Are the Future’s Problems Starting to Look Like Tomorrow’s Problems?

How does the market keep going up when we are racking up all of this debt?  How can the market be positive with a shaky future of trillions upon trillions of dollars of debt?  Well the key word has always been in the future.  That big debt problem has always been looked upon as a problem that our kids are going to have to contend with.  

As long as the Government continues to finance the deficits, everything will be OK.  What if we are getting to a point where financing debt becomes the problem?  Well, I see it becoming a problem in 2 phases.  The first phase has to do with our potential lenders.  In the past, other countries have been willing to lend to us.  Today, they are demanding higher interest rates for loaning the US money.   The second problem occurs when even higher interest rates do not even matter.  A serious loss of confidence has occurred.  We just cannot get enough money borrowed to cover the problem.

 

I think that last week we saw phase 1 occur for the first time.  Last week, we had 3 big treasury offerings.  The demand to buy our treasury bonds was very weak.  As a result, we started to see interest rates climb.  Rising interest rates in a debt-filled world is problematic.  For one thing, this has an indirect effect on mortgage costs.  In order to lessen the severity of the foreclosure crisis which has a direct effect on whether or not the real estate markets ever bottom, interest rates need to stay down and not rise.

 

One other interesting development is that investors are being paid more for holding treasuries than in corporate bonds.  You see this in the interest rate swaps market.  This signals that investors feel more confident and that they are taking less risk by holding corporate bonds rather than those of the Government.

 

One of the downsides of this healthcare bill passing is the publicizing of the additional financial burden this is going to create in the future.  This brings the reality of our trillions of dollars of debt to the fore-front.  Don’t for a minute believe that this will cut the deficit.  The CBO’s analysis is performed using government accounting and “estimates.”   When has the Government ever gotten an estimate correct?   Then you have Greece showing us what our future more than likely looks like.  All of that gives investors a reality check and makes them think twice before loaning more to the government.   

 

Watch the interest rate on the 10 year treasury bond.  Below 4% we are fine.  Above 4% creates a dicey environment.  As I write, we are dangerously close that level. 

Incidentally, the Government has to raise 1.6 trillion dollars to cover the short-falls for the year.  That is on top of the 2 trillion that needs to be refinanced this year.  

 

On a Lighter Note…

How about this for a vote of confidence for the politicians?  Since 1897, a year after the Dow Jones started, 90% of gains came on days when Congress was out of session.  This body of research also looked at how investments would have performed while investing in the days that Congress was in session and out of session – The out of session investments strategy had investment returns 100 times greater than when Congress was in session.

 

 

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The Ultimate Bubble of Hope

We have had all types of bubbles in the history of the investment markets.  According to Jeremy Grantham, there have been 28 different types of bubbles from gold to art to real estate to stocks and even tulips.  Yes, there was an enormous tulip mania.  Bubbles are created out of a mania.  Manias are created from the notion that a great money making opportunity exists.  For example, we saw the stock market bubble that was created in the 90s due to the notion that these internet stocks were the next great thing.  These companies didn’t have any substance.  People were investing into the belief that an idea was going to be successful. 

Investors are doing the same thing today. We have an economy that has had economic growth based for the most part on one time stimulus.  We have a stock market that acts as if all of the bad news is behind us when, in reality, we have had a government that has been propping up the system. 

The underlying fundamentals are just not there for this economy.  There are serious imbalances.  However, the government wants you to believe that they are solving the problem.  The unemployment problem is on top of the list of the greatest problems we face.  This government has done nothing to fix this glaring problem minus the creation of some government stimulus jobs.  What is President Obama’s solution to the latest bad news in unemployment?  He announced Friday that he was going to create a job “summit” in December to figure out what to do.

First of all, he needs to be addressing the problems yesterday and not waiting until December to form a “study” group.  The reality is that while this bubble of hope is being created and the market is acting as if the government has everything in control, Americans are losing jobs, the foreclosure crisis is getting worse, and the landscape of our country continues to change drastically. You have states and municipalities facing bankruptcy.  The commercial real estate market is in trouble and could represent the next shoe to drop. 

In a bubble environment, reality becomes a real show stopper.  Remember just 4 years or so when people were flipping homes and acting as if home prices would never go down?  Well reality hit and you know the rest of the story.  I think that we are on the verge of seeing the same thing today with this artificially stimulated economy.  Wall Street is acting as if this is a normal cycle and the worst is behind us.  The government is arrogant enough to think that they can be this irresponsible, get away with it, and fix the economy when, in reality, that is the farthest from the truth. 

Then there is all of the mania surrounding gold.  This is all based on the assumption that we are going to get wide spread inflation when we are really facing a deflationary recession.  Don’t be fooled in thinking the price of gold cannot be cut in half.

Confidence is a fragile element that is the glue that holds everything together.  We went through a serious crisis of confidence last year.  We got some of that confidence back.  The problem is that this confidence is like the house built on sand.  Reality has a funny way of showing up.  

If the stock market were facing reality and not investing in “hope,” this market would not be anywhere near the levels that we are experiencing now.  Of course, you can make the argument that the stock market can go up with all of these imbalances present.  I would argue that we are facing serious and large imbalances.  This is not your ordinary situation.

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The Main Question Might Be Getting Answered

Back in March of this year when the stock market found a bottom, I posed a question that I felt would be “the” question for investors. Is this a bear market rally or is this the beginning of a bull market?

I have felt all along that this is nothing more than a bear market rally. A bear market rally is a pause in the bear market where the stock market goes up for a period of time.  Think of it as the bear resting and gathering energy for the next big decline. 

Of course, if it is a new bull market, then the March low of this year was the worst that it will get. 

I believe that we might be getting close to finding out.  Many of the indicators are stating that the moment of truth is here.  If this were a healthy normal market, we would at least see some type of market decline in the course of a new bull market.   I think that we might have already started that process.  If this is a bear market rally, then this decline will morph into something serious.  This should be a big test. 

For this stock market to change from a bear to a bull, the important level for the S&P 500 to reach would be 1121.  The S&P 500 would have to surpass that level and stay above that level.  If that were to occur, the evidence would support a major change for the stock market trend.

The unemployment numbers came out again this past Friday and showed more disturbing news for the economy.  Remember, if they cannot fix unemployment, this economy is going to have a tough time getting going again.  Unfortunately, Obama’s answer to more jobs is Government jobs through the stimulus program.  That is not the type of solution that will solve this problem.   

According to the Government’s “version” of the unemployment report, we lost 216,000 jobs. Of course, that was after they “added” back in 118,000 jobs that they created out of thin air.  As a review, each month the Government “estimates” the number of jobs created each month that they “feel” the Department of Labor misses.  It is such a farce. 

The number of those jobless as well as the overall unemployment rate is much higher than reported.  It is an absolute joke that they continue to report this garbage. 

I wanted to give you a link to an article about Robert Prechter.  He is a well regarded market analyst that has called major tops and bottoms of the market.  He uses a discipline called the Elliot Wave Theory. According to Elliot Wave, we have again hit a major top and it is about to get ugly.  Who knows if this is right or not?  I do know that he has a very strong track record and warrants some attention. 

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Summer Time Blues

Well, I took the wrong time to take a vacation. A great deal of very important things occurred last week in the stock market and investors should be extremely cautious.  This morning I will take some time to get you caught up on what is occurring with price levels as well as what I believe to be a fundamental shift in the stock market. The stock market has been in a stock market rally from the middle of March at least until June 11. Since June 11, the S&P 500 has declined -7 %.

One of the themes that I have written about since the low in the stock market in March is the overall future direction of the stock market. If you ask most people on Wall Street, they will say the worst is behind us and we have started a period of recovery. I have argued the opposite. I feel that we are in a long-term bear market that started in 2000 and could last as long as 18 to 20 years (based on history).  Concerning out current situation, my analysis would suggest we have been in a bear market rally. This is a period of time where the stock market stops declining and starts what looks like a period of prosperity and recovery for investors.

These are mean periods of time for investors because they fool the vast majority of people into believing that the worst is behind us. When you look at how far up the stock market went in a small amount of time, it certainly would appear that the worst is behind us. At the same time, it also looks just like a typical bear market rally and not the start of a period of recovery.

Since the March low in the stock market, the question has been how long and how far the stock market will go up. It is a little too early to declare that the stock market rally is over. However, the evidence is building. The problems are becoming much too loud to ignore. So, let’s start with the evidence. We always want to look at price levels of the stock market. Price levels are determined by where the stock market closes at the end of each day. They can tell us a great deal about the level of risk that we are facing.

If we manage to stay above certain price levels, then stock market investors should feel comfortable with taking risk by investing in stocks. However, if the market closes below certain price levels, then the probability increases that stock investors will lose substantial amounts of money. On June 11th, the S&P 500 reached its highest price level since the March low. That closing price level for June 11th was 944 on the S&P 500.

As of last Friday, we were at a price level of 879. The price level of 878 is the first level of risk for the stock market. Last week the S&P 500 fell below that level but has not closed below that level. Remember that the closing level is the most important one to watch. Once that level is broken, the next danger zone lies between 814 and 779. If you are heavily invested in stock, you do not want to see the S&P 500 fall below 779. In that event, I would think that the next price level down could be as low as 719 all the way down to 666.

The price level of 666 is extremely important because that was the March low of the stock market. In the event that would happen, that would be a considerable low and loss to stock market investors. For now, let’s not get ahead of ourselves. Keep in mind that investing in stocks is all about monitoring your risk. One of the best ways to do so is by monitoring price levels.

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