Keeping Your Head in a World Gone Mad

Dave Gonigam – August 5, 2011

  • Postmortem for yesterday’s crash: Get used to volatility
  • Amoss on how Europe drove much of yesterday’s panic selling… and the setup for a “slow, grinding sideways market”
  • Mayer on where to seek opportunity now, King with guidance for resource investors and Blanco for tech investors
  • Elsewhere: Picking apart a not-awful unemployment report, previewing a Fed meeting next week, and Bernanke on a bender

   “The whole world is mad,” was the inestimable Marc Faber’s assessment of yesterday’s big sell-off.”

“Stocks will be dropping 30%, and then rallying 20% and dropping another 30% — that’s going to be the pattern,” he told Bloomberg interviewers. “And whoever can’t live with that shouldn’t be buying equities at all.”

Volatility… Get used to it.

With yesterday’s 500-plus point drop in the Dow, volatility as measured by the VIX has spiked above 30 — to levels exceeding the aftermath of the Japan earthquake.

Next target: 48. That came a couple of weeks after the May 2010 flash crash. Coincidentally, that was the last time the Dow and the S&P entered “correction” territory — down 10% from recent highs.

But is this it? Or are we on the edge of something bigger? Let’s turn to our editors…

   “Europe is at the core of yesterday’s 4% market crash,” says Strategic Short Report’s Dan Amoss. “Bank runs are rumored to be hollowing out the Italian banking system.”

“This ‘fear trade’ will likely continue until the European Central Bank reverses course from its tightening stance and aggressively buys PIIGS bonds. Most central banks will yet again inflate their balance sheets, which will only exacerbate the stagflation plaguing the global economy.”

“We should get a relief rally in the S&P 500, but probably not until we go lower — low enough to panic central bankers. German central bankers in particular will change their hard money tune once they see the German banking system at risk.”

“After the next bout of coordinated global central bank easing, I think we will transition into a slow, grinding, sideways market, rather than a repeat of the 2008 crash, and the bear market will bottom a few years from now as inflation rises and P/E ratios fall.”

   “The Western world,” says Chris Mayer, widening the scope, “is in for a long slog through the muds of too much debt, bloated public sectors, sclerotic economies overburdened with regulatory costs and regulations and aging demographic trends.”

“As always, there will be opportunities, and that’s what I dedicate most of my time trying to find. The best of these will have exposure to growing markets overseas that are not burdened by those same things. There will be opportunities in the Western world — there are still some wonderful entrepreneurs, with great ideas and the like. But the pie is shrinking and it’s tougher.”

“Don’t buy anything if you’re going to be upset to find yourself down 15% next week. Only buy if you can take a longer view — a year or two out. What happens in the next week or month is something no one knows. But it can, obviously, get worse.”

   “We in the USA,” adds Byron King, “are on the cusp of watching Big Government (BG) fail, after 75 years or so of political and intellectual dominance in the culture.”

“With Big Government goes Big Government Money (BGM) — courtesy of the Fed. Both BG and BGM are rapidly losing their value and, even worse, their credibility.”

“Collectively, we have no idea what will replace BG & BGM… although it seems like gold, silver and energy will have a role to play. It’s just not possible to define it with specificity right now.”

“And out in the larger world, there are other, apparently successful, alternative models for national development (and citizen control) — such as state-planned China, for instance; or oligarch-run Russia; or any of many religious-family business nations of the Middle East.”

“So it prompts the question… does the future still have a place for our quaint, 1787-vintage Anglo-Saxon political model?”

   “Still,” adds Byron, lest you venture too far out on the window ledge, “oil, oil services and precious metals are at the core of the sea change that’s going on within the world economy. The world economy needs petroleum-based energy, for which there’s no substitute.”

“And the world investing community needs a continuing supply of precious metals, because dollars, euros, yen and more just aren’t a place to store value over the long term.”

“The oil, oil service and mining shares might be down, but they’ll come back. They’re a good place to be. Indeed, in this global environment, the energy and precious metal shares may well come back the soonest and the strongest. Point is, don’t panic and sell into weakness.”

   “Many solid technology companies have sold off despite the fact they have really good long-term potential,” says Ray Blanco, surveying another sector hit hard this week.

“Despite all the bad economic news, mobile computing growth and wireless networking continue to skyrocket. These trends are simply not going away anytime soon, and these companies stand to grow along with them. I believe the market’s correction gives us a chance to pick these companies up cheap.” You can learn about some of our tech team’s favorites — handpicked by Ray and Patrick Cox — right here.

   “Small caps were definitely flashing warning signs that a (potentially severe) correction was on the way,” writes Greg Guenthner of our small-cap team.

“If you Monday morning quarterback it, small- and microcaps had been underperforming bigger stocks for several weeks — not a good sign if you’re supposedly in a bull market.”

“The Russell 2000 has broken through horizontal resistance, meaning we should look for additional downside action. At this juncture, preparation is key. You will want to remain nimble while the market is in flux — anything and everything could happen.”

   “Investor confidence was pushed over the edge by disgust at the government sausage-making display with a largely manufactured crisis,” says Resource Trader Alert’s Alan Knuckman, never one to mince words. “Only two weeks ago, we were within a percentage point of multiyear highs again, and over 100% off the recession lows.”

Longer term, “The U.S. equities market is attractive globally, with record earnings and low interest rates. Money flows will return to U.S. assets, with stocks a logical choice for yield, versus cash or bonds, from this level.”

“We have been in this doomed mind-set twice before this already in 2011, only to recover and make new market highs. Focus on where we will be in six months, not six hours or six days.”

[Ed. Note: Six months happens to be the time frame in which most of Alan’s trades play out… delivering an average gain so far this year of 39%. It’s a “mercenary” approach to moneymaking… and it might be right up your alley. Judge for yourself here.]

   After yesterday’s bloodbath, the major stock indexes have been all over the map today, the Dow up as much as 150 and down as much as 200.

As of this early-afternoon writing, it’s up about 95 on word the European Central Bank will start buying Italian and Spanish bonds. The “aggressive buying” Dan Amoss referred to above appears to be getting under way in earnest.

   Also helping stocks today — the first economic numbers in three weeks that weren’t a bigger disappointment than this summer’s release of Green Lantern.

Given yesterday’s panic selling, the level of interest in the monthly job figures was so high that the moment they came out at 8:30 a.m. EDT, the Bureau of Labor Statistics website crashed.

Here now, the highlights…

  • 117,000 new jobs in July; June’s figures were revised upward to 46,000
  • Private employers added 154,000 jobs; the federal government cut 14,000 jobs, state governments cut 23,000
  • For once, the birth-death model — the BLS’ statistical invention that tries to account for the creation of new businesses and the demise of old ones — actually subtracted from the total. The weak 117,000 new jobs might be closer to… well, a slightly less weak 135,000.

Still, we need 90-100,000 new jobs a month just to keep up with the growth of the labor force… so this is no great shakes.

The headline unemployment rate fell from 9.2% to 9.1%. The broader U-6 rate — including part-timers who want to work full-time and people who’ve given up looking for work — fell from 16.2% to 16.1%.

You can attribute that drop solely to the fact that once you’ve given up looking for work longer than a year… you no longer count as part of the labor force.

Last, the statistics the BLS can’t jigger: The labor force participation rate — the percentage of working-age adults in the workforce — fell to 63.9%. That’s the lowest since January 1984. The percentage of the overall population that holds a job fell to 58.1%, the lowest since July 1983.

Plotted on a chart with all the other postwar recessions, the “recovery” looks like this:

[Click chart to enlarge]

Um… You notice that only four months remain before the chart runs out of room? It cuts off at 47 months, because that’s how long it took to regain all the jobs lost in the 2001 recession.

Safe bet: The folks at Calculated Risk who faithfully maintain this chart, will have to do a redesign job long before the red line gets back to zero.

   Gold has quickly rebounded after getting caught up in margin calls yesterday. The spot price has recovered to $1,655. Silver, however, continues to slide. As of this writing, it slipped below $38.

   So let’s quickly survey the landscape: After the Fed wound down its first round of easy money — QE1 — in the spring of last year, the S&P fell 13% and the VIX spiked 48%.

With that, Fed chief Ben Bernanke telegraphed the onset of QE2 during his annual late-August speech in Jackson Hole, Wyo.

Since the end of QE2 on June 30, the S&P is down a little over 9%. The VIX has nearly doubled.

The Federal Open Market Committee meets next Tuesday and will issue a statement afterward that will no doubt be scoured for signals of QE3. “Next week will be important,” returning to Marc Faber, “to see if Bernanke is a true money printer or an amateur, and if he is a true money printer, he will start printing soon.”

   That is, of course, if Bernanke doesn’t wander into Elwood’s Corner Tavern in Seward, Neb., over the weekend.

“Look, they don’t want anyone except for the Washington, D.C., bigwigs to know how bad s*** really is,” a sloshed Bernanke tells the assembled bar crowd in a fictitious account courtesy of the satirists at The Onion.

“God, I’m so wasted”

“Sure, we could hold down long-term interest rates and pursue a program of quantitative easing, but c’mon, we all know that’s not going to make the slightest bit of difference when it comes to output, demand, or employment,” he goes on to explain.

Heh, that quote’s a dead giveaway the story is made up. You can read the whole thing, and marvel at the wonders of Photoshop to make the Fed chief look absolutely smashed, here. Or not, if you’re offended by coarse language.

   “To follow up and clarify the ‘Why does China keep buying Treasuries’ discussion,” a reader inquires: “I believe what you’re saying is that the Chinese government is buying in order enable our leaders to keep giving us handouts so that we may keep buying Chinese-made products.”

“Not really ‘recycling,’ but more like giving endless drugs to an addict? In our case, a bunch of debt addicts. It’s going to be a heck of a hangover when they cut us off.”

The 5: There’s now open talk about such a cutoff: “Now is the time to end [China’s] dependency on the U.S. dollar,” says Yu Yongding, a former central banker in China, writing in yesterday’s Financial Times.

“Given that many large developed countries are simply printing money (and the recent rumors are that the U.S. might return to quantitative easing), China must realize that it can no longer invest in the paper assets of the developed world.”

The sound you hear in the distance? Those are scissors, getting ready to cut up Washington’s credit card — just as Addison has been predicting. Please… review his latest forecast here… before it’s overtaken by events.

Regards,

Dave Gonigam
Agora Financial’s 5 Min. Forecast

P.S. “The currency markets are telling us something quite profound,” our currency trading specialist Abe Cofnas says of the week’s action: “There is nowhere to hide.”

“The U.S. dollar is not acting as a safety valve. The euro is weak relative to the dollar. The fear of a global slowdown is hurting resource currencies like the Canadian dollar. The crowd-mind of the market is in full herd mode.”

“The best strategy is to expect bounces up and then sell-offs. Expect a lot of swings… and that means opportunity!”

Abe’s one of those guys who thrives on volatility. Over the weekend, he’ll ponder a new set of currency plays to recommend Monday morning… trading in a market followed by no other advisory service in North America.

The plays move fast — in on Monday, out by Friday. If you think you can handle the volatility to grab a quick four-day payout, check out Strategic Currency Trader.

rspertzel

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