This
Week in Barrons – 3-23-2014
Cook Those Books!
On Monday, the Ukraine held their
referendum vote, and the majority voted to be a Russian Federation satellite. That prompted Obama to place some sanctions on
several Russian officials. The market then
proceeded to gain 200 points just because these were not really ‘sweeping’ or
serious sanctions. I then turned on CNBC
and found out that the market was up because we were probably looking at a 5% U.S.
GDP increase, and our economy was much stronger than the winter numbers had suggested. For years our economy has been mired in a
recession, and we’ve had to ‘cook the books’ in order to get anywhere close to
a 2% GDP increase. But I wondered: Why isn’t anyone talking about how we
actually could see 5% GDP growth? You
see, in mid to late 2013, the Bureau
of Economic Analysis (BEA) announced a change in how they will calculate Gross
Domestic Product (GDP) going forward. They
modified how money spent on research and development (R&D), and how money
spent on the production of ‘intangible assets’ like movies, music, and
television will be accounted for within the GDP calculation. The new methodology declares these
expenditures to be ‘investments’ and immediately allows them to increase GDP by
(in most economists estimates) approximately 3%. This ‘cooking of the books’ will lead to the perception
of faster growth.
In the
past, business spending on R&D (a portion of which comes in the form of
salaries) has traditionally been considered an expense that does not explicitly
add to GDP. However, that all changes
with the new methodology. Also the cost
of producing television shows, movies, and music will also count as investments
that add directly to GDP. Thirdly, under
the new system, government pension additions to GDP will be calculated not from
actual contributions (as in the past), but from what our government has
promised. For example: under the old
system, if a state had a $10,000 pension obligation but only contributed
$1,000, only the $1,000 would be added to GDP. Under the new system the entire $10,000 would
be counted. So now a government can ‘magically’
grow the economy simply by making promises they cannot keep. Talk about ‘cooking the books’ – best stir
the pot because the sauce is thickening.
Factually – this week:
-
Housing
sales and consumer sentiment declined 6%,
-
Mortgage
applications fell to 20-year lows, and ‘first time home buyers’ fell to 10-year
lows,
-
Auto
sales are declining as manufacturers are pushing cars to dealerships that they
don't want,
-
With
the resurgence of the automobile ‘sales at all cost’ philosophy – over 60% of
auto purchases involve ‘sub-prime loans’,
-
China started
to ‘crack down’ on credit due to a Chinese Real Estate developer that defaulted
on a $3.5B note,
-
Poland
transferred private pension $’s into their own general fund in order to reduce
their debt,
-
Italy’s
largest bank defaulted on half-a-billion tier one bonds,
-
Spain’s
unemployment rate hit 56%, and
-
Corporate
‘Insiders’ sold 69 TIMES more stock than they purchased. It’s the fastest ‘Insider’ sales rate in
history.
Let me review that last
statistic. Last week corporate ‘Insiders’
BOUGHT $37.8 Million worth of their own company’s stock, but SOLD $2.6 Billion
worth. They sold 69 TIMES more of their
own company’s stock than they bought.
This has been going on for months.
Corporations (with borrowed funds) are buying back their own company
stock, thereby pushing the stock price higher.
When the stock prices are this high, these same ‘Insiders’ are selling
their own holdings in the company. Now,
if the guys that are running the companies don’t want their own stock, why
should we?
Unfortunately,
you can only ‘cook the books’ for so long, until someone asks: “Is it soup
yet?” Honestly, I think we’re close to
it all boiling over.
The Market...
This week was Federal Reserve week. Ms. Yellen said:
-
The labor
force participation rate was larger than she expected. Really?
-
The
weather was responsible for the lousy economic reports. Honestly?
-
Asset
purchases (the Fed’s Quantitative Easing) would end by the Fall of 2014. Wow!
-
Interest
Rates will increase 6 months after asset purchases end. Double Wow!
This rattled the markets. The ONLY reason our markets are at these
levels is because the Fed is feeding our banks billions to buy assets and
stocks. But honestly, that's small
potatoes. The Fed has changed its M.O.
(modus operandi). Their M.O. has always been
to flood the system with money, not to worry about inflation, and do whatever it
takes to ‘save’ things. The Fed now
appears to be trying to ‘prop-up’ the U.S. dollar, while allowing the economy
to fade. Something major has changed in
the Fed’s agenda.
If the Fed is going to
remove their portion of the punch bowl, then the only ‘free money’ remaining is
in the Yen ‘carry-trade’. Without going
into the details of Yen ‘carry-trade’, simply watch the FXY (an ETF that tracks
the value of the Yen). If the FXY
increases, it means that the ‘carry trade’ amount is going down, thereby
reducing the only remaining supply of free money, and correspondingly reducing
the value of stocks in general and the S&P index in specific. Therefore,
if the FXY were to suddenly jump higher, it could create a ‘short covering
rally’, and cause a lot of the mutual funds and ETF’s that shorted the yen to
scramble and cover – causing the ‘carry trade’ to virtually end.
Previously, I was in the camp that thought that the Fed would
reverse its QE reduction program. I also
thought that they might launch a totally new program, designed to push billions
into the system. But something
feels different this time around. I'm getting NO hints at all that the Fed is
willing to slow the tapering, reverse it, or even replace it. I tend to think that many on Wall
Street still believe that this is all show by the Fed, and at the first
sign of real panic the Fed will rush back in and save us. But that flies in the face of the fact that the
Fed started this taper in the face of weakness.
Take Friday’s market behavior for example. On Friday things were going along swimmingly
with the DOW up 125 points until the Federal Reserve participants Mr. Fisher and
Mr. Bullard reinforced Ms. Yellen’s claims about tapering to zero by October
2014. They then tried to define a time
line when they would actually increase interest rates. Immediately the market’s thinking changed, and
the DOW plunged from being positive by 125 points to being negative by 30.
This is a very confusing time. Our #1 marketplace – housing – is not in good
shape. First time home buyers are
completely shut out, because their $1 TRILLION in student loan obligations are
preventing them from taking on a home mortgage.
Therefore, homes in the $90k to $250k price-range are NOT selling. The expensive properties are selling due to
the 5-year rising stock market and the corresponding wealth effect. But the ‘first time home buyer’ has always
been the driver of this sector, and without their participation any housing
rally is unsustainable. With this as a
backdrop, how can the Fed be telling us that interest rates will rise after October
2014? If people can't buy a home now,
how can they ever afford one if the interest rates increase? Something quite
odd is going on.
The market (after putting in a new intra-day high on the S&P
Friday morning) faded back and ended the day slightly red. Any time a market is trying to exceed an upper
resistance, it takes a lot of effort to move past. Usually it takes a few
attempts in order to succeed. Unfortunately, now the markets have to
question whether the Fed is really going to ‘have their backs’ and rush in with
more funds when things get extended. Thus far, the Fed is saying ‘No’ –
leaving only the Yen ‘carry-trade’ to take us to glory.
The market feels tired. For
example, on Thursday – the day the market recovered all of Wednesday’s losses –
more stocks declined than advanced. The
rally is becoming narrower, and you can see that it’s struggling. However, we've been in this exact position a
dozen times in the recent past and somehow the market just finds the will (and
the money) to push forward. You almost
expect it now, and that’s a very dangerous thought. I feel (going
forward) that we're going to see some sideways chop as the market tries to
muster the resources to break through the highs. I could easily see a week of up and down -
tighter range movement – with a bias toward the downside. I feel that there is more downside pressure
on this market, than there is upside ability.
Tips:
As ‘Insiders’ continue to sell (including FEYE),
this week I was stopped out of FEYE for a tidy profit.
Last week, I received some questions via e-mail
asking me to further detail my DUST / NUGT trading plan. I would be glad to. NUGT and DUST are leveraged ETF’s that focus
on the precious metals (gold and silver) mining space. The ETF’s are designed to mirror each other’s
actions – meaning as one goes up the other goes down virtually the same amount. Let’s assume you have $100,000 to invest, and
based upon Friday’s prices near the end of the day – here’s how I would
construct the trade:
-
DUST was selling
for $21.10 per share.
-
I would purchase
1,900 shares of DUST for $40,090.
-
The standard
deviation (expected move) in DUST for the coming week is $2.16.
-
Therefore, the
highest the ETF is expected to move is ($21.10 + $2.16) $23.26.
-
Rounding up (to
give ourselves a little cushion), the $23.50 calls are selling for $0.35 each.
-
I would SELL 19 calls
@ $0.35 each – (each call option covers 100 shares / and we purchased 1,900
shares = 19 call options) = earning us: $665.00.
-
NUGT was selling
for $44.44 per share.
-
I would purchase
902 shares for $40,084.88 to mimic the $40,090 spend on DUST.
-
The standard
deviation (expected move) in NUGT for the coming week is $4.70.
-
Therefore, the
highest the ETF is expected to move is: ($44.44 + $4.70) $49.14.
-
Rounding up (giving
ourselves a little cushion), the $49.50 calls are selling for $0.70 each.
-
I would SELL 9
calls @ $0.70 each – (each call option covers 100 shares / and we purchased 900
shares = 9 call options) = earning us: $630.00.
-
This week, I would
calmly (sit on my hands) and watch those call options expire worthless –
pocketing their complete sale amounts of: $630 + $665 = $1,295.00
-
$1,295, divided by
a total investment of $80,175 = 1.6% per week = an 84% per year annual increase
by repeating this process each and every week!
-
Now – we only
invested $80k of the $100k – simply because the numbers worked out fairly
cleanly this way.
I hope that details the trade, and any other
questions – please don’t hesitate to ask.
My
current short-term holds are:
-
USO
(Oil) – in @ $34.51 - (currently $35.84),
-
UCO
(Oil) – in @ $28.75 – (currently $33.21),
-
TLT
(Bonds) – in @ $107.10 – (currently $108.46),
-
SIL (Silver) – in at 24.51 - (currently 13.50)
– no stop,
-
GLD (ETF for Gold) – in at 158.28, (currently
128.44) – no stop ($1,334 per physical ounce), AND
-
SLV (ETF for Silver) – in at 28.3 (currently 19.57)
– no stop ($20.30 per physical ounce).
To
follow me on Twitter and get my daily thoughts and trades – my handle is:
taylorpamm.
Please
be safe out there!
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