Mr. Mario?s Big Bluff

A couple of alleged Tweets, a few rumored phone calls, and what have we got? $2 trillion in new global stock market capitalization in hours. That was the bottom line after the purported communication between the staffs of Germany?s Angela Merkel, France?s Jean Francois Hollande, and ECB president Mario Draghi. But is the creation of this immense new wealth, which would alone rank as 10th in terms of GDP after France, justified?

If the intention was to punish hedge funds, the goal was certainly accomplished. The plaintive bleatings in email and text messages I received from hedge fund friends back home has been overwhelming. It was clear from the price action, straight line moves with no pullbacks, that the pain trade was definitely on. Pre-Thursday, the consensus wisdom was that market would crash into the August doldrums in the face of global economic data that was deteriorating by the day. Such is the price of betting against central banks that I highlighted in my recent trope ?Why Ben Bernanke Hates Me? (click here at

Leading research houses seemed to be in an arms race with government institutions to see who could cut growth forecasts the fastest. They were all egged on by US Q2 corporate earnings reports, that were highly fudged and indifferent at best, with the most honest wisdom provided by the shocker from Apple (AAPL).

However, in the financial markets that are more often driven by emotion than information, politics trump fundamentals every day. With the street heavily positioned on the short side, the conditions for a snap back rally were ripe. This is why I had no positions at all for 10 days, and no equity holdings for over a month. Rather than chase the market on the downside, I waited for it to come to me, which is usually the best thing to do.

I have always believed that Europe has the ability and the resources to solve its problems at any time. To read my advice to the German government in detail, please refer to my report from Frankfurt, which I will write in the next couple of days, when I get some time.

All that is required is for Europe to make some unpleasant admissions of truths, and adopt some policies and institutions that have already been proven to work in the US. These are hard things to do politically, but that can be done. Make the politicians earn their pay for a change, I say. This is what makes the short game in Europe so risky, and why I have recently been so wimpy on my short Euro (FXE), (EUO) recommendations (in the reports, but without trade alerts).

Words are cheap, and their true value will become apparent when it comes time for Mario Draghi to deliver. If he does so quickly, we could see a ?RISK ON?, rally that could last until the end of the year and possibly take the S&P 500 up to 1,500. If he doesn?t, the August crash scenario down to 1,200 is back on the table, but no more. That table loses another leg if Ben Bernanke fails to deliver QE3 on Wednesday.

If all of this leaves you confused and befuddled, then welcome to the club. There are times when markets are just not forecastable, when the number of large variables and unknowns are too great to even make an intelligent guess at outcomes, and this is one of them. That?s why I am still 70% in cash, limiting my ?RISK ON? exposure to small, profitable positions in short Treasury and short yen call spreads. That?s down from 100% I had just last Wednesday.

I think I?ll go climb that Alp over there.







The Pain Trade is on for Hedge Funds

Why Ben Bernanke Hates Me

I don?t just think he hates me. He truly despises me. In fact, he does everything he can to put me out of business.

Take next week, for example, when the Federal Reserve Open Market Committee meets, and he will attempt to give my views and me a complete thrashing. I doubt he?ll launch a QE3 because he needs to keep some dry powder as a last resort. But he probably will announce some minor back door easings, like expanding his ?operation twist? to include mortgage backed securities for the first time, or ceasing interest rate payments on deposits from private banks. Just the mere prospect of this is forcing me to stay entirely in cash, preventing me from making more money than I already am.

It?s not that I am not an all right guy. I am kind to children and small animals. I donate generously to many charities. I send my mother cards on her birthday (happy birthday mom!), even though she is 84 and not expected to last much longer. I even occasionally escort little old ladies across the street, although this is a holdover from my days as an Eagle Scout.

It?s just that Ben Bernanke and I don?t see eye-to-eye on a lot of important issues. He wants stocks to go up. As a hedge fund manager who plays from the short side more often than not when the economy is growing at a paltry 1.5% rate, I want them to go down. He wants bonds to go up too, as he clearly elicited with his ?twist policy? last year when he bought long term Treasury bonds and shorted overnight paper against it. I, on the other hand, want bonds to sell off because I know that when the bill comes due for all of this monetary easing, the crash will be momentous.

These are not the only matters we differ on. He wants to create jobs. He can wish this until the cows come home but he?s not going to get them because of the gale force demographic headwinds the country is now facing and the massive deleveraging by the public and private sector. The 25 million jobs we exported to China are never coming back.

However, all he has to do is make a mere mention of his desires, or even just mention the letter ?Q?, and asset prices go through the roof, forcing me to stop out of my shorts at losses. This is why I was in such a foul, acrimonious, and detestable mood during the first quarter, when stocks went up almost every day.

My problem is that Ben Bernanke isn?t the only person who dislikes me. President Obama doesn?t think much of me either. He talks about jobs too. He frequently speaks about the need to improve our education system, even though I know he is poised to slash the budget for the Department of Education as part of some deal with the Republicans. Ditto for Social Security.

Fortunately for me, I wrote off any prospect of getting a retirement check a long time ago and have made other arrangements, like becoming a hedge fund manager. Either the payments will be too small to live on, or they will be made in Zimbabwean dollars and will be effectively worthless.

I get along with Treasury Secretary, Timothy Geithner, OK, which keeps me on his ?must see? list whenever he stops in San Francisco on his way to Beijing to ask to borrow more money. But we go way back. There are only four people in US history who can discuss Japanese monetary policy of the 1920?s in depth, and do it in Japanese just for laughs (it was clearly too easy). Two of them, Senator Mike Mansfield of Montana and Harvard professor, John K. Fairbank, died ages ago. So he is kind of limited on choices. Besides, there are not a lot of people out there who can give him a 40 year view on the global economy, and I am one of them.

There are plenty of others who don?t think I am so hot, too. Try making a fortune in a market crash when everyone else is losing their shirt. While others in the locker room at my country club are slamming doors, tearing their hair out, and breaking golf clubs in half when they see the price feed on CNBC, I am chirping happily away about selling short at the top. I might as well be letting out a loud fart in Sunday church service. This explains why I stopped getting invitations to dinners ages ago.

It?s not that my relationship with Ben Bernanke is totally hopeless. When the demographic picture turns from a headwind to a tailwind and individuals and corporations cease deleveraging and return to releveraging, we?ll probably be reading from the same page of music. But according to the US Census Bureau, the earliest this can happen is 2022. By then, he probably won?t be the Fed governor anymore and I won?t care if he likes me or not.

Besides, I may be able to make a new friend or two in the meantime. If Mitt Romney wins the presidential election he says he?ll fire Ben Bernanke on his first day in office. He can?t really do that, but Ben?s term does expire a year later. His two most widely rumored picks to fill the post are president of the Federal Reserve Bank of Dallas, Richard Fisher, and Stanford University professor, John Taylor.

These two are not in the least bit interested in all this quantitative easing malarkey. They are much more similar in philosophy to Herbert Hoover?s Treasury Secretary, Andrew Mellon, who popularized the ?let the chips fall where they may? approach to economic policy. Kick the props out from under this market and all of a sudden Dow 3,000 is on the table, as argued by Global strategist and demographics maven, Harry Dent.

They might even go as far as unwinding the Fed?s hefty $2.7 trillion balance sheet. That would give the Chinese, who hold $1 trillion of these bonds, a heart attack. But who cares? It would create the mother of all trading windfalls for me. Hell, they might not even care if I torture small animals, beat children with a switch, and leave little old ladies in the middle of onrushing traffic. I think we would get along just great.

Screw Social Security, and Ben Bernanke too.







Apple Just Gave You a Gift

Steve Jobs? creation dropped a real bombshell on the market Tuesday when it announced Q2, 2012 earnings that were rotten to the core. The timing could not have been worse for a market that was on the verge of complete nervous breakdown. Of the 53 brokers who provided research coverage of the Mountain View, California firm, 27 rated it a ?buy?, 21 ?outperform?, and precisely zero ?underperform?. And you wonder why retail has bailed on Wall Street.

The numbers made grim reading. Sales, which had been targeted at $37 billion came in at only $35 billion. Profits amount to $8.82 billion, taking earnings per share to $9.32, well down from the $10.37 expected. Estimates for iPhone sales had run as high as the low 30 millions. The actual figure was 26 million. In overnight trading, the shares opened down a gob smacking $40, instantly vaporizing $37 billion in market capitalization.

Apple is suffering from the mother of all delayed consumption headaches. Consumers love their products so much they have gone on strike until the vastly upgraded and better performing iPhone 5 is launched in the fall, yours truly included. So the dip in profits will reappear as a spike in profits in the next one or two quarters. This means that if you missed the 50% run up since the beginning of the year, you may have a chance to take another bite at, well, the apple.

Apple is not just an iPhone story. The mini iPad is expected out soon. Apple TV is expected to be huge next year. Apple has only just scratched China?s market of 600 million cell phone users. Its six stores are regularly the scene of long lines, and occasional riots by consumers desperate to buy their products. Droves are crossing the border by train from Shensen to Hong Kong, where Apple products are more easily available.

In the spring I lead readers into the August $400-$450 call spread which became one of our most profitable trades of the year. I took them out a month ago because we had already squeezed out most of the profit, and because I thought that exactly this kind of disappointment might occur.

The intelligent thing to do here is to wait for the current shock to work its way through the system. You also want the present melt down in the broader market to exhaust itself. That could take us well into August. The best-case scenario here is that you get back in when the stock falls all the way down to its June low at $525. If it then drops below $500, double up. This would be a once in a lifetime gift.

If you are cautious, you will then want to put the $400-$450 (AAPL) call spread back on with a January 2013 expiration. The more aggressive could roll up to the $450-$500 call spread. Or you could just buy the stock outright for longer-term accounts. All of the arguments that I made two years ago that the shares were headed for $1,000 are still valid (click here for the link).




US Earnings Are Headed Down the Drain

Remember the $2 trillion US corporate cash mountain that you have heard so much about? Well, it is finally starting to shrink. Have they started reinvesting profits in America? Are they hiring more people? Did they finally get those tax breaks they were begging for? Have they dramatically increased dividends and share buy backs or returned to acquisitions to boost earnings?

Well, not exactly. The cash mountain is shrinking, but for all the wrong reasons. They are just not earning as much money as they used to. According to data released by S&P Capital IQ, US corporate cash flow turned negative in Q1, 2012 for the first time since 2008. It almost certainly worsened in Q2.

The harsh truth is that earnings are falling because of collapsing revenues, which at the rate reported so far in this season look to come in at about 1% YOY. Adjust for inflation, and these figures turn negative. This means that the 5.4% YOY earnings growth we are seeing, which I predicted all the way back in my January annual asset revue, are being achieved through aggressive cost cutting.

Managers aren?t hiring more, they?re firing more, which explains our stubbornly high headline 8.2% unemployment rate. This can?t last. You can only eat your seed corn for so long before you go hungry.

This deterioration, which has been under reported and unappreciated, has economists slashing their forecasts for US GDP growth. It is clear that consumers are returning to their bomb shelters. I recently chopped my own forecast from 2% to 1.5%, and even that could start to look high in a matter of weeks. All of this sets up the scenario which I have been pounding the table about in my strategy seminars in Chicago, New York, London, Paris, Frankfurt, and Zermatt, which I have entitled ?The Crash of 2013?.

None of this makes a convincing case for buying equities right now. It makes the current 14 multiple for the S&P 500 look positively pricey. If there was ever a case for selling rips in the indexes it is now. Keep your fastest finger on your mouse ready to buy puts on the (SPX), (IWM), and (QQQ), and the bear ETF (SDS), and (SH).




US Companies are Eating Their Seed Corn ?


How the Fed Will Trigger the Next Crash

Over the last two months, I have witnessed one of the least convincing rallies in the US stock market in recent memory. Looking at the chart for the S&P 500 below you can clearly see a modest, low conviction, declining volume rally in an ever-narrowing channel. This is further confirmed by the chart of the NYSE advance/decline ratio that is failing at the March support level, which has now become resistance.

Look at any other asset class and it is flashing warning lights. Ten year Treasury bonds are within a hair?s breadth of blasting through to an all time low yield below 1.42%. We all know from hard earned experience that stocks and bonds never go up together for more than short periods, and that it is almost always the debt markets that get the longer-term trend right.

That flight to safety currency, the Japanese yen, is also screaming at us that trouble is just around the corner. It made it to the ? 77 handle, or over $125.00 in the (FXY) in recent days. People are certainly not buying the Japanese currency because they like Japan?s long-term fundamentals and demographics, which are the worst in the world. Nor are they buying for the yield, which is zero.

It appears that stocks have rallied because traders believe that the Federal Reserve will launch QE3 at its upcoming August 1 meeting. Bonds have been rallying because they think it won?t. Only one of these markets is right. That means the Fed won?t be able to take further easing action until early next year, well after the presidential election. By then, it will have every reason in the world to launch QE3, with the ?fiscal cliff? at the top of the list. That?s why Ben Bernanke is not inclined to waste ammo now.

In the meantime, The US, China, and Japan are all slowing and Europe is falling off a cliff. I was speaking to a hedge fund friend of mine this morning who told me the German paper he read said that they were abandoning Greece. I replied, ?That?s funny, the German paper I read said that they were abandoning Spain.? What ECB rescue funds that are in place are being challenged in the German Supreme Court, creating further uncertainty.

Travel around European main streets, as I have done for the last 10 days, and the ?FOR SALE? signs are everywhere. These are not a signal that I should rush out and buy equities right now, no matter how high the dividends are. They will be higher still, later.

All of this is setting up for an August that could be grizzly. A Fed disappointment will lead to a rapid unwind of the recent stock market rally, and could take us down to the 2012 low at 1,266 pronto, or more. A pop to a 1.25% yield in the ten-year Treasury is a chip shot.





Sign of the August to Come?


This Party is About to End

They are really rocking the market today, with the Dow up nearly 200 points off the back of a non-disastrous Chinese GDP growth figure of 7.7%. However, there is a serious disconnect going on in our markets which suggests to me that our own party may be about to end.

Yesterday?s blockbuster weekly jobless claim took applications for unemployment benefits down to a four-year low of 350,000. But if you ignore this, you have an unending series of data reports that shows an economy clearly decelerating to a growth rate of 1% per annum or less. That is one-seventh China?s rate.

And yet, you have an S&P 500 with a top end range that is a mere 3% within the high for the year. You don?t need a PhD in math from MIT to understand that rising stock prices and falling growth are an anomaly that can?t last and can only end in tears.

I think this is happening for a couple of reasons. Many traders are awaiting Q2, 2012 earnings reports and are willing to give companies the benefit of the doubt until they are out. Stocks are at the historic low end of valuation ranges. Many institutions are still underweight, and willing to use dips to pick up some bargains. This is why this summer has been a short seller?s nightmare, volatility has fallen through the floor, and many hedge funds have bailed for the duration.

I also think that many institutions are waiting for the Federal Reserve to announce QE III at their end of July meeting, thus powering the market to new yearly highs. I?m betting that they will be sorely disappointed. Ben Bernanke has so few bullets left to protect the economy that he will wait until the Indians are circling the wagons and unleashing a barrage of arrows, before he takes action. Quantitative easing is meant to be a safety net, not a stepladder from which to boost ever-higher asset prices. The Fed?s failure to deliver could give us the trigger we need to break to new lows in August.

Take a look at the charts below to see how clearly defined the recent channels and ranges are. Next time the SPX approaches 1,370, I might think about going short, taking out some downside insurance, selling out of the money calls, and generally getting yourself into a risk off posture. If you don?t, your summer could turn into a giant rainstorm.






This Party is Nearly Over



Obama?s Unintended Oil Consequences

Back in March, oil broke the $110/barrel level and gasoline was rapidly approaching the $5/gallon level, threatening to derail Obama?s reelection campaign. The administration enlisted Europe to join it in a boycott of Iranian oil in an effort to get the Islamic republic to retreat from is program to develop a nuclear weapon. Iranian president, Mahmoud Ahmadinejad, responded by threatening to close the Straits of Hormuz, thus blocking exports to the west. It all had the makings of a first class crises that could have taken oil up to $125 or higher.

There was no way that the president was going to let Texas Tea to pee on his parade, so he took quick action to cut the knees out from under it. He threatened to release supplies from the Strategic Petroleum Reserve in Louisiana, which was chocked full. He browbeat the CFTC into substantially raising margin requirements for oil and other commodities with his attack on ?speculators?.

He then convinced Saudi Arabia to ramp up its production to the max, over 12 million barrels a day, to head off any ill-timed price spikes. The Saudis, believing it was time to discipline recalcitrant minor producing OPEC members, like Iran, with the threat of lower prices, happily complied.

Crude gave back $5 in the bat of an eyelash, and then launched a $33 downslide that had oil trading at the $77 handle on Monday. What Obama didn?t expect was an assist in his strategy to cripple oil prices from a flock of ?black swans?.

The next chapter in the European sovereign debt debacle pushed the continent into a more severe recession, cooling energy demand there. Libya has been bringing production on line faster than expected. Every downtick in China?s anticipated GDP growth rate shaves a few more dollars off oil. A shortage of pipeline capacity is causing oil to pile up at the massive storage facilities Cushing, Oklahoma, slowing export deliveries. It all adds up to a rare perfect storm for oil. To Obama?s delight, gasoline may be selling for the high $2 range in much of the country by the November election.

As I regularly harangue readers and attendees at my strategy luncheons, imminent America energy independence is the least understood but most important factor that will impact financial markets in the years ahead. Over the last two years, domestic production has soared from 8.5 million barrels a day to 10.5 million, thanks to the miracle of fracking technology, which I helped pioneer a decade ago. That?s more that we buy from Saudi Arabia annually.

North Dakota has just replaced Alaska as the second largest oil producing state. The boom there has been so rapid that massive RV camps of itinerate roustabouts now litter the Northern plains. In the meantime, imports have plummeted from 13 million barrels a day to only 9 million.

But I think the current crash in oil will be a temporary one. For a start, the Seaway pipeline reverses next week, breaking the Cushing bottleneck, enabling North Dakota oil to reach the Gulf ports. The current $78 oil price is already below the cost of the most important sources of supply, such as Canadian oil sands and deep offshore wells.

I think that financial markets will enjoy a ?RISK ON? rally starting from this summer as they start to discount the conclusion of the presidential election, the next European LTRO quantitative easing, and possibly a QE3 from the Federal Reserve. This could all pave the way for a rebound in oil to $90 or more.

So there is an attractive trade setting up here. You can buy the oil major ETF (DIG). Interesting single stock plays at these levels include ExxonMobile (XOM), Occidental Petroleum (OXY), and Cabot Oil & Gas (COG). You can also buy call spreads in the oil ETF (USO). A more cautious strategy might be to sell short out of the money puts on the (USO). Sure, the tracking error on this horrible ETF is huge, thanks to the contango, but at least you can take in the time premium.

My long term view on oil is that we spike one more time to $150-$200. Having spent 45 years studying the industry closely and knowing principals like Armand Hammer and Boone Pickens, I can tell you the one simple rule of thumb to observe with this industry. Doing anything costs extraordinary amounts of money and takes a really long time. The calloused men who run the oil majors don?t hesitate to spending tens of billions of dollars to finance projects in the most inhospitable parts of the world with 40 year payouts. No matter what we do today, it will be impossible to head off another severe oil shortage.

After that, we will fall to $10 as oil is removed from the global economy and is only used as a petrochemical feedstock for plastics, pharmaceuticals, asphalt, and jet fuel. This will happen because of the rise of cheap natural gas, alternative energy sources, more efficient building designs, a better power grid, the advent of low end nuclear power plants, and cars that get 100 miles per gallon or use no gasoline at all.

Of course the CEO?s of the oil majors laugh when I tell them this. I?m sure that the hay industry similarly laughed in 1900 if you told them about the coming demise of the horse as a mode of transportation. But it may take 40 year for us to get there. I hope I live to see it.






Time for a Punt?

Why I Am Chopping My US GDP Forecast to 1.5%

For the past two years, I have maintained a GDP growth forecast for the US of 2% a year. I have not stuck with this figure because I am stubborn, obstinate, or too lazy to update my analysis of the future of the world?s largest economy. I have kept this number nailed to the mast because it has been right.

I have watched other far more august institution with vastly more resources than I gradually ratchet down their own numbers towards mine, such as Goldman Sachs (GS) and the Federal Reserve. So I feel vindicated. But now that they are coming in line with my own subpar, lukewarm, flaccid 2% prediction, I am downsizing my forecast further to 1.5%. This is not good for risk assets anywhere, and may be what the markets are shouting at us with their recent hair raising behavior.

I am not toning down my future expectation because I am a party pooper or curmudgeon, although I have frequently been called this in the past. After all, hedge fund managers are the asset jockeys that everyone loves to hate. My more sobering outlook comes from a variety of fundamental changes that are now working their way through the system.

First, let me start with the positives, because it is such a short list. The work week is now the longest since 1945, no doubt being helped by onshoring triggered by rising Chinese wages. The car industry is in amazingly good shape, although the vehicles they are selling in larger numbers are much smaller than the behemoths of the past, with thinner profit margins. Credit is expanding, if you can get it. The housing market has finally stopped crashing and might actually add 0.3% to GDP this year.

Now for the deficit side of the balance sheet. The $4 trillion in wealth destruction created by the housing crash is still gone, and will remain missing in action for at least another decade. The home ATM is long gone. Income growth at 1.7% is still the slowest since the Great Depression, and is far below the historic 3% annual rate. Not only do people work longer hours, they get paid much less money for it.

Home mortgages rationed to only the highest credit borrowers has cut housing turnover off at the knees. This means fewer buyers of appliances and other things you need to remodel a new home purchase. It also kills job mobility, trapping worker where the jobs aren?t. Notice that vast suburbs remain abandoned in Las Vegas and Phoenix, while thousands live in impromptu RV camps in booming North Dakota.

If you want to understand the implications of the fiscal cliff at year end, watch the cult film, Thelma and Louise, one more time.? That?s where the heroines deliberately go plunging into the Grand Canyon in a classic Ford Thunderbird. The noise surrounding the presidential election is going settle ones nerves about as much as scratching one?s fingernails on a chalkboard.

The global situation looks far worse than our own. This is not good, as foreign sources account for 50% of S&P 500 earnings, and as much as 80% for many individual companies. To understand how wide the contagion has spread, look at the numbers put out on a recent JP Morgan forecast.

The European impact on our economy is about as welcome as the 1918 Spanish flu, when million died. (JPM) cut their expectation of growth there from -0.1% to -0.5%. Italy is shrinking at a -2.2% rate. Their prediction for growth in Latin America has been chopped -0.5% to 3.3%, while China has been pared by -0.5% to 7.7%. Japan is enjoying a rare 0.5% pop to 2.5%, but that is expected to fade once a massive round of tsunami reconstruction spending is done. Overall, global growth is decelerating from 4.5% to only 2%, with 82% of that growth coming from emerging markets. The last time a global slowdown was this synchronized was in 2008. Remember what stock markets did then?

All of this may be why hedge funds are fleeing this market in droves as fast as they can, including myself. Many of the small and medium sized funds I know are now 100% cash, and the big ones are only staying because they are trapped by their size. There are few good longs out there for the moment and fewer shorts. Prices are gyrating on a daily basis, triggered by overseas headlines where every else seems to have an unfair head start.

Suddenly the yacht at Cannes, the beach at the Hamptons, and the golf course at Pebble Beach seem much more alluring. Yes, clients dislike it when their managers are flat because they are getting paid for doing nothing. But they hate losing money even more.






Did You Say 1.5% US GDP Growth?

No Fed Action Disappoints QE Bulls

It?s always nice when intelligent people agree with you. That was my feeling after the Federal Reserve gave notice today that it was downgrading its forecast of US economic growth for 2012 from 2.6% to 2.15%. That is a major step down from the 3% and higher predictions they were hanging on to earlier.

The news came in the written statement that followed the Fed?s somewhat disappointing decision today. As I expected, there will no QE3. The Fed needs to keep dry powder in case we get another market crash, possibly as early as this summer. Operation ?twist? was renewed for another year, but wasn?t extended to include mortgage backed securities. It was about as conservative of a conclusion one could have expected from the Fed, given the rapidly deteriorating economic data flow that I chronicle daily in these pages.

It brings the August panel of respected central bankers in line with my own 2% expectation, which I have been posting since January. Here?s a good rule of thumb from a four decade long Fed watcher: they are always behind the curve, sometimes way behind, often by a year or more.

The problem for you is that 2% is not my forecast anymore. As of today, I am ratcheting it down to 1.5%. Without a QE3 it is really hard to see where additional growth is going to come from this year. US corporations are producing record profits and sitting on mountains of cash, so they have absolutely no incentive to stick their necks out whatsoever. Additional government spending is hamstrung by an election year and a gridlocked congress.

Virtually the entire international arena is slowing, in some cases dramatically so. China is about to bust through the bottom of its target growth range at 7%, down from 13% a few years ago. Tsunami reconstruction spending in Japan has just about run its course. Europe is clearly in a major recession. Even powerhouse, Germany, is shrinking from 2% growth to 1% because of weakness in its major export markets.

The market implications of this lower growth rate are many. It means that the recent 100 point rally in the S&P 500 was built on so much hot air and false hope. It was never driven by more than a round of furious short covering and profit taking. Let the permabulls enjoy a few more days of summer, possibly taking the index as high as 1,400 by month end.

It also means that another round of pain for the Euro (FXE) (EUO) is not far off. The best case for Treasury bonds (TLT) is that they churn sideways until the next Fed meeting in six weeks. In the worst case, the spike up to challenge the old highs, taking yields up to 1.42% for the ten year once more.

The lows for the year haven?t been put in yet, but they are about to. Before, we had a 4% GDP stock market and a 2% GDP economy. Now we have a 4% GDP stock market and a 1.5% GDP real economy. Watch out below. The only question is whether 1,250 in the (SPX) holds this time, or whether we have to plumb the depths of 1,200 before the penance is paid for our hubris.





Sorry Guys, No QE3 Today

Gold is Making a Comeback

One of my best calls of the year was to plead with readers to avoid gold like the plague, periodically dipping in on the short side only. The barbarous relic has been in a bear market since it peaked at $1,922 an ounce at the end of August last year. Gold shares have fared much worse, with lead stock Barrack Gold (ABX) dropping 36% since then and the gold miners ETF (GDX) suffering a heart rending 43% haircut.

However, the recent price action suggests that hard times may be over for this hardest of all assets. Despite repeated attempts, the yellow metal has failed to break down below the $1,500 support level that I have been broadcasting as the line in the sand.

It has rallied $100 since the last try a few weeks ago. (GDX) has performed even better, popping 23%. For the last month, the entire precious metals space has traded like it was a call option on global quantitative easing (see yesterday?s piece). Dramatically worsening economic data is increasing the likelihood of further monetary easing generating a nice bid for gold.

Now the calendar is about to ride to the rescue as a close ally. It turns out that in recent years, there has been a major seasonal element to the gold trade, almost as good as the November/May cycle that drives the stock market. Gold typically sees a summer low. Then traders start anticipating the September Indian gold season when the purchase of gifts and dowries become a big price driver. That explains why India, with a population of 1.2 billion, is the world?s largest gold buyer.

Next comes the Christmas jewelry buying season in western countries. That is followed by the gift giving and debt repayments during the Chinese Lunar New Year, during which we see multi month peaks in the yellow metal. That is exactly what we saw this year. The only weakness in this argument is that a slowing Chinese economy could generate less demand this time.

These are heady inflows into such a small space. All of the gold mined in human history, from King Solomon's mines, to the bars still in Swiss bank vaults bearing Nazi eagles (I've seen them) would only fill 2.5 Olympic sized swimming pools. That amounts to 5.3 billion ounces, about $8.6 trillion at today's prices. For you trivia freaks out there, that is a cube with 66 feet on an edge. China is the largest producer (13.1%), followed by Australia (10%) and the US (8.8%).

Peak gold may well be upon us. Production has been falling for a decade, although it reached 94 million ounces last year worth $153 billion at today?s prices. That would rank gold 5th as a Fortune 500 company, just ahead of General Electric (GE). It is also only .38% of global public debt markets worth $40 trillion.

That is not much when you have the entire world bidding for it, governments and individuals alike. Talk about getting a camel through the eye of a needle! We may well see the bull market end only when those two asset classes, government bonds and gold, see outstanding values reach parity, implying a major increase in gold prices from here. That is well above my own personal target of the old inflation adjusted high of $2,300. No wonder buying is spilling out into the other precious metals, silver (SLV), platinum (PPLT), and palladium (PALL).

The thumbnail technical view here is that we have broken the 50 day moving average at $1,610, so we may have a clear shot at the 200 day average at $1,680. There may be an easy $50 here for the nimble, and more if we break that. The current ?RISK ON? mood certainly helps this trade.

When playing in the gold space, I always prefer to buy the futures or the (GLD), the world?s second largest ETF by market cap, either outright or through a longer dated call spread. The dealing costs are far too high for trading physical bars and coins, and can run as high as 30% for a round trip. Having spent 40 years following mining companies, I can tell you that there are just way too many things that can go wrong with them for me to risk capital. They can get nationalized, suffer from incompetent management, hedge out their gold risk, get hit with strikes or floods, or get tarred by poor equity market sentiment. They also must endure the highest inflation rate of any industry, around 15%-20% a year, which hurts the bottom line.

Better just to stick with the sparkly stuff.








It?s Time to Start Dabbling in Gold Again