CAN “YES WE CAN
CONTINUE “? PART 2
Wow has time flown from Part 1 of “Yes we can”. From the DJIA low of 6545 in March of 2009 to
just over 17,000 this bull run has been full steam ahead. There have been only 2 occurrences since 2012
of the DJIA being down for 4 consecutive weeks namely one in 2012 and one in
2013. But wait, the SPX being down for 4 consecutive weeks since 2012 HAS NOT
HAPPENED! The worst has been 3
consecutive down weeks. The Russell 2000
index which is small-cap stocks closed down for 4th straight week. This hasn’t happened since 2011. This week’s debacle was across the
board.
The conference board reading on consumer confidence surge to
over 90. The last time it was above 90
was back in October of 2007 at the SPX peak.
Of course we know what followed for the next 1 ½ years as Mr. Bear
showed up taking the market and confidence down to under 40. Is there a correlation? Not really as confidence during the latter
part of the 1990’s was between 120-140 and even during the 2001 selloff the
eight month average was just over 109.
What has been very noticeable over the past 6 months is the
sharp increase of consumers driving Mercedes, BMW’s and Lexus’s. They are buying or leasing the cheaper models
which are still very expensive. My guess
are these people are making 30-40K a year but with the low interest rates and
the savings they are getting from OBAMACARE (if they qualified for a subsidy)
are using that money to feel like a millionaire. This is reminisce of the 2006-2007 period
when using the housing ATM card with just a sign here mentality created a
housing boom. We all know that ending.
Now let’s get back to the good stuff of a trillion in
student loans, the FED’s increasing balance sheet, the debt and the inflated
market prices in bonds, stocks and the high leverage users. The FED lets the air out of QE infinity as
seen by the markets happening this Fall and interest rates start to rise too
fast, that will sharply increase our nation’s interest expense. The FED decides to drain liquidity and those
with leverage get into deep, deep trouble nothing will stop the markets both
bond and stocks to cascade into sharp decline.
At the beginning it will be deemed a buying opportunity as for the bond
market the 10yr. has been held up by the Chinese buying every slight
decline. The Chinese banks are super
charged with leverage. As for the stock
market, the same page is rewritten – Stocks Fall Sharply on Profit Taking. This line only works for the first 10% down
move, but what will happen when as I expect the market is down 35-45%? Remember crashes don’t happen at the top! Therefore, a 50-70% decline is very possible
over the next 12-16 months. Keep your
stops close!!
The Yellen “put option” just like Greenspan and Bernanke’s
put will become “in the money”. Back in
1987 the crash was blamed on the futures market. This decline will be caused by insurance
companies and other retirement accounts that want to hedge annuities written
that give the holder no downside risk and a partial portion of the upside. Other products that give a set rate 7% return for example do not work very well
for the seller of the product in a declining stock market and rising rates
meaning falling bond prices(unless they have short duration). It’s a house of cards waiting to happen. Remember for every seller there is a
buyer. Everybody can’t be hedged!
Besides the technical reasons behind the upcoming decline
there are numerous fundamental reasons.
Congress has little chance in passing anything over the next 6 months. The only headlines we see are companies
getting fined by the government namely McDonalds, Hewlett-Packard and Bank of
America this week. The President wants
to raise not only wages but change laws through execute order rather than
Congressional procedures. The
immigration reform that the President wants isn’t being dealt with so the
president has decided to handle it the “Chicago Way”. There are current immigration procedures but
unfortunately just because there are laws are in place doesn’t mean they are
being enforced. The special treatment
that certain firms get from the government is getting out of control.
When it comes to foreign policy it’s non-existent until
after the fact. Over the past few years all
the money spent on trying to get democratic policies to take shape in the
Middle East to Africa to Asia are total failures. The World has been moving toward a less
civilized one and this alone is a major factor in the instability that’s
expected to continue over the next few years.
In short, the free money policies and over leverage use will
not end well. It’s hard to believe a few
years ago if one stated the future of 10 yr. bonds in the Euro-zone namely
Spain, Greece and Italy in some cases would be lower than the U.S. 10 Yr.
bond. Germany’s 10yr bond is half the
yield than the U.S. Margin debt is at
levels seen at previous tops and is a warning that over leverage could cause a
sharper downside reaction once the momentum accelerates. One worry is the carry trade between European
low rates vs. the higher rates here.
This activity could last for a while longer and keep the bubble in bonds
from bursting soon.
This week’s sharp decline woke up all those thinking
volatility was a thing of the past.
There is still a lot of money waiting to buy the dip. There is a good chance that the highs are
already in place. Keep stops on a
scaling degree. Market breadth has been
in decline while some of the indexes reach new highs. The next big 20% move is down but the timing
is the tricky part. As the world’s
stability weakens, the markets will get spooked. People are realizing the U.S will not be
aggressive in keeping world peace and therefore over the next few years, wars
will be popping up creating a very unstable scenario.
