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Not
Out Of The Woods… Yet!
Just
when investors were venturing back into murky stock market waters,
another “blip” sent discouraging signals that the economy is not out
of the woods, yet. In an amazing display of anticipation, December
30-year bonds plunged from 11200 to 10300 to send long-term yields
rocketing. Early signs of a return to equities sent a message that
it was time to unload interest rates and reload stocks. However,
the switch may be premature since the 2001 retail season remains
dubious.
There
are no apparent reasons, technical, fundamental, or otherwise for the
unprecedented bond reversal. Needless to say, interest rate
pressure impacted yesterday’s stock market performance and suggests a
pattern reminiscent of “stagflation” experienced in the 1970s.
In the meantime, today’s Wall Street Journal carried several articles
referencing deflation as the primary concern. Historically, each
time the FED has “liquefied,” raw commodities have rallied.
Thus, confusion over which way the economy is going is amplified by a
lack of understanding or a lack of historical perspective.
The
cash DOW was unable to penetrate the psychological 10,000 barrier and
may be forming a “V” top. Not only are interest rates a
concern, but the health of consumer spending is in serious question.
If
consumers fail to visit the malls between Thanksgiving and Christmas,
the retail sector will be forced into a significant consolidation.
While Dot.Com enthusiasts insist this will re-ignite on-line shopping
and interest in internet stocks, they forget that the successful
internet “formula” requires tandem channels that include traditional
retail/catalogue and internet availability.
A
retail disaster would probably take internet counterparts down with the
ship. Consumer confidence is at its lowest level since 1993.
However, consider the recovery from the 1987 and 1990 stock market
doldrums began in 1993 as the FED loosened and we put the Gulf War well
behind us. Also, consider how the market recovered immediately
following our “success” with Operation Desert Storm.
According
to news sources, retailers have been backing off inventories since the
summer. Even before the terrorist attacks, Christmas 2001 wasn’t
looking very promising. The post-attack period has encouraged more
cutbacks. Again, The Wall Street Journal reports that the damage
is already done. Inventories are slashed and there is a
possibility that unforeseen consumer enthusiasm will clear off shelves
and cause a retail shortage! Well, which is it? Boom or
bust?
Not
only does the economy face uncertainty over the new war, there is the
problem of prior over-consumption. Clearly, we have saturation in
consumer electronics and home PCs. Simply put, we have all we
need. Even automobiles can wait another year or two. The
average fleet age is considerably younger because of aggressive leasing
programs that contracted holding periods to three years from five.
For example, the most popular car loan was five years while the most
popular lease is three. Automakers have enjoyed the 3-year cycle,
but consumers are currently reluctant to enter into new leases as
uncertainty mounts.
The
shift is back toward ownership as lessees realize that three years is
simply too short a period and the buy-out options are not as flexible as
the old refinancing programs after trade-in. I am sure subscribers
can relate to the way it was versus the way it’s been. In the
old days, you financed a car over five years and could always trade in
for book value against the outstanding loan balance if you decided to
buy a new car before the loan expiration. Leases are more
difficult to terminate early and the buy-out at “fair market value”
is usually more expensive than originally anticipated. Notice the
0% financing currently being offered. This is not a lease.
Equally
important are the re-leases on first cycle inventory. Even the
secondary market has become sluggish. Consumers are increasingly
aware of the 60,000 and 100,000 warranties available. If, indeed,
cars are capable of going 100,000 miles without a tune-up, the
implication is that the useful life exceeds 150,000 miles. But for
a reliable tire, the average fleet life could easily expand to a decade.
This would considerably slow Detroit’s growth prospects.
All
things being equal, I am inclined to believe the FED is not happy with
the rapid reversal in long-term interest rates at this delicate
juncture. The Treasury’s surprise announcement that the 30-year
bond is moribund was designed to reign in the yield curve. While
the December bond chart indicates a continuation down below 100, I would
be extremely careful about selling into this correction.
Volatility has boosted option premiums and we may be better off selling
the strangles while bonds decide which way to go. The same holds
true for 10-year notes. Unfortunately, the December options expire
Friday. Moving to January represents too much time exposure.
While
the Commodity Research Bureau (CRB) Index is no longer traded since the
bankruptcy of Bridge Information Systems (former owner), the index still
has validity and is tracked by quote vendors as a cash index (for now).
Bottoms made in coffee, cocoa, cotton, and grains are reflected by the
CRB’s rounded bottom.
Of
course, increasing prices reflected in the CRB could be offset by
energy, meats, and metals. The CRB does reflect declining
complexes, but the balance is not as strongly weighted in the
industrials as with other indices.
It
is a shame the CRB fell victim to the Bridge bankruptcy. For more
than 40 years, this index has been the precursor of raw commodity
inflation and the focus of analysts including the Treasury and Federal
Reserve. Our attention will be forced to the Reuters Index,
Goldman Sachs, or S & P Commodity Index. Even DOW Jones has an
index.
Dollar
Responds
In
response to sharply rising U.S. interest rates, the Dollar gapped higher
to form a powerful follow-through after penetrating the 40-day moving
average. Once again, I tried to buck the trend in anticipation of
further firming in the Euro Currency as we head down the home stretch
toward it’s January debut. Clearly, my timing is off. As
with concerns about Y2K, most of the positioning was later while
expectations were earlier. Grumbling about German acceptance has
placed a public relations crimp on the Euro. Look how European
media is hyping a “smooth transition.” In the meantime, the
German on the street appears reluctant to part with the beloved
Deutschmark, the French cling to the Franc as do the Swiss to theirs.
Whether
they like it or not, the Euro is being force fed to the European Common
Market. This has made me overly anxious to participate in a
strengthening Euro Currency as the new bills and coins are accumulated.
But, the rally may stall until the end of 2002’s first quarter.
The
“house” formation is challenging 8750 support in the December Euro
Currency. A bust below this level will probably sink prices to the
8575 gap left in July. Some Dollar proponents claim the entire
formation from July forward represents a huge “pennant” that points
to a 60¢ Euro by 2002’s third quarter.
Meats
I
became extremely suspicious of live and feeder cattle as prices rallied
through our stops. Although the recovery has been as sharp as the
decline in bonds, I preferred to sit out this move. The 20/20
picture states we should have reversed. Yet, consider the time
frame and slope of the price line! February live cattle approaches
7000 resistance after a 7-day 4.5¢ rally. There may have been a
Thanksgiving shopping spree for steaks instead of turkey, but I don’t
see the fundamental change in the picture. The chart is almost
identical to feeders. Therein is a problem.
I
understand why live cattle demand would boost feeders. However,
supplies brought prices down. Friday’s Cattle on Feed Report was
viewed as “bearish.” What’s the saying? “Trade the
rumor and reverse on the news.” Placements in the seven major
producing states were up 5%. This leads me to believe the rally
will be constrained. I foresee weakness in April and May
deliveries. If a “flag” develops at the 40-day average, the
short side is more likely to receive attention.
Energy
Russia
and Mexico realize that a price war is not necessarily a good thing.
Neither non-OPEC producer has the capacity to profit from an all-out
production competition… yet. For the moment, Saudi Arabia
remains the kingpin producer. Still, we do not have a definitive
commitment by non-OPEC nations to cut in line with OPEC’s plan to trim
1.5 million barrels a day.
I
had predicted a dip below $19 and even a test of $16. The fact
that prices fell so quickly in reaction to Saudi Arabia’s threat to
throw in the towel and pump like heck spooked the market just enough to
frighten the competition.
Now,
January crude faces $20 resistance. Assuming OPEC can cut 1.5
million barrels, I still see a price under the target range.
Russia has geared up and continues to rapidly build exportable capacity.
The continuing thorn in the short side appears to be an underlying
commodity inflation perception. Understandably, spiked bottoms in
virtually every commodity chart tell us something is happening. Is
it possible all these diverse commodities bottomed at the same time?
I
was seeking the short all summer and into the fall. By the time
the massive one-day plunge took place, I was licking wounds from the
trading range beating I took. However, we had the intestinal
fortitude to re-enter in October and finally rode prices through the
most recent collapse. For the next few weeks, supply will dominate
trading. Weather across the U.S. and most of Europe/Asia has been
moderate. Travel is down. Consumption is down. This is
why I believe any attempt at curbing supplies will be difficult.
There is simply too much overall weakness to be truly effective.
HAPPY
THANKSGIVING
With
all that has happened in the world this year, this holiday is a time to
reflect upon the good and not the bad. We should be grateful that
we have the opportunity to turn adversity into gain if we are diligent.
I wish all subscribers a relaxing and happy Thanksgiving.
Email:
Phil@commodex.com
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