Saturday, May 29, 2010

Taleb: We've learned nothing...

Red-flag market gauges recall '08 crisis levels

Monday, May 24, 2010

What Dow Theory says about the sell-off

By Mark Hulbert

May 21, 2010

ANNANDALE, Va. (MarketWatch) -- How now, Dow Theory?

Was Thursday's plunge enough to trigger a sell signal, indicating that a major bear market has now begun?

Or is the jury still out, which in effect means we should give the bull market the benefit of the doubt?

Those are crucial questions to ask of any market timer right now, of course. But there are several additional reasons to ask them of the Dow Theory.

One is that it is perhaps the oldest market timing system still in widespread use today. Another is that it has a stellar long-term record.

Yet another reason to ask these questions of the Dow Theory: According to two of the three Dow Theorists I monitor, the system is still on a buy signal. If they're right, then the Dow Theory is among the very last of technical trading systems still in this market -- since, especially after Thursday's market action, most of the others are now in cash. (Read commentary on Thursday's breaking of major support levels.)

You might wonder why there is any doubt as to whether a sell signal has been triggered. The reason is that the Dow Theory's creator -- William Peter Hamilton, who introduced the approach in numerous editorials over the first three decades of the last century in The Wall Street Journal -- never codified his thoughts in a set of complete and precise rules.

This failing becomes particularly evident in determining whether the three Dow Theory preconditions for a sell signal have, or have not, been met by the market's gyrations over the last month:

-- Step #1: Both the Dow Jones Industrial Average and the Dow Jones Transportation Average must undergo a significant correction from joint new highs.

-- Step #2: In their subsequent rally attempt following that correction, either one or both of these Dow averages must fail to rise above their pre-correction highs.

-- Step #3: Both averages must then drop below their respective correction lows.

Let me start with Richard Russell, editor of Dow Theory Letters. He believes that Step #1 was satisfied by the market's drop from its April highs to its May 7 low, and that Step #2 was satisfied by the failure of the two Dow averages, during the rally off those lows, to surpass their April highs.

And then, with both Dow averages closing Thursday below their May 7 lows, the sell signal has cleared Step #3.

As Russell wrote earlier this week: "If the May 7 lows are violated by the Industrials and Transports, I expect some severe downside action by the stock market. If that occurs, I would expect traders and investors to panic. I believe it will affect the sentiment of not only investors, but the sentiment of the whole nation. The current rosy optimism could fade and reverse in a week. It could fade because it is built on BS propaganda from the government and hopes on the part of the populace. The 14-month stock market rally has served to brainwash the nation."

"Not so fast" is the essence of Jack Schannep's response to Russell. Schannep is editor of a service called Schannep's interpretation of the Dow Theory did a better job of navigating the 2007-2009 bear market and subsequent bull market than any of the nearly 200 other stock market timing strategies monitored by the Hulbert Financial Digest.

Schannep believes, in contrast to Russell, that we're still stuck in Step #1 of the three-step process required to generate a Dow Theory sell signal. On his interpretation of how Hamilton's writings apply to today's markets, the initial pullback must last at least two weeks in order to move to Step #2 in this process. This turned out not to be the case:

"The S&P [500 index ] decline did last two weeks (barely)," he writes, "but the Dow Industrials were a day short and the Transports' decline only lasted four days." On Schannep's interpretation, therefore, this week's big plunge simply represents the continuation of the pullback that will eventually become Step #1.

That, in turn, means that the bull market's fate rests with how stocks do in their first significant attempt to rally off of whatever low is set during this pullback. If they fail in that rally to surpass the April highs, and then close at new lows, a sell signal will indeed be triggered.

But not until then.

The third Dow Theorist I monitor is Richard Moroney, whose service is entitled Dow Theory Forecasts. Though he has written relatively little recently about the specifics of his interpretation of the Theory, he did say earlier this week that because "this year's new highs [were] the last confirmed signal under the Dow Theory -- we are sticking with a mostly invested posture."

So there you have it.

One of the three Dow Theorists I monitor is firmly bearish -- along with most of the other technical analysts I follow. The other two are remaining bullish, despite the stock market's recent carnage.

If you don't find their reasons for remaining bullish compelling, then you may want to join the others who have already thrown in the towel.

Thursday, May 20, 2010

The Writing Is On The Wall

Politicians and other policymakers are on panic mode. This is evident by the report that Mr. Geithner will meet his counterparts in Europe next week, as a U.S. Treasury statement said, “to discuss the economic situation in the region and the measures being taken to restore global confidence and financial stability and to promote global recovery." Simply going by recent (i.e. post-2008) historical experience, it is highly unlikely they will be successful at all in trying to achieve their end.

European leaders have proudly claimed in the past that this crisis was American made and it would have no impact to their economy. We have seen this is clearly false. They are the same leaders today saying that the weak European states bailout is sufficient to restore prosperity. Unfortunately it will not work.

In the very short term, expect the market to gyrate based on the last thread of hope maintained by “investors.” Nevertheless, the writing to this market is on the wall…."it’s been weighted and found wanting.”

Monday, May 17, 2010

Libor rises on debt concerns

By Michael Mackenzie in New York and David Oakley in London
Published: May 16 2010 (Financial Times)

Concern about the exposure of European banks to the debts of weaker countries in the eurozone is stoking growing risk aversion in money markets and increasing the amounts banks charge to lend to each other.

The London inter-bank offer rate, or Libor, has risen in recent weeks to its highest level since last August, especially for dollars, which is significant because the rate has served as a leading gauge of stress during the financial crisis.

The rise in Libor – which affects consumers and companies because it is the reference rate for many floating rate loans and mortgages – has come even though central banks are in no rush to tighten monetary policy.

Analysts say Libor’s recent ascent reflects fears that the €750bn ($928bn) emergency funding facility agreed by the European Union and International Monetary Fund last week will fail to fully resolve the crisis in the eurozone.

The Bank of Japan became the first central bank to react to concerns over sovereign debt strains in Europe 10 days ago by adding overnight liquidity to help investors looking to switch out of euros and into dollars.

“Although stresses are not anywhere near those seen after Lehman Brothers collapsed in 2008, the fact money market rates are rising is a warning of potential problems and shows how nervous many people are in the market,” said Don Smith, economist at Icap.

Brokers expect three-month dollar Libor will rise to 0.46 per cent when banks open for business on Monday, up from Friday’s setting of 0.445 per cent and extending a rise from under 0.30 per cent since early April.

As Libor has risen, the quotes from the 16 contributing banks have diverged, indicating that some banks are seeing tougher funding conditions than others. Last Friday, HSBC provided a low quote of 0.38 per cent, while West LB contributed a high of 0.51 per cent.

Another indication of rising fear can be seen in the cross-currency swap market, which is more liquid than Libor. Demand for dollars through such swaps has not eased in the wake of the eurozone bail-out package revealed last week.

Before the crisis, traders paid an extra 60 basis points to swap euros for dollars for three months. That cost rose to 102bps before the bail-out plan was announced, dropped to 78bps earlier last week, but was back up to 94bps on Friday.

European banking stocks fell 4.5 per cent on Friday while the S&P 500 index dropped 2.7 per cent.

“There is a lot of uncertainty about the exposure of banks and what kind of debt is on their balance sheets,” said Gerald Lucas, senior investment adviser at Deutsche Bank.

Saturday, May 8, 2010

Green Shoots and Stock Market Crashes

The “Austrian” theory of economics, a philosophy practically ignored in academia, is in stark contrast of what is normally taught in textbooks. Economic recessions and panics are the result of government intervention in the affairs of business and people. On the other hand, Keynesian theory, which is the dominating perspective taught in schools around the world and it is what most of policymakers believe to be the truth, teaches that markets are inherently unstable and therefore need government intervention.

Those of us who adhere to the “Austrian” view of economics, events such as the recent stock market crash that happened on Thursday do not come as a surprise. Massive government intervention produces misallocation of capital, which will unravel once the intervention decreases or stops. Read here what I wrote recently about what lies ahead.

I can bore you to death on the economic technicalities of what “Austrian” economic theory says and how it works…or you can hear what this man has to say.

Wednesday, May 5, 2010

Europe’s Debt Problem

Europe has a huge problem in its hands: The impending implosion of the countries labeled as the “PIGS”—Portugal, Italy, Greece, and Spain. Look at the following graphic (thanks to Financial Times, 5/5/2010 print edition...for better picture quality, click here):

In light of the longevity of budget deficits, few private (brave…or disingenuous) investors will cover the required funding costs. As usual, the government will pick up the tab. Where will they get the money if they are broke, you may ask? Well, from the Central Bank by way of debt monetization. Either way, like their counterparts in the U.S., the EU can only postpone the inevitable collapse of the PIGS.

Keynesians economists are in the driver seat in the world these days (not only in the EU but also in the USA.) They do not understand the “Austrian” view of economics, and therefore reject it. Rest assured that the car they (Keynesians) are driving will certainly crash. All one can do is to try to get out of the day.

Tuesday, May 4, 2010

So You Think The Financial Crisis Is Over? Far From It Says Pimpco's CEO El-Arian

Mohamed El-Erian, CEO of Pimco speaks with Henny Sender, International Financial Correspondent at the Financial Times, about economic recovery, the US Dollar, the state of financial markets. See 12m 33sec video. It is certainly worth the watch.

Monday, May 3, 2010

Rally has junk debt trading at close to face value

[My thoughts: The fact that junk debt has recovered almost all it's value, in light of the highten risk still present in the market, is mere evidence of excess liquidity. Cheap money is funding risky assets. A massive distortion in the markets has taken place since the fall of 2008. The ending will be a monumental collapse in asset markets. It is just a matter of time.]


By Anousha Sakoui in London and Nicole Bullock in New York
Published: May 3 2010 - Financial Times

Prices of junk bonds have rallied so strongly over the past year that a key market benchmark suggests that they are collectively trading at near 100 per cent of face value, a level not seen since before the credit crisis took hold in 2007.

US junk bond prices, measured in a Bank of America Merrill Lynch index, last week reached a price of 99.55, the closest it has been to par - that is 100 per cent of face value - since June 2007.

That marks a sharp recovery in investor confidence in junk bonds - the borrowings from companies below investment grade - from a nadir struck on December 12, 2008, when the index hit a record low of 54.78.

"The return close to par is symbolic," said Martin Fridson, chief executive of Fridson Investment Advisors, which specialises in high-yield bonds.

"With the strengthening of the US economy and signs accumulating of revival in consumer demand, money is coming out of money market funds where yields are abysmally low, and going into high-yield bonds.

"Investors wouldn't do that if they did not have confidence these companies would repay them."

The European bond market has also staged a big recovery in recent weeks, but bonds are still collectively priced at a near 10 per cent discount to par. The Bank of America Merrill Lynch's index of European currency junk bonds reached a high of 92.71 last week, its highest level since November 2007.

While the recovery in European bonds has not been as fulsome as the US market, it is recovering off lower levels. The European index reached a low on December 15, 2008, of 48.02.

Mr Fridson said the lower prices in European junk bonds is a reflection of weaker growth expectations for the European economy. Concerns of a potential default of Greece also hit European junk bonds last week.

Richard Phelan, head of high-yield research at Deutsche Bank, said that despite the sovereign concerns, there was strong interest in high-yield bonds as an asset class, leading to a recovery in prices and new bond sales.

Companies have sold risky debt in record volumes this year. Global issuance of junk bonds totalled $67.8bn (£44.4bn) at the end of the first quarter - a record high for the first three months of the year, according to Thomson Reuters.

Last week alone saw $9bn sold, including a $600m issue from clothing company Phillips-Van Heusen and €500m (£435m) from the French chemicals group Rhodia.

"Investors see the high-yield market right now like a patient that's out of the operating room and been given a clean bill of health. Confidence is being driven by improving corporate quality," said Mr Phelan.

However, he said after such a rally there were fewer opportunities for investors to generate outperformance.

Saturday, May 1, 2010

Greece is Coming to America Sooner Than You Think

One of the main focal points in the financial markets has been the problem being experienced by the government of Greece, namely, that it cannot pay its bills unless a bailout is extended. Most of the potential credit exposure is ensconced in Europe; yet a wider effect can occur if other nations that have fiscal concerns (i.e. Portugal, Spain, Italy, et. al.) are pulled into this vortex. The Financial Times recently reported:
"With Standard & Poor's estimating a recovery rate on [Greek] government debt of between 30 to 50 per cent, investors could lose vast amounts in what would likely prove to be a long and drawn-out battle to retrieve their money. Significantly, one of the biggest losers in a default would be German and French investors as they hold an estimated €78bn of the total of €295bn in outstanding Greek bonds, according to Barclays Capital.""If recovery rates were only 30 per cent, these French and German investors, mainly made up of commercial banks and insurance funds, would lose €55bn, more than the original international rescue proposal of €45bn.""Other big holders of Greek debt include Italy (€20bn), Belgium (€17bn) and the Netherlands and Luxembourg (both €15bn). Eurozone countries hold in total €164bn."

But the problems extend beyond economics. We are witnessing the capitulation of promises made by politicians. These promises were impossible to keep, yet many conjured up expectations that they would. In America, the roots of the same problems presently being experienced by Greece exist. Yet, the pride of this nation accepts the haughty proposition that “it won’t happen to us.” History, however, dictates otherwise.

Politics of envy will kill wealth creation

By Luke Johnson
Published: April 27 2010 (Financial Times)

[My comments: Mr. Johnson is head of Risk Capital Partners, a private equity firm located in London, UK. His commentary hits at the core of why fundamentally all forms of socialism fail. He brings to the forefront the ethical link that economists and politicians alike do not regard when it comes to policymaking. The art of theft is well camouflaged in their intentions to do go. Indeed, as someone once said, it is easy to do "good" with resources that belong to somebody else. Our human nature is to obtain something with the least amount of energy spent. Current economic theories and political rhetoric try to exploit this loophole in human nature to advance the perceived credibility of their proponents. Theft is wrong and immoral. No amount of "proofs" of the opposite will change that.]


Politics of envy will kill wealth creation

Is envy a helpful motivator for those who want to succeed? I rather think not. It strikes me as a negative, destructive emotion, usually possessed by small-minded individuals who see economics as a zero-sum equation. Entrepreneurs I meet very rarely covet another’s possessions: what they want to build is their own business, independent, better than the competition.

Politicians all too often pander to the envious tendencies among the electorate. As George Bernard Shaw said: “A government which robs Peter to pay Paul can always count on Paul’s support.” Socialism, or “progressive” politics as it is now called, essentially encourages envy under bogus intellectual arguments about equality and egalitarianism. As Sir John Rose, chief executive of Rolls-Royce, put it in this newspaper last week: the proponents of redistribution programmes are so obsessed about how the cake is sliced they forget about enlarging the cake – to everyone’s detriment.

The pessimistic, leftwing view of the world sees it as a place of rapidly shrinking resources, where any elites should be levelled down so that we can all be immiserated together. Thus the Liberal Democrat cure for unemployment and a fiscal deficit is to increase capital gains tax in Britain to 50 per cent, the highest rate in the world. In almost all countries it is half that, or less – in rapidly growing economies like Singapore, Hong Kong, Brazil, Russia and India it is 15 per cent or zero. But their Treasury spokesman Vince Cable, who claims to be an expert in finance and business, (although he has never actually dealt with a payroll in his life) expects entrepreneurs to take all the risk, and the government to take half the reward. At a stroke they would kill initiative, and send a massive signal to wealth-creators: do not invest here.

Almost trebling capital gains tax in the UK would be especially stupid. It would probably raise no extra revenue for the state, and would drive talent and capital elsewhere. Research shows that most job creation in the private sector in recent decades has taken place in companies less than five years old. In sensible economies they cherish start-ups – not burden them. Founders of new ventures make considerable sacrifices to realise their dreams.

Recently I met the chief executive of a dynamic business who has certainly struggled. Five years ago he sold his flat to fund his business, and slept on the sofa in his office for two years. Now his creation is booming and he has a real home again. Building a company from scratch is a perilous task – but the west desperately needs such heroism if it is to generate the surpluses to pay down debt and provide work.

The issues facing the west are straightforward. Possibly the biggest change to impact society in recent decades has been the growth in the number of full participants in the global economy from 700m to 3bn. The arrival of China and India and other developing nations alters everything. India alone graduates 350,000 qualified engineers a year. These young, hungry workers are competing for jobs, wealth and commodities with 21-year-olds from Europe and the US. Average wages in China are less than 5 per cent of average wages in Britain. Investment in education and infrastructure means these emerging superpowers are rapidly catching up with the west in terms of productivity.

If we do not genuinely encourage entrepreneurs to invent and invest here, to search for competitive advantages and to boost productivity, then I can see no alternative but relentless decline – certainly relative, but perhaps even in absolute terms. Big government and a culture of dependency and entitlement is a recipe for disaster. Instead we must grow the private sector, which is the engine for innovation and exports, and the only cure for unemployment. But if we elect amateurs to high office who stimulate jealousy and punish dynamism, they will foster a society rank with stagnation, underinvestment, worklessness and despair. A sense of grievance and adoption of the victimhood complex – all ailments promoted by certain politicians – are the opposite of what is needed. When will they ever learn?