About Me

Retired chief investment officer and former NYSE firm partner with 40 years experience in field as analyst / economist, portfolio manager / trader, and CIO who has superb track record with multi $billion equities and fixed income portfolios. Advanced degrees, CFA. Having done much professional writing as a young guy, I now have a cryptic style. 40 years down on and around The Street confirms: CAVEAT EMPTOR IN SPADES !!!

Tuesday, November 22, 2005

Gold Bugs Frothing At The Mouth

Boy, higher inflation this year and then Uncle Al says the Fed will
no longer publish M-3 after 3/26/06! Sacre Bleu! The Gold bugs see
a plot hatched to hide the inflationary ways of the central bank!
Get the women and children off the streets! Buy gold in a hurry they
declaim.

The best time to buy gold is late in the first quarter or in the second
quarter of the year when commercial demand is in a lull. Commercial demand
gets rolling later in the year to provide the metal for holiday gifts
in the West, and the wedding seasons in South Asia (India, Thailand etc.).
Gold can spike up late in the year on last minute commercial needs and
speculation of a sharp seasonal move up in the commodities markets.

I put Gold's commercial value at $440 per oz. under normal commercial
supply/demand conditions. At $493 an oz. now, it is well over what I would
want to pay for it as an inflation hedge speculation. Maybe I'll wait until
spring of 2006 and hope to pick up some below $450.

Saturday, November 19, 2005

Stock Market -- Technical

The "Day of Atonement" rally half-facetiously anticipated in the
10/12 technical note came to pass right on time, putting an
exquisite but understandable squeeze on the bears just after the
market seemed to have broken down clearly. The Street simply
spent part of September accumulating stock to distribute it out
on the turn.

The market is clearly overbought short term and is slightly above
the top of the lengthy compression range in effect since June.
However, it did bounce convincingly up from long term support
(70 week M/A) and my internal supply/demand indicator shows an
overbought but sturdy advance.

The longer term price momentum indicators remain very anemic and
directionless and raise the question of whether the advance is but
a seasonal one that could meander into early January following a
correction at some point in the next week or two.

Key intermarket factors have been positive for stocks, notably a
rally in Treasuries and a weaker oil price. Reversals in these
sectors would probably undercut the enthusiasm for stocks.

For me, stronger readings on long term price momentum measures
are needed to warrant more than light exposure.

Monday, November 14, 2005

Stock Market -- More On The Profile

S&P 500: 1233

I wanted to discuss further some of the risk factors in the
stock market environment.

Liquidity leading indictors such as Federal Reserve Credit and
the adjusted monetary base (St. Louis Fed) remain very anemic in
growth. Not surprisingly, real money growth -- M-1 and M-2 -- are
now down yr/yr on a % basis. Normally this is threatening to
prospects for continued economic expansion. However, as often
previously discussed, banks have switched funding to low and no
reserve deposits not counted in to M's 1 and 2. Even so, the
expansion is less well anchored because with no customary growing
base of liquidity, the economy is running on a mix of incomes and
increasing leverage only.

I also look at the earnings / price yield on the S&P 500 compared to
the "risk free rate" -- the 3 mo. T-Bill. The S&P e/p yield is 6.0%
based on 12 mo. earnings while the Bill is near 4%. This indicates
a still rather moderate risk level, but the gap has been closing as
the Fed raises short rates.

Important as well is inflation risk. The market has lost most of
its positive momentum over the past eighteen months because of a
sharp acceleration of inflation, which in turn, has reduced the
p/e multiple or earnings capitalization rate. In short, investors
have been raising the ROI% hurdle rate. Now the CPI yr/yr % change
may ease a bit for a couple of months, but the inflation rate trend
is still up.

To date, the gathering of incremental risk has acted only as a drag
on the market's progress and not as a negative trigger. But you have
to keep track.

Saturday, November 12, 2005

Fed To Stop Publishing M-3 Money Aggregate

Or, Uncle Al's Revenge....

Readers of this blog know that way back in 1992, Uncle Al
and the gang eliminated or greatly reduced reserve requirements
on a variety of large and jumbo time deposits ostensibly to
provide extra liquidity as the commercial banks stepped in
to the mortgage market in place of the S&Ls which had failed
or were being merged out. This was a legitimate response by
the Fed at the time.

As the economic expansion progressed and the Fed started to
raise rates, the banks quickly learned to reduce the cost of
funding by switching to the reserve-exempt deposits to fund
lending operations. By 1995, the Fed should have reversed
course and re-imposed the reserve requirements on the big
deposits. It did not and the banks used this loophole for
years to feed the economic and stock market booms. The banks
also began to use the RP market more aggressively to fund
FX traders, hedge fund managers and the mutual fund industry.
They also started using RPs to fund lending out of the pot,
a cheaper way to raise money than Fed Funds where other banks
will charge 20% or more in a tight Funds market.

Rather than re-claim the control that is rightly theirs, Uncle
Al has decided to stop reporting the data and to leave analysts
to scramble to find appropriate proxies.

There will be a vigorous and vocal protest from a number of
economists. The Fed might spin an explanation, but many will
be unhappy and only time will tell whether the Fed will relent.

There are proxies that can be used in place of M-3, although
I will dearly miss the Repo data (now a $550 billion item).

Uncle Al has whipped a digit on his detractors in his final hours.

M-3 is slated to dropped starting 3/23/06.

Thursday, November 10, 2005

Stock Market Profile

S&P 500: 1220

I continue to employ a "pocket change only" exposure to
the US stock market. We are well past the low risk / high
return phase of this still extant cyclical bull market.

Risk to the market continues to rise, but in fairness to the
bullish, the risk is coming up from extremely low levels seen
in Q4 2002. Moreover, confidence in the economy remains fairly
high as well. But it is not the type of "easy money" period I
favor.

My S&P 500 market tracker stands at 1150. It declined sharply
with the surge of the CPI in September to 4.7% yr/yr. I have
given some thought to smoothing out this unexpectedly large
lurch in the CPI to give the market a somewhat higher multiple,
but decided not to so as to avoid fiddling each month with
the inflation input. I doubt we will see yr/yr inflation stay
at this high level for too long, so the value of the market
may be understated at 1150 or 15.3x current operating earnings.

My earnings model has been holding up well, but there has been
some internal slippage, as the continuation of reasonable top
line or sales growth is increasingly more dependent on pricing
rather than volume growth. Cost inputs remain under control
reflecting good productivity growth and mild wage/benefit
pressures. So, many companies should still be experiencing
profit margin expansion.

To qualify as a "normal" cyclical bull market, the S&P would have
to reach 1360 by year's end or early Jan. 2006. Statistically, that
is a tall order at this point. The earnings underneath the market
have held up very well, but the market p/e ratio has been clipped
by the acceleration of inflation starting in mid-2004.

I have not given up on this market yet. With the overall operating
rate for the economy below 80%, we are far below effective capacity
and not in imminent danger of over heating. Secondly, the progress
of the market relative to a broad liquidity measure such as M-3
has not been so strong to date as to leave one concerned.

So, there is plenty of upside, but to realize it, the surge in
commodities inflation which has been driving inflation higher needs
to at least level off so that the Fed does not have to put the
economic expansion at ever greater risk to choke inflation pressures.
For now, the drivers in the commodity sector are fuels -- oil and
natural gas. We are in a seasonally weak period for fuels right now,
so a better test of the power of fuels pricing trends likely awaits
the closing days of 2005 and early next year.

I have been looking for weakness in oil and gas prices, but the
declines to date off the Katrina induced highs have fallen short
of expectation. Recovery of US production has been slow, and OPEC's
solemn promise to boost its output appears to have been a bluff.

I am guessing now that late January, 2006 will be a critical time for
the market and for the Fed as that will be an important window to
measure continuing inflation pressure, economic progress without some
of the recent distortions, and the arrival of new Chair Bernanke.

More on the stock market in upcoming days.

Thursday, November 03, 2005

Commodities Inflation

As discussed in prior posts, I have pointed out that the
current surge in commodities price aggregates, although
not so broadly based, has been the most powerful we have
witnessed in over thirty years.

The historical record shows that grand commodities inflations
begin in sudden and dramatic fashion, almost "out of the blue"
as it were. They tend to follow upon long periods of price
stability and, on occasion, deflation.Thus, prior to a
sudden breakout of upward price pressure, there is usually a
long interval of underinvestment in the capacity to supply
the market which results in a jump in pricing when demand
does finally accelerate.

Grand commodities inflations can last for periods of up to
15 - 20 years. Commodities composites at wholesale can
easily triple and quadruple over such periods. Interestingly,
oil per barrel is now trading about six time above its 1999
low. In short, these are very powerful events, and when one
is underway, it will in a cumulative fashion have a pronounced
effect on the general price level, as measured say by the CPI.

I bring this up for a couple of reasons. first, the power of
the recent run in the CRB and wholesale commodities composites,
following a long dormant period, strongly suggests to me that
another grand bout of commodities inflation is underway.
Secondly, although run-ups in commodities prices can be
squelched for a while by rising interest rates and a tightening
of liquidity, the upward pressure on prices tends to resume
in a strong fashion when the rate / liquidity pressures are
relaxed. This occurs because of the long lead time necessary
to bring large incremental capacity on stream (Developing
small increments to capacity generally proves uneconomic.)

Thus, for the third time in the past one hundred years, we
may well have another major upleg of inflation to contend
with. I lay this out as a prima facie case, but one which
I think has some merit.

I did play the big 1968 - 1983 commodities cycle. I bought
some gold but enjoyed excellent fortune in the grain markets,
which as irony would have it, have yet to participate in this
round.

Surprisingly, it is possible to make good money in stocks and
even a little money in bonds during commodities booms. But
to be successful, you have to re - equilibrate risk and return
assumptions and not use the more favorable profile that likely
obtained during the lengthy preceding period of commodity
price stability.

Tuesday, November 01, 2005

Monetary Policy Update

We have now baby stepped up to a FF rate of 4.0%. Fed/FOMC
liqudity measures -- Fed Credit and the adjusted monetary base
remain constrained, although the money base did pop up for a
week or two past Katrina.

M-3 growth has accelerated sharply this year as bankers switch
funding from regular reserve deposits to the larger no or low
reserve deposits. The banks have the window open to lend and
loan growth continues brisk. Ironically, the system liquidity
embodied in M-3 has no doubt helped the energy pit traders and
hedgies keep rolling.

Uncle Al continues to push up rates gently, hoping to coax a break
in the energy driven commodities market. Tricky business. Just so
you know, recent experience (1995-2000) shows that the CRB commodities
index did not buckle until after market short rates exceeded 5.0%.