Friday, August 21, 2009

Reality Versus The Rally

Of course reality will win, but the rally has certainly exposed my lack of talent for picking a precise top (I erroneously voted on early June). This rally is blowing out in a phenomenal fashion before the misery of the current blossoming economic depression takes hold. The fundamentals are now deteriorating rapidly and are at levels, in combination with the requisite government interference, that guarantee a depression has started.

Now that all the bears have been stopped out, kicked, gored, defeated and wiped out, I suppose now is as good a time as any for this rally to stop. I imagine that the August monthly high will be the high for some time to come in the general stock market indices. The next leg down in the bear market will be devastating, both financially and psychologically. The March lows in the S&P 500 will be broken. To add insult to injury, once the final lows are in, a rapid currency debasement is likely going to be the catalyst for the subsequent cyclical bull market in equities (and no, the current bear market rally is not a new bull market).

So, the one-two-three punch combination will alter America for decades. First, massive asset price deflation (homes, stocks, commodities, corporate bonds), then massive unemployment (continues to rise on schedule), then right about the time that people's savings are getting low, a rapid currency debasement (whether via government decree or a capital flight).

Trying to dance in this storm as a trader creates insane opportunities for profit and loss. But before we can have the inflation that so many bulls seek, deflation will create a swath of damage through the economy that will leave it unrecognizable. Those who manage to maintain some capital will have the asset buying opportunities of a lifetime.

We have hundreds of bank failures to go. We have dividends that are going to be cut back to the bone or discontinued. We have a "true" (i.e. not operating earnings, not smoothed, not averaged, not glossed over) trailing 12 month Price to Earnings (PE) ratio of 131 that needs to get to 10 or less. We have a commercial real estate implosion so strong and so fast that even the bears are surprised by its ferocity. We have a residential mortgage crisis that is just beginning a more powerful second wave (the state of Florida, currently the worst in the nation for this statistic, now has roughly 25% of its homes with loans either delinquent or already in the foreclosure process!). We have unemployment continuing to rise with mass lay-off events spiking again (California is now in the 12% range using the tampered-with, government sanctioned headline number).

China is now the number one trade partner (in total dollar terms) of Brazil and Japan. Japanese exports and imports both have dropped by about 1/3, confirming a global trade collapse. We have total U.S. household credit market debt outstanding turning negative on a year-over-year basis (first time in 50 years and shows that "the" secular turn in consumerism and consumer credit has finally arrived).

Of course, these are only a few of the alarming trends in the underlying real economy that underpins financial markets. Short-term and intermediate-term stock market movements have nothing to do with fundamentals. Long-term, fundamentals are set to come home to roost in a big way. This does not help the speculator, but it does help the patient investor.

The U.S. Dollar is bottoming. There's a good chance it already bottomed on August 5th. Commodities (using an evenly weighted index like the Rogers Commodity Index ETF [ticker: RJI] or the $CCI) topped in June. Regional banks (using the Philadelphia Regional Baking Index [$KRX]) peaked in May. The Baltic Dry Index ($BDI) peaked in June. The Volatility Index ($VIX) is bottoming and there's a good chance the final low for the $VIX was on July 24th. And today, the masters of the universe (referring to Goldmun Sucks [ticker: GS] of course), failed to make new highs along with the general market indices.

I'll stick with holding physical Gold as my core investment despite the fact that I think it's about to get whacked to the low 900s to high 800s level. Those who don't like Gold can try their luck at holding U.S. Dollars, which are set-up for a stunning intermediate-term rise in price. Gold stocks are about to get smacked down too and will provide a good entry for a bullish trade or long-term buy (depending on the nature of the low). I just finished throwing the remainder of my speculative funds into the short side and have decided to triple my short position on the silver miner Pan American Silver (ticker: PAAS) as a short-term trade.

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