财经观察 2131 --- Where the Market Goes from Here

Where the Market Goes from Here by Steven Alexander Fortin

The last few months in the market have offered all of the drama of your favorite soap opera. 

Indeed, this has become one of the most exciting times in market history; that is, unless you are investing for the future. 

Of course, if you are already fully invested you may not see the intrigue of what’s going on. Every day must feel as if you are walking on pins and needles while trying to figure out what the best long term solutions are for your money. In order to address that, we have to know where we are presently and figure out whether the course we are on has unavoidable long term consequences (which I believe it does).

What's going on in the market:

• The U.S. government is printing money and spending it like there is no tomorrow. What is the consequence of this? Inflation, eventually. In the short term, however, this is diluting the value of the dollar for those who purchase U.S. debt. The impact of this will be seen as China, who has already begun seeking alternative investment opportunities, buys less and less of our debt (others will follow suit). We are already beginning to see a rise in commodity prices as China stockpiles commodities. Many analysts think this move is a sign that China’s economy is improving. I don’t think their economy is improving as much as it has found a much better way to invest. Furthermore, the U.S. government’s actions are also putting the U.S. in jeopardy of losing its AAA status, which will cause interest rates to rise. With oil prices and other commodity prices also rising, this will increase the cost of living in America and decrease additional consumption.
• Unemployment is still rising and has not peaked. The “initial claims” number that came out this week certainly didn’t surprise me, but it also didn’t surprise the market (which did surprise me). There has been a lot of talk about unemployment numbers being the leading indicator to economic recovery. The market looks for the “second derivative” which shows the rate of change is slowing or in our case, there are simply less jobs being lost. This is slightly deceiving, however, because as more jobs are cut, there are less jobs too cut. I recently saw an article posted on Yahoo Finance discussing how employers are still not hiring. In this kind of an environment, fewer jobs being lost doesn’t necessarily mean that we are turning the corner on the recession. Also, Obama’s massive stimulus package isn’t really creating jobs; it is just spending. Thanks for the stimulus, Obama; I am going to pay down my debt now.
• Banks are not quite out of the woods yet. The bank stress tests were frauds. The government used a worst case scenario of 10% unemployment when conducting the stress tests. Last week, the Fed released their April minutes in which they lowered their guidance for GDP for 2009, 2010, and 2011; they also announced that they estimated unemployment to reach 10% vs. their last estimate of 8.9%. The revisions in government data just keep coming! 

A recent article by Dirk van Dijk posted on Seeking Alpha entitled “The next wave of foreclosures” gives great insight into the ARM mortgages that are about to reset and begin causing havoc for banks. While these aren’t on the same level as the subprime loans (in dollars), when combined with the CMBS and rising credit card delinquencies it is very likely that these banks will have a lot more write-offs coming. 

I wouldn’t look to the government much longer for bank help as they will have to cut spending in order to reduce their own debt. The government will only continue funding banks as long as its liability (FDIC) is greater than the cost of saving them.

There are also rumors and whispers of problems related to toxic assets that have yet to be revealed in the European market. I am not sure the amount of exposure or counterparty risk involved as it relates to American banks, but this does seem like a viable threat looming.

Other odds and ends:

• Swine flu – This seems to have subdued but it is not out of the picture yet. 
• Local state and government bankruptcies – California is on the brink and there is no telling how many others are close.
• Mark to market – This kind of scares me; it is hard to tell how this will affect the banks. I tend to think that it will only make the pain last longer.
• Higher taxes on the horizon? – I have no evidence of this accept we have to pay off our debt, which can only happen through higher taxes.
• Bear market rally? –The market has run up a lot since March despite the economy being in the same position. Since then, much of the media has turned bullish and countless analysts have come out declaring this is the time to buy. I tend to be a bullish personality for the most part however I am also slightly contrarian, so when analysts tell me it’s time to buy I get a little worried about buying (I am not presently bullish.) Last week, Alan Greenspan was quoted as saying that he believes that the systemic problems in the US housing market remain a threat; he also went on to say that here is still a very large unfunded capital requirement in the commercial banking system in the United States and that's got to be funded. This news was hard to find. I am not conspiracy theorist, but you have to wonder with all the revisions, all of Obama's statements about the economy, and all the “news leaks” that are being made what exactly is going on?

What is the conclusion?

• I am most certainly a bear now. Right now, there is a certain amount of bullish momentum in the market; I am not going to bet against that. I do however think the time is coming close where the tide of the market will turn and we will see a sharp down turn in the market. Watching the market last week, it would appear as if the tide is beginning to turn (Dow was down 4 days in a row and in 3 of those days had decent positive gains at some point during the day.) Bank earnings next will fuel the market up or down but will likely not be much of an indication of the long term health of the banks. Many of the problems looming on the horizon for banks will take several quarters to develop. The rest of the market will likely have the problems hit home a lot sooner than that. Rising commodity prices, unemployment, and a general paradigm shift in how money is spent will begin affecting consumers immediately (if it already hasn’t).
• What am I looking at investing in? The investments I am considering currently are: Long Gold (GLD), Short Regional Banks (RKH), Short S&P 500 (SPY), Short China (FXI), and Long Exxon (XOM). These are just for starters as there seem to be a lot of good opportunities out there.

Disclosure: No positions