Market Spike Explained By Second Stimulus Rumor, And Other Observations

Well, I have been spending way too much time trying to understand what China is doing with its economy, how they measure GDP, the way they control their money supply, and the direct impact the goverment actions' there has on asset prices. When we broke last night, I was a little surprised that officials were letting that happen passively it seems. Copper gapped down this morning through 270, confirming huge downside potential. After all maybe talks of concerns in China about inflating a new bubble were in fact very serious, and maybe their government is actually wise enough to let the market correct where it should to build a bright future on a sane base.

What I completely missed in the meantime, is that the US government is not even close to be that smart. That's the problem of a democracy I guess, our elected officials' agenda is, right or left no distinction, to get elected and re-elected, even if that implies to sacrifice the next generation. What has our response been to the crisis... Mmmmm let me see: borrow 13% of GDP so we can keep it flat, change accounting for banks so we don't have to acknowledge losses (while criticizing Japan for allowing zombie banks to continue to operate in unspoken bankruptcy for years), put moratoriums on foreclosures in the most desperate states so the numbers appear to be improving, provide a second bailout to carmakers (but label it an effort for a greener planet, because everyone knows we really care) thereby propping up industrial production and sales (we'll worry about consequences of a drop once the stimulus disappears later).

With all that bullish makeup markets were looking to break lower this morning, and the insolent US dollar seemed like it had made a turn and was about to gain some serious strength. That's when the markets got hit with a rumor of a second stimulus package, stopping the sell-off right in its tracks. On the original bounce to 888, the bredth on the NYSE was 0.7 to 1... that means there was no participation and it was a weak corrective rally as part of a downtrend. All indicators point that way. That's why we really needed a good old fashion rumor.

I am not bearish because I had an unhappy childhood, it's just that the numbers don't add up. Debt to equity ratios are way too high and demand is down 20% and cannot come back because of the consumer debt, so equity markets have very little value. It's a necessary correction, also coincidental with the baby-boomers retiring as they hold pretty much all risky assets and the next generation is not wealthy enough to take it over for them. A long term chart shows that when the 50 to 60 year-old populace decreases in size it's bearish for equity markets (it's good common sense if you think about it). Well, that age tranche is getting thinner in number right now. I could also mention unfunded future pension and healthcare liabilities.

China is nowhere close to be able to be a motor for global growth. How could they, they don't have a middle class, which is the basic condition to have a prosperous economy! Sarcastic observers will say that we are doing a very good job destroying out middle class but I will leave it alone here.

A sober economy where we have a contracting GDP and we pay off our debt while addressing the challenges ignored for too long is what we need to pave the way for the next 50-year bull market. If we decide to bankrupt our government instead we only increase chances of civil unrest, political instability and eventually war. It's simply ridiculous to think we can spend our way out of this to re-use a popular image...

If I am wrong I will make a much better living, so I'll take these odds. In the meantime, while I hate conspiracy theories (too frequently used as an excuse for failure), I will remain very cautious assessing the reports on the V recovery and will keep an eye on the few remaining POMO days when the Fed buys back treasuries. The market performance between 2PM and 4PM on those days is equivalent to the entire rally since the lows in March... It's hard for me to think it' a coincidence.

Talk to your congressman before you consider an investment,

Nic