Gaming Q2 Performance

Between now and the end of June, traders, wise guys and PMs will try to manipulate stocks higher
to game Q2 performance – especially with May being the worst month for stocks in decades.

This week is option and futures expiration. Normally there is a triple-digit DJIA rally for expiration
week; and Bernanke pours liquidity into the system for expiration week.

If stocks would have declined last week, this week would have been a layup for a rally – as long as no
new negative news surfaced. Ergo, the expiration rally this week might be more tepid than usual.

Another bullish factor for some stocks is the June 25 Russell rebalancing. So, barring ugly news or
developments, the bias for the next few weeks should be to the upside for stocks.

Bonds and the dollar should retrench. If these market movements appear, it is important to remember that
it is nothing more than trading games. It is not the start of some new cycle or a change in fundamentals.

In fact, economic fundamentals continue to deteriorate. Retail sales, auto sales, housing sales, rail traffic
and mortgage applications are receding.

Economic models that have forecast both economic contraction and expansion, like ECRI and Consumer
Metrics Institute, are showing significant declines.

Retail sales unexpectedly declined 1.2% in May. The decline confirms the horrible May Employment
Report and the decline in US Treasury tax data for May.

The May retail sales decline also boosted fears of a double-dip recession.

The consensus forecast on Wall Street and in DC is the US is undergoing a ‘V’ shaped economic
recovery. However, there is no evidence of a ‘V’ bounce in jobs, income or tax receipts.

The main ‘V’ shaped bounce has been in the stock market. And just because the stock market has a ‘V’-
shaped recovery does not mean the economy will have a ‘V’-shaped recovery.

The previous two recessions have had bowl-shaped recoveries while the stock market had a ‘V’-
shaped bounce due to the enormous amount of funny money that was created.

Unfortunately, all that easy credit could not get into the real economy meaningfully due to severe
structural flaws. Instead the record easy credit flowed into the ‘new economy’, financial speculation.

$34 billion Southeastern Asset Management’s “Comment & Analysis on Equity Market Structure”:

• The US equity markets are meant to facilitate investors’ allocation of capital to businesses, thus
expanding production and improving the quality of life in America.

 The markets have strayed from this social purpose, and presently resemble casinos more than
orderly markets. As a result, the economy is hindered, fewer jobs are created, and reasonable
returns for true investors (not traders) are compromised…
 Whereas trading was once a means with which to match long-term buyers and sellers of
businesses, trading has now become an end in and of itself…
Dallas Fed President Richard Fisher, in a speech on June 3 to the SW Graduate School of Banking
excoriates current Fed and Treasury policies in regard to financial reform and bailouts.
Regulators have, for the most part, tiptoed around these larger institutions. Despite the damage they did,
failing big banks were allowed to lumber on, with government support. It should come as no surprise that
the industry is unfortunately evolving toward larger and larger bank size with financial resources
concentrated in fewer and fewer hands.

As a result of public policy, big banks have become indestructible. And as a result of public policy, the
industrial organization of banking is slanted toward bigness.

As a result, more conservative banks were denied the market share that would have been theirs if
mismanaged big banks had been allowed to go out of business. In essence, conservative banks faced
publicly backed competition.

The system has become slanted not only toward bigness but also high risk.

…sufficient or not, ending the existence of TBTF institutions is certainly a necessary part of any
regulatory reform effort that could succeed in creating a stable financial system. It is the most sound
response of all. The dangers posed by institutions deemed TBTF far exceed any purported benefits. Their
existence creates incentives that will eventually undermine financial stability. If we are to neutralize the
problem, we must force these institutions to reduce their size…

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