The “Super Committee” and the Markets

Over the weekend, reports that the deficit cutting “super committee” was on the verge of failure began to circulate openly. I suppose we shouldn’t be surprised, but our purpose here is not to analyze politics and public policy, but to try to figure out what is going on and how it will affect our portfolios.

In this particular instance, our cue should come from the S&P downgrade of U.S. debt. Some observers were puzzled that the Dollar rose and Treasury bond yields fell. That seemed counter-intuitive. This morning we are seeing the same action at the market open: Dollar up, equity and commodity prices and Treasury yields down. In other words, the response from the markets is a pure “risk off” rotation.

Certainly, we cannot look at this in a vacuum. Much is going on in the world, and especially in Europe where things are still very much unsettled. If you subscribe, however, to the idea that we should be tune out political noise and look to the markets for a more reliable signal, this should tell you much about the standing of the U.S. in the global economy.

My specific read, as detailed in the weekend article at Seeking Alpha, is that the risk asset markets are under pressure. We are most likely looking at a move back into the summer trading range in equity indexes, perhaps even a re-test of the early October lows, in the near term. In the longer term I am still bullish on America, so this would represent an opportunity to buy more quality assets at discounted prices.

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Looking for a Bounce

It’s been a while since we’ve had a post in this space, with the weekly analysis moved over to Seeking Alpha, but we have a technical development in the stock market that merits mention. It looks like we have a reversal this morning on the major indexes which, combined with extremely oversold conditions, gives us a decent probability of a stock rally.

There is a really long tailed hammer on the two most popular junk bond ETFs (HYG and JNK), which also is a positive signal for longs.

I am not calling a bottom here, just a bounce. The market will tell us whether it’s putting in a bottom in the course of time. A quick in/out long side trade may work out well. Some longer term bargain buying may also work.

Disclosure – we are long HYG in the income portfolio.

Post-Fed Musings

The Fed confirmed today what was already tipped – it will extend the maturity of its holdings and continue to buy mortgage debt. The bond market was delighted, the commodity and equity markets, not so much. A few thoughts on the reaction:

With the Fed program so widely anticipated, I thought the long bond had pretty much priced it in. Wrong. The yield plunged to 3.039%. A 2 handle is pretty much a foregone conclusion; when you get this close to a round number it sucks the market in. The 10 year yield is now sub 1.9%. Amazing.

The Dow transports were off more than 5%. You don’t often see 5% daily moves on the transports – in either direction.

The small caps, several large cap sectors, and quite a few blue chip stocks broke down out of the bear flag patterns we described a couple of weeks ago.

Several foreign market ETFs made new year to date lows on a closing basis.

My regular readers know I am one of those stubbornly optimistic types – we’re still in that range on the SPX that we outlined a month ago, and the NDX is still above the June low and the 50 day – but it’s getting increasingly difficult to find cause for optimism. We’re heavily overweight cash and eager to come off the sidelines. Not giving up hope yet, but I put the warmup jacket back on; it doesn’t look like we’re getting in the game very soon.

Friday Pre-Market Musing

Yesterday’s action was a full serving of ugliness. The action we described in the morning post lasted through the day, except for crude oil, which joined the tank brigade with a 6%+ retreat. We briefly saw a 1 handle on the 10 year Treasury. Think about that for a moment. A 1 handle on the 10 year. That’s nothing less than amazing. If it marks the low, great, and if not…things are not going to be very great at all.

On a more hopeful note, we had a pretty strong volume selloff but didn’t revisit the recent low, which means buyers saw value and came into the market. However the futures this morning are quite negative. I’m hopeful that we won’t see a new low but, as hope is not a strategy, I’m staying on the sidelines. It’s starting to feel like being Cal Ripken’s backup. Anyhow, today’s action is going to be important. We stay above the low going into the weekend, and there is some cause for optimism. We close out with a new low, and there are some dark and scary places on the road ahead.

Returning to the bond yield, I had been making the comment in discussion for several years that we were turning Japanese and European at the same time, meaning that we had chronically falling growth and dis-inflation, coupled with an expanding welfare state. With the folks in Washington looking determined to beat the European out of us (a sensible notion – look what it’s done to the Europeans), I suppose we will be getting on with the all out pursuit of becoming Japanese. Minus the positive external trade balance.

Tuesday Post Close Musings

After last week’s events we were looking for heightened volatility this week, and boy have we gotten it. A 600+ point drop in the Dow Monday, and a 600+ point swing in the final hour and a quarter Tuesday. Here are some observations at this point:

The bounce we saw today did little more than relieve extreme oversold conditions. My trading plan is still in play and we should expect to see higher prices – perhaps not directly, but it’s still not time to sell (or sell short).

The bounce we saw today did little more than relieve extreme oversold conditions. The commentators who say back up the truck and buy all you can at these prices may turn out to be dispensing good advice…but I doubt it. This looks more like 2008 than 1987, but isn’t likely to be the same as either of them.

The VIX and VXN have backed off extreme levels, but remain sharply elevated.

So many of the dozens of charts I study looked so similar, which is typical of these market conditions. Domestic small company stocks, foreign equity ETFs, high yield bonds, they all moved together, just as they did three years ago.

Some of the most interesting action is in the gold miners. They were lagging the metal significantly, but lower energy prices coupled with high gold prices are panacea for this sector. Have a look at the AMEX gold bugs index (HUI) and the CBOE gold index (GOX). These stocks have avoided much of the carnage and could be poised to make a nice advance.

The Fed tried to move investors out of fixed income by sticking to low short term rates for the next two years. This is news to no one. If the market hasn’t accomplished that by driving yields down so far, the Fed isn’t likely to do it either, at least not in the near term. We should however be looking for any indication that they will take some action they aren’t already taking. Remember that the signal of QE2 a year ago set off a big rally in commodities and stocks.

The larger setting remains: we have a slowing domestic economy and a looming financial crisis in Europe. At some point the manic trading will exhaust itself and we will settle into markets that reflect the macro outlook. If you are a longer term investor, use this time on the sidelines to be thinking about what will work in that type of environment. More thoughts on that later.

Greece Defaults, Things Get Weird

Now that the dust is beginning to settle on the emergency eurozone summit, we can call it for what it is: Greece is the first in what will probably be a series of sovereign default events. They said it wouldn’t, it couldn’t happen. We said it was nearly inevitable.

Though it has been spun in any number of different ways, the bottom line is this: bond holders took a haircut. Considering that policy makers around the globe have been moving heaven and earth to avoid such sacrilege, this is no small thing. The good folk at Fitch, smart people all, have also called it, though they had the grace to attach the prefix “restricted” to default. OK. The present value of certain bonds fell by some 20%. We can call it whatever we want. The bondholders know what it is. I guess 80% of something is better than 100% of nothing.

After what looked like a strongly bullish initial reaction from the markets Thursday – woohoo, Greece is in default, now we can get on with it – Friday was a bit more sober. Maybe it was the US deficit deal that was…and then wasn’t. In doing my research for this weekend’s article, and reviewing dozens of charts, it occurs to me that the entire market is in a sort of limbo state. Once I get my analysis together it will appear in the article as usual, and we’ll see if it ends up providing any value. At the moment it just looks kind of weird.

Signals Popping

This past weekend’s article on SA wondered why there was so little movement in the currencies last Friday when sovereign yields spiked around the European periphery. It didn’t take long for markets to move. Here’s what we have as of this writing:

US Dollar index breaks above 76 resistance
euro breaks below $1.40 support
10 year Treasury yield firmly in 2 handle range, near YTD low
SPX went to 50 DMA to the penny Monday and today, held

This is troubling. No reason to panic yet but we must stay alert. Equity, junk bond and commodity positions are at elevated risk.