Welcome to the Stone Age. All power is animal-based. All economies are local and self-sustaining. This is the end of the global economy. No more will coal be mined in Chile to power factories in China to produce goods for Walmart. Sinners repent!

If you're buying the above you are probably a financial journalist. Credit is tough to get. This has thrown a wrench in the financial works, granted, but it is NOT the end of the world. Americans will learn to live with less. China will find new markets. The status quo will change as it always does.

This is the time when fortunes are won and lost. The quick and bold will prosper. The slow and timid will pay. There's blood in the streets (some of it is mine!). Everybody is bearish on everything. This is the time to step up or be timid. The old correlations are dead. The yen carry trade is dead. The American consumer, while still alive, can't consume. The Euro is as worthless as the dollar.

This is where you have to think for yourself. Unfortunately, most of us are very poorly trained at that. Most of us live our lives in institutions that reward mediocrity (corporations, academia, etc.). This is your chance to answer the question:

Who am I?

I want to be perfectly clear here. This is not a call to jump blindly. This is a call to think clearly. Hyolee has made a virtual fortune taking a stand and shorting the Nas . I am green with envy. Mgroad has done all right hiding in cash. Others have blown up completely. I've lost a bunch trading too much.

I'll stick with my gold call and see if I can catch the leaders (and make some money). What are you going to do? Why? Share your thoughts.

SunTzu

Okay, I bought HGU WAY too early. I'm always early. But, my reasoning is sound even if my timing is off. I'll give my three reasons for buying HGU.TO and let history decide.

1. Gold is cheap.
2. Gold stocks are cheap in terms of gold.
3. Leverage is easy in a "fantasy" portfolio.

1. Gold is trading at about $900/oz. Compared to almost everything (oil; the dollar, widgets), this is cheap.
2. Gold stocks (XGD.TO) are cheap. XGD is the Canadian Gold Miners Index. It's trading at about .02 oz. of gold for one share. If it rises to the 200 week moving average of 0.0224 per share that will be a 24% gain from the prsent price.
3. HGU offers twice the price move of XGD.TO.

I'm in HGU until February. I left HED and HOD WAY too early. I will not make the same mistake with HGU. BTW, in my real portfolio I am so long HGU it is ridiculous.

Yes, I am talking my book.

Yes, I think energy will benefit. Traders get paid to trade. Oil will rise as the obvious hedge against the falling dollar, but by next year, gold wil be the clear winner.

I probably won't sell HGU until gold hits $1,200.

Let the criticism begin!

SunTzu

The US fiscal house has never looked weaker. A quick look at revenue and expenses would look something like this:

Expenses

1. $1 billion a day for the continuing wars in Iraq and Afghanistan. Not to mention the largest military in the world by far.
   
2. $700 billion to buy crap from financial institutions.
3. $85 billion to bailout AIG.
4. $250 billion for FFF (Freddie and Fannie Fiasco).
5. $150 billion in tax rebates to stimulate the economy.
6. $0 - $$53 trillion (depending on your math) funding legacy costs (medicare and pensions for future generations).
7. $200 billion to prop up the financial markets.

Oh what the heck, let's just say that liabilities are piling up at an alarming rate. Of course, as the recession deepens unemployment benefits, make work projects and other bail out projects will add to the above list.

Revenues

1. Corporate tax revenue will fall with earnings (down about 10% this year for large corporations).
2. Income tax revenue will also fall as the unemployed pay little tax.
3. Capital gains taxes will also fall as the economy (and stock market) continues to weaken.

We'll just say that revenues will fall over the next couple of years. So where is the money going to come from? Well, as usual the deficit will be paid by borrowing from the rest of the world. Ummm, except Hank and Ben just spent the equivilent of the rest of the world's savings in the last year!!!!

Realistically, who wouldn't want to lend to a country with falling revenues and a spending problem so bad they spent a trillion dollars in the last month?

I guess they could make it illegal to short the dollar and see if that props it up. Personally, I wish my American friends the best of luck, but I'm not lending them a dime.

I may buy some American assets when they become cheap enough. As for stocks, here's how some of the world's markets are faring this year:

S&P500 - down 14.5%
DAX - down 23.3%
Russia - down 43.4%
India -down 30%
China - down 60%

When the S&P falls as much as China or India has I may step in. I am buying China right now, but see nothing compelling in the US. I Know Vooch sees things differently, but we'll agree to disagree.

SunTzu

5,4,3,2,1....

5. Bear Sterns was the number 5 Investment Bank on Wall Street by market capitalization. It is now defunct.
4. Lehman Brothers was number 4. Dead.
3. Merrill Lynch is no more.
2. Morgan Stanley is on the ropes.
1. Goldman Sachs is invincible!!!

A lot of people don't understand SWAPs. They are zero sum. Goldman will just pick up the SWAPs from the other banks and put them on their books. Since they hold both sides, there's no risk! The math looks great. That big old equals sign means that GS just pays themselves.

Oh sure, they may need to raise some capital to buy up all these Credit Default Swaps, Interest Rate Swaps, etc. but they have friends in high places. Hank and Ben will pony up. They bailed out Freddie, Fannie and AIG, why not a quick loan to GS?

The Credit Default Swaps are only about $60 trillion. Ben can drop it from a helicopter. Hank can sell some bonds to the Chinese (who wouldn't want Treasuries?). It will all get sorted. What's all the fuss?

When the dust clears GS won't have any competition and they will have the backing of the US gov't. I'm selling all my gold tomorrow and buying GS It's gonna be sweet!

SunTzu

 

It's no secret I've been getting killed on my oil short recently. I'm generally early in my macro calls, so I'm not too worried, but I have to wonder at the reaction of oil to recent economic news. It seems that everybody is convinced that recent (the last few years) trends will continue forever without pause.

I'm sure in the long term global oil demand will outstrip demand, the dollar will continue to fall, and oil prices will rise. However, I'm not convinced it will all come to pass this summer. There are serious demand issues in the United States and Europe. The idea that this will not effect emerging markets is a little optimistic to be polite. There seems to be nobody out there saying China and India are due for a slowing of growth. To me that smacks of hubris.

For the last five years Chinese GDP has grown at 10% or better. Okay, it dipped to 9.9% in 2005, but 2006 and 2007 were above trend at over 11%. I'm sure that can continue forever. In the face of storms, earthquakes and shutting down for the Olympics the Chinese economy will grow! Their best customer (The US) is facing a serious cash shortage, but the Chinese economy will keep on going. Inflation? Not a problem. Falling stock market? There is no wealth effect in China! It's the energizer bunny of economies.

If I were the suspicious type, I'd begin to question the growth numbers out of China. As for India, it hasn't had a serious downturn since 1991. Historically, there's been a downturn every 10 to 15 years, but this time is different. This time they have cheap cars! They also have brutal inflation and an economy that is increasingly dependent upon the service sector in the U.S. Fortunately, the U.S. would never get all protectionist in an election year. Yep, India will be just fine.

As for the dollar down, oil up trade, the correlation has overtaken the causal relationship. The U.S. dollar index is down about 5% this year. Oil has risen about 30%. Recently, any weakness in the American economy has been viewed as an excuse for oil to rise. Albeit, any strength has also been viewed as a reason for oil to rise. Will this continue until Goldman Sachs is proven correct?

Right now oil is trading about 32% above its 200-day moving average. It's gained over 100% in the last 18 months. It looks, feels and smells like the Nasdaq circa 2000. Could it continue? Sure. Will it crash? Absolutely. When the hedge funds go from long to short the drop in oil is going to look like... The Nasdaq 2000, housing 2006, the Nikkei 1990... take your pick.

SunTzu

I recently heard a talking-head use the well-worn argument that the recent rally in the American stock markets is due to the market being "forward looking". All of the bad news has been discounted and shares are rising in anticipation of the recovery that is just around the corner.

So... that was it. The Dow is down 1.6% for the year, the S&P 500 3.7%, and the Nasdaq 100 4.9%. That was the shortest, mildest bear market I've ever heard of!

Of course, there will be no recession. Housing prices have recovered nicely. Consumer spending is up because jobs are plentiful and wages are rising faster than inflation. Yep, the American economy is rock solid.

That whole credit crunch thing is over, as well. The Financial Times had the following to say:

April 30 – Financial Times (Ralph Atkins, Paul J Davies and Gillian Tett):  “There is a growing conundrum at the heart of European money markets that is puzzling bankers, analysts and policymakers alike: the rates at which banks lend money to each other continue to creep ever higher. That is not supposed to be happening.  The US Federal Reserve-led bail-out of Bear Stearns alleviated the worst fears of systemic risks, while regular and generous injections of liquidity by central banks on both sides of the Atlantic should have eased funding pressures. However, the problems remain and some interbank rates are approaching the highs of mid-December, a time when fears over counterparty credit risk coupled with the looming year-end pushed rates above levels seen when the liquidity crisis first hit in August and September of last year.”

But, what do they know? Silly Europeans. Don't they know that any problem can be solved if you throw enough monay at it?

Yes sir, things are looking up for the US markets. There is no way this is just a relief rally.

SunTzu

Help! I am not very proficient at double speak and have a very weak understanding of Federal Reserve reporting. I heard Paul Van Eeden refer to this report (AGGREGATE RESERVES OF DEPOSITORY INSTITUTIONS AND THE MONETARY BASE) published by the Fed on BNN a while ago. He was terrified when the "Non-Borrowed" reserves went negative. I'm assuming the current amount of -$61,787,000,000 is scaring the crap out of people, but have no idea what it really means.

If anybody has any insight I would greatly appreciate it!

Thanks in advance.

SunTzu

There seems to be very little doubt that the Federal Reserve is desparate. The markets have reacted accordingly. Everybody saw how the market reacted to the weakness of Bear Sterns on Friday. Why should it react any differently to the Fed's weakness?

The Fed's actions last week scream danger to anybody who cares to listen. Not only did they agree to accept Mortgage Backed Securities for 28-day loans, they also made a special exception to extend credit to Bear Sterns using JP Morgan Chase as a conduit. The only reason the Fed would go this route is that they see systemic risk. The Fed is afraid.

The markets are reflecting this fear quite clearly (with the exception of the U.S. stock market).The yen is trading at multi-year highs. For the Euro, gold and oil, breaking all-time highs has become commonplace. Two-year Treasuries are yielding 1.5%! Interestingly, the S&P500 is only down about 12% year-to-date. The Dow has only lost about 10%. The Nasdaq 100 seems to be down a little more realistic 18%. What is holding the Dow and S&P up? Hubris comes to mind, but it is a mystery to me.

How will Tokyo react tonight? Will the Japanese step in and defend the yen? Will the dollar continue its implosion? Will gold and oil keep rising or will somebody start the profit taking? After Asia has weighed in, we get to see the European reaction. Then we get to the real fun. Everybody has had the weekend to mull over the implications of last week. Will the financials get clobbered again as the traders try to guess who's next to blow up? Will there be a relief rally going into the expected Fed rate cut?

Speaking of the upcoming Fed cut, the consensus seems to be either a 75 or 100 basis rate cut. How much of that is priced into the market? Obviously, I have more questions than answers. The only thing I am sure of is that trading will be volatile for the next few days.

SunTzu

The U.S. Dollar

The U.S. dollar hit some new and exciting lows this week. The Fed has told the world they will cut interest rates until the cows come home. The currency traders have listened. Over the last couple of weeks the U.S. Dollar Index is down almost 4% to close at just under 74. From a technical standpoint, this is scary. While the size of the move is disturbing, more important is the fact that this is completely uncharted territory.

The currency market moves primarily on technical analysis. When there are no obvious points of resistance (previous lows in this case) aggressive traders can try to find resistance. Unfortunately, nice round numbers tend to be psychologically important. Will the traders push the dollar to 70? I don't know and neither does anybody else. However, there is a strong probability that there will be volatile trading while everybody tries to find the next bottom.

Gold

Gold has taken its cue from the falling dollar and closed at $975 on Friday. A similar dynamic is happening in the gold market as gold hits new highs. There is one fundamental difference between the two markets. Gold is a relatively small market and is much more volatile. While the dollar has fallen about 4%, gold has risen about 8% over the last couple of weeks. I would not be surprised to see some short term selling in the next couple of days as traders take some money off the table.

Oil

West Texas Intermediate Crude had its first weekly close above $100/bbl this week. That is up about 80% in nominal terms from its lows of around $55/bbl in January, 2007. The oil market is also in uncharted territory, which creates uncertainty and fear.


Conclusions / Questions

The recent rise in oil and gold is screaming inflation without even looking into the recent agricultural inflation. What does this mean for the U.S. stock market? At some point U.S stocks will become very cheap in other currencies and buyers will start to step in. I don't think that day is anytime soon. What will it take foreign buyers to step in? Personally, I would like to see:

1. Stabilization of the dollar. Let other people try to grab this falling knife!
   
2. Some indication that the official government policy is not to destroy the dollar. A responsible fiscal and monetary policy would go a long way here.
   
3. An indication that the U.S financial system will weather the debt crisis. Right now it seems that everybody is still in denial. Although about $150 billion has been written off, there is still an additional $450 billion to be written off (according to S&P). The mark to model fantasy has to end and the true amount off losses disclosed.
   
4. An attractive dividend yield on the S&P 500. A 50% drop in price would do this.

Over the last two weeks I've heard (insert stock here) is cheap now because its price is down from last year. Well, there is no reason it can't get cheaper. Of course, nobody wants to hear this. Hope springs eternal and most people can justify anything. Right now, analysts are predicting a very large earnings recovery in the second half of 2008. Is their crystal ball better than mine?

There is also a lot of banter about how the Sovereign Wealth Funds are sitting on boatloads of cash and very large investments in the United States are imminent. Of course, anything is possible, but I can't imagine responsible investment professionals assessing the current situation and deciding this is the optimal time to buy into the U.S. market. Then again, I've been wrong before.

The path of least resistance seems to be down for U.S. stocks for the next little while unless there is some catalyst to change this dynamic. If anybody has some insight as to what that catalyst might be, I'd love to hear it.

SunTzu

Jim Rogers has been waxing bullish on commodities for quite some time. It seems some traders have decided to listen. Here are today's numbers:

Oil - $99.70 (up 4.45%)
Natgas - $8.99 (up 3.68%)

Platinum - $2,153 (up 4%)
Gold - $929 (up 2.62%)
Silver - $17.51 (up 2.28%)

With the exception of platinum, which is breaking new ground, all of the above are at very serious resistance points. If they break through, the money will come piling in IMHO. Personally, I have my fingers and toes crossed!

SunTzu