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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You must remember this period of time

Posted by Ray on June 29, 2010 under Economy | Be the First to Comment

All the talk about the double dip recession is being blamed on not enough stimulus, but that is not true since there is a lot of money being spent right now because of the stimulus. The final spending of the stimulus funds will end this year, right near the elections ironically enough, but it is clear it did not work. We now have Paul Krugman out railing about a deflationary depression because governments are cutting back stimulus efforts. My question to him is, if stimulus is the answer and we are spending it now why are we seeing disinflationary forces? His excuse does not hold water. It is the massive government intervention that is causing the problems, not a lack of stimulus, but too much stimulus.

I am in disbelief how anyone could not have seen these problems coming, the signs were everywhere. Employment was the best indicator, but look at money velocity, what you can piece together at least, and declining credit combined with higher foreclosures, bankruptcies and weak retail sales it is clear as day that at best we stabilized at less bad and at worst we are heading for really tough times. This is not something I wanted to happen I think you would be hard pressed to find anyone wishing pain and suffering on anyone, but the signs were all there. Not to mention the implications of Europe tightening its belt and trying to force China to revalue its currency, talk about insanity, we took it to the next level.

So, Krugman may be right and we may have a deflationary depression, but I am sure it will last for only a little while. Because Bernanke will not stand for a deflationary depression, which is ironic considering Ben is the Great Depression expert and he is creating another one, and he will print our way out settling for an inflationary depression. The unfortunate part is Mr. Krugman has the reasons wrong for the depression we are in and he doesn’t seem to understand that you cannot cure debt problems with more debt, it just doesn’t work. Our debt is so large that is will now be a complete drag on GDP which means lower growth, the new normal anyone? Again, his reasoning is flawed because we just spent $1T, give or take between all the programs, on stimulus and we are not even done spending and he is calling this a deflationary depression because there is no stimulus? Maybe he likes to confuse the less informed or something, but talk about being wrong, wow.

My point is that you need to remember today, what is going on, the money that is being spent, what politicians are saying and blaming because they will, whichever party, will point to right now saying we should have done more or we should have done less. The fact of the matter is we are doing both, stimulus is declining and we are not adding more to it, and keep in mind that the data we are all looking at is still coming from April or May when much more money was being spent. All that data, even further back then April, is also showing significant decline in economic activity when the stimulus was running full speed ahead. To clarify, just because the spending is slowing now don’t blame the negative data on that since the data was generated prior to the slowdown in stimulus spending. Furthermore, employment never recovered or even showed significant improvement given the price tag.

Will the decline of stimulus spending hurt? Yes, a lot, but it needs to stop somewhere. The problem with the stimulus is that it is cruel because it extends the bad periods much longer than they should have lasted by blocking the markets from finding a true bottom. The more you spend, the more it distorts reality and lures people into a false sense of security, but when it stops the real pain begins because those fooled may have to lay more people off and readjust for a post stimulus world. So not only do the long-term unemployed receive the proverbial shaft, but newly hired employees may also receive the same treatment after they thought they caught a break.

Right now you can see what worked and what did not, but in a few months many might not remember. They may point to the 5.6% GDP print and say remember how good things were then? Well, they weren’t that good to the unemployed or those in bankruptcy or losing their homes, but that is how it will e framed and there will be cries for more stimulus. Those cries must be rejected and the only government stimulus that must continue is unemployment insurance. You cannot dump millions of Americans who are not unwilling to find a job it is that no jobs exist for them.

We tend to have very short memories and forget things quickly because of who knows what, I blame TV. You cannot forget what is happening right now because if you do they might talk you into another round of stimulus or God knows what else. We are in trouble, I know this, but we tried Krugman’s way and it failed, let’s give it the “let’s not give it the college try” and see what happens. Besides all of that, we simply cannot afford more spending especially for mediocre results, I am being generous here. While Krugman is grabbing the headlines for using the “D” word, let’s not forget I started using the term depression months ago based on the employment figures, food stamp numbers and the way foreclosures and bankruptcies were growing because I was paying attention and not traveling to my vacation house in the tropics unlike some BY Times economist.

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