This Week in Barrons - 1-26-2014

This Week in Barrons – 1-26-2014

The Day After Tomorrow… starring Dennis Quaid & Ms. Janet Yellen

As I look outside my window in Pittsburgh, PA. – the scene looks and feels like it came right out of the movie: “Day After Tomorrow” starring Dennis Quaid.  But I digress.  Currently, the DOW is sitting at 15,879.  I remember just 3 weeks ago (approaching the end of 2013) the DOW was 16,576.  For the past 3 weeks we have peeled off about 250 DOW points per week, all leading up to Friday’s loss of 318 points in a single session.  All of the regular questions surface: Why the soggy performance?  Why the big down days?  Why no earnings run?  I suggest that there are several ‘excuses’ (but only one answer) that I will toss on the table:

1)    The news out of China is not good.  We’re finding that the visible side of their economy is just as horribly corrupt as other developing nations.  Their bad loan portfolios are loaded with junk.  For many years we have sent China our dollars in exchange for ‘every day low prices’ on goods that Americans did not need and could not afford.  It was a twisted form of vendor financing for the entire U.S.  This exchange has become so much a part of our fabric, that any malfunction there causes a stir.

2)    The Emerging Markets are just that – emerging.  The emerging markets are so completely dependent upon the U.S. ‘printing money’ that as our economy hiccups – theirs takes a punch to the stomach.  You need to look no further than the currencies of Argentina and Puerto Rico (a U.S. territory) – as they are both facing Greek-type defaults.

3)    The ‘Dry Shippers’ have all but ‘dried up’.  The movement of goods around the globe via ship is called ‘dry shipping’.  The dry shipping pricing rates have fallen 71% year over year, and the index (which measures the volume of material being shipped) is also down 43% year to date.  Logic dictates that if our economy was running on all cylinders, then the demand for shipping goods would be high, and prices would be increasing.  Factually: more capacity did come on line, but not enough to see an almost 50% drop in prices year to date.

4)    Housing continues to take a hit.  A shout out to S. Forbes for bringing to our attention plummeting pending home sales in California.  In December 2013, pending home sales in California fell 25.2% versus November.  The second consecutive monthly fall is being attributed to (a) a shortage of homes for sale, (b) rising interest rates, and (c) higher home prices.  There's no question that affordable housing was a driving force in the U.S. economy from 1950 right through 2006.  But despite low interest rates and a build up of the amount of people that would like to have a home, we simply don't have the jobs, or the income to support a thriving housing market.  The Blackstone purchase of 30,000 houses for rental purposes is NOT indicative of a strong housing market.  Strong housing happens when people have jobs, are comfortable in their situations, and are willing to sign on the dotted line.  With 92 million Americans out of the work force, this simply cannot happen.

5)    Let’s not forget gold.  Gold futures surged to $1,262.30 this week while the Dollar Index plunged to its largest daily percentage decline since mid-October.  If India does relax it’s draconian import curb on gold, as recommended by Congress party leader Sonia Gandhi, the pent-up demand for gold would help gold prices this year.  But be careful here as it could only be a matter of time until JP Morgan beats it down again via naked shorting.

6)    The jobs situation is now at the mercy of Obamacare.  It’s becoming very clear that our Wall Street cheerleaders and politicians do not understand basic math.  Assuming the published inflation numbers are correct (and they’re not) – they fail to take into account the compounding effect associated with 2+% inflation for the past 40 years.  To demonstrate this effect you simply need to walk down the aisles of a grocery store to find that prices are ‘out of sight’ for the things that we need.  Doing some basic arithmetic, according to the Bureau of Labor Statistics, of the 109 Million full-time wage or salary workers:

a.    $40,872 / year is the average, annual, gross paycheck.  Remove the bare minimum of 25% in taxes (federal, state, local, FICA, Medicare, etc.) =

b.    $30,000 / year          By converting this to a monthly amount =

c.     $2,500 / month.        By subtracting the average rent and automobile =

d.    $700 / month to pay for: food, insurance, utilities, cable, cell phone, clothes, repairs, entertainment etc.  Therefore, the average person really needs to ‘live with someone’ in order to make ends meet. 

The low level of job creation combined with the accumulated ‘compounding’ of inflation has culminated in an atmosphere where we have priced ourselves out of the luxury of having a middle class.

I think all these elements added together are more than enough to toss the ‘Fear of God’ into the markets.  But the truth is, we've had these issues for years and the market blindly moved higher and higher.  So, if we're really going to get a big correction, I think that the real reason is The Fed (FOMC) meeting that begins: ‘The Day After Tomorrow’.    The ONLY reason this market has marched relentlessly higher year after year was QE1, QE2, the Twist, and QE3.  But now that the Fed is truly going to taper, the market is questioning whether the economy is strong enough.

The first taper (last month) – was really a ‘slight of hand’.  Most people realize that as they were tapering, the Fed was also ‘pushing back’ some maturing debt so that the net amount was a virtual ‘wash’.  But if they do another taper – taking us down to $75B per month – there is nothing else to inject from the other side.  Now $75B is still a lot of money, but this market was based upon $85B flowing into the system.  When that amount is reduced by 12% ($85B to $75B), the corresponding stock action will be reduced accordingly.  So it is my suggestion that the 318-point drop on Friday is much more over the worry of what happens ‘The Day After Tomorrow’ (a Fed tapering) than any news from China, or emerging markets.

Which begs the question: Will the Fed cut another $10B next week?  I think they will.  If only because they told everyone that the program of cutting would continue. The Fed has sent its henchmen out over the past weeks to talk at symposiums and preach the glory of cutting back the stimulus.  But, I tend to think that this taper comes with a laundry list of commentary about how it isn't written in stone that any additional tapers will be forthcoming.  They may continue to say that if the data continues to weaken, they can stop or even reverse the taper.  If the Fed’s commentary mentions a ‘slowing’, a ‘stoppage’ or a ‘reversing’ of the tapering program, the market will breathe a big sigh of relief and go back to pushing overpriced stocks higher.  But if they taper and hold the line on their rhetoric about further cuts, I can finally see us facing our first 7 to 10% correction.

The Market:

How important is the Fed in the grand scheme of things? You can say what you'd like, but as I look around:

-       HSBC (a major British Bank) won't let people withdraw their money unless they have a signed paper from the person the money is going to.  If you just want to take your money out, the answer is ‘NO’.  This is ‘Cyprus-Lite’, happening in a major British bank.

-       Gold has begun to move higher as physical demand has gone parabolic (in the shape of a hockey stick).  On Thursday, JP Morgan's vaults saw the second biggest draw down in history.

-       The Chinese ‘shadow banking system’ is a bigger Ponzi scheme than ours, and major cracks are showing.

-       Japan is printing money like crazy, but the people are seeing none of the benefits.

-       So what else is there if not The Fed?

I've said for years; if the Fed continues to print, we will collapse on ourselves.  If the Fed removes the stimulus, we will collapse on ourselves.  So, it is simply a matter of which medicine we take.  I think we will be given the ‘Fed printing’ medicine.  That means, that while I do think they will taper on Wednesday, that very well could be the last taper – and in fact the next move could be some new program designed to ‘jam money’ back into the system.

Friday we were down 318 points on the DOW.  It was almost a mini panic.  Currency markets were going crazy, and it was the first real whiff of fear I've seen in many months.  And, the market makers have every right to be afraid.  I took profits on all of my short-term positions within the first half-hour of trading.  While this market was set up for a pullback many times during the past year, each time it was met with a ‘buy the dip’ reaction.  On Friday, there was no sign of that.  In fact Friday's action said: ‘GTFO’ – Get The ‘Heck’ Out.

Technically, we have broken through many support levels.  On the DOW our next ‘light’ support level is around 15,757, and that’s another hundred points down from here.  The S&P has some loose support around 1,775, but it wouldn’t take much to lose both of those levels of support.  While the market makers could pull a rabbit out of the hat, the picture right now is bleak.  The S&P is off about 3% from its highs, and the DOW is off about 4%.  This is as deep as they've allowed any correction for a year.  Maybe ‘the powers that be’ can halt the bleeding here, but frankly it doesn’t look like it.  Which brings me right back to the Fed.  If Monday is ugly and there's market follow through to the down side, if there's more currency disasters in emerging markets, then what The Fed SAYS on Wednesday will be absolutely vital.  If The Fed talks strongly about monitoring the data and halting the taper, then the market will firm up.  If The Fed does not, then we could finally see our first big drop.  Please be very careful here.

Tips:

I almost forgot, a story that broke out of L.A. this week talks of $6.6B (in cash) that has come up missing.  It seems that the man Congress put in charge of auditing the billions of dollars dumped on Iraq after Saddam Hussein was toppled – has told the Los Angeles Times that he can't rule out the possibility that the missing $6.6 billion (in cash) (sent from the U.S. to Iran) was stolen.  This is somewhat humorous, as it would take approximately 12 separate C-130 flights to carry this much cash.  But with a ‘straight face’ the special inspector general for Iraq reconstruction Stuart Bowen told the Times the missing money may represent "the largest theft of funds in national history."  This money came from a special fund set up by the Federal Reserve Bank of New York with Iraq's own money – funds which were withheld from the nation during a decade of harsh economic sanctions under Saddam.  Now, the real ‘kicker’ is that Iraq would like it’s money back, and has threatened to take the U.S. government to court to reclaim it.  The last known holder of the funds, before they mysteriously disappeared was the U.S. government.  "Congress is not looking forward to having to spend billions of our money to make up for billions of their money that we can't account for, and can't seem to find," said Rep. Henry A. Waxman (D-Calif.) told the Times.

The good news:       This week I sold all of my UNG (natural gas) holdings for a huge profit.

The bad news:         I sold it too soon, as it continues to go up. 

The other news:       I was stopped out flat on virtually everything else: MDLZ, MOS, PFE, and EMC.  The currency situation with Japan is troublesome – and my nearly flat FXY position reflects that.

I’m not comfortable blindly buying the stock indexes at these levels.  But (at the same time) I’m scared of shorting this market.

-       One of the asset classes that I like right here is Gold (GLD) and Silver (SLV).  With Gold (GLD) moving over $1,260 / ounce – it should get to 1,300 fairly quickly.

-       Another group that I like (but want to see rebound) are the Bio-Techs, and names like: GILD, INCY, CELG, REGN, and BIIB are definitely on my radar – despite the recent turmoil.

My current short-term holds are:

-       USO – April 2014 $37 Calls – in USO at $34.51 (currently $34.58)

-       FXY – March 2014 $97 Puts – in FXY at $96.47 (currently $95.47)

-       SIL – in at 24.51 (currently 12.38) – no stop,

-       GLD (ETF for Gold) – in at 158.28, (currently 122.29) – no stop ($1,264.50 per physical ounce), AND

-       SLV (ETF for Silver) – in at 28.3 (currently 19.16) – no stop ($19.90 per physical ounce).

To follow me on Twitter and get my daily thoughts and trades – my handle is: taylorpamm. 

Please be safe out there!

I'd like to recommend a website - http://www.simpleroptions.com    It's an excellent resource and 'honestly' - I've been following them for over 6 months and they're more right than they are wrong with their predictions, and that's a rarity in this climate.  Please check them out on my recommendation.

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