit a reversal of fortunes in the markets. It is just amazing that we are coming up on 3 years into this thing and we are still seeing initial claims coming in at well over 400K a week. I know the President likes to make the claim that when he came into office over 750,000 people were filing for initial claims a week, but that was for only a few weeks during the peak of the crisis and, frankly, the fact that we have stabilized at 450K a week is nothing to really brag about, sorry.

To make matters worse the emergency extension of unemployment benefits were not passed before Congress went home for the holiday. That left almost 2M people without unemployment benefits and, in my opinion, that will have an impact on retail sales. How much of an impact? I do not know, but more than most people think. The other major thing people have to remember about retail sales is that many retailers closed a ton of underperforming stores so you are looking at retail sales numbers from the top performing stores they have to offer. No longer can we say that these figures include the dogs of the industry which means the figures you see can actually be much weaker, or stronger, than they initially appear. Regardless, credit is still contracting, unemployment is still sky high and that means retail sales are probably not going to be as strong as most people think, but analysts knew this and started heavily revising estimates lower. Not to mention that retailers have zero pricing power so even if sales are good their margins are going to be miniscule.

There is little to be bullish about out there as all the data has been bad and should not be read any differently than being bad. The ISM was bad, the employment report was bad, the housing data is horrible, the political picture is uncertain and the charts are certainly bearish, just look at the RUT. I am not saying don’t own stocks, but be careful what you own, strong balance sheets and dividends are key. Anyone outright bullish on this market is either selling you a fund or is simply out of their mind. Patience is key and there is no need to jump into any stock for any reason as we are in for a bumpy ride. I don’t even think earnings season will do much for us, sure 2Q10 earnings will be good, but the outlook will be not so bullish.

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