On May 24th, I wrote:
Ideally, the current rally would last 6 months or longer and do its best job of convincing as many people that the worst is over. Even thought it may sound like that has already occurred, judging by the cheerleading in the MSM, the prevailing opinion is that the recovery, when it arrives later this year, will be weak. I expect a vast majority of the media darlings like Roubini, Krugman, Greenspan and Bernanke to give official claims of an "all clear" as a signal that the bear market is set to resume. Call me a cynic>.
The 6 month rally has occurred and the optimistic tone from many prominent figures is easily noticeable. The OECD recently announced that the global recession is over. Tonight, president Obama will make a victory speech on the economic recovery. And Ben Bernanke, along with a chorus of other economists, is busy congratulating himself in "saving the world." Go figure.
I continue to monitor the relentless bullishness of Wall Street in contrast with the sticky pessimism of Main Street. And while it could be claimed in the early months of the rally that the former should lead the latter, doubts will start to percolate after 6 months and only marginal improvement in the general economy. Any precipitous decline in the stock market runs the risk of quickly accelerating to the downside as the "here we go again" mentality causes a run for the exits. I see this potential when reading between the lines of market pundits and analysts interviewed on TV. They are almost always focused on the possible next 10 or 20%. All of their prognostications are dependent on "fundamental economic improvement." As soon as any early signs of this not happening are sensed, their valuation models will completely disintegrate - panic will result.
The move from early August has been very weak. The RSI continues to diverge as do most other momentum indicators. Increased caution is warranted.
While the Dow Industrials and Transports have confirmed each other's recent higher highs, the Dow Utilities have refrained from a similar indulgence. Utilities are a key sector in my opinion due to their extremely high levels of debt. The ability to refinance (or lack thereof) may be a factor in its recent underperformance.
The market for US Treasuries has been very strong of late, even amid regular auctions (increasing supply). Demand, however, appears insatiable as prices march higher sending yields lower. The long bond usually moves in negative correlation with the equity market. While they can always trade on their own courses for a time, the sheer amount of capital required to sop up the extra supply in both equities and bonds will likely result in only one winner. At some point in the future, I can see longer dated treasuries become more of a "risk asset." But I don't think we are there yet.
The recent movements in the Japanese Yen should have readers very concerned. Could the new Japanese government be pondering a liquidationist mantra? I admit to having no edge on the Japanese endgame. Clearly, they are 20 years ahead of the west in the collapse of their debt bubble. But I am sure the Japanese carry trade is alive and well. And I would not be quick to dismiss the possibility of enormous liquidations of foreign assets by Japanese investment banks and hedge funds. Below is the Yen in comparison to the Euro. This has proven to be a quite useful measure of risk appetite.
Have a great week!
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