Words From the (Investment) Wise 5.31.09


Source: CXO Advisory Group

In addition to the major stock market indices rising for a third consecutive month, some of the other milestones achieved during the past week were the following:

• The S&P 500 Index rose by 5.3% in May for a three-month performance of +25.0% – the biggest three-month gain since August 1938.

• The Dow Jones Industrial Index advanced by 4.1% and 20.4% for May and the three-month period respectively – its largest three-month return since November 1998. (The last straight three-month gain was from August to October 2007, when the Index reached its bull market peak).

• The US dollar declined to a five-month low against the euro, losing 6.6% during May. The buck’s declines was even more pronounced against high-yielding currencies such as the Australian dollar (-9.4%) and the New Zealand dollar (-11.3%).

• The yield spread between two- and ten-year Treasury Notes reached a record 275 basis points on Wednesday before narrowing to 254 basis points by the close of the week.

• The Reuters-Jeffries CRB Index increased by 13.8% during May – its best monthly gain since 1974.

• The Baltic Dry Index – measuring freight rates of iron ore and bulk commodities – climbed every day in May to post its biggest monthly advance (+95.6%) on record.

• The price of West Texas Intermediate Crude recorded its largest monthly increase (+29.7%) since March 1999.

• Silver surged by 26.8% for the month – its strongest performance for 22 years. (Gold bullion advanced by 10.2% during May, and platinum by 8.2%.)

Back to long-term bonds. According to the Financial Times, Mike Lenhoff, chief market strategist at Brewin Dolphin Securities, said: “Bond markets may be telling us to expect inflation but, more importantly, I think they are telling us that policy makers the world over will succeed with their efforts to reflate the global economy.

“The trend of yields on corporate debt has been down, and that on Treasuries up, implying diminishing risk premiums – which is just what you would expect if markets are banking on recovery.”

The week’s performance of the major asset classes is summarized by the chart below.


Source: StockCharts.com

The MSCI World Index (+1.7%) and the MSCI Emerging Markets Index (+6.6%) last week added to the previous week’s gains to take the year-to-date returns to +5.4% and a massive +36.3% respectively.

Although the major US indices experienced declines on Monday and Wednesday, the weekly scoreboard ended in positive territory, as seen from the movements of the indices: S&P 500 Index (+3.6%, YTD +1.8%), Dow Jones Industrial Index (+2.7%, YTD -3.1%), Nasdaq Composite Index (+4.9%, YTD +12.5%) and Russell 2000 Index (+5.0%, YTD +0.4%).

The Dow remains the only major US index still in the red for the year to date – and, along with the FTSE 100, one of the few global indices in this unenviable position.

Click here or on the table below for a larger image.


Source: StockCharts.com

As far as non-US markets are concerned, returns ranged from top performers Macedonia (+10.8%), Croatia (+10.2%), Nigeria (+9.9%), Namibia (+8.5%) and Peru (+7.8%), to the Czech Republic (-6.6%), Denmark (-5.7%), Saudi Arabia (-4.4%), Latvia (-4.2%) and Côte d’Ivoire (-3.5%), which experienced headwinds. (Click here to access a complete list of global stock market movements, as supplied by Emerginvest.)

Emerging markets (especially the BRIC countries) are showing mature markets a clean pair of heels, as can be seen from the rising trend line of the MSCI Emerging Markets Index relative to the Dow Jones World Index since late October. The fact that developing countries are outperforming the developed ones is a sign that global investors are taking more risk – a necessary ingredient for stock markets in general to show a further improvement.


Source: StockCharts.com

John Nyaradi (Wall Street Sector Selector) reports that as far as exchange-traded funds (ETFs) are concerned, the leaders for the week included Claymore/Delta Global Shipping (SEA) (+10.5%), iShares MSCI Hong Kong (EWH) (+10.4%) and HOLDRS Merrill Lynch Market Oil Service (OIH) (+10.4%). Poor performers were all things “short”, with notable laggards being ProShares Short MSCI Emerging Markets (EUM) (-4.5%), ProShares Short QQQ (PSQ) (-4.1%) and ProShares Short Russell 2000 (RWM) (‑3.5%).

Further confirmation that the various central bank liquidity facilities and capital injections are having the desired effect of unclogging credit markets, comes from the Goldman Sachs’s Financial Stress Index (FSI). This index includes four factors related to the degree of impairment of financial markets: counterparty risk (US dollar 3-month LIBOR-OIS), liquidity risk (mortgage-backed security [MBS] to treasury repo differentials), refunding risk (commercial paper outstanding) and broader risk aversion (percentage of monies held in money-market mutual funds in relation to equity market capitalization).

As shown in the graph below, the FSI is now at its lowest level since the beginning of the credit crisis in August 2007.


Source: Goldman Sachs – Strategy Matters, May 15, 2009.

The decline of the US dollar and the rise in bond yields took on new momentum during the past few weeks. Deepening anti-dollar sentiment caused bets against the greenback on the Chicago Mercantile Exchange to rise to their highest level since the onset of the financial crisis, reported the Financial Times.


Source: StockCharts.com

Richard Russell (Dow Theory Letters) said: “The US Dollar Index is sitting on what I term ‘the edge of the cliff’. If the dollar falls apart, we’re dealing with a whole new story – it will affect almost all investments, US and foreign. The sliding dollar is already putting pressure on Treasury bonds, particularly the long-term maturities. This is causing our creditors (think China) to cut back.” The graph below shows that the sovereign debt bubble may be in the midst of bursting.


Source: StockCharts.com

The higher Treasury yields had a negative impact on mortgage rates, with the 30-year fixed rate increasing by 29 basis points to 5.27% on the week and the 15-year fixed rate by 25 basis points to 4.87%, as indicated by Bankrate.com. Yields on mortgage bonds for the first time exceeded the levels at which they were trading before the Fed’s announcement of expanding Treasury purchases to reduce lending rates. This raises the question of whether the Fed might soon increase its Treasury buy-backs.

The quote du jour comes from the “out-the-box” analyst Marc Faber who argued that the US economy would enter “hyperinflation” approaching the levels in Zimbabwe. “I am 100% sure that the US will go into hyperinflation,” Faber said in an interview with Bloomberg. “The problem with government debt growing so much is that when the time comes and the Fed should increase interest rates, they will be very reluctant to do so and so inflation will start to accelerate.”

In other news, according to The Washington Post, senior administration officials are considering the creation of a single agency to regulate the banking industry, replacing a mishmash of bodies that failed to prevent banks from plunging into the worst financial crisis since the Great Depression.

Next, a tag cloud of all the articles I read during the past week. This is a way of visualizing word frequencies at a glance. Key words such as “financial”, “gold”, “dollar”, “banks” and “credit” featured prominently. Surprisingly, “bonds” did not make the cloud despite playing a key role in market movements over the past few days.


Zeroing in on the US stock markets, this week’s survey of investor sentiment from the American Association of Individual Investors (AAII) shows an increase in both bearish and bullish sentiment. Bespoke reports that in the last week bullish sentiment increased from 33.7% to 40.4%, whereas bearish sentiment climbed from 45.4% to 48.6%. Bears therefore still outnumber bulls and are at their highest level since March 12.


Source: Bespoke, May 28, 2009.

An analysis of the moving averages of the major US indices shows all the indices above their 50-day moving averages, with the Nasdaq Composite after last week’s gains now also above the key 200-day line and the early January high. The highs of May 8 (already breached by the Nasdaq) are the most immediate targets to the upside, whereas the levels from where the rally commenced on March 9 should hold in order for base formations to remain in force.

Click here or on the table below for a larger image.


Eoin Treacy (Fullermoney) said: “… the logical areas for indices to encounter resistance are near round numbers. For the S&P, this would be 950 or 1,000. The FTSE 100 is currently encountering supply beneath 4,500. For India, 15,000 is the pertinent number. Brazil is currently in the region of 53,000, and if it breaks upwards from here, the next logical area for people to look at is 60,000.”

Adam Hewison of INO.com has again prepared another of his popular technical analyses – this time on the British pound, oil and gold bullion. Click here to access the short presentation.

Richard Russell, who has taken the stand that we are experiencing a bear market rally, said: “Lowry’s valuable statistics have been available for over 70 years. Normally, as a bear market nears its final low, Lowry’s Selling Pressure Index sinks dramatically, thereby providing evidence that the supply of stocks for sale is sinking. The Selling Pressure Index continues to decline after the bottom has passed. This is NOT what has happened before or since the March 9 lows.

“On the low of March 9 Lowry’s Selling Pressure Index stood at 884. At yesterday’s close the Selling Pressure Index stood at 868, only 14 points lower than it was on March 9. Meanwhile, on March 9 Lowry’s Buying Power Index stood at 120. At yesterday’s close, Buying Power was at 156, which was a gain of 36 points from the March 9 low.

“To move the stock market higher in a healthy way, Buying Power must rise while Selling Pressure must decline. As things stand, there’s still too much Selling Pressure (supply) built into this market.”

With the first-quarter earnings reporting season now winding down, analysts are shifting their focus to Q2. Albert Edwards, Société Générale‘s strategist, observes (via Barron’s) that bottom-up company analysts forecast an unprecedentedly mild contraction in profit margins in the midst of the worst recession since the Great Depression. “This just doesn’t make sense to us. Analysts are ‘anchoring’ on recent unprecedented highs in margins as the new norm, instead of viewing them as bubble nonsense never to be seen again.” Time will tell whether the consensus earnings expectation for the S&P 500 of a 34.7% decline for Q2 2009 versus Q2 2008 is too optimistic.

As General Motors moved closer to a bankruptcy filing, possibly on Monday, I couldn’t help recalling the statement by former GM CEO “Engine Charlie” Watson: “What’s good for the country is good for General Motors, and vice versa.” Oh well.

For more discussion on the direction of stock markets, also see my recent posts “Video-o-rama: higher bond yields raise caution“, “Why Jeremy Grantham changed his mind“, “Dollar’s slide hurting foreign investors“, “Goldman: Past the worst?” and “Technical talk: S&P 500 testing resistance“. (Also, Donald Coxe’s webcast has been updated for May 28 and makes for good listening. This can be accessed from the sidebar of the Investment Postcards site.)

I regularly post short comments (maximum 140 characters) on topical economic and market issues, web links and graphs on Twitter. For those not doing so already, you can follow my “tweets” by clicking here. The Twitter posts also appear on my Facebook page and in the sidebar of the Investment Postcards site.

“Sentiment among global businesses remains very poor, but it continues to slowly improve. Confidence has moved measurably higher since mid-March and is now close to where it was last November. Businesses are notably more upbeat about the outlook towards the end of this year …,” said the latest Survey of Business Confidence of the World conducted by Moody’s Economy.com. The global economy remains mired in recession according to the Survey results, but the recession is becoming less intense.


Source: Moody’s Economy.com

“Taken separately, one can find many reasons not to rely on survey results, especially those from consumers. But put them together, and global survey results indicate that economic stabilization is afoot,” said Rebecca Wilder (News N Economics).

As seen from the chart below, the consumer and business survey results for the US, Japan and Germany have been improving for several months now, with the US showing a sizeable increase in May. The Eurozone has just seen its first improvement in economic sentiment since May 2007.


Source: News N Economics

Considering hard data, signs have also emerged that the global economy is stabilizing. Examples include a rebound in Japanese industrial production, the first rise in German retail sales in four months, and a rise in UK house prices in May.

Turning to the US, a snapshot of the week’s economic data is provided below. (Click on the dates to see Northern Trust‘s assessment of the various data releases.)

May 29
• Q1 real GDP preliminary estimate – minor revisions, message is unchanged

May 28
• New Home Sales flat in April, inventories are shrinking slowly
• Jobless Claims fall but continuing claims continue to advance
• Durable Goods Orders were weak in April, Defense Orders lifted total bookings

May 27
• Sales of Existing Homes moved up, but inventories remain elevated

May 26
• Chicago National Activity Index sends an upbeat message
• Consumer Confidence Index posts significant jump in May
• Case-Shiller Home Price Index – noteworthy price movements, but more is required

Referring specifically to US housing, John Mauldin (Thoughts from the Frontline) said: “Housing in many areas is starting to once again become affordable (see chart below) to more and more Americans and even first-time home buyers. The cure for the housing crisis is actually lower prices, as that brings more and more potential home buyers into the market. While housing sales are still quite depressed, what are selling are homes in foreclosure, as buyers perceive that there are bargains. And they are right.”


Source: Moody’s Economy.com

In his weekly Forbes column, Nouriel Roubini (RGE Monitor) commented as follows: “The crucial issue facing us is not whether the global economy will bottom out in the third or fourth quarter of this year, or in the first quarter of next year. It’s whether the global growth recovery, once the bottom is reached, will be robust or weak over the medium term – say 2010-11. … one cannot rule out a sharp snapback of GDP for a couple of quarters, as the inventory cycle and the massive policy boost lead to a short-term growth revival. My analysis, however, suggests that there are many yellow weeds that may lead to a weak global growth recovery over 2010-11.”

On a related note, Gillian Tett (Financial Times) asked whether one should expect a “V”-shaped recovery, or a scenario more like a “U” or a “W”. “Many years ago, when I was a rookie reporter, I learnt the Pitman system of shorthand. And it just happens that the half-squashed, asymmetrical ‘W’ pattern that I am struggling to describe is almost identical to the shorthand sign for ‘bank’.


“So there you have it: as long as we avoid a government bond crisis, my best prognosis is for a ‘bank’ shaped recovery-cum-stagnation, at least as depicted by shorthand. It is a fitting twist for a crisis that started with the shadow banks; perhaps the Gods of finance (and journalism) have a sense of humor after all,” said Tett.

Week’s economic reports
Click here for the week’s economy in pictures, courtesy of Jake of EconomPic Data.


Time (ET)




Briefing Forecast

Market Expects


May 26

9:00 AM

S&P/Case-Shiller Home Price Index






May 26

10:00 AM

Consumer Confidence






May 27

10:00 AM

Existing Home Sales






May 28

8:30 AM

Durable Goods Orders






May 28

8:30 AM

Durables, Ex-Transport






May 28

8:30 AM

Initial Claims






May 28

10:00 AM

New Home Sales






May 28

11:00 AM

Crude Inventories






May 29

8:30 AM








May 29

8:30 AM

GDP Deflator






May 29

9:45 AM

Chicago PMI






May 29

9:55 AM

Mich Sentiment (revised)






Source: Yahoo Finance, May 29, 2009.

In addition to Federal Reserve Chairman Ben Bernanke’s testimony before the House Budget Committee (Wednesday, June 3), and interest rate announcements by the Bank of England and the European Central Bank (Thursday, June 4), the US economic highlights for the week include the following:


Source: Northern Trust

Click here for a summary of Wachovia’s weekly economic and financial commentary.

The performance chart obtained from the Wall Street Journal Online shows how different global financial markets performed during the past week.


Source: Wall Street Journal Online, May 29, 2009.

British philosopher Bertrand Russell said: “If a man is offered a fact which goes against his instincts, he will scrutinize it closely, and unless the evidence is overwhelming, he will refuse to believe it. If, on the other hand, he is offered something which affords a reason for acting in accordance to his instincts, he will accept it even on the slightest evidence.”

Hopefully the “Words from the Wise” reviews offer material of the necessary substance that will guard against Investment Postcards readers merely having to rely on their instincts when taking investment decisions.

That’s the way it looks from Cape Town as May draws to a close.


Source: Mapleleafweb

Charlie Rose: A conversation about Bear Sterns and the economic crisis with Kate Kelly and William Cohan
“A conversation about Bear Sterns and the economic crisis with Kate Kelly, author of Street Fighters: The Last 72 Hours of Bear Stearns, the Toughest Firm on Wall Street and William Cohan, author of House of Cards: A Tale of Hubris and Wretched Excess on Wall Street.”

Source: Charlie Rose, May 28, 2009.

The Wall Street Journal: How to fix the financial system
“The Committee on Capital Markets Regulation, a diverse group of academics, former government officials, and business leaders, plans to present a comprehensive list of recommendations Tuesday calling for an overhaul of the rules supervising financial markets. The recommendations will likely attract attention from key government officials because of the people’s credentials who put together the report, called “The Global Financial Crisis: A Plan For Regulatory Reform.”

“Among others, the report was penned by R. Glenn Hubbard, dean of the Columbia Business School, John L. Thornton, Chairman of the Brookings Institution, Hal S. Scott, Nomura Professor and Director of the Program on International Financial Systems at Harvard Law School, and Roel Campos, a former commissioner at the Securities and Exchange Commission. The report is thorough – the executive summary alone has 57 recommendations.

“Some of the key recommendations:

“1) Keep two or three regulators for the financial system – the Fed, a new US Financial Services Authority, and an investor and consumer protection agency. The USFSA ‘would regulate all aspects of the financial system, including market structure and activities and safety and soundness for all financial institutions.’

“2) Mandate centralized clearing of credit default swaps. To the extent that some CDSs stay outside a centralized clearing process, the committee calls for higher capital requirements to ‘compensate for increased systemic risk of these contracts’.

“3) Don’t make a hasty decision to raise capital requirements across the financial sector until more analysis is done. But the committee does recommend higher capital requirements for megabanks, such as those with more than $250 billion in assets. ‘Given the concentration of risks to the government and taxpayer, we recommend that large institutions be held to a higher solvency standard than other institutions, which means they should hold more capital per unit of risk.’

“4) Strengthen the ‘leverage’ capital ratio, and debate whether the leverage ratio should be based on common equity rather than total Tier 1 capital.

“5) Give the Fed temporary authority to evaluate confidential information supplied by hedge funds.

“6) Relax acquisition rules to make it easier for private equity firms to pump money into the banking sector.

“7) Create a comprehensive policy called the Financial Company Resolution Act, that would be allowed to put any financial company into receivership, not just ‘systemically’ important ones.

“8) Ban or limit high-risk mortgages from being securitized.”

Source: Damian Paletta, The Wall Street Journal, May 26, 2009.

The Washington Post: US weighs single agency to regulate banking industry
“Senior administration officials are considering the creation of a single agency to regulate the banking industry, replacing a patchwork of agencies that failed to prevent banks from falling into the worst financial crisis since the Great Depression, sources said.

“The agency would be a key element in the administration’s sweeping overhaul of financial regulation, which officials hope to unveil in coming weeks, including the creation of a new authority to police risks to the financial system as well as a new agency to protect consumers, according to three people familiar with the matter. Most of the proposals would require legislation.

“‘The president is committed to signing a regulatory reform package by the end of the year, and officials at the White House and the Treasury Department are continuing work with Congress on the final phases of a proposal, but there is no final proposal in place and any announcement will not be for a couple of weeks,’ said White House deputy spokesman Jennifer Psaki.

“Senior officials have reached agreement on aspects of the plan, according to a person familiar with the discussions.

“They favor vesting the Federal Reserve with new powers as a systemic risk regulator, with broad responsibility for detecting threats to the financial system. The powers would include oversight of previously unregulated markets, such as the derivatives trade, and of market participants such as hedge funds.

“Officials also favor the creation of a new agency to enforce laws protecting consumers of financial products such as mortgages and credit cards.

“And they want to merge the Securities and Exchange Commission and the Commodity Futures Trading Commission, which share responsibility for protecting investors from fraud.

“Other aspects of the plan remain under discussion, sources said, speaking on condition of anonymity because they were not authorized to disclose details.”

Source: Binyamin Appelbaum and Zachary Goldfarb, The Washington Post, May 28, 2009.

The Wall Street Journal: Fed cools banks’ faith in future revenue
“Big banks were hoping billions of dollars in future revenue would help them fill the capital holes found in the government’s stress tests earlier this month. Now the Federal Reserve is limiting how much of that performance can be counted, according to people familiar with the situation.

“The Fed’s decision is forcing Bank of America Corp. to come up with billions of dollars in capital from other sources, these people said. Other stress-tested banks also have revamped their capital-raising plans or might need to, including PNC Financial Services Group Inc. and Wells Fargo & Co.

“The move by the Fed, which began notifying banks last week, has deepened tensions over the stress tests, which are intended to help steady the banking industry and shore up confidence in the financial system. The results were announced May 7, and banks face a June 8 deadline for government approval of their capital-raising plans.

“Some banks had planned for financial performance in 2009 and 2010 to cover 20% or more of their capital shortfalls.

“Since announcing the stress-test results, though, Fed officials have grown concerned that some banks are leaning too heavily on future revenue projections, according to people familiar with the matter. Under the new requirement, projected revenue can be used for no more than 5% of the additional equity being demanded from the 10 banks.”

Source: Dan Fitzpatrick, The Wall Street Journal, May 28, 2009.

The New York Times: GM plan gets support from key bondholders
“As General Motors moved closer to a bankruptcy filing, possibly early next week, attention on Thursday turned again to the bondholders, the most important group that the company has yet to win over for its efforts to start fresh.

“Early Thursday, GM proposed a deal in which bondholders would receive up to a 25% stake – a bigger share than GM offered the autoworkers union – if they do not oppose its bankruptcy reorganization, and then said that a group representing many of the largest bondholders had accepted the offer.

“The proposal came as administration officials and GM began to discuss how the carmaker would look once it emerged from a court reorganization. The company is expected to seek bankruptcy protection by Monday, the deadline set by the Obama administration to restructure outside bankruptcy.

“In a regulatory filing, GM set Saturday afternoon as the deadline for other bondholders to support the plan. In addition to an ad hoc committee that supports the GM plan, which represents about 20% of GM’s debt, people with knowledge of the discussions said a second group, with about 30% of GM’s debt, was in talks with the Treasury.

“Administration officials said they considered the development positive. While the officials said there was no specific threshold for approval by the bondholders, a person briefed on the matter said that GM was seeking support from investors holding about 50% of GM’s $27 billion in bond debt.

“GM and the Treasury will re-examine the results after 5 p.m. on Saturday to gauge support before deciding how to proceed.”

Source: Michael de la Merced and Micheline Maynard, The New York Times, May 28, 2009.

Nouriel Roubini (Forbes): Ten risks to global growth
“Last week, I discussed why the US and global recovery will occur later than the optimistic consensus argues. This week, I will discuss why the recovery will be sub-par and below trends for a few years once it does occur, and why there is even the risk of a double-dip W-shaped recession.

“The crucial issue facing us is not whether the global economy will bottom out in the third or fourth quarter of this year, or in the first quarter of next year. It’s whether the global growth recovery, once the bottom is reached, will be robust or weak over the medium term – say 2010-11. … one cannot rule out a sharp snapback of GDP for a couple of quarters, as the inventory cycle and the massive policy boost lead to a short-term growth revival. My analysis, however, suggests that there are many yellow weeds that may lead to a weak global growth recovery over 2010-11.

“The current consensus among ‘green shoot’ optimists sees US economic growth going back in 2010 to a rate that is close to the 2.75% potential growth rate, and returning to potential by 2011. Many optimists go even further, arguing that the snapback of demand and production after the depressed levels of the current recession will lead growth to be well above trend (3.5% to 4%) for a couple of years, as most previous US recessions have been followed by a period of above-trend growth once the recovery gets going. Yet a detailed analysis suggests that growth will remain well below potential for at least two years – if not longer – as the severe vulnerabilities and excesses of the last decade will take years to resolve. Let us examine 10 factors that will cause below-potential economic growth over the medium term even after this recession is over.”

Click here for the full article.

Source: Nouriel Roubini, Forbes, May 28, 2009.

Bloomberg: US spends 14% of economic stimulus money in first 100 days
“About 14% of President Barack Obama’s $787 billion economic stimulus package has been allocated, creating 150,000 jobs in the 100 days since the measure was signed into law, the administration said.

“A report released today said the $112 billion in stimulus funds committed so far is going to projects across the country, from making public housing more ‘green’ in Washington to helping build a new library in Darlington County, South Carolina and buying a snow plow in Munising, Michigan.

“Obama said when he signed the bill Feb. 17 that it would create or save 3.5 million jobs by the end of September 2010. Today’s report didn’t measure how many jobs the stimulus has preserved.”

Source: Angela Greiling Keane, Bloomberg, May 27, 2009.

Bloomberg: Faber – US inflation to approach Zimbabwe level
“The US economy will enter ‘hyperinflation’ approaching the levels in Zimbabwe because the Federal Reserve will be reluctant to raise interest rates, investor Marc Faber said. Prices may increase at rates ‘close to’ Zimbabwe’s gains, Faber said in an interview with Bloomberg Television in Hong Kong.”


Click here for the article.

Source: Bloomberg, May 27, 2009.

Casey’s Charts: A 2,050% rise in price
“The costs of things as measured by the consumer price index have risen twentyfold since the Federal Reserve Act of 1913. This act empowered the central bank to create and control a new currency for the United States, the Federal Reserve Note. Over this same period, the federal deficit soared from $2 billion to over $11 trillion. Coincidence? We think not.

“After President Nixon cut the dollar’s ties to gold, funding the whims of government was no longer burdened by the need for higher taxes. Now any gaps in the budget can be filled by simply printing more dollars. And as you can see, the politicians didn’t hesitate to meet the challenge. Price levels and federal debt have risen hand-in-hand ever since.”


Source: Casey’s Charts, May 28, 2009.

John Taylor (Financial Times): Exploding debt threatens America
“Standard and Poor’s decision to downgrade its outlook for British sovereign debt from ‘stable’ to ‘negative’ should be a wake-up call for the US Congress and administration. Let us hope they wake up.

“Under President Barack Obama’s budget plan, the federal debt is exploding. To be precise, it is rising – and will continue to rise – much faster than gross domestic product, a measure of America’s ability to service it. The federal debt was equivalent to 41% of GDP at the end of 2008; the Congressional Budget Office projects it will increase to 82% of GDP in 10 years. With no change in policy, it could hit 100% of GDP in just another five years.

“‘A government debt burden of that [100%] level, if sustained, would in Standard & Poor’s view be incompatible with a triple A rating,’ as the risk rating agency stated last week.

“I believe the risk posed by this debt is systemic and could do more damage to the economy than the recent financial crisis. To understand the size of the risk, take a look at the numbers that Standard and Poor’s considers. The deficit in 2019 is expected by the CBO to be $1,200 billion. Income tax revenues are expected to be about $2,000 billion that year, so a permanent 60% across-the-board tax increase would be required to balance the budget. Clearly this will not and should not happen. So how else can debt service payments be brought down as a share of GDP?

“Inflation will do it. But how much? To bring the debt-to-GDP ratio down to the same level as at the end of 2008 would take a doubling of prices. That 100% increase would make nominal GDP twice as high and thus cut the debt-to-GDP ratio in half, back to 41 from 82%. A 100% increase in the price level means about 10% inflation for 10 years. But it would not be that smooth – probably more like the great inflation of the late 1960s and 1970s with boom followed by bust and recession every three or four years, and a successively higher inflation rate after each recession.

“The fact that the Federal Reserve is now buying longer-term Treasuries in an effort to keep Treasury yields low adds credibility to this scary story, because it suggests that the debt will be monetised. That the Fed may have a difficult task reducing its own ballooning balance sheet to prevent inflation increases the risks considerably. And 100% inflation would, of course, mean a 100% depreciation of the dollar. Americans would have to pay $2.80 for a euro; the Japanese could buy a dollar for Y50; and gold would be $2,000 per ounce. This is not a forecast, because policy can change; rather it is an indication of how much systemic risk the government is now creating.

“Why might Washington sleep through this wake-up call? You can already hear the excuses.”

Click here for the full article.

Source: John Taylor, Financial Times, May 26, 2009.

USA Today: IRS tax revenue falls along with taxpayers’ income
“Federal tax revenue plunged $138 billion, or 34%, in April versus a year ago – the biggest April drop since 1981, a study released Tuesday by the American Institute for Economic Research says.

“When the economy slumps, so does tax revenue, and this recession has been no different, says Kerry Lynch, senior fellow at the AIER and author of the study. ‘It illustrates how severe the recession has been.’

“For example, 6 million people lost jobs in the 12 months ended in April – and that means far fewer dollars from income taxes. Income tax revenue dropped 44% from a year ago.

“‘These are staggering numbers,’ Lynch says.

“Big revenue losses mean that the US budget deficit may be larger than predicted this year and in future years.

“‘It’s one of the drivers of the ongoing expansion of the federal budget deficit,’ says John Lonski, chief economist for Moody’s Investors Service. The Congressional Budget Office projects a $1.7 trillion budget deficit for fiscal year 2009.

“The other deficit driver is government spending, which, the AIER’s report says, is the main culprit for the federal budget deficit.”

Source: John Waggoner, USA Today, May 26, 2009.

Asha Bangalore (Northern Trust): Q1 real GDP preliminary estimate – minor revisions, message is unchanged
“Real gross domestic product of the US economy declined at a 5.7% annual rate in the first quarter, marginally smaller than the advance estimate of a 6.1% drop. Consumer spending was weaker than the advance reading (+1.5% versus +2.2% in the advance report). Liquidation of inventories ($91.4 billion versus $103.7 billion) and the trade deficit ($302.6 billion versus $308.4 billion) were both smaller than the first estimate.


“Going forward, real GDP is expected to post declines in both the second and third quarters. Auto plant shutdowns and resumptions are most likely to exaggerate the projected decline and increase in headline GDP in the third and fourth quarters of 2009.”

Source: Asha Bangalore, Northern Trust – Daily Global Commentary, May 29, 2009.

Asha Bangalore (Northern Trust): Chicago National Activity Index sends an upbeat message
“The Chicago Fed National Activity Index (CFNAI) in April moved up to -2.06 from -3.36 in March. Readings below zero denote an economy that is growing below trend. The index registered a trough in January 2009 (-3.99). The index is based on 85 indicators of national activity classified under four broad categories – production and income, employment, personal consumption and housing, and sales, orders, and inventories. In April, all of these four categories improved.


“The Chicago Fed suggests that the month-to-month movements of the index are volatile and recommends the 3-month moving average of the index as a better indicator of national economic growth. The 3-month moving average of the CFNAI was -2.65 in April versus -3.29 in March. This index bottomed out in January 2009 (-3.69).

“Setbacks from the auto industry restructuring should not be surprising. We will need to watch for a few months to confirm that it is not a false signal.”

Source: Asha Bangalore, Northern Trust, May 26, 2009.

Asha Bangalore (Northern Trust): Jobless claims fall but continuing claims continue to advance
“Initial jobless claims fell 13,000 to 623,000 during the week ended May 23. Continuing claims, which lag initial claims by one week, rose 110,000 to 6.788 million and the insured unemployment rate hit the 5.1% mark. The number of folks collecting unemployment insurance is troubling but the downward trend of initial jobless claims is the big positive aspect of the report.”

Source: Asha Bangalore (Northern Trust), May 28, 2009.

Standard & Poor’s: S&P/Case-Shiller Home Price Indices – recording record declines
“Data through March 2009, released today [Tuesday] by Standard & Poor’s for its S&P/Case-Shiller Home Price Indices, show that the US National Home Price Index continues to set record declines, a trend that began in late 2007 and prevailed throughout 2008.


“The chart above depicts the annual returns of the US National, the 10-City Composite and the 20-City Composite Home Price Indices. The S&P/Case-Shiller US National Home Price Index – which covers all nine US census divisions – recorded a 19.1% decline in the 1st quarter of 2009 versus the 1st quarter of 2008, the largest decline in the series’ 21-year history.

“‘Declines in residential real estate continued at a steady pace into March,’ says David M. Blitzer, Chairman of the Index Committee at Standard & Poor’s.”

Source: Standard & Poor’s, May 26, 2009.

Asha Bangalore (Northern Trust): Sales of existing homes moved up, but inventories remain elevated
“Sales of existing homes increased 2.9% in April to an annual rate of 4.68 million. Purchases of both single-family (+2.5%) and multi-family homes (+6.4%) advanced in April. On a regional basis sales increased in the Northeast (+11.6%), South (+1.8%) and West (+3.5%) but fell 2.00% in the Midwest. The impact of auto industry restructuring is reflected in the weakness of home sales in the Midwest.


“There was a small improvement in the seasonally adjusted inventories of unsold single-family homes in April to a 9.18-month supply mark, down from a 9.38-month reading in March. The median inventories-sales ratio of existing home sales for the period June 1982 – April 2009 is a 7.11-month supply, with the ratio holding closer to a 5-month supply in the decade ending 2005. The still elevated level of inventories augurs poorly for home prices in the months ahead.”


Source: Asha Bangalore, Northern Trust, May 27, 2009.

Chart of the Day: Home / gold ratio in strong downtrend
“Today’s chart presents the median single-family home price divided by the price of one ounce of gold. This results in the home / gold ratio or the cost of the median single-family home in ounces of gold. For example, it currently takes 192 ounces of gold to by the median single-family home. This is considerably less that the 601 ounces it took back in 2001. When priced in gold, the median single-family home is down 68% from its 2001 peak and remains within the confines of its four-year accelerated downtrend.”


Source: Chart of the Day, May 29, 2009.

Asha Bangalore (Northern Trust): Consumer Confidence Index posts significant jump in May
“The Conference Board’s Consumer Confidence Index rose to 54.9 from a revised 40.8 reading in April. The Present Situation Index advanced 3.4 points to 28.9 and the Expectations Index rose 21.3 points to 72.3.


“The 28 point jump in the April-May period is the second largest two-month gain seen in the history of the survey which began in 1967. The survey was held six times a year until the late-1970s. In 1974, the index increased 32.4 points over the span of the February and April surveys.”

Source: Asha Bangalore, Northern Trust, May 26,2009.

Asha Bangalore (Northern Trust): Durable goods boosted by defense orders
“Orders of durable goods increased 1.9% in April, after a 2.1% drop in the prior month. The 23.2% jump in orders of defense goods lifted the overall total. Bookings of non-defense capital goods declined 2.0% and that of non-defense capital goods excluding aircraft also dropped 1.5%. On a year-to-year basis, orders of durables fell 26.6% in April compared with a 24.7% drop in March.”


Source: Asha Bangalore (Northern Trust), May 28, 2009.

Bespoke: Rating agencies – sound and fury signifying nothing
“After S&P cut its credit outlook on the UK last week, we noted that listening to the ratings agencies is like making investment decisions based on last month’s newspaper. In this weekend’s Wall Street Journal interview, Dallas Fed President Richard Fisher seemed to agree with that sentiment:

“‘I served on corporate boards. The way rating agencies worked is that they were paid by the people they rated. I saw that from the inside.’ He says he also saw this ‘inherent conflict of interest’ as a fund manager. ‘I never paid attention to the rating agencies. If you relied on them you got … you know,’ he says, sparing me the gory details. ‘You did your own analysis. What is clear is that rating agencies always change something after it is obvious to everyone else. That’s why we never relied on them.’

“If the US ever loses its AAA credit rating, does anyone really think the ratings agencies will be ahead of the curve?”

Source: Bespoke, May 26, 2009.

Financial Times: JPMorgan warns on credit card woes
“Jamie Dimon, JPMorgan Chase chief executive, warned on Wednesday that loss rates on the credit card loans of Washington Mutual, the troubled bank acquired last year by JPMorgan, could climb to 24% by the year end.

“In the past, credit card loss rates have tracked the unemployment rate but that relationship has been breaking down for more troubled credit card portfolios, such as the $25.9 billion in WaMu credit card loans.

“At the end of the first quarter, 12.63% of the WaMu credit card loans were deemed uncollectable by JPMorgan. The bank estimates that figure could reach 18 to 24% by the end of 2009, depending on economic conditions.

“Describing credit cards as JPMorgan’s most challenged business, Mr Dimon said loss rates for the company’s larger $150 billion portfolio of Chase credit cards could reach 9% in the third quarter and as much as 10.5% by the end of the year, depending on housing and unemployment trends. That compares with first-quarter charge-off rates of 6.86% on the Chase card portfolio.

“Mr Dimon said he believed that a new law restricting higher interest rates on delinquent credit card debt for the first 60 days could make credit cards more expensive in the future.

“Banks are repricing credit cards and cutting credit lines before the new rules take effect, pushing borrowers into distress in some instances, according to industry executives.”

Source: Henry Sender and Saskia Scholtes, Financial Times, May 28, 2009.

CNBC: Bond market’s volatility
“Many concerns about the rising Treasury yields continue to undermine the Obama administration’s economic rescue plan, with James Galbraith, University of Texas; Jonathan Tisch, Loews Hotels chairman/CEO and CNBC’s Steve Liesman.”

Source: CNBC, May 29, 2009.

John Authers (Financial Times): Keep an eye on Treasuries
“Did the tide turn for US assets last week? For months, US Treasury bond prices have fallen, taking the dollar with them. The explanation was clear. Investors believed disaster had been averted. That meant taking greater risks once more and selling the secure US Treasury bonds bought during the panic.

“But the rise in bond yields and fall of the dollar took on new momentum last week, even as stock markets fell back. The 10-year bond yield hit 3.45%, a six-month high, while the dollar hit a five-month low.

“According to RBC, there were only 18 days in the past 20 years when the 10-year Treasury rose by 6 basis points or more, the dollar trade-weighted index fell 0.5 per cent or more and the S&P 500 fell more than 1.2%. None of them came from 2003 to 2008. But this happened on Thursday last week.

“The catalysts for the bad day appeared to be the news that dealers tried to sell the Federal Reserve far more bonds that day than the central bank was willing to buy, and the decision by Standard & Poor’s to put the UK on review for a potential sovereign downgrade – seen as a stalking horse for making the same move for the US.

“A rating agency move is not a good reason to sell US assets. The US Treasury has taxing authority. If it were ever to default, the result would be disaster for virtually all other governments, many of which are in a more parlous fiscal state than the US in any case. So some of the fear surrounding the dollar is a little irrational.

“But concern about the bond market is more meaningful. It is vital to keep US rates down, to revive both the housing market and the health of the banks. That is why the Fed is buying bonds. If even this drastic action is not enough to keep rates low, then these policy aims are in jeopardy. Last week that concern clarified in traders’ minds and it gave good reason to sell the dollar and US stocks.”

Source: John Authers, Financial Times, May 29, 2009.

Eoin Treacy (Fullermoney): Government bonds in downtrend
“Government bonds were the safe haven of choice for large numbers of investors during the most panicky period of this crisis. Three-month yields hit negative territory on a number of occasions in December as investors stampeded out of ‘risk assets’ and into government backed securities. Longer-dated issues surged to important highs in late December, which coincided with a yield of 2.5% on the 30yr and 2% on the 10yr.

“Since then yields have almost doubled as the perceived need for a ‘safe haven’ has decreased and investors gradually begin to demand a great return for shouldering the risk of lending to governments in the process of massively increasing the supply of bonds.

“The spread between the 10yr and 2yr, commonly used as an approximation of the yield curve, hit a new high yesterday. In the past, an inverted yield curve has been a reliable lead indicator of recessions. This was borne out again between 2006 and mid 2007. However, peaks in the spread do not appear to reliably predict the end of recessions. In fact there appears to be a lag. The move to new high ground for this relationship is commensurate with the size and shape of this recession and when a peak becomes evident, it will likely lend confidence to investors.

“There is also now a marked difference with how investors are looking at inflation. In December the spread of 10yr yields over 10yr TIPS bottomed just above 0%. The spread has since rallied to almost 2% as investors weigh the risks of quantitative easing. There was also surely an element of hedging the potential for inflation while prices were so low in November and December. Since then prices have recovered to the 5yr average and are currently pressuring the lower side of the 5-month range.

“In the meantime, yields continue to rally from deeply oversold territory and are likely overdue a consolidation of recent gains. A sustained move below 3% would suggest a lengthier reaction. However, given the technical action, bond prices are likely to be shorts on significant rallies for the foreseeable future.

“While the government bond bubble may be in the process of bursting, corporate bond spreads are contracting rather swiftly. BBB Industrial spreads peaked in November near 440 basis points and have since fallen to 340. A sustained move back above 400 basis points would be needed to question potential for further contraction.”

Source: Eoin Treacy (Fullermoney), May 28, 2009.

MarketWatch: Market ends the month with more gains
“May marks the third straight month of gains for the stock market. But will June bring more reasons for optimism? Sam Stovall, chief investment strategist for Standard & Poor’s Equity Research, talks to Kelsey Hubbard about what the future might bring.”

Source: MarketWatch, May 29, 2009.

Bloomberg: Barton Biggs says rally may push S&P 500 to 1,050
“Barton Biggs, the former chief global strategist for Morgan Stanley who runs the New York-based hedge fund Traxis Partners LP, talks with Bloomberg’s Matt Miller about the outlook for stocks. The steepest rally since the 1930s for the Standard & Poor’s 500 Index may push the benchmark to 1,050 and emerging markets will continue to rise, Biggs said.”


Source: Bloomberg, May 29, 2009.

Bespoke: Sector performance during pullback
“The S&P 500 is down 3.89% since rallying 37% from March 9 through May 8. Below is a scatter chart showing sector performance during the 3/9-5/8 rally and during the current pullback. As shown, as performance during the rally gets better, it gets worse during the current pullback. So the sectors that rallied the most have generally pulled back the most.

“Financials are down the most of any sector since May 8 at -11.2%, but they were also up a whopping 110% during the rally. The Industrial sector has been the second worst since May 8 with a decline of 7.5%. Technology and Consumer Staples are the only two sectors that are up since May 8, so they’ve shown the best relative strength recently.”


Source: Bespoke, May 28, 2009.

Financial Times: Small caps outperform in second half of recession
“For US equity investors, it has long paid to think small and cheap. Seemingly minor differences in returns for opaque and dowdy companies compound impressively over the years. In the 80 years ended in 2008, investing in a basket of US small cap value stocks compiled by Al Frank Investments would have turned $1 into $46,603 with dividends reinvested against $1,097 for large growth stocks.

“The final stages of a boom, though, are an inauspicious time to own small companies. As the economy slows, they are often the first to feel the pinch: small businesses tend to be biased towards cyclical industries and mostly do not have the luxury of international diversification. Also, as bull markets near their apex, inflows from naïve retail investors may be concentrated in the largest, most liquid shares. True to form, small caps began to underperform the broader US market just as the housing bubble peaked. From April 2006 to the end of 2008, they shed 32% of their value compared with just 24% for large stocks.

“Conversely, much of small stocks’ historical edge comes from outperforming early in any recovery. Pinpointing the end of today’s downturn, which has now lasted twice as long as average, is hardly necessary. And do not bother looking to official arbiters of these things – the last eight downturns were only declared to be over, on average, 15 months afterwards. The recent outperformance of small stocks may thus be a leading indicator of a recovery next year.

“Had an investor in previous recessions known ahead of time the day the recession would end and bought small stocks immediately, it would have been too late, according to research by Russell Investments. The best time to maximise returns would be six to nine months before. Separately, analysts at Merrill Lynch showed that small caps underperformed by four percentage points in the first half of a recession but outperformed by nine points in the second half. Ignore small caps only if you think the halfway point of this crisis is still not even in sight.”

Source: Financial Times, May 25, 2009.

Barron’s: Profits squeezed at the margin
“That things are getting worse more slowly is the essence of the bullish argument for the US economy and, by extension, corporate profits. After the nosedive of the past two quarters, the rate of decline will flatten out and give way to an eventual ascent by later this year.

“But that takeoff could be slower and later than assumed …

“Smithers & Co. of London pointed out that the cyclical improvement in profitability would accrue less to equity holders than previous phases given the need to use those funds to bolster balance sheets.

“Deleveraging means paying down debt instead of paying out dividends or buying in stock. Indeed, as the pick-up in equity financing indicates, it means issuing new shares. ‘The growth rate in of earnings per share thus is likely to be worse than that indicated by profit margins alone,’ Smithers’ report concludes.

“Those margins, far from being depressed, remain near historical highs, a point which both Smithers and Albert Edwards, Societe Generale’s strategist, emphasize.

“Moreover, Edwards observes that the work of his colleague, quantitative analyst Andrew Lapthome, shows that bottom-up company analysts forecast an unprecedentedly mild contraction in profit margins in the midst of the worst recession since the Great Depression.

“‘This just doesn’t make sense to us,’ Edward writes in his Global Strategy Weekly. ‘Analysts are ‘anchoring’ on recent unprecedented high in margins as the new norm, instead of viewing them as bubble nonsense never to be seen again.’

“In the first-quarter reporting season now winding down, results exceeded expectations despite punk top-line growth. ‘Clearly companies have been cutting costs aggressively. This helps explain why we have seen massive job cuts in recent months,’ he adds. And with households’ deleveraging and purchasing power eroding, corporate revenue growth will be hit further.

“Those who didn’t get on board the rally that’s taken the US stock market up by a third from its early March lows face ‘career risk’ if, like most, they lost a boatload of money last year. That suggests they’ll try to ride winners to the extent they can. After mid-year, we’ll see if they can keep flogging them successfully.”

Source: Randall Forsyth, Barron’s, May 28, 2009.

Bespoke: International revenues and recent stock performance
“When the US dollar experienced its big decline in the years leading up to the 2008 rally, stocks with high amounts of international revenues outperformed as businesses in other countries bought more goods from US companies. As the dollar made its comeback last year and earlier this year, stocks that generated most of their revenues domestically outperformed. But now that the dollar has pulled back again, the international revenue trade has made a comeback.

“We broke up the S&P 500 into deciles (50 stocks in 10 groups) based on a stock’s percentage of international revenues and calculated the average performance of stocks in each decile since the May 8 market top. Over this same time period, the US dollar has declined quite a bit as well. As shown below, the 50 stocks with the highest percentage of international revenues are down just 1.3%, while the 50 stocks with the lowest percentage of international revenues are down 7.9%.

“Depending on which way you think the dollar will go from here, you can play stocks with high amounts of international revenues or low amounts.”


Source: Bespoke, May 28, 2009.

Bespoke: BRIC countries continue to surge
“Russia’s RTS stock index was up another 3.2% today [Friday], while China was up 1.71% and India was up 2.3%. The BRIC (Brazil, Russia, India, China) countries continue to surge higher in 2009, as they’ve far outpaced stock markets of so-called ‘developed’ countries. Below we highlight their year to date performance compared to the S&P 500. As shown, Russia is up a whopping 72.1% this year, followed by India at 51.6%, China at 44.6%, and Brazil at 39.7%. The S&P 500 is up 0.22%.”


Source: Bespoke, May 29, 2009.

InvestmentNews: “Shake hands” with government, the Pimco guru advises
“The credit crises and recent market collapse have resulted in ‘long-term changes that will establish a ‘new normal’,’ Bill Gross said yesterday.

“The managing director and co-chief investment officer of Pacific Investment Management Co. made his comments during a keynote address at the Morningstar Investment Management Conference in Chicago, which was sponsored by Morningstar Inc. of Chicago.

“That means economic growth of between 1% to 2% over the next several years, relatively high unemployment in the range of 7% to 8% and accelerating inflation, Mr. Gross said.

“That will crimp asset-manager profits because they will have to contend with a low-return environment, he said.

“Among other things, Mr. Gross recommended that investors look overseas, particularly in Brazil, India and China. ‘The growth will be in economies where consumers are a small portion of the economy,’ he said.

“Domestically, Mr. Gross suggested investors ‘shake hands’ with government. Investors should look for what government is going to buy, and buy it first, he said.”

Source: David Hoffman, InvestmentNews, May 29, 2009.

CNBC: Mobius – emerging markets due for correction
“The emerging markets are due for a correction, though it will be short-lived, says, Mark Mobius, executive chairman at Templeton Asset Management. He shares his outlook, with CNBC’s Amanda Drury.”

Source: CNBC, May 29, 2009.

The Wall Street Journal: If you think worst is over, take Benjamin Graham’s advice
“It is sometimes said that to be an intelligent investor, you must be unemotional. That isn’t true; instead, you should be inversely emotional.

“Even after recent turbulence, the Dow Jones Industrial Average is up roughly 30% since its low in March. It is natural for you to feel happy or relieved about that. But Benjamin Graham believed, instead, that you should train yourself to feel worried about such events.

“At this moment, consulting Mr. Graham’s wisdom is especially fitting. Sixty years ago, on May 25, 1949, the founder of financial analysis published his book, ‘The Intelligent Investor’, in whose honor this column is named. And today the market seems to be in just the kind of mood that would have worried Mr. Graham: a jittery optimism, an insecure and almost desperate need to believe that the worst is over.

“You can’t turn off your feelings, of course. But you can, and should, turn them inside out.

“Stocks have suddenly become more expensive to accumulate. Since March, according to data from Robert Shiller of Yale, the price/earnings ratio of the S&P 500 index has jumped from 13.1 to 15.5. That’s the sharpest, fastest rise in almost a quarter-century. (As Graham suggested, Prof. Shiller uses a 10-year average P/E ratio, adjusted for inflation.)

“Over the course of 10 weeks, stocks have moved from the edge of the bargain bin to the full-price rack. So, unless you are retired and living off your investments, you shouldn’t be celebrating, you should be worrying.

“Mr. Graham worked diligently to resist being swept up in the mood swings of ‘Mr. Market’ – his metaphor for the collective mind of investors, euphoric when stocks go up and miserable when they go down.

“In an autobiographical sketch, Mr. Graham wrote that he ’embraced stoicism as a gospel sent to him from heaven’. Among the main components of his ‘internal equipment’, he also said, were a ‘certain aloofness’ and ‘unruffled serenity’.

“Mr. Graham’s immersion in literature, mathematics and philosophy, he once remarked, helped him view the markets ‘from the standpoint of eternity, rather than day-to-day’.

“Perhaps as a result, he almost invariably read the enthusiasm of others as a yellow caution light, and he took their misery as a sign of hope.

“His knack for inverting emotions helped him see when markets had run to extremes. In late 1945, as the market was rising 36%, he warned investors to cut back on stocks; the next year, the market fell 8%. As stocks took off in 1958-59, Mr. Graham was again pessimistic; years of jagged returns followed. In late 1971, he counseled caution, just before the worst bear market in decades hit.”

Source: Jason Zweig, The Wall Street Journal, May 26, 2009.

BCA Research: US – devalue or deflate
“While the US dollar is becoming oversold and a short-term retracement is possible, we believe that the cyclical decline has further to run.

“In the aftermath of the burst credit/asset bubble, US policymakers face a choice: devalue or deflate. Indeed, governments around the world are facing similar conditions and are also attempting to reflate their economies. However, US reflationary policies are the most aggressive, which places the dollar at longer-term risk. The US fiscal deficit will top 14% of GDP this year and the Fed has already announced debt purchases which amount to 12.5% of GDP.

“Moreover, the FOMC minutes warned that the Fed is willing to increase its debt monetization operations. There are two ways that these policies are dollar negative. First, currency debasement/higher inflation means a lower nominal exchange rate in order to keep the real exchange rate stable. Second, the Fed’s efforts to suppress bond yields will impact cross-border capital flows. As the US current account deficit is now entirely the result of the budget deficit, foreign purchases of Treasurys is the most important flow for the dollar.

“Bottom line: The continuation of current US policies could eventually raise investor concerns of a dollar debasement. While some short-term technical indicators are warning that the US dollar is becoming oversold, our Foreign Exchange Strategy service recommends investors hold core short dollar positions.”


Source: BCA Research, May 28, 2009.

Financial Times: Bets against dollar highest since start of economic crisis
“Speculative bets against the dollar have risen to their highest level since the onset of the financial crisis.

“Positioning data from the Chicago Mercantile Exchange, often used as a proxy for hedge fund activity, showed that in the week ending May 19, bets against the dollar – short positions – versus the euro exceeded bets on dollar strength by 12,250 contracts.

“This net short position was the highest level since the week of July 15, when the dollar hit a record low of $1.6038 against the euro.

“Meanwhile, the net short position on the dollar versus the yen rose to 6,000 contracts, the highest since March.

“Analysts said the fact that net long positions in the Australian dollar also hit their highest level since July reflected the extent of deepening anti-US dollar sentiment among the speculative community.

“Ashraf Laidi at CMC Markets said considering that long positions in the euro and yen against the dollar were still about 11 times lower than their record highs, speculators had plenty of upside against the dollar in terms of quantity as well as price.”

Source: Peter Garnham, Financial Times, May 26, 2009.

Ambrose Evans-Pritchard (Telegraph): China warns Federal Reserve over “printing money”
“Richard Fisher, president of the Dallas Federal Reserve Bank, said: ‘Senior officials of the Chinese government grilled me about whether or not we are going to monetise the actions of our legislature.’

“‘I must have been asked about that a hundred times in China. I was asked at every single meeting about our purchases of Treasuries. That seemed to be the principal preoccupation of those that were invested with their surpluses mostly in the United States,’ he told the Wall Street Journal.

“His recent trip to the Far East appears to have been a stark reminder that Asia’s ‘Confucian’ culture of right action does not look kindly on the insouciant policy of printing money by Anglo-Saxons.

“Mr Fisher, the Fed’s leading hawk, was a fierce opponent of the original decision to buy Treasury debt, fearing that it would lead to a blurring of the line between fiscal and monetary policy – and could all too easily degenerate into Argentine-style financing of uncontrolled spending.

“However, he agreed that the Fed was forced to take emergency action after the financial system ‘literally fell apart’.

“The Oxford-educated Mr Fisher, an outspoken free-marketer and believer in the Schumpeterian process of ‘creative destruction’, has been running a fervent campaign to alert Americans to the ‘very big hole’ in unfunded pension and health-care liabilities built up by a careless political class over the years.

“‘We at the Dallas Fed believe the total is over $99 trillion,’ he said in February.”

Source: Ambrose Evans-Pritchard, Telegraph, May 26, 2009.

Bloomberg: Baltic Dry Index gains 5.9% to cap record monthly gain
“The Baltic Dry Index, a measure of shipping costs for commodities, climbed every day in May to post its biggest monthly advance on record.

“The index tracking transport costs on international trade routes added 196 points, or 5.9%, to 3,494 points, according to the London-based Baltic Exchange today. The gauge climbed 96% in the month.

“‘It’s amazing; the atmosphere is much more positive than it was a few months back,” said Herman Billung, chief executive officer of Golden Ocean Management A/S, which operates Norwegian billionaire John Fredriksen’s fleet of commodity carriers.

“‘It’s extremely dangerous to underestimate Chinese demand, which we’ve all had a tendency to do for a few years now.’
“As well as three straight months of record iron ore imports, Chinese shippers are stepping up purchases of coal and other commodities, Billung said by phone from Oslo today. Ships’ asset values are climbing because of the rising market, he said.”

Source: Alaric Nightingale, Bloomberg, May 29, 2009.

Financial Times: Opec bets on recovery to boost price
“The Organisation of the Petroleum Exporting Countries delivered on Thursday its most optimistic message about the global economy and the oil market since the start of the financial crisis last summer triggered a precipitous fall in prices from a record $150 a barrel to $30.

“‘We are beginning to see light at the end of the tunnel,’ Abdalla El-Badri, Opec secretary-general, said after the cartel agreed to leave its production level unchanged, betting that the global recovery would push oil prices to $75-$80 a barrel.

“‘We are seeing [oil demand in] the US picking up,’ Mr El-Badri added. ‘But, above all, which is the most important, we are seeing demand in China and India and Asia as a whole.’

“Because oil demand was closely correlated with economic activity, Opec’s cheerful view was a signal the global economy was slowly strengthening, analysts said.

“Ali Naimi, Saudi minister and one of the world’s most senior energy policymakers, added to the upbeat sentiment, saying: ‘The price is good, the market is in good shape and the recovery is under way, so what else could we want?’

“David Kirsch, an oil market analyst at PFC Energy, said in Vienna that Opec was leaving behind its worries about the global economy, last expressed at its March meeting. ‘Opec is witnessing early signs of economic recovery and financial flows into commodities,’ Mr Kirsch said.

“Opec delegates said that Saudi Arabia appeared confident that the flow of money into commodities – as investors worried about a pick-up in inflation or a further weakening of the US dollar – would help the cartel to support oil prices. Speculative flows, long an Opec foe, could turn into an ally, analysts said.”

Source: Javier Blas, Financial Times, May 28, 2009.

Riccardo Barbieri (Banc of America Securities-Merrill Lynch): Higher oil won’t derail recovery
“The recent rise in the oil price should not pose a threat to the global recovery – for now, believes Riccardo Barbieri, head of international economics at Banc of America Securities-Merrill Lynch.

“‘As long as prices rise only moderately from here, say revisiting the $80 a barrel level by year-end, this would not pose severe risks for the advanced economies, while the emerging ones would be able to tolerate even higher levels, say $100, in due course.’

“He says the key issue is whether oil’s increase is part of the ‘reflation trade’ seen in the equity and credit markets, or whether it reflects a significant rise in oil demand. ‘It seems that the oil market has mostly responded to improving expectations concerning the timing of the recovery more than to an actual pickup in demand,’ he says. ‘The oil futures curve has flattened significantly in recent weeks, with late-2009 and 2010 contracts rising a lot less than the front ones.’

“Mr Barbieri references work by the bank’s head of commodity research, Francisco Blanch, suggesting global inventories remain high and Opec is sitting on ample spare capacity. According to Mr Blanch, given the precarious state of the global economy, Saudi Arabia would boost production if prices moved up too quickly.

“‘In terms of price, our house view is that the line in the sand for Opec could be at $80. While this level may well be exceeded, it would not be sustainable without a strong pickup in demand if Opec boosted its output.'”

Source: Riccardo Barbieri, Banc of America Securities-Merrill Lynch (via Financial Times), May 26, 2009.

Richard Russell (Dow Theory Letters): The three phases of a gold bull market
“Every major primary bull market takes place in three sentiment phases. The first phase of the gold bull market occurred around 1999 to 2005. This was the ‘dirt cheap’ phase of gold when only the true believers assumed positions. Old timers probably remember back in 2000 when I wrote that the listed gold shares were so ridiculously cheap that they could be bought and ‘put away’ as perpetual warrants.

“The second phase of the gold bull market started around 2005 and is still in force. This is the phase where the seasoned professionals and a few more sophisticated funds take their positions. It is in the second phase where we see the most painful secondary corrections. And it is in the second phase where the public first notices the persistent rise in gold. In the current area, gold is just starting to attract the attention of the public.

“Every major primary bull market that I have studied or lived through ends up with a wildly speculative third phase. This is the phase where the public and the crowd rushes head-long into the market. We saw this last in the years around 2000 when people bought any kind of tech stock. ‘I don’t care what it is, if it’s tech, just get me in!’

“My belief is that we’re now nearing the beginning of the third speculative phase of the great gold bull market. The huge secondary reaction that has held gold in its grip since early 2008 is coming to an end. Interestingly, this reaction has taken the form of a large head-and-shoulders bottoming pattern. Most recently, gold has been climbing (almost unnoticed) up the formation’s right shoulder. If June gold can close above 1003, I believe that will signal the beginning of gold’s third speculative phase.”

Source: Richard Russell, Dow Theory Letters, May 26, 2009.

Ambrose Evans-Pritchard (Telegraph): Gold bugs at last have their perfect trinity
“The world’s top hedge fund manager John Paulson has built a gold position of at least $5.5 billion, the biggest such move since George Soros and Sir James Goldsmith bet on Newmont Mining in 1993.

“Britain has become the first of the Anglo-Saxon ‘AAA’ club to face a downgrade. As feared, the cancer of bank leverage is spreading to sovereign cores.

“Gold prices tend to slide in late May and languish through the summer, because of the seasonal ups and downs of jewellery demand. The trader reflex would be to short gold at this stage after its $90 vault to $959 an ounce over the past month. They may think again this year.

“Paulson & Co has bought $2.9 billion in SPDR Gold Trust, the biggest of the gold exchange traded funds (ETFs), which now holds 1106 tonnes – three times the Brown-gutted reserves of the United Kingdom.

“Mr Paulson has also built up a $2.3 billion holding of Anglo Ashanti, Goldfields, Kinross Gold, and Market Vectors Gold Miners. The fact that he is launching a ‘Paulson Real Estate Recovery Fund’, reversing the bet against sub-prime securities that made him rich, tells us all we need to know about his thinking. This is a liquidity-reflation play.

“You can argue – as do UBS, Merrill Lynch, ING, and Capital Economics, to name a few – that massive global stimulus is merely struggling to off-set a massive deflationary shock.

“So how will gold fare in a ‘Japanese’ stalemate world where neither inflation nor deflation gets the upper hand? The eight-year rally that has lifted gold from $254 to $959 may lose momentum for a while.

“‘The air is getting thin up here,’ said John Reade, precious metals guru at UBS. ‘Rich investors are no longer rushing out to buying gold bars as they did after the Lehman collapse. Still, we think it is highly significant that both China and Russia – two of the biggest holders of foreign reserves – are both buying gold,’ he said.

Personally, I remain a gold bug out of fear that the most corrosive phase of this crisis lies ahead. … gold has outperformed Wall Street’s S&P 500 index by 500% so far this century, as if able sniff out trouble in advance. Such runs tend to finish with a ‘parabolic’ blow-off before they die. Mr Paulson may yet make another fortune, whatever his reason.”

Source: Ambrose Evans-Pritchard, Telegraph, May 23, 2009.

Credit Suisse: Gold – how far can the rally go?
“Gold prices rallied over the past months, driven by investors, central banks or other hedgers looking for a safe haven. There is however still significant upside potential in the medium term, even if this safe haven effect has abated. Credit Suisse’s commodity analyst Eliane Tanner explains why.

“Strong monetary demand coupled with a muted supply outlook should keep gold prices well supported over the next few months. However, the decline in jewelry demand should limit the medium-term upside potential, since it is likely to diminish quickly when prices increase too high or too fast. But in turn, jewelry demand is set to provide a floor to prices when investment demand abates, as the lower prices should see non-monetary demand recovering. Credit Suisse therefore forecasts gold prices between 1,100 and 1,200 dollars per ounce by the end of the second quarter of 2010.”

Click here for the full article.

Source: Credit Suisse, May 25, 2009.

Ifo: Ifo Business Climate Index for Germany looking up
“The Ifo Business Climate Index for industry and trade in Germany rose once again in May. Although the firms have again assessed their current business situation more unfavourably than in the previous month, they have given clearly fewer poor assessments of their six-month business outlook. This points to a gradual stabilisation of economic output at a low level.”


Source: Ifo, May 25, 2009.

Nationwide:UK house prices rise for second time in three months
“Commenting on the figures Martin Gahbauer, Nationwide’s Chief Economist, said:

“‘The price of a typical house rose by 1.2% in May, providing further evidence of some improvement in housing market conditions over the last few months. At £154,016, the average house price is still 11.3% lower than a year ago, although this marks a significant improvement from the annual decline of 15.0% recorded in April. The 3 month on 3 month rate of change – a smoother indicator of short-term price trends – rose from -3.0% in April to -0.5% in May and now stands at its highest level since January 2008.

“‘Although the short-term trend in house prices has clearly improved from where it was at the beginning of the year, it is still too early to say that the market is turning definitively. During the downturn of the early 1990s, there were many months during which prices rose, only to fall back down again in subsequent periods.

“‘In the current downturn, the combination of rapidly rising unemployment and tight access to credit implies that the last of the price declines has probably not been seen yet. Nonetheless, the improvement in house price trends is consistent with signs of stabilisation in several other economic indicators and suggests that any further price declines may occur at a less rapid pace than in 2008.”


Source: Nationwide, May 29, 2009.

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