How This Bull Market Will Die

The universal question in the market today was ?Why is it down? when all the news was good? The weekly jobless claims dropped 5,000 to 366,000, near a five-year low, confirming that the jobs recovery is still on track. Activist shareholder, David Einkorn?s, lawsuit against Apple (AAPL) to unfreeze its cash mountain should have boosted the market?s major buzz kill.

Sure, ECB president said that European growth would continue to slow. No news there, and certainly not enough to prompt a triple digit decline in the Dow.

The harsh truth is that after the near parabolic move we have seen since the beginning of the year, you don?t need a news event to trigger a market sell off. The mere altitude of the (SPX) at 1,515 should, alone, be enough to do it, a mere 3.8% off the all time high.

The fact is that almost every manager has seen the best start to his track record in decades. Prudence requires that one book some profit, deleverage, reduce risk, and take some money off the table at these euphoric highs.

That especially applies to myself. If I make any more than the 22% I have clocked so far in 2013, nobody will believe it anyway. So why risk everything I?ve made just to make another 20%. Who wants to start over again if the wheels suddenly fall off the market?

That is what prompted my flurry of Trade Alerts at the Thursday morning opening, which saw me bail on my most aggressive positions in the (SPY) and the (IWM), taking profits on my nearest money strikes. I did maintain the bulk of my portfolio, which is still in much farther out-of-the-money strikes, and in short positions in the Japanese yen. I also added to my short positions, buying out-of-the-money bear put spreads on the (SPY), betting that even if we continue up, it won?t be in the ballistic, devil may care fashion that we saw in January.

There are, in fact, real reasons out there for the market to fall. You need look no further than the calendar, which I eloquently outlined the dangers of, in my piece ?February is the Cruelest Month? (click here).

On March 1, the sequestration cuts hit. The 2% increase in payroll taxes has yet to be reflected in slower consumer spending. Federal income taxes have already gone up on those earning over $450,000 a year. This is important, as the top 20% of income earnings account for 40% of consumer spending, and consumer spending delivers 70% of all consumption.

Although it has been postponed by three months, we have a debt ceiling crisis looming that will have to result in spending cuts across the board. My favorite stealth drag on the economy, the paring back of major tax deductions, will be the next big issue to be fought over publicly (the oil depletion allowance versus alternative energy tax credits, and so on, and so on).

All of this adds up to a 1.5% reduction in US GDP growth this year. When you are starting with a feeble, tepid, and flaccid 2% rate, that does not leave much for us to live on. This is how disappointments turn into recession. IT is no empty threat, as many US corporations are seeing earnings slow, and could well disappoint with the next quarter?s results.

This is why I predicted an ?M? shaped year in my ?2013 Annual Asset Class Review? which I am still standing by (click here). We are already well into the heady run up to construct the left leg of the ?M?. Next comes the heart rending ?V? in the middle. Some analysts are amazed that we have gone this far in front of such daunting challenges and haven?t already collapsed. I think that is going to be April or May business, given the humongous cash flows we have witnessed.

SPX 2-6-13

INDU 2-6-13

SSEC 2-5-13

QQQ 2-6-13

DJUSAU 2-6-13


This Bull May Not Have Long to Live

The China News is Big.

NOTE TO READERS: There is a short letter today because I spent the entire weekend writing Trade Alerts, which you will receive right at the Monday morning opening.

Last Friday, China announced a $150 billion reflationary public works budget designed to arrest the current free fall in the country?s GDP growth rate. The move came totally out of the blue and caught many China bears by surprise.

The National Development and Reform Commission has approved 60 new projects, led by railways, roads, harbors, and airports. While the plethora of plans is stretched over several years, it is clear the Politburo is trying to help the Communist party through its handover of power later this autumn. This has major implications for the global economy.

Cheng Li, research director at the Brookings Institution, said Beijing slammed on the brakes too hard last year to break the back of the property boom. Home prices are now off as much as 25%. So the Middle Kingdom appears to be back-peddling on these measures as fast as it can.

The immediate impact on financial markets was almost as great in the U.S. as it was in the Middle Kingdom, which saw Shanghai rocket 5% in a single day. It was off to the races for anything commodity related, including Caterpillar (CAT), copper (CU), Freeport McMoRan (FCX), US Steel (X), coal (KOL), and other materials sectors, all of which have been in a vicious bear market since 2011. It also calls into question the prudence of my short position in the Australian dollar, which has added two cents since the announcement.

We will have to wait a few more days to see if this move is real and sustainable, or just another short covering dead cat bounce. But this is what bottoms look like, and if it is, the ?BUY? opportunities in the entire space are huge. These are almost the last cheap stocks left.





Hmmm. Looks Like the Economy is Slowing Too Fast




Watch Out for the Coming Risk Reversal

It is a fact of life that markets get overstretched. Think of pulling on a rubber band too hard, or loading too many paddlers at one end of a canoe. Whatever the metaphor, the outcome is always unpleasant and sometimes disastrous.

Take a look at the charts below and you can see how extended markets have become. Stocks (DIA), (QQQ), (IWM) have reached the top of decade and a half trading ranges. Bonds (TLT), (LQD) are at three month lows, and yields have seen the sharpest back up in over a year.

In the meantime, the non-confirmations of these trends are a dime a dozen. Every trader?s handbook says that you unload risk assets like crazy whenever you see the volatility index (VIX) trade in the low teens for this long. The Shanghai Index ($SSEC), representative of the part of the world that generates 75% of the world?s corporate profits, hit a new four year low last night. Copper (CU) doesn?t believe in this risk rally for a nanosecond. Nor is the Australian dollar (FXA) signaling that happy days are here again.

I am betting that when the whales come back from their vacations in Southampton, Portofino, or the South of France, they are going to have a heart attack when they see the current prices of risk assets. A big loud ?SELL? may be the consequence of a homecoming. A Jackson Hole confab of central bankers that delivers no substantial headlines next week could also deliver the trigger for a sell off.

You may have noticed that European Central Bank president, Mario Draghi, has come down with a case of verbal diarrhea this summer. His pro-bailout comments have been coming hot and heavy. When the continent?s leaders return from their extended six week vacations, it will be time to put up or shut up. The final nail in this coffin could be A Federal Reserve that develops lockjaw instead of announcing QE3 at their September 12-13 meeting of the Open Market Committee.

To me, it all adds up to a correction of at least 5%, or 70 points in the S&P 500, down to 1,350. I?m not looking for anything more dramatic than that in the run up to the presidential election. I am setting up my bear put spreads to reach their maximum point of profitability in the face of such a modest setback. A dream come true for the bears would be a retest of the May lows at 1,266, however unlikely that may be.

For the real crash, you?ll have to wait for 2013 when a recession almost certainly ensues. Stay tuned to this letter as to exactly when that will begin.

?The Real Crash Isn?t Coming Until 2013

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?