Featured Trades: (CONTEMPLATIONS ON RISK)
1) Contemplations on Risk. The S&P 500 has risen 11 out of the last 13 trading days. Everything in my portfolio is up 50% in the last four months, except for the rare earth stocks which are up 400%. My call that the global equity markets would launch into a surprise up move driven by better than expected earnings, sending shorts scrambling, turned out to be one of the best in my career (click here for 'My Equity Scenario for the Rest of 2010'). So far, 82% of reporting companies have surprised to the upside. It doesn't get any better than this.
Now that everything is ridiculously overbought on a short term basis, I have to ask: What can go wrong with this party? When will investors flip from 'RISK ON' to 'RISK OFF' mode? Should I pick up my ball and go home? I'm sorry, but I am one of those guys who believes that the higher prices go, the more risk they carry, and the more volatility they threaten. Most people believe the opposite.
I see three possible near term inflection points setting up for the markets:
I) The November 2 elections. A surprise Democratic win would send the markets into a tailspin. Much of the buying since august has been driven by an expected Republican takeover of the House of Representatives. If that doesn't materialize as promised, the punch bowl would disappear very quickly.
II) Year End. Many hapless financial advisors have bought the top of the market and then sold the bottom for the second year in a row. As a result, 30% of active managers are now underperforming the index. To catch up, they are buying this year's hottest stocks hand over fist, driving markets higher still. This is why you are seeing so much buying concentrated in lead names like Apple (AAPL), which now accounts for an amazing 20% of the NASDAQ. Flip the page on the calendar and all this buying may end.
III) End Q1, 2011. The QEII surge continues for another five months, the S&P 500 challenges this year's high of 1,240, and New Year cash allocations pour into the market. Then Bernanke says 'Ha Ha, fooled you! I'm not doing any QEII because you guys already did it for me!' We then run into a repeat of 2011 where six months of feast are followed by six months of famine. The 'double dip' scenario once again rears its ugly head. This is what lost decades are supposed to look like.
While I am not certain which of these three scenarios plays out, I know for sure what to do when one hits. 'RISK OFF' means the dollar and volatility go up, and stocks, bonds, commodities, currencies, food, and emerging markets go down. Retail participation in the equity markets shrinks to two guys sitting in rocking chairs on a porch in Arkansas waiting for their cable to get installed.
Don't kid yourself into thinking that you can hedge against these losses, or that diversification will protect you. We live in a binary, bipolar world, and the only hedge that truly works is cash.
Featured Trades: (PEAK TREASURY BONDS), (TBT), (TMV)
ProShares Ultra Short Lehman 20 + Year Treasury ETF
Direxion Daily 20 Year Plus Treasury Bear 3X Shares ETF
2) The Fat Lady is Still Singing in the Treasury Market. To say that things have gone well for the Treasury bond market this year would be one of the understatements of the century. First there was a global flight to safety triggered by the European debt crisis. Then there was the mad rush by hedge funds to cover shorts in securities they believed were the world's most overpriced assets. Then Ben Bernanke appeared on the scene with QEII, sending bond prices everywhere to 50 year highs.
Every academic study showing that government paper had 30 years of underperformance ahead of them, including my own, only seemed to drive prices higher (click here for 'A Visit to the Insane Asylum'). In fact, my report on 'The Great Bond Market Crash of 2010' lagged the actual peak in bond prices by just five days (click here for the piece). At the August high, the Treasury market was effectively discounting 0% inflation for ten years, an insanity I was happy to bet against.
The recent action in the markets suggests that the turn may finally be behind us. Why have bond prices been falling for the past month, despite an assumed promise by the Fed to provide unlimited amounts of liquidity? Why has a ton of Chinese and other foreign buyers failed to set a new high. Is it possible that the fat lady is at last singing in the Treasury bond market?
Let's say we get a 'RISK OFF' reversal in global financial markets. The short Treasury Bond ETF (TBT) bottomed at $30 at the end of August and has made it back up to $34.? Take it back to this year's high of $52 and that gives you a 73% gain off the bottom. The 2009 high gets you to $60, an even 100% return. If you don't feel like betting the ranch here and want to approach this in a sober, risk controlled manner, look at the cheap, out-of-the-money March or June, 2011 $45 calls on the (TBT). Get this one right and the profit will be several fold.
Featured Trades: (THE WORLD'S LARGEST SOLAR PLANT)
3) The World's Largest Solar Plant. Unfortunately, I know Blythe, California too well. This natural blast furnace is in a God forsaken corner of the state where I hunted jack rabbits as a kid, the Indians survived on Gila monsters for protein, and it regularly reaches 130 degrees in the shade. It is also where Peter Fonda and Dennis Hopper crossed the 'bridge of no return' over the Colorado River in the cult flick Easy Rider. Blythe has unsurprisingly become ground zero for the global thermal solar movement, which I have been chronicling with great interest in these pages (click here for 'The Solar Boom in California').
The entire industry has just taken a quantum leap forward with the approval of a massive 2.8 megawatt plant to be built by Solar Trust of America, a joint venture between two European companies. It dwarfs the 392 MW plant to be built by BrightSource Energy which only received its own go ahead weeks ago. It is all part of a rush to start alternative energy projects before Federal subsidies from Obama's 2009 stimulus package expire at the end of this year. The Solar Trust project expected to qualify for $900 million in cash grants and additional loan guarantees from the Department of Energy.
The facility will deploy arrayed mirrors over 7,025 acres, or 11 square miles, aimed at a conventional steam turbine. This will generate enough electricity for 2 million homes, about 15% of the total in California. With the Tres Amigas facility in New Mexico coming online soon, this raises the possibility of the Golden State selling excess green, carbon free power to the rest of the West (click here for that piece).
Sorry guys, no equity play here. The new plant will be built and operated by privately held European companies that have been flocking to the US with their advanced technology to cash in on our generous subsidies. But it does make other publicly listed smart grid, transmission, and storage plays out there more interesting. It is all part of a huge, new alternative energy industry that is growing far faster than most investors realize.
Who Knew This Place Would Be Worth Something Someday?
Featured Trades: (THE COMMODITIES BOOM)
1) Here Come the Seventies Again. Better drag your leisure suits, bell bottoms, and Bee Gee's records out of the attic. The seventies are about to enjoy a comeback. The near universal run all commodities are enjoying now takes me back to that time in my youth when making money was as simple as buying an ounce of gold, a barrel of oil, or a bushel of corn. Cotton hit its highest price since the Civil War yesterday, when Union a blockade of the South sent prices skyrocketing (see Gone With the Wind). (Smart Alecs out there please don't bother to ask if I fought in the Civil War. That was my older brother).
QEII is truly lifting all boats, even the leaky ones, like the US stock market. The debasement of the dollar this policy assures will keep money pouring into virtually every tradable asset in the world, including stocks, bonds, currencies, commodities, precious metals, and yes, even real estate. The great thing about QEII is that Ben Bernanke doesn't have to do it, he only needs to think it, or to hint about it, and the private sector will execute it for him. Has anyone noticed that is exactly what's happening now, with all asset prices rising in lockstep globally?
I have a feeling that this love fest is going to end the same way it did in the eighties too. The Fed knows it is creating a monster with the enormous amounts of money it is now creating, and that someday, it will have to drive a giant steak through its heart in the form of huge and cathartic interest rate rises. That will not happen this year, or next. But when it does my prediction that the short Treasury bond ETF, the (TBT) will roar from $30 to $200 could look conservative.
Until then, party away as if you are an extra in John Travolta's Saturday Night Fever. The Japanese have a wonderful expression that applies here which I constantly heard throughout the eighties: 'When the fools are dancing, the greater fools are watching.'
Featured Trades: (NUCLEAR POWER), (EXC), (CCJ)
3) Is Exelon Building an Alternative Energy Conglomerate? Exelon (EXC) popped up on my radar a few months ago, when it bought the wind energy business from John Deere (DE) for $900 million. The company plans to cash in on a national trend by states requiring their power companies to obtain fixed minimum amounts of electricity from green, carbon free alternative sources.
California has the most ambitious goal, setting a 33% target by 2020 (click here for 'The Solar Boom in California').? Some 28 other states are following suit with lesser thresholds, and more are expected to follow. You would think wind is a bad place to invest on the eve of a Republican takeover of the House of Representatives that could herald the freezing or elimination of all alternative energy government subsidies.
In fact, wind energy is now competitive on a non subsidized basis in many parts of the country. That is what Google (GOOG) obviously thinks, since it recently committed to investing $5 billion in a massive offshore grid meant to harvest power from planned wind energy projects off the East coast.
There is another political angle to this story. Exelon already has a large established business maintaining nuclear power plants. The nation's 100 facilities are getting long in the tooth, some approaching 60 years old, and are in desperate need for modernization. Exelon already has contracts to upgrade 39 of these.
While the Republicans' alternative energy credentials leave something to be desired, they are big fans of carbon free nuclear, which I believe will be a crucial part of any long term energy solution. That's why you find top uranium producer Cameco (CCJ) is my model portfolio, which has soared a stunning 55% since August.
To top it all, (EXC) offers a whopping great 5.1% dividend, which effectively makes it a mid rated corporate bond in this low yield world. If you are looking for a low volatility name to add to your portfolio in this sector, Exelon might me a good one.
Getting Long in the Tooth
Featured Trades: (TRADING A 'LOST DECADE')
3) How to Trade a 'Lost Decade.' Having concluded that you should be selling rallies in the US markets, I would add the proviso that you shouldn't sell just yet. Counter trend rallies can last for years, and this time we have QEII on the side of the bulls, which we are only two months into.
Helicopter Ben is also getting an assist from history. The third year of a presidential term is historically the best for the stock market. For the past 100 years, the stock market has risen by an average 13% during the third year of every administration, nearly double the long term historical average. Since 1961, that gain has been a blistering 18%.
This happens because administrations do whatever they can to boost the economy going into elections with voter friendly, tax cutting policies. So, third year GDP growth is high, averaging 4%, versus the long term average of 2.44%. Isn't democracy a wonderful thing? Therefore, don't keep a hair trigger on selling or shorting strategies. Give the markets a chance to breathe. The Dow could make it all the way up to 14,000 and still be in a long term secular downtrend.
I think the US has entered another lost decade, but expect a lot of volatility along the way. If you are wondering why I am sending you so many long term, deep, 'Think' pieces these days, it's because there is nothing to do here. It is too late to buy, but too early to sell. Keep your powder dry, and live to fight another day.
A New Trading Strategy?
Featured Trades: (LUMBER), (WY), (CUT), (RYN)
4) The Monetization of Lumber. If you want to see how widespread the commodities boom has become, take a look at the lumber market, which has popped 47% since June. This is in the face of new home starts that are flat on their back, posting the worst numbers in modern history.
Suffice it to say that the lumber market has changed beyond all recognition. The monetization of lumber is now a big driver, as investors scour the globe for dollar alternatives and hard asset surrogates. China has stepped into the market as a big buyer, as it has everywhere else. You only need to spot some visitors from the People's Republic at a Chinese restaurant in Portland to tack another five cents on to lumber prices.
The strong loonie is pricing supplies from the Frozen Wasteland of the North out of the market. Prices are also getting an assist from the mountain pine beetle, where a long term draught is enabling them to devastate Western forests, cutting into supplies.
The US industry is much less elastic than it has been in the past, as so much capacity has been shut down and scrapped, thanks to the housing crisis. Add the lead lumber equity plays to your 'buy on dips' list of US commodity plays. These include the recently trustified Weyerhaeuser (WY),? the lumber ETF (CUT), and Rayonier (RYN).
Lumber Futures Have Been On Fire
Featured Trades: (DRINKS WITH THE PRESIDENT)
1) Drinks With the President. President Barrack Obama certainly arrives at a party like a rock star. Three silver GM Suburbans flanking an armored black Cadillac limo screech to a halt with lights flashing, and all of the roads in the immediate vicinity closed to traffic. A dozen sunglass bedecked Secret Service agents leap out, immediately scanning the perimeter. The president bounds out and briskly walks to the plush Atherton home, where he enters through the kitchen of former EBay executive and California state controller, Steve Wesley.
For a mere $30,400 donation to the Democratic National Committee, I received a sweaty handshake and an assembly line photo with the once South Chicago community organizer. A Koch brother I am not. The event came on the heels of the President's 45 minute private audience with the Golden State's own version of royalty, Apple's (AAPL) Steve Jobs.
It was all part of a broad swing through the Western states to rally the faithful, and to top off the DNC's coffers, which has raised a record $50 million in California this year. Perhaps Obama just wants to be among friends. While his national job approval rating languishes at 47%, it is 55% here, and an eye popping 72% among Democrats.
With a short two weeks until the election, the online betting site, Intrade (click here for their site at http://www.intrade.com/ ), is giving an 89.5% probability that the Republicans will win control of the house. But to me, this is all starting to take on the flavor of a consensus trade that I love to fade. The Democratic Party has become the BP of American politics. Expectations of its imminent demise may be greatly exaggerated, but not for the reasons you expect.
Since the 2008 election, some 4 million 'millennials', 'generation Y's', or 'echo boomers' have gained the right to vote. Have you spoken to your kids lately? The only issues they care about, the environment, global warming, gay rights, and ending the war, are overwhelmingly Democratic ones.
Another 2 million immigrants have also joined the rolls. Thanks to the racist rants by many Tea Party candidates '? last week Nevada Senate candidate Sharon Angell said she thought many Mexicans looked like Asians'?I would be surprised if any of these voted conservative.
Sure, only 30% of these groups vote at all. But when election results swing on majorities that can be counted in the hundreds '?think Florida in 2000, Ohio in 2004, and Minnesota in 2008'?they could make a decisive difference.
The Tea Party has already demolished any chance of a conservative win in the Senate by putting candidates the Republican leadership charitably describes as 'wingnuts.' Witchcraft practicing masturbation advocate, Christine O'Donnell, took a safe Delaware seat from a 20% lead to a 20% deficit virtually overnight. Sharon Angell converted a campaign unseat the Senate majority leader, Harry Reid, in Nevada from a pushover to a dead heat.
With Sarah Palin's aid, Alaska's Senate candidate, Joe Miller, ousted mainstream Republican Lisa Murkowski in the primaries, prompting her to launch an independent write in campaign and a three way split that could throw the election to the Democrats. The net net is that the Tea Party crashing on to the political scene has so far been hugely positive for Democrats.
The polls we see reported daily are only taken of participants with land lines. So they may be undercounting both cell phone addicted, texting millennials, and immigrants. How many of your kids have land lines? My bet would be none. That could be another reason why the final results may differ from what we are being led to believe.
Now, let me throw one big unknown out there. Thanks to the Supreme Court's Citizens United vs. the Federal Election Commission decision, this is the first election to see unlimited anonymous corporate donations since the sixties. As a result, the number of election ads disclosing donors has fallen from 97% in 2006 to 32% this year.
California's proposition 23 is a perfect example of what this means. Billed as the 'Save California jobs bill,' the measure was placed on the ballot and promoted by $6 million in financing from Texas base energy giant Tesoro Petroleum (TSO). And what is the company's plan to create California jobs? Suspend the state's stringent environmental regulations so it can build a new oil refinery in nearby Martinez.
On top of this, you can toss into the mix Obama's proven, but unquantifiable ability to engineer last minute surges among supporters. The bottom line is that things may not be all they appear to be in this election. Global markets are discounting a Republican win in the House of Representatives that may be much closer than advertised, or may not happen at all.
In every postwar election, the party in power has lost an average 27 House seats in the midterm elections. The Democrats can lose 38 and still keep control. Obama knew this the day he walked into office. That is why the most radical parts of his agenda, like health care, were front end loaded. Expect to hear much about the President's surprise, Clintonesque move to the middle in 2011, which was in fact, planned two years ago.
If the Republican celebration that has been ongoing since March turns out to be for nothing, expect the shock to be immediate and global. A Democratic win will take all asset prices down, no matter how much QEII Ben Bernanke throws at them.
Yes, I know, I should stick to my day job of calling every turn in the market. But for the next two weeks, that profession and making political prognostications have become one in the same. I can only say thank goodness that my hometown San Francisco Giants are not facing the Chicago White Sox in the World Series this week.
There is more risk in markets today than traders and investors realize.
You Look Pretty Safe to Me
Featured Trades: (THE CALIFORNIA MARIJUANA INITIATIVE),
(BUD), (DEO)
2) California Marijuana Industry Dreams May Go Up In Smoke. One issue to be decided on November 2 will be proposition 19, the latest effort to legalize marijuana in California. This is another one of those 'Be careful what you wish for' stories. Advocates claim that passage of such a measure would solve the state's budget crisis, as it would bring in tens of billions of dollars of tax revenue while cutting the cost of our prison budget by billions more. Up to a third of the state's 170,000 prison population are there for possession of small quantities of drugs.
Proponents are right on the second point, but miss on the first one by a mile. In 1933, the 21st amendment to the constitution repealed the 18th amendment, rendering the Volstead Act unconstitutional, ending prohibition. Tens of thousands of small time backyard distillers, basement breweries, and bathtub gin makers rejoiced at the prospects of a larger market. Instead, legalization caused the price of their products to collapse, driving them out of business. Today, the industry for alcoholic spirits is dominated by a handful of globally integrated marketing giants running volume driven businesses on razor thin margins, like Anheuser Bush (BUD) and Diageo (DEO).
The same would happen to the pot industry. An Internet search reveals that potent Mary Jane today sells for $200 an ounce wholesale, or $400 retail. Legalize it, and that price might drop to the $20 that I heard prevailed during my college days. Your typical Mendocino underground farm or Oakland grow house with its $3,000 monthly electricity bill, doesn't fit anywhere in this picture.
The same would happen to anticipated state tax revenues. Right now, California smokers pay $1.05 in federal taxes per pack, and 87 cents in state taxes, bringing the average retail cost of cigarettes to $5.05 a pack. I doubt actual marijuana tax revenues would exceed what it currently earns from cigarette taxes, or $839 million a year.
There is another matter proponents aren't focusing on. US Attorney General Eric Holder last week said that his Justice Department would continue to prosecute pot dealers, even if the proposition passes, as federal law trumps state law. Federal prisons are already full of former growers who were deluded into thinking they were growing pot legally because they had licenses from the state.
My guess is that the state's pot industry lobbyists have been smoking too much of their own product when preparing their budget forecasts.
California's Path to a Balanced Budget?
Featured Trades: (RICE), (CORN), (WHEAT), (SOYBEANS)
3) Watch Rice For Clues to Corn. Those wondering what to do about their ag positions better take a look at the contract for rough rice, which has skyrocketed by 50% since July to $14.50 a pound. Rice is the primary food stuff for 3 billion of the world's 7 billion population, but is predominantly traded and consumed in Asia. That means that it is not widely followed by analysts in the West, and the futures contract for rough rice has been relegated to a quiet, illiquid, backwater of the commodities markets in Chicago.
However, the price of rice may be a valuable leading indicator for the things we do trade in size, like corn (CORN), wheat, and soybeans. Many of the disaster scenarios for the global food supply revolve around Asia, like the melting of the Himalayan glaciers, rising sea levels drowning the Chinese coast, or draughts parching crops in India. Crisis shortages will hit the rice markets there first, then spill over to other foodstuffs here. If China's rice harvest comes in anywhere less than perfect, then it could suddenly become a large net importer and send prices to the 2008 high of $28/pound.
If that happens, you can count on Vietnam and India immediately banning exports, as they did two years ago, sending prices soaring. That's when people hit my local Costco branch, cleaning them out of supplies so they could FedEx 50 pound bags to hungry relatives in Asia. It is all just another facet of the great global bull market in food, which I believe started in June (click here for 'Going Back Into the Ags' ).
Want to Know Where Corn is Going?