About Me

Retired chief investment officer and former NYSE firm partner with 50 plus 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 !!!

Saturday, November 27, 2010

Still Draggin' Dragon

I watch China's Shanghai stock market through the eyes of a Westerner, even though China's
capital controls keep the participation of offshore money in its market limited. The real
estate markets are the bigger plays in China, and I believe many of the locals use a rising
stock market as a stepping stone for capital accumulation to play the various real estate

I downgraded the market early in the year because I felt faster rising wage and materials
costs would pressure corporate profit margins. However, indications are that with strong
productivity gains in tow, profits growth has remained healthy. The market has fared poorly
this year anyway. The p/e multiple has been contracting, and from a Westerner's perspective
this development reflects accelerating inflation in China as well as efforts by the gov. and the
PoBC to trim asset speculation and inflation via a tightening of monetary policy and of
capital flows.

Viewed longer term, I regard the Shanghai Composite (11/26 2872 close) as reasonable
at the 3000-3200 level. With China a high growth economy, I use a 10% compound return
off the extended late 1990s base of around 1100. As the chart link ahead shows, the market
has been exceptionally volatile and has not often traded neatly in line with a 10% price
progression ( long term SSEC chart).

The market did recently come out of a year long downtrend, but has been buffeted in recent
weeks by additional gradualist credit tightening moves by the gov. The market is in a short
term downtrend, but there is no clear signal yet that the downtrend will extend and deepen.
The market is trading very near trend support, so a critical moment for direction could be
at hand. It is very hard to call turns with this market and it is much better to be a trend
follower when trading (shorter term trend).

The inflation momentum that has built up in China is significant and could require further
tightening steps including more deposit rate increases before authorities decide they
can ease up some on the tightening reins.

Friday, November 26, 2010

The Koreas

The latest provocation from Kim IJ and son, an artillery and rocket attack on a primarily
residential SK border island, has created more than the usual amount of risk that incidents
on the peninsula usually do. One can hardly be sure, but Kim may want to foster a crisis
wherein Kim the younger can be portrayed as a hero to the folks in NK. In the meanwhile,
SK has upped the ante on retaliation for future attacks from the north, and the US has
dispatched a carrier attack group to the region. This area is infamous for mis-calculation
by the major parties including the US and China. The history of the Korean war shows
a pattern of legendary blunders that flowed from everyone often misreading the intentions
of their adversaries.

Since another attack from NK against SK is likely to trigger a retaliation of significant
consequence from SK, We can hope NK will have the good sense not to overplay its
hand, since there is little reason to believe further actions could easily be retrieved and
settled diplomatically.

The easy and shorter term way out of this standoff is for the US and SK simply to signal
they are willing to buy Kim and son off.  But there could be severe political consequences
for both the SK gov. and the Obama administration if they were to do so right in the
wake of the recent incident, especially since SK's bluff has been decisively called.

The antagonists have bruted about in and around the peninsula without major damage to the
area for over 50 years now, so it is not unreasonable to expect that inaction ahead would
again lead to a dissipation of tensions. Let us hope papa Kim sees it the same way.

Tuesday, November 23, 2010

Inflation Potential

Technically, the US is still in a price deflation phase. The CPI  is recovering from its 12/08
cyclical low, but is still 0.6% below the all-time high of 220.0 set during 7/08. It will not
likely surpass the prior peak until 2011.

The CPI for the past 12 months is up but 1.2%. A higher fuels bill for the nation has been
largely offset by a continuing deceleration of price pressure for all items less foods / fuels.

The weak CPI performance largely reflects the fact that the US utilization of capacity and
labor, although improving, is still well below levels seen at this point during most
economic recoveries. Business and labor have little pricing power in the current

The broad measure of inflation potential I use has basically been flat since late 2009
after a strong bounce over most of last year. My inflation pressure gauge, which gives a
large weight to commodities prices and is usually a better short range indicator than
broader measures, has risen sharply in recent months on higher fuel and basic food
ingredients. So far, however, there has been little or no pass through of the recent rise
in fuel and food prices to the full CPI measure.

The inflation pressure gauge is in a firm uptrend off its early 2009 cycle low and with
further economic recovery in store for 2011, there is likely to be some degree of
acceleration in the progress of the CPI next year. Since there will still likely be a
fair amount of slack in the US economy by year's end 2011, it would appear wise not
to expect more than a moderate uptick in yr / yr inflation readings next year. I know that
looking at 2010, the CPI is going to come in lower than I originally thought by a fair

Saturday, November 20, 2010


Thought I would pick up India going forward. I do have an e-audience out there. Moreover,
a couple of kids from India are in our local NFL betting pool. Thirdly, the Sensex stock index
is moving directionally with the US stock market, but with more brio. $BSE chart.

The $BSE is in a powerful cyclical bull market. It too has entered a second upleg phase and
recently touched its prior all time high before running into resistance and news of a juicy
scandal that runs up high politically. Hope my timing is good, given that the market is coming
off a strong overbought and is headed down to a sharp oversold, and, perhaps, a rendezvous
with obvious support at 18K.

My plan here is to start on the technical side of the market and gradually move along to the
fundamentals. Should be fun.

Thursday, November 18, 2010

Commodities Market

I have run across many web articles in which it is argued that we are in a long term bull
market in commodities driven by rising demand from China and the battery of emerging
and developing economies going against longer term supply constraints. I think the broad
commodities composites are reasonable, but there is no evidence at hand to date that the
world is witnessing a long term bull run in commodities. There was a strong market over
the 1971 - 81 period, and then another good one from 2002 through early 2008. However,
at its cyclical low in the latter part of 2008, the CRB commodities composite was just
slightly above cyclical low points seen as far back as the mid 1970s.

There has been a cyclical bull run in place since late 2008, when China initiated its massive
fiscal stimulus program. The first leg was a strong run and ran from 12/08 - 12/09. A new
upleg started in the spring of 2010 and remains in place, with positive diffusion measures
for the main categories. The CRB composite has been in a nearly 40 year trading range. It
is now reading around 300, and when it crosses above long term resistance of 280, it
generally does well, provided the global economy continues to expand. In fact, it can
experience upside blow-off periods late in an expansion cycle when supply/ demand
conditions are tight.

Commodities are sensitive to the leading economic indicators, and are especially
sensitive to monetary policy. Thus, the CRB has benefited from hype about the Fed's QE '2
program, but we have also seen a recent whipsaw when China again raised bank reserve
requirements and announced an interest in seeking tougher  management of the rise of
inflation pressure it is encountering. China greatly desires to maintain relatively strong
growth, so it is doubtful they have entered crunch mode with their monetary policy.

The CRB is coming off a strong short term overbought. There is shorter term trend support
at 285, chart pattern support at 275, and longer term trend support at roughly 265.
CRB chart. I have included Goldman's agricultural composite along with the CRB chart.
Note how the "ags" have forced up the CRB since summer and remember that farm /
grain prices can be extremely volatile and  be subject seasonal weakness in cold weather.

From a cyclical perspective, it is likely too early to try to top spot the CRB at this point.

Tuesday, November 16, 2010

Financial System Liquidity & Stock Market

Let's take note of the status of financial system liquidity here at the outset of what is, in
prospect, another susbstantial round of money printing by the Federal Reserve.

My broad measure of financial liquidity is up a scant 4.5% over the prior two years. Of that
increase, 80% comes from a rise in currency and checkables. So, quantitative easing by the
Fed accounts for the vast bulk of the paltry gain in the total. Bank funding growth has been
sharply curbed by a nearly $1 tril. run-off in private sector shorter term credit demand and
there has been an outright $700 bil. collapse in the market for asset backed and finance co.
commercial paper. This degree of liquidation is unprecedented in the modern era.

The Fed waited through most of 2010 to see if a a rather moderate economic recovery
would trigger a rebound in private sector credit demand. It did not, and the Fed, concerned
about the sustainability of the recovery, opted to begin another large ($600 bil.) program
of quantitative easing to assure a significant measure of funding for the economy.

Whether they will actually need to buy the $600 bil. of Treasuries is an open question in
my book. The weekly leading indicators suggest the economy is set to regain faster growth
traction and if this occurs and credit demand responds in a more positive, normal fashion,
the Fed will have the option to consider slowing the printing press as credit demand takes
on its accustomed role in helping to drive the economy. If private sector caution continues
and households and businesses refrain from borrowing more, than the Fed will proceed
with its program through mid-2011. It will be up to the Fed to tackle the issue of finding
the "right" balance.

The stock market has been keenly cognizant of Fed balance sheet mangement activity over
the past 18 odd months. The last three substantial downdrafts in the stock market -- early
2009, mid 2009, and spring 2010 have all occurred during periods when the Fed was
temporarily shrinking its balance sheet. Likewise, the bull moves in the market over this
period have come when the Fed has been expanding its balance sheet, or has been
promising to. When credit demand is shrinking or is flat, investors know that the Fed is
the only game in town when it comes to providing liquidity to the system. In this regard,
I suspect that if credit demand does pick up, then equities players will become a little
less sensitive to the ups and downs of the Fed's balance sheet.

Saturday, November 13, 2010

Stock Market -- Investing

I regard investing in stocks as an enterprise with a minimum time frame of 5 years. I am not a
buy and hold advocate. Never have been. An investor should add to commitments when the
market is cheap up to reasonable and lighten positions when the market gets expensive.

There was no investment case to be made for stocks from the latter part of 1996 until the
end of 2008 in my view. I think there has been a good case for long term investment over
most of the past 18 months, with the early 2009 time frame the best time to invest for the
longer term since the early 1980s. As all know, the market has improved dramatically and
quickly since early last year, and although stocks are now far from cheap, I regard the market
as still being reasonable.

I am primarily a trader, but if I was a long term player, I would not be uncomfortable
making new commitments up to SP 500 1240 over the next year or so. That level works out
to 16 x long term trend earnings and about 14 x projected 2011 eps for the "500". If I was
only a long term player, I would be reluctant to add to holdings above the 1240 area. There
could be good trades from that level, but I think true longer term players should wait for
significant dips before committing.

My SP 500 Market Tracker has the SP 500 fairly valued at 1470 for year end 2011 on
a continuing but far less dramatic recovery of earnings to $89 per share. I watch the
performance of earnings in the context of a long term, static channel, and because of the
cyclicality of profits, I grow progressively more cautious about the market as earnings
expand up to the top of the channel or exceed it. Such happened over 1997 - 2001 and
again over mid 2006 - late 2007. The next challenge to the top of the eps channel would
appear to be several years away. I also keep an eye on the long term price channel
running back over 60 years. The channel top for 2011 for the SP 500 is about 1500 and,
in my view, long term players might use the 1450 - 1500 level to lighten the commitment
to equities should the market do that well.

Since investors have all manner of objectives, I never presume to offer advice. I let you
know my views and leave it to you decide whether the perspectives are of use. I would
say my strategies for longer term commitment to equities have been conservative and sound,
but do not register at all well with players who try to use market timing or trend following
in making longer term investments.

Wednesday, November 10, 2010

Stock Market -- Fundamentals

The stock market has a good shot at returning over 20% in price gain through 2011 provided
the pervasive sense of caution among households, businesses and the banks eases up enough
to allow the economy to function with more normalcy than we have witnessed so far in this
economic recovery. Business will play the most critical role as it must invest, hire and
compensate at more elevated rates if the economy is to recover prosperity. Investors have a
clear sense of skepticism about whether the economy can recover confidence and may not
be easily won over until there are more tangible signs of progress.

Core Indicators
The core group was positive but running out of gas until the Fed announced its new liquidity
injection program (QE '2). Now, the core indicator group will strengthen as the Fed assures
faster growth of monetary liquidity at least through mid  2011.

Secondary Indicators
Measured yr/yr, the growth of the $ value of both production and total business sales is
moderating. With quantitative monetary easing, there will be some acceleration of system
liquidity growth. Thus, the liquidity headwind will continue to moderate as the demands of
the real economy ease, allowing less of a strain on liquidity available to support the stock
market -- a plus.

The inflation adjusted or real oil price is again moving up sharply as financial traders have
jumped into the oil market to "play" QE '2. So far, the rapid recovery in the oil price since
early 2009 has not appeared to have inhibited the stock market.

Profits Growth Momentum
Following the initial recovery surge over late 2009 - mid 2010, profits growth momentum
although substantially positive has been decelerating and is likely to continue to do so
right through 2011. with slower profits growth ahead, investor confidence will become a
much larger factor in determining returns through 2011.

SP 500 Market Tracker (Modeled P/E Ratio X 12 mos. EPS)
My Tracker puts fair value for the "500" at 1370 for 2010 and 1470 for 2011. The SP 500 is
now trading at 1217, or about 11% below fair value for the model. This discount is a
direct and primary result of  investor caution about just how good the earnings outlook is
for the global economy over the next year. In addition, investors continue to prefer smaller
US cap and faster growing foreign economies over the large cap "500", preferences that
have been in force over most of the prior decade.

Fundamental Weekly Coincident Market Indicator
This proprietary indicator advanced an amazing 62% off its deep cyclical low in 3/09 to
its cyclical high to date set 4/30/10 and supported the very rapid advance in the stock market
over the same interval. The indicator fell sharply from 4/30 until early Jul., 2010, and
following a consolidation phase, has been on an upswing since early Sept. So it has moved
in line with the recent rally in stocks and it points to an eventual re-acceleration of economic
growth. However, there is a "hall of mirrors" effect here as regards the indicator and the
stock market. For example, the indicator assigns a heavy weight to a broad basket of
sensitive materials prices such as copper, which, reflecting the financialization of the
commodities market, have mirrored stock price trends. So the unadulterated economic
content counts for less.

Longer Term Economic Indicators
This set of indicators shows there is substantial economic slack and that the economy has
the capacity to expand another 4-5 years easily if it can maintain reasonable balance. The
new round of liquidity injections planned by the Fed strengthens the case substantially
looking out through 2011. However, the indicators do not account for the psychological
states of consumers, businesses and the banks. Additional easing by the Fed provides a
financial framework for caution to abate and for all sectors to loosen up a little more
to realize rather moderate but decent economic potential. It is up to the private sector
now to follow through. The 11% discount of the SP 500 to the Market Tracker reflects
investor caution about just to what degree the economy will return to more normal
operations, with special focus on whether business will unlock and invest and hire
more people back.

Monday, November 08, 2010

Stock Market -- Technical

The rise in the market last week to a new cycle high reconfirms that the US is experiencing a
cyclical bull market. I count this new upleg as #2 and of course hope for a third down the
road. Second uplegs can last longer than the first, initial surge but can be far more gradual.
However, there are enough exceptions to this generalization that it can only be used as a
very rough rule of thumb.

The market is clearly overbought now on measures going out 13 weeks and is very mildly
overbought on measures running out to 40 weeks. Since overbought markets can get even
more overbought, it is wise to give trend break measures more weight in making both
trading and investment decisions of consequence unless you have a specific objective
in mind (like loafing through the holidays as in my case).

The trajectory of the market off the 3/09 cyclical low is very strong and anticipates a
period of fine performance in earnings as well as a degree of recovery in the market's
p/e ratio. Nothing slouchy here, but you need to remember the power of the trajectory in
the recovery in cyclical earnings to date as well.

The NYSE adv / dec line has over the years developed into a very broad, primarily mid
and smaller cap measure. Since the mids / smalls have been the US leaders for over a
decade, I have found this line to be helpful in analyzing the market. It is around a new
all-time high and is well worth keeping an eye on. $NYAD.

Friday, November 05, 2010

Economic Indicators

Both weekly and monthly leading indicator data sets continue to point to an improvement in
the pace of economic growth. There was a nice pick up in the October diffusion indices for
new orders which brings these important measures back up to satisfactory levels. The Bank
of Tokyo weekly coincident indicator, a conservative measure, remains flat as it has been
for several months. My monthly diffusion index for US output did improve in Oct. after
several months of decline. On balance, the indicators suggest the economy did progress in
Oct. there was also a pick up in global activity for the month.

My Economic Power Index -- 12 month % change in the real wage plus employment -- was
flat with the Sept. reading at a weakly positive 1.4%. This measure has improved well off
its cyclical low at 12/09, but it still makes for grim reading. The economy has made up well
less than half of the total job losses resulting from the recession, and employers are using a
still weak job market to hand out very small wage increases that utterly fail to compensate
employees for the large increase in productivity achieved in the recovery. Around here,
management of major companies are scoring large bonuses on sizable earnings increases
while handing out cheapo 1-2% wage increases to the rank and file. As a consequence,
the economy, although improving, remains vulnerable and unstable. Without faster real
wage and employment growth, consumption will remain very subdued unless people step
up on borrowing or cut savings, both of which they have so far been very reluctant to do.

The Fed is about to take action to improve the liquidity situation of the economy. This
measure may eventually lead to higher inflation.  That does not present a problem for
economic supply / demand balance unless  the real wage falters and people are again
thrown back to borrowing and dissaving to meet needs and wants. That would undercut
the chances for a return to greater prosperity.

From an editorial or value perspective, I say American business is failing to take care
of its people as the top guys pocket the dough. Over the long run, this kind of behavoir
will be revealed as a very destabilizing force, both on economic and socio - political

Thursday, November 04, 2010

Have Closed Out My Positions

Took a 12% profit on my USO position and nicely hedged my fuel costs with $ to spare.

Gold Short
Took a 6% profit on my DZZ holding before the run-up in gold chased me out. I still am
interested in this trade and will be back at some time.

Long Treasury Short
Made 10% on this leveraged trade. Thought I would do much better (See 8/19, 8/24 posts).

SP 500
Caught the 6/30 and 8/30 lows on the broad market. Two of the best long side short term
trades I have done in a while. Was lucky on the 8/30 trade which I did mostly on the basis
of extraordinarily negative sentiment then prevailing (See and end of month posts for Jun.
and Aug.). I closed out my long participation today as the market is now heavily overbought
in the short term.

US Dollar
Wanted to go long here, but never found a comfortable opening. USD remains deeply

My habit near the end of the year is to close out positions ahead of the holidays, especially
if I am running solidly in the black. Two of the worst trades I've made in over 40 years of
trading occurred over the holidays -- leaving me superstitious.

Although I am going to enjoy my retirement here for a few weeks, I plan to post regularly.

Wednesday, November 03, 2010

Monetary Policy -- Quantitative Easing

The  Fed today opted to keep its zero interest rate policy on short rates and to expand its
balance sheet by $600 bil. or 26% through mid-2011. Assuming that private sector credit
demand remains flat or in slight decline, this $600 bil. infusion via Treas. purchases would
allow my broad measure of financial liquidity to expand by up to 5% through mid-2011. 

This represents adequate liquidity to fund the economic recovery well into next year and
puts and end to a risky liquidity freeze imposed by the Fed in early 2010. As I have
discussed several times, the Fed underestimated how cautious the private sector would
be during this recovery and finally had to scramble up a plan when it became clear that
the economy was not strong enough to engage private sector borrowing to maintain
economic growth.

The size of the package is in my view overstated because the Fed had allowed nearly $200
bil. to drain from the adjusted monetary base before finally taking action, but it is large
enough to provide strong liquidity back-up to the economy going forward.

I think the Fed will halt this program when private sector credit demand begins to firm
up and show some vitality. For now, it is unclear when that will happen.

It is also important to recognize that although this new round of money printing may be
a necessary condition to have continued economic recovery, it may well not be a
sufficient condition of same, since even deeper private sector caution and fear
could still undermine it. But, and thankfully, this new round of liquidity infusion will
give the economy a fighting chance.

Monday, November 01, 2010

Stocks -- Technology Sector (XLK)

With political, monetary policy and employment news ahead this week, the technology
sector should provide some insights. As the relative strength index shows, this sector
remains the market leader in this cyclical bull. It has moved up to a new cyclical high,
as well as a new high in relative strength for this go. The XLK relative strength line is
short term overbought as well, which means that it will be hit hard if the boyz decide to
sell the news after after having bought all the rumors (quantitative easing, a return to
political gridlock etc.). XLK relative strength.