SPX Monthly Chart -- Points Of Interest

Long Term "Progress"
By my way of thinking, the US has been in a bull market since 1982. Earnings and dividends have
progressed and with a deceleration of inflation and a lengthy downtrend of interest rates, the p/e
ratio has increased, especially over 1982 - 1993, as investors have bid down the discount or hurdle
rate required to find stocks attractive. The p/e multiple has held up despite more volatility of earnings
as companies have run more aggressive finance policies such as raising the earnings plowback rate,
buying in far more shares for the treasury, making many acquisitions using purchase accounting,
underfunding or eliminating pensions, and with the connivance of the accounting profession,
ruthlessly writing off their failures as "extraordinary items" instead of charging losses to operating
earnings. Most investors have applauded it all.

With decelerating inflation and globalization both making it tougher to generate pricing power,
companies have worked wonders slashing overheads and operating expenses. Investors have
welcomed this progress in increasing profitability. Investors who have called for a return of
profit margins back down to historical levels have been continuously frustrated.

 Most companies have increasingly focused on achieving investor pleasing short term results.
There are few very talented CEOs with the vision to grow their companies longer term, but
a goodly number of CEOs who have the ability to see around corners when it comes to their
own shorter run self interest.

What we have yet to learn of course is the price companies may have to pay for ignoring the
long run.

For good measure, and to keep the deflationary wolf from the door during this lengthy period
of "disinflation", the Fed has stood willing to provide copious amounts of liquidity when the
occasion required such.

On To the Chart
If you have been along for the ride, it has been good enough. Since year end 1993, SPX net
per share has increased by about 7.5% annually and the index has gained 7.7% per.
SPX Monthly

Looking at the chart and connecting the tops from 2010 and 2011, note that the market is
getting extended. Note also that the channel up from the low in late 2011 is not so extended.
If the latter channel stays in force and carries the day we will likely be moving into a giddier
blow off phase for awhile.

Watch the monthly chart as you go forward. The MACD over the past 20 years has provided
good guidance.If the blue line breaks below the brown one there may be trouble. Otherwise,
we may be OK. Note also the RSI trend which has been heading up since early 2009. A
break in that uptrend my also require your attention.

SPX -- Weekly

The Three Year Weekly Chart....
Since late 2011, the SPX has advanced relatively steadily in a low to high channel of 13%, and
has kept on a 20% average annual growth track. This performance has been reminiscent of the
spectacular 1995 - 1999 bubble run up although the current advance has been on a far more
moderate trajectory. If the SPX could sustain this strong pace through 2015, it would bring the
average up to 2500, a level well above what a very broadly positive consensus is forecasting.
Such an advance would bring the p/e ratio for the SPX to 20x, nearly double the level of
2011. There is non-bubble empirical support for another big year in that when inflation and
interest rates were low in the 1960 - 65 period during a period of stronger economic expansion,
the market did trade up toward the 20x level. Growth is not as rapid now, but interest rates and
the inflation rate are exceedingly low. SPX Weekly Chart

I think the major key behind the strong market advance in recent years has been the Fed's QE
programs both in prospect and in actuality. These programs have greatly boosted investor
confidence and have sustained a psychology of buying price dips, with all episodes seeing the
SPX go on to new highs. Note carefully on the chart though that price momentum has been
fading during 2014, in keeping I think with the progressive phase out of the large QE program.
Not only that, but players have become more defensive in stock selection and have stayed cool
on smaller cap, more traditionally volatile issues. With QE over since the early autumn, the SPX
has been trading more toward low end of the trend range in recent months.

Now, I do not pretend to have special insight on how well the market will perform in 2015.
Monetary liquidity growth is going to continue to decelerate through the year and excess
growth of liquidity relative to the needs of the real economy will likely continue to fade.
If the USD - Japan Yen relationship remains strong in favor of the dollar, there may be a
positive liquidity partial offset in the form of an expanding carry trade. As well, it might
come to pass that there will be a significant rotation out of bonds into stocks if the Fed opts
to push short rates up by 50 basis points or so as a further tightening trial.

I think players have bought the idea that some growth with low inflation and interest rates
gives them carte blanche to see how far they can push up the multiple. There is a large
degree of intoxication there. However, I also think the guys know they are playing with
fire in the game of extending the p/e multiple further. Just witness the fast, herd instinct
whipsaw action we have seen in recent months.

We can speculate happily on the potential for market return in the year ahead, but be sure to
recognize that  market risk has become sharply elevated as the US transitions more fully
away from powerful liquidity support at a time when investor confidence and enthusiasm are
running high.
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I have linked to a chart of the SPX which compares it to a 200 day m/a oscillator in green.
The chart shows a gradual deterioration of price momentum going back to the middle of
2013. This gradual downtrend in momentum is a bit unusual, but if it extends well into next
year, it would put the SPX on a more modest course relative to the 2011 - 2014 uptrend.

SPX vs. SPX relative to the 200 day m/a

Long Treasury Bond Yield

The long bond yield  has been in a steep downtrend since the early 1980s. When you roll in price
appreciation with interest earned (including of course the interest earned on coupon re-
investment), It has been one hell of a bull market. Noteworthy here is that there exists a five year
base under the yield downtrend at the 2.5 - 2.6 % area. The long T has approached this base
recently on a strong downtrend in yield from the outset of 2014.

Despite economic recovery in place since 2009, the yield has remained in a somewhat volatile
down trail primarily reflecting the deceleration of the inflation rate in the US since latter 2011,
and the Fed's policy of keeping short term interest rates near zero. Obviously, the large T-bond
purchases involved through the three QE programs have helped. TYX Weekly

We approach 2015 as follows. Inflation is still in a downtrend underscored by weak oil, sensitive
material and commodities prices. The Fed is maintaining its ZIRP on short rates for now, but
could elect to abandon ZIRP later in the year if the economy expands firmly and more dissention
flares up among members of the FOMC. The QE programs have ended although the Fed is still
committed to buying securities equal in value to those that run off.

With total financial system liquidity growth having rolled over on y/y % basis, it is reasonable
to assume the economy will lose significant growth momentum at some point soon, unless
confidence remains high and credit flows to the private sector move as needed. In that latter
case, the Fed will likely respond by aborting ZIRP and starting to raise the Fed funds rate.
That would be an important negative for the bond market as it would signal that the Fed
was committing to normalizing policy. The market may seek to cross this bridge ahead of the
Fed as it did in 2013, but we should also gauge carefully how the economy does on its new
liquidity deceleration diet.

If you click again on the chart link, I would point out that the T-bond yield has moved down a little
fast relative to its 40 wk m/a. This is a sign of an "overbought" market as is the  28% decline in
52 wk momentum as seen in the top panel. Wherever the yield goes through next year, it
has had a run that may be too good in the short term

Oil Price

The free fall in the oil price over H2 has created hundreds of experts on the future of its
price. The many forecasts for 2015 range from $20 - 85 bl. so I do not know how useful
all this newly minted expert testimony is since it covers most of the waterfront. What I do
know is that the closing weeks of the year is a time for brief seasonal strength in the price.
My argument has been that a failure to see either a stabilization in price or a rally as the
year draws to a close might spell further significant downside as 2015 unfolds.

My view has been that the best place to be regarding the oil price is on the sidelines. The minor
price bounce this week has hardly been imposing and, another weak seasonal round is ahead
for the Jan. - Feb. period as refineries gauge what might be desirable gasoline blends for
the driving season to come in the spring. WTIC crude can easily drop another $15 bl. during
this layover. Moreover, it may be Jan. '15 at the earliest when the current rapid downtrend
line is tested. Since the oil price has a way of trending up or down for extended periods,
it does not pay to try to catch tops or bottoms but does pay to look for trend reversals instead.

WTIC Daily

SPX Daily -- The Thundering Herd

On Tues. 12/15 (scroll down), I mentioned the SPX had become oversold enough to attract
long side interest, and we sure got it. SPX Daily

The action since mid - Sep. largely features HERD behavior with rapid downs and ups. Nearly
mindless players appear to be driving the market in the short run. I can understand the increased
volatility up to a point. Folks know it is an expensive market with large downside if the
fundamentals go wrong. And, they know that moving heavily into cash which offers negative
real returns is not a place they want to be for long if the market starts up again. For many years
I would tell people that the stock market was a serious business but one not to be taken too
seriously. And now, as I glide toward life's Hawaii room, I am starting to look at the stock market
as not being a serious business but one that should be taken very seriously if you have money
invested. Let us hope this is the storm before the calm.

Monetary Policy

By post WW 2 standards, the Fed surely should have raised the FFR% today and abandoned
its ZIRP. By these standards, the Fed is now engaging in heavy handed interest rate suppression.
So, what gives? Interestingly, The Fed's data on production capacity growth shows that it is
on an accelerating path, reaching 3.1% yr/yr in Nov. That represents the strongest reading of
capacity expansion since 2001, and suggests to the FOMC that the economy can tolerate
continued moderate production growth without running a high risk of overheating. And, I
think They are figuring that by keeping the ZIRP in place, additional time can be bought to
allow more slack to be wrung out of the labor market so that there is eventually stronger
full - time employment and, perhaps, some upward pressure on wage rates.

Industrial output rose a strong 5.2% yr/yr through Nov. It may also be that the Fed suspects
that this pace of growth is unsustainable especially now that it has allowed the QE program
to expire. The Fed does not want to have to come back with another QE maneuver and by
allowing short rates to hover at the zero bound level for a longer period of time, it can buy
some more insurance to extend the economic expansion. We all need to keep in mind that
we live in a highly leveraged world, and with low inflation yet still decelerating, central
banks would like dearly to avoid having the deflation wolf come to the door.

Finally, the Fed may wish to tone down the rise in the value of the US $. If keeping the
ZIRP in place for awhile will help retard the dollar's progress, well that may be ok, too
as The Fed and the Treasury know full well that foreign issuance of US $ denominated debt
has proliferated in recent years.

SPX -- Daily

The fast correction in the SPX from Sep. into mid - Oct. ended with a spike bottom and a
quick, triumphant rally to new highs. The argument here has been that spike bottoms are
frequently tested and that the market has been overbought since mid - Nov. To compound it,
the insouciant "buy the dip" crowd tried hard for a few weeks to push the market higher even
though it was already in a significant overbought condition. The hope here was to cruise
through the ending days of 2014 on an upswing with a combo Santa Claus and Sugar Plum
Fairy rally and to leave whatever worries to be sorted out early next year.

However, it only took a very brief period without good positive momentum for another
pullback to develop and send the market into another sharp short term downtrend. The SPX
is now mildly oversold and should begin to attract long side interest soon. However, even
if the SPX were to begin rallying again here in the next few days, it would put the trend off the
spike Oct. low on a very high trajectory which would likely not sustain before the market
would face more remedial action. SPX Daily

Financial System Liquidity

Private sector liquidity growth has been averaging around 5.5% yr/yr recently. This growth has
been sufficient to fund the real economy, especially given the low rate of inflation. Total
sector liquidity growth to include the Fed's balance sheet was up 7.5% yr/yr through Nov.
Funding requirements for the stock and bond markets continue to be supported by the excess
liquidity provided by the Fed. But note that the Fed's balance sheet is no longer growing and that
total financial sector liquidity expansion measured yr/yr is falling steadily and appreciably. The
Fed is thus tightening monetary policy with the tapering and now expiration of QE 3.

Paced by 10 % growth of business loans, the banking system's total loan book continues to
expand. However, system liquidity remains strong as the banks have been able to grow the
loan book as well as add to short term Treasury positions. My short term credit / supply
pressure gauge is firming up in favor of demand. The gauge is a mild +5.0 but has increased
sharply since late 2013, a fact that will not be lost on the rate hawks at the Fed.

My markets cash reserve indicator has reversed course since mid - 2014 and is now rising.
The action is mild so far, but it signals a bit more portfolio manager caution on equities in
recent months.

Shanghai Quickie

When folks love the Shanghai composite, they really love it. The recent vertical move up is
right in there with the bubble inflation starting in late 2006 and the high speed run - up
starting in late 2009 when the big credit stimulus package was announced. Shanghai Daily

The RSI has topped 90 in the recent skyward move and that by the Shanghai's gaudy standards
is an overbought of consequence. Note as well that the index is now testing longer term price
resistance in the 3000 - 3200 range.

Stock Market -- Short term

Fundamentals
The SPX is up 12.3% for the year through Dec.5. Most US portfolios have underperformed this
benchmark by a significant margin. Charitably, the average portfolio is up about 3.5 - 4.0% for
the same period. The broad economy has been comparatively strong this year. Business pricing
power has not been strong, however, with sharp weakness evident for the oil patch and a range
of commodities producers. In addition, a stronger dollar may have attracted some offshore
money into the US, but it is penalizing the eps of a number of multinationals via translation
penalties, and it concerns some holders of small cap domestic shares who know that a stronger
dollar can attract foreign competition in previously more secure markets. Finally, the expiration
of QE 3 has led to a rotation in favor of large cap established companies and away from the
shares of smaller companies where volatility is higher.

It is also interesting to note that the SP 500 has been matched in performance this year by the
long Treasury bond. This reflects both risk aversion from the end of QE 3 as well as the
continuation of low inflation and short rates at the zero bound level.

Check out the relative performance of the SPX against The Russell 2000, the Value Line
1700+ issue equal weighted index and the Long Treas. SPX Weekly

Favorable monthly data for new orders, employment, auto sales etc. have helped the market
recover from the recent Oct. lows. Despite the sparkle of the monthly data, the weekly
forward looking indicators have been trending down since early Aug. and suggest that an
economic slowdown may not be far off.

Technical
As pointed out in a note on Nov. 13, the SPX is overbought. Since, it has soldiered on to hold
that overbought. SPX Daily  Players have been reluctant to leave the party for the big cap stocks
in hopes that they will be rewarded with a nice Santa rally as the year winds up.

Oil Price

Technical
WTI crude broke a nice five year uptrend featuring an $18 bl. price range in Jun. A fast and
deep downside breakaway has taken place since which knocked out supports at $80 and $70
and which currently leaves the market a little above long term support running back to 1999
and which now stands at $60 bl. The current speedy bear market is typical of a substantial
oil price decline and, in the modern era, such declines usually do not reverse quickly with
fast carry to new highs.

A break in long term support below $60 certainly cannot be discounted. If this occurs and
the market extends trading below the long term support line, it would raise the question of
whether there is a new ball game afoot for industry fortunes.

The market is deeply oversold. With WTI crude now trading at more than a 30% discount to
its 40 wk m/a, it will have the attention of short term traders looking for a positive bounce.
Note also the hefty oversolds now being registered by RSI and MACD. $WTIC Weekly

The oil price tends to trend strongly up or down. Thus, when a reversal of trend arrives,
trading it can be done with surprisingly little risk over the intermediate term. In short, it
is not worth the effort to try and catch tops or bottoms but is worth the effort to trade
when there is evidence of a trend reversal.

The oil price does tend to enjoy a seasonal bounce which begins in mid - Dec. and whch
runs into early Jan. Continuation of the current strong downtrend right through Dec. would
veer toward the ominous.

Wealth & Liquidity Transfer
Excess production is now a relatively modest 500K Bd. However, with fast rising US output
and modest demand growth, the oil gurus have the rate of excess global output rising to 1.5
million Bd. by year's end 2015. It is this longer range view of supply / demand that has the
market so worried. Should oversupply widen out as many now expect, there could well be
a huge wealth and liquidity transfer of up to 1.3 $trillion from net producers of oil to net
consumers over the next year. Such a grand transfer would lead to some major changes in
fortune for a range of countries on either side  of the production / consumption divide, and
might spur unrest and geopolitical bad behavior among countries least able to lose the petro -
dollars. As for oil companies, remember that the lever on the way up is the screw on the way
down.

Strategy
When you reach my age of 75, you will find you have to obtain a Papal Dispensation to short
markets. So, any interest I have in oil would be on the long side. On this issue, I plan to
see if still large oil futures positions by financial speculators need to be wrung out and to wait
for indications of a trend reversal.


  

SPX Monthly -- November, 2014

Fundamentals
Bull market in place since early 2009 remains in place. With the termination of QE, the easy
money portion of the bull is over. Profile is now moderate return for the assumption of much
higher risk. Liquidity cycle still strong at present, but progressive deceleration in growth of
liquidity measured yr/yr % suggests a moderation of business sales and profits growth in
2015 and early 2016. History makes clear that the cessation of large QE programs can work to
destabilize the economy unless consumer / business / banking confidence remain high and
private sector liquidity growth progresses at a moderate pace. Capital resources including
physical capacity, underutilized labor and banking system liquidity remain ample enough to
support moderate economic expansion through 2016. Inflation potential is modest so there
is no visible need for the Fed to raise short term rates enough to curb economic overheating.

Valuation
The market's p/e ratio stands at 17.5 x likely 2014 net per share. there has been a sharp
elevation in the p/e since 2011 reflecting a strong deceleration of inflation, the major QE
program and rising investor confidence in  the modest growth / low inflation story. Some
players remain convinced the Fed will re-institute some form of QE if the economy falters in
the months ahead.

I have the SPX  valued at a p/e of 17x based upon an assumed longer range earnings plowback
ratio of 60% (Currently, the breakdown is dividend payout 34%, plowback 66%).

Players must now pay a premium p/e on cyclically elevated earnings to be  long in the market.
The p/e on long term trend earnings of  $90 per SPX share is 23x. It is a very expensive
market on this basis.

Technical
The SPX is quite extended on the super long term channel as well as that of the current bull
market. Long term measures of RSI, MACD and price momentum are all at very elevated
levels. A substantial long term overbought happens to dovetail with a rich market on
fundamental grounds. SPX Monthly

Gold Price

Gold still has a chance to be an interesting long side trade, but some ground needs to be cleared
first.

Gold Bear Market
The deep but temporary break below $1200 support earlier this month re-affirmed the bear market
that has been in place since late 2011. It also showed an important break below the long term
uptrend line in place since the early part of 2001. The one bright spot on the gold chart is that
when gold broke the long term uptrend line at 1220 in Sep., there was indeed a breakaway down
move in price, but gold has since rallied up close to prior support at $1200. On the negative side,
there is the possibility that gold may now have the $1200 price as resistance. Weekly Gold

Poor Present Fundamentals
The gold price has been hurt by the deceleration of inflation underway since the autumn of
2011. More recently, weakness in the oil price and a strong US dollar have been negative factors.
Less well recognized is that a rising US stock market since the latter part of 2011 has drawn
risk capital away from the PM markets in a fairly steady fashion (See bottom panel of chart).
Gold had competed successfully with stocks over much of the 2001 - 2011 period and had
attracted the interest of many financial market players and not just the more traditional bugz.
This play has been walked back in earnest.

How Might The Environment For Gold Improve In The Year Ahead?
Quantitative easing has ended in the US. But, it has been accelerated in Japan, and China is
is moving toward more monetary ease. These moves could pressure more Asian economies
to follow suit. Moreover, even the ECB is slouching toward more monetary liquidity
expansion as the EU grapples with very slow growth and flirts with deflation. Thus, economic
growth offshore the US could firm up at some point next year. This might lead to stronger
demand for commodities in general and might reduce some of the excess supply in the oil
market. In turn, a better offshore economic environment might eventually lead to a reduction
in the "fear" trade which has recently favored the US dollar and brought it to an overbought
position. To conclude, there could be a sort of speculative three cushion billiard shot that
eventually benefits the gold market.

This sort of conjecture is not normally my cup of tea, but I am intrigued that the gold price
has been stubborn recently against a downside breakaway that seemed clearly in the cards.

China Eases Monetary Policy....

The PBOC cut benchmark short rates today and continued with targeted liquidity injections.
Following a nice increase earlier in the year China M-2 money growth has flattened out
despite liquidity injection measures in recent months. With real estate asset values in decline,
China's very large shadow banking system is likely experiencing cash flow difficulties and
rising debt liquidation. To counter shrinking sub-sector liquidity, the PBOC is likely  preparing
more aggressive liquidity support ahead.

the Shanghai was up 1.4% today and is closing in on 2500. With the Shanghai - Hong Kong
trading link in place and a turn to easier monetary policy, there may be further interest
in China stocks. Note though that IPO volume is scheduled to pick up sharply with dilutive
effect on the Shanghai. With a new year nearly upon us,  and The PBOC now interested in
goosing liquidity, I have raised my fully valued target to Shanghai 2575 for 2015. $SSEC

This past summer the long side trade was clean and easy. With an accomodative  PBOC, it
may continue so. However, I am far from sure we have seen the last of short term stop / go policy
and monetary experimentation. Since I am a world away from China, and have some other
trades in mind, I am likely to be more of an observer than a player for the forseeable future.
The idea here is not to bad mouth the market but to watch how the reforms program co -exists
with the obvious pressure to maintain 7% or better real growth. Mr. Xi is going to be "wing
walking" for a while.

Inflation Potential

Inflation pressure gauges I use are currently rather subdued. Put simply, the global economic
expansion underway has not cut far enough into excess capacity to sustain the normal cyclical
acceleration of inflation that comes with a recovery / growth period. Recent expansion of
global capacity has continued at a moderate pace and demand growth of 4% needed to reduce
excesses has not been sustained. In the US, for example, the economy has expanded for over
five years, but the operating rate is still below 80% as companies have been adding capacity
since late 2010, with the current yr/yr growth 2.1%.

I have a long term inflation model which compares money M2 growth against real economic
growth potential. This model is based on 10 year averages and currently pegs inflation potential
at 4% per annum. The US experienced peak cycle - to - date 12 month inflation of 4% for just
a brief period in 2011.

The strong cycle of monetary liquidity growth experienced over the past year should have
resulted in the beginnings of a cycle of accelerating inflation this year. One future gauge
of pricing pressure has been moving up in 2014, but the move has been exceedingly modest.
My primary inflation pressure gauge, which gives heavy weights to commodities prices
and factory operating rates, did pick up sharply this year, but has settled down in recent
months. $CRB Commodity Comp. Weekly

Note the top panel of the chart which shows yr/yr momentum of the CRB. When it rises to
10% or above and can sustain that level for a period of a few months, US CPI inflation
accelerates. As you can see yr/yr price action for the CRB  has spent a fair amount of time
in negative territory in recent years.

In the Nov. 10 post, I discussed why the economy has the available capital in terms of
resources to grow for several more years. History does strongly suggest there will be some
upside pressure on the inflation rate ahead unless capacity growth is fast enough relative
to output gains to keep operating rates from rising too sharply.

Over the very long run, US inflation has averaged around 3%. Conditions now do not
support a rise of inflation to the long term average.

Liquidity Cycle

Measured yr/yr, total US system liquidity growth (including the Fed's balance sheet) is in a
downtrend but remains a significantly positive 8% going into early Nov.. The stronger liquidity
growth since the latter part of 2013 has supported an acceleration in business activity with
US sales running about +6.5% yr/yr and SP 500 net per share rising more (Latest 12 mo. eps
is running about $115).

Hefty liquidity growth  normally underwrites an eventual cyclical acceleration of the inflation
rate, but that has yet to happen as slow global economic growth coupled with modest gains in
production capacity have kept pricing relatively stable at a nominal level.

Private sector liquidity growth has been averaging 5.8% on a yr/yr basis, and with no more QE,
total US system liquidity growth by late 2015 could be down to about 4 - 5%. This suggests
that looking out to mid - 2016, business sales and earnings growth could be very much more
moderate than today with business pricing power remaining muted.

Thus it is that at the G-20 summit this week in Brisbane, participants pledged to use fiscal
policy, trade deals and, probably, more monetary easing to produce an additional $2 trillion
in global GDP over the next couple of years. We certainly do not know whether they will
be successful, but we do know they fear the return of the deflation wolf to the door.

From this point on, I regard the base economic case for the US to be veering toward the grim
side eventually and I would be delighted to be too conservative and to be wrong. For now, the
US should find the sailing relatively smooth as the liquidity tailwind is still fairly strong and
is moderating at a measured pace. But this will change as time wears on.

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US Dollar -- Should Be Slow, Grinding Bull

It has been my view for the the past ten years that changing US demographics, recovering
energy output and increased demand for a range of domestic specialty manufacture and
technology would lead to a gradual elimination of the the trade deficit and the elimination
of a net outflow of dollars through the trade window. The US trade deficit has been cut nearly
in half from peak levels seen a half dozen years ago and may zero out by 2020. So, back at
points in 2009 and 2010 when the USD was at 75, I began figuring it could add 2 - 3 points a
year in value and may be close out 2020 with the popular $USD index at 100.

The sharp rally in the dollar this year has been the talk of the town, and it is likely well
overbought currently. $USD However, the economics to me suggest that the dollar should
continue to work slowly higher over the next five years, and could strengthen even more rapidly
if US hydrocarbon export restrictions are lifted.

SPX -- Short Term Overbought

This new upleg in the market which began in mid - Oct. has so far beaten the long term odds
against holding a spike bottom without a retest and has traveled up to new high ground. The
rally has started to lose some momentum but is still on an unsustainable trajectory. It is also pretty
strongly overbought on a short term basis. Despite the roll over in short term price momentum,
trader profit taking has obviously remained in abeyance and reflects the high expectations players
have that the year will finish strongly. SPX Daily

Most fund managers have underperformed the broad market this year and this sharp rally has
prompted stragglers to extend long lest they fall further behind in the relative performance derby.

US Stock Market In A New Period

Overview
The cyclical bull remains intact. However, with QE having ended, the Fed no longer has your
back. That spells higher risk, and it means you should now weigh a broader list of fundamentals
more heavily. True cyclical bear markets are preceded by rising short term interest rates and a credit
crunch that induces recession or worse. I will not get a sell signal on my cyclical model until short
rates start rising along with bond yields. Private sector credit creation is normally critical in
underwriting continued economic expansion and an extension of a bull market. Unfortunately,
credit demand is not normally a useful indicator for market timing as the private sector's loan
book can continue rising even after a downturn has begun. So, that is why you have to watch
a variety of factors.

Capital Slack
I use a compilation of indicators to monitor slack in the system to include idle production
capacity and labor as well as the trend of short rates and measures of bank balance sheet liquidity.
When slack has evaporated, the economy is in overheat mode with accelerating inflation. That
is usually when the Fed begins to crunch the economy. When my index reaches a range of 180 -
185, the economy is overheating and it along with the stock market are vulnerable. The index
is now lingering in the low 170s and banking sector liquidity is ample. In this broad framework,
economic expansion and the bull market can wear on for a couple of more years.

Business  Sales & Profits Growth Momentum
With QE having ended, the stock market can be expected to become more sensitive to the
momentum of business sales and profits. I use a variety of measures here, and they point to
an acceleration of business sales and profits growth starting from mid - 2013 and continuing
on currently. My Weekly Cyclical Fundamental Indicator is a forward looking measure and
that has weakened noticeably since early Aug. reflecting a pronounced downturn in
sensitive materials prices. I think stock market players have waved such price weakness off
on the premise that it reflects slower global economic growth and is not seen as a short
term concern. But it should not be sloughed off because slower global growth affects the
large US export sector, business pricing power, and can lead to negative translation penalties
which can accrue to profits should the dollar remain strong.

Often, S&P 500 net per share gets strong enough that it becomes very extended relative to
its long term trend. As fate would have it, this development occurs around market tops
because the Fed is usually in crunch mode. We are not there yet, but earnings could become
just so extended  in late 2015 or early 2016. It will be interesting to see where the Fed is
by then with policy.

Oil Price

Recent strong price weakness reflects two factors. First, growth of crude supply has exceeded
expectations of early this year as US crude output has surged to formidable levels. Second,
growth of global industrial output measured yr/yr has slowed from 4% earlier in 2014 down to
about 3% recently reflecting disappointing results in the EU, Japan and China. Small increments
in spare capacity at the wellhead can lead to substantial price adjustments when they first appear.
Hence, WTI crude has fallen from $107.50 bl this Jun. down to around the $78 area.

To counter the US crude production surge, the Saudi's are offering discounts on crude shipped to
the US. We can assume the Saudi's have been estimating break evens on new crude and we'll
see how that works. Since the US is the major arms supplier to Saudi Arabia, we are not without
a degree of counter leverage if we want to use it.

The US and China are now limiting liquidity support to the world economy. Japan is stepping up
with additional QE to ramp its exports. The EU is in turmoil about monetary stimulus and we
can only wait to see whether they will muster a truly substantive program of monetary easing
to counter a continuing sluggish and now deflation prone economy.

The crude price is in a steep downtrend and a deep oversold has developed. Chart indicators
show this point along with another technical item worthy of note: Crude is closing in on a
20% discount to its 200 day m/a, a discount that will attract trader attention. WTIC Daily

With the peak driving season well past, crude is in a seaonally weak period that can not only
last through mid-Dec. but resume again in Jan., and run through to the normal seasonal low in
Feb. Thus on a seasonal basis, the rewards to buying an oversold market may be more limited
than normal. As well, as the chart on the crude future shows in the bottom panel below, there
has been very large speculative interest on the long side from financial players who have only
recently begun to unwind their big positions. There are over 200K contracts out now and as
the chart shows those positions can zero out if players become sour enough. Crude fut. + COT

I like to trade crude, but I'll bide my time for now and watch for indications of a positive
reversal.

The Long Treasury Market

A rebound this year in the long T-bond price was to be expected after the needlessly bad period
in 2013. But recovery in price has certainly exceeded my expectations, topped off by the
furious rally starting in Mid- Sep. as equities players zipped out of stocks into bonds on the
wind-up of QE and global economic growth concerns. The TLT 20+ year T-bond fund has
sold down from a panic risk-off top in recent days but does still rank as overbought against the
200 day m/a. TLT Daily

The end of QE does signal a tightening of monetary policy and that is why the long Treas. has
rallied since the get-go this year. Overbought as it may be, the TLT remains in a well established
uptrend in price.

The trading band on the TLT has narrowed in recent years from 80 - 130 to a range of 100 - 120
which contains most of the trades. This reflects the Fed's determination to keep its short term
ZIRP policy in place until the economy and the job market improve further and until there is
more evidence that the inflation rate can sustain a cyclical acceleration which would further
indicate that the US is moving on a more nearly cyclical path. Now, it must be seen how well
the economy can do without QE.

Stock Market -- SPX

As discussed in prior posts during Oct., the stock market did get itself oversold. Moreover, it
did take out short term trend resistance at 1940, and did move higher as expected. The volume
has been better and the downside leaders like the Russell 2000 small cap index have led the
way in a broad based positive response off the closing interim low of 1860 put in several
sessions ago. The market is now 2.2% overbought on a momentum basis against its 25 day m/a
and it would not be surprising to see a little consolidation near the current level of just over
SPX 1980. You will note on the chart that the market has had trouble since early Jul. holding
the 1980 level. SPX Daily

The recovery off the 1860 low has been far too rapid to be sustained for very long. In fact,
in the days ahead, the SPX could drop 2-3% from the current 1982 level and still be on a respect-
able positive trajectory.

Naturally, there is no law against the SPX continuing its current moon shot upward course
until it hits a very robust all - round overbought with the SPX topping its 25 day m/a by 5%.
That would be a little freakish since the market never sold off that much to begin with, but
traders have been headstrong to re-establish long positions. Put less politely, the herd stampeded
out in mid - Sep. and has been stampeding back in during the more recent sessions.

SPX -- Weekly

Fundamentals
With QE expiry imminent, stock market is crossing from easy money bull with high return /
low risk profile to mundane bull with sharply elevated risk profile.

Market momentum has devolved in 2014 from powerful as seen last year to a far more modest
positive pace reflecting a lengthy adjustment to the wind up of QE. Further volatility and a
continuation of a downward adjustment cannot be ruled out given the evidence of prior periods
when large QE has ended.

Weekly Cyclical Fundamental Indicator is in a positive long term uptrend but a sharp interim
uptrend from Oct. 2013 broke down in Aug. and suggests lower business sales and profits
growth ahead.

Investor Psychology
Spirits have been lifted since J. Bullard, head of the St. Louis Fed, floated the idea last week
that QE could be extended in a more modest form. Bullard is not in the voting rotation this year
for FOMC and his idea would trigger a shit storm of conflict on the Board without evidence
of a critical economic need for further easing.

 Investors and traders are also keenly interested in the idea of seasonal strength from Nov.-May.
This rule has a good track record over the past half century and will have players carefully
watching.

Technical
With the Bullard comment, the market has recovered broadly from a short term oversold
on good volume. History shows that spike bottoms like we saw in the prior week have no
more than a 50% chance avoiding a retest.

The weekly chart of the SPX shows that the market has corrected down from a very extended
position and is no longer strongly overbought. SPX Weekly

Players who have low risk tolerance should note that the full universe of public issues still
shows that too many stocks are still in negative patterns with no positive MACD cross.

My three - six month momentum measure has been on a sell signal since early Sep. '14. This
measure has an excellent long term track rcord but has tended to whipsaw since mid - year
2013 as the "buy the dip" crowd has been very aggressive on knowledge the Fed stood behind
them with dollops of QE. It will be interesting to see whether the dip buyers prevail again now
that QE is expiring.

Economic Indicators

Coincident Economic Indicator -- Sept. 2014
Measured yr/yr, this important measure of US economic activity stood at 2.3%. Real sales
and production gains remain OK, but the income side of the equation is still lagging at 1.8%.
The momentum of hiring has picked up some, but the real wage rose by just 0.3% as
employers hold the line on wages. Tightfistedness at the payroll window continues to hold
back the economy. It has led to a longer and deeper period of de-leveraging by households in
the wake of the recession and has contributed significantly to a reluctance by consumers to begin
to leverage up again five years into economic recovery. Consumer Debt Service

Business Sales And Profits
Business sales in current $ have been at 6% yr/yr in recent months. Transactions volume has
been running slightly stronger than I expected, but pricing power remains anemic. Pricing has
recently turned negative for materials and energy resource providers. My selling price /
cost ratio has turned negative and is partially offsetting profit margin improvement stemming
from higher volumes. On balance, profits yr/yr are up, but would likely be stronger with a
better pricing environment.  The ongoing refusal by business to reward workers for productivity
gains inhibits both business volume and pricing power.

Liquidity Situation
The growth of the economy in current $ is exceeding that of the liquidity provided by private
finance. Hence, the capital markets are more reliant on dwindling growth of liquidity provided
by the Fed as it unwinds the QE 3 program. Portfolio manager cash reserves increased
modestly in Sep., but players are having to do more selling of securities to make new placements.
Without more QE and assuming the economy holds up in the months ahead, this process will
intensify.

Stock Market -- SPX

The market closed today right on downtrend resistance at 1940 SPX. A top side break
through resistance would signal that the market might be reversing course while failure
would signal that the counter trend rally may have run its course. The market remains
volatile and unstable and is now trading on hopes for more QE. Daily SPX

Staying Away From China Now

I traded China stocks aggressively this year and particularly over the June - Sep. period. The
case for China was a course reversal on monetary policy back to easing over the past year or
so. Now China is tightening up on the broad measure of monetary easing and instead is using
targeted liquidity injections into its major banks. I have argued this year that China's profligacy
on monetary policy in the new century and particularly since 2009 - 2010 would eventually
necessitate a regimen of monetary stop / go to try manage growth plus control a dramatic
proliferation of real estate debt that is taxing the country's internal cash flow capabilities.
A vast shadow banking system has sprung up featuring the marketing of credit instruments
backed ultimately by real estate and managed by property trusts and companies which are
at debt servicing risk as property prices fall and land sales slow.

the recent tightening in growth of broad liquidity measures has prompted me to take to the
sidelines where it may well be appropriate to stay until there is clarification on policy and
this irrespective of the targeted liquidity injections.

Here is the chart for the Shanghai. $SSEC It may still be proper to argue that the Shanghai
deserves to trade at 2400 - 2500 as I have for several  years, but since it nearly reached that
area recently while at the same the PBOC was shifting policy gears, I took what I could get.

the post on June 3, 2014 started the idea and is attached. Big Red Dragon....

Sneak Peek Into The Abyss....

Yesterday morning I happened to be watching Bloomberg TV and Jim Bullard, President
of the St. Louis Fed, appeared as a guest. Jim is an influential guy in Fed-dom. The market
was in free fall and Jim just happened to opine that with all the turmoil, the Fed could have
a look at extending the QE program past the October demise date. He was asked to repeat
that message, which he happily did. As word swiftly got out, the stock market ended its free
fall and by today's close had rallied nearly 3%. Jim stopped the carnage for the week, and
with this trial balloon gave the Fed a fall back position if the current policy course continues to
rattle the Street. Jim did say new QE would be considerably more modest, but that fell on deaf
ears.

You will read far more 'learned' commentary about last week and you will have a chance to
peruse far more sophisticated fundamental and technical commentary than what I just said.
But, I think the Bullard remark is what did the trick. For me, it is becoming ever more difficult
to take  this business seriously, but let that be a subject for a different occasion.

In essence, and rightly or not, markets players are saying that the global economy will go kaput
and that painful and corrosive deflation may await without further dollops of stimulus from the
powers that be. With conditions in the absence of new sources of liquidity seen as so perilous,
it is fair to wonder why the SPX is trading at 16x net per share and not 10x.

If the markets (bonds included) are right, then that's some set of new clothes the emperor is
wearing.

Stock Market -- SPX

The end of QE by the Fed has hit home. The SPX has been closing below its Aug. '14 low
and this means we are looking at a down market. The SPX has broken important trend support
dating back to the autumn, 2011 lows, so this latest and long lasting powerful upleg of the
bull market has ended. Whether this important break of trend marks the end of the cyclical
bull market in force since late winter of 2009 or merely indicates the bull is alive but now on
vacation remains to be seen. The market is now volatile and unstable and I am not about to
start throwing numbers around for the SPX. History shows that sudden endings of large QE
programs are quite negative for stocks, but since this is the very first time we have had a
period of extended tapering of the program before its conclusion, I am content to let the chips
fall where they may (no joke intended).

The indicators show the SPX, despite its partial reversal today, remains oversold in the short
run and this is further confirmed by noting that the market is over 5% below its 25 day m/a.
the trend of the SPX and both the 10 and 25 day m/a 's are down, and the market is probably
a little overextended to the down side as well. SPX Daily

So, after nearly three years, we have a new ball game.

The Capital Markets' Own Forecast

Reflecting the Fed's very large QE program dating from late 2012, my new order index for the
US economy rose from lows of around 50 at intervals in mid - 2013 and in Jan. 2014 to a lofty
level of 66 in Aug. this year, before tipping down to a still strong 61 in Sep. Readings above
the 65 level on this diffusion index seldom are much stronger. So, there was a substantial
acceleration of business activity and profit results along this year.

However, since the spring of this year, progressively fewer stocks could match the performance
of the S&P 500 (SPX) and the relative under-performance of less than top tier capitalization
stocks began to nosedive at the end of Aug. right in line with the interim peak in new order
activity in the economy. As we all know, the SPX itself began to slide in mid-Sep. as concern
about an economic slowdown began to take hold. The Treasury bond market has seen a down-
trend in yields since the get-go in 2014, and a progressive reduction in the yield curve this
year indicates that the bond market is expecting economic progress to slow and the inflation rate
to moderate further. 10yr - 2 Mo. Yield Curve

Though not at extremes, the Treasury bonds are overbought and the stock market is now in a
growing oversold position. The US liquidity cycle has passed its peak, and economic growth
should moderate from the Aug. 2014 momentum thrust, but it does not guarantee future
economic progress will be so slow that resource utilization will stagnate or that inflation
pressure will end and deflation pressure begin.

There has to be some time given to determine how the real economy will respond to the
absence of QE. Investor psychology is now more fully defensive and this attitude could
foster further volatility in the markets until players get a handle on how the economy behaves
without its "training wheels" (expired QE).

Monetary Base & The Stock Market

The Fed has made its balance sheet available only back as far as 1989, but the St. Louis Fed
has compiled data for the monetary base, a very close proxy for the Fed's balance sheet, back
to 1918. History shows that when the growth of the monetary base, when adjusted for inflation,
turns negative on a yr/yr basis, trouble invariably follows for the US economy and the stock
market. The lead time between when the growth of the real monetary base zeros out and trouble
for the real economy and the stock market starts can be very short as happened over the late
1930's - early 1940's or very long as occurred during the 'roaring twenties'. My work over the
many years I have been at this game suggests that the continuing availability of private sector
credit is the deciding factor as to when removal of the Fed punch bowl starts to pinch the
economy and the stock market. Fast rising short term interest rates often telegraph trouble
ahead, but when private lenders are leery of the economy, the supply of loanable funds can
begin to dry up well before short rates begin a steep ascent during an economic expansion.

I have told of these observations, because as the Fed ends QE 3 in the weeks ahead, the growth
of the monetary base will likely flatten out as will the growth of the basic money supply. Then,
as an investor in the US, the Fed will no longer have your back. The easy money part of the
bull market will have ended. The risk / return profile for the market will be less favorable
because risk will rise given the growing dependence of the economy and stocks on the
generation of private credit in the system.

The current bull market need not end. The market will have to adjust to being credit driven as
opposed to being driven by monetary liquidity. Adjustment can vary from painful to nearly
seamless depending on how well confidence in the economy holds up and whether bankers
will continue lending now that they all know the Fed does not have their backs, either.

So far, investors have adjusted to the forthcoming new period by reducing holdings in most
smaller stocks and through increasing exposure to big cap names and Treasuries. So, most
stocks are oversold in the short run and it remains to be seen whether confidence will ebb
further or if players decide the economic prospects are solid enough to move some funds
back into the market.

Stock Market -- Here We Are Again

The SPX has again declined to the neighborhood of it 100 day m/a. This has been the fail
safe point for all of the sell-offs since the end of 2012. SPX Daily

This is the eighth time we have seen this adventure. In the prior seven, the bears have started
growling, only to see the SPX rally on to new highs. Recalling an old Wall Street saw, My
wife said at lunch: "Yom Kippur can't come fast enough" (An old rule tells one to buy on
YK). Well, the SPX is mildly oversold in a market that has rolled over in the short run, and
we are simply going to have to wait and see if the bulls can snatch victory here for the eighth
time or whether something less positive or even outright negative is about to happen.

I have stayed with the technicals in recent posts because the pattern of the advance in the SPX
has been remarkably consistent since the end of 2012, and it has seemed unwise to start huffing
and puffing on the fundamentals until this little drama is resolved. More on the basics this
weekend....

Gold Price

My view on the gold price has been that there would be a decent long side trade off the late
2013 price of $1200 oz. The figuring here was that strong global liquidity growth especially
from the US would foster faster real economic gains in this year and that an acceleration of
inflation would not be far behind in time. It was a good idea for the first half of the year, but
has run into trouble in recent months as economic progress in the EU and China diverged
negatively from the US, and operating rates failed to rise enough to generate some cyclical
inflation pressure. This was the case for one commodity near and dear to gold bugz, namely
the price of crude oil. Since mid-year it has weakened also failed to rebound here in Sep.,
a normally strong seasonal period.

the EU is under greater pressure to re-inflate the economy monetarily and folks have mis-
read China where monetary policy has been easy through the bulk of the year. With US
liquidity still strong, the potential for inflation down the road remains. But first there has
to be a firming in the balance of global economic / supply demand, which has yet to take
shape. Even in the US, where production growth has been stronger this year, the operating
rate is still a little shy of 80%, a kick off point for inflation pressure.

Meanwhile, the gold price has fallen enough to begin piercing long term trend support
and is a bit above intermediate term trend support at $1200. Weekly Gold

The metal is fast approaching a significant oversold on weekly RSI and may need to have
the oil price stabilize in the next few weeks to hold its ground. If gold can hold support at the
$1200 level there should be a bounce but more cautious traders may consider watching
global demand measures such as the forthcoming Markit global mfg. PMI due next week.

Stock Market -- Yet Another Technical Note

The current nasty little sell off is threatening to change the pattern of the SPX. The SPX
closed at 1983 today, and it will break the uptrend line in place since late 2012 if it breaks
and closes below 1980. To conform to the bullish pattern set since late 2012, the SPX should
have developed stronger positive momentum off the recent early Aug. low and be moving
toward the upper band of the trading range, now above 2050. It has not and instead is headed
for another test of trend support. The market is not yet at a classic oversold, and intermediate
term downtrends in MACD and RSI suggest there may be more negative chop ahead.

If the SPX does break below 1980, then there is "fail safe" support at the 100 day m/a. The
100 day m/a has been breached a few times since late 2012, but never by much and has served
as a springboard for the next up leg. We may see this play out once again but the recent
stumbles leading up to this possible crucial test of support suggest careful observation.
SPX Daily

Stock Market -- Technical Note

Ms. Yellen's latest attempt to 'kite' the market shows some of the magic has been lost. The SPX
has been on the flat side here in Sept., and the NYSE adv. / dec. line has turned down noticeably
this month to diverge negatively with the SPX. The chart I've set up to accompany this post
includes the cumulative NYAD line, the relative strength of the SP 500 on an unweighted basis,
the relative strength of the Russell 200 Small Cap., and the relative strength of the utilities sector.
NYAD Chart

As most know, the breadth of the advance in the broad market has become more exclusive as the
year has worn on. Small cap. indices like the Russell are down on the year and are trailing
significantly in relative performance (3rd. panel of chart). Now, with Sep., the SP 500 on an
unweighted basis has broken down in relative strength as has the NYAD (top 2 panels).

The bottom panel of the chart shows the relative strength of the utilities sector vs. the broad
market. Portfolio managers often use this group as a place to hide cash and earn some
current return. It is often a maneuver that managers resort to when they wish to become
more defensive but remain relatively full invested. The recent rise in bond yields has dimmed
interest in utilities somewhat, but interest has been reasonably well maintained since late last
year when it was announced that QE would eventually be terminated.

I think the downturn in market breadth and the decline in relative strength for the unweighted
SP 500 have recently begun to bother investors just a little bit so far. As we learned over 1998-
2000, market breadth can diverge negatively and substantially from the broader market before
a more substantial and far-reaching break comes. But that might have been the exception, and
it may well be that players would like to see the oversold medium sized and smaller cap. issues
regain some positive footing before the bull market moves up solidly from around the SPX 2000
level.

Economic Indicators

Coincident Economic Indicator -- August, 2014
Measured yr/yr, my version of the CEI rose by 2.3%. This represents the strongest improvement
in two years, but remains shy of what would count as vigorous, well-balanced economic growth.
The sales / production side of the indicator rose a solid 3.7%, but the income side increased by
only 1.9%. Within the income portion, civilian employment growth rose by 1.5% and the real
wage by 0.4%. The real wage has started to benefit form a slight increase in wage rates as well
as  from a recent deceleration of the inflation rate. With the benefits of productivity gains
continuing to accrue primarily to capital and not to labor, households must expand borrowing
to finance an increased level of spending. Scrooge lives on and so does widening income inequality.

Business Profits Model
Top line growth was about 6% for the year through Aug. Looking back at my projections for
2014, unit volume growth has been faster than I expected, but pricing power has lagged and
broadly so. Progress in advancing profit margin from productivity gains has been partially
offset by slower growth in pricing with my price / cost ratio now under some pressure. Without
stronger pricing power, a number of businesses may step back from more full blooded hiring.

Liquidity Situation
Over the past few months, liquidity generated by the private sector has matched the progress
of business sales. There has been excess liquidity in the system generated by the Fed's QE 3
program and this has helped power the stock market to some some extent in 2014. However,
with QE expected to wind down to zero later this year, investors are likely to find themselves
in stronger competition with the demands of the real economy if business sales growth can
hold around or exceed 6%.

Monetary Policy

The Fed is keeping Its focus on the Phillips Curve -- falling unemployment leads to rising
inflation and rising unemployment leads to falling inflation. Currently, the US is experiencing
moderate real economic growth with falling unemployment and low and relatively static
inflation with the CPI averaging below 2%. Significant slack remains in the economy and with
little inflation pressure, the Fed appears content to continue unwinding the QE program but
keep its ZIRP until the Phillips curve aligns properly with strong enough jobs growth to foster
faster inflation. With plant capacity growing at 2.8%, there is enough supply / demand balance
for the monetary authorities to not hasten to raise interest rates and see how the economy
responds to the wind up of the QE program. On certain fundamental measures the Fed can be
seen as suppressing short term interest rates and hawkish sentiment is clearly growing on the
Board. But Ms. Yellen is not yet under duress.

US Stock Market

Fundamentals
There was some profit taking this week. Continuing strong monthly economic data is worrying
some players that the Fed may end its ZIRP sooner, and begin a series of hikes to short rates
not long after QE3 ends next month. Bond prices also weakened as a result. Evidence from
recent Fed governors comments on the economy reveal that Ms. Yellen will have to fight harder
to keep the ZIRP in play in support of the labor market. Also, there are no doubt some players
who want to raise a little cash ahead of the snuffing out of QE3 which is down to a pilot light.

The weekly forward looking economic indicators have come in on the flat side since Jul. 25
with a lack of progress in weekly jobless claims and sensitive materials prices looming as
important.These indicators are volatile, but there is enough of a pattern to wonder whether
the stronger monthly data may soften some ahead. The liquidity cycle is still running strong
but is fading from peak yr/yr readings suggesting a period of growth moderation lies ahead
eventually.

Technical issues surrounding the close - out of QE and the need for the Fed to provide an
extra measure of liquidity around the holidays may preclude action on ending the ZIRP until
after the beginning of the new year. And, if there is evidence of a more moderate tone to the
economy by then, Fed Chair Yellen may have a stronger hand to confront the policy hawks if
she chooses.

The larger issue here still remains: Whether private sector credit generation will continue
vibrant enough to pick up the slack created by the cessation of QE. If such happens, and
private sector lenders have not just been piggybacking the QE program, then Ms. Yellen
will find her back at the wall if she demurs on raising short rates as the economy would
likely be strong enough to warrant further calls to end the ZIRP. Since I regard this
transition in liquidity sourcing to be a major experiment with little empirical backing, I
would suggest keeping enthusiasm tempered.

Technical
The sell off this week has turned the short term indicators negative but did not do enough
damage to trend to signal worry yet. The intermediate term overbought alluded to in the
prior post has eased a little. Major trend support is around the 1970 level  with crucial
backstop support at the 100 day m/a.

the market has traders' attention now because of the possibility that the recent highs in the
SPX just above 2000 might constitute a possible secondary and bearish top. This is due
diligence only now as there have been several such patterns in the long run up since late 2012.
SPX Daily Chart

US Stock Market

Fundamentals
Core fundamentals continue positive. Important liquidity growth factors are past their peak
yr/yr, but momentum is declining gracefully. Corporate profits gains have accelerated recently
with strong growth indicated in the current quarter. Monthly business new order data has
trended strong too, but weekly data has started to flatten out, a cautionary sign regarding
earnings momentum down the road.

As QE 3 winds up next month, liquidity growth will decelerate more. Business sales and earns.
progress should slacken as we move toward and into 2015. With milder liquidity expansion on
tap for 2015, competition within the capital markets for funds will intensify.

the coming end of QE 3 has so far had a significant but hardly fatal impact on stocks. SPX
positive momentum has shrunk from last year's barn burner level but is decent. Smaller cap
stocks have not fared nearly as well. This sector is flat after having sharply outperformed the
SPX last year. Portfolio beta is being reduced.

The mantle of greater monetary policy accomodativeness is passing from the US to the EU.
The EU stocks have underformed the SPX pretty steadily since the end of 2012, but relative
performance for the STOXX 600 has picked up recently and may challenge the downtrend
line against the SPX going forward (See SPX chart bottom panel below).

With slow global economic demand growth in place since the end of the deep recession of
2008 - 09, more geopolitical turmoil should be expected. The are millions upon millions of
younger people out in the world with deepened struggles to find their way. Risk has been
contained regarding the capital markets, but that can change. Also, UKR vs. Russia has
entered a new and less easily predictable phase.

Valuation
The SPX is not overvalued yet, but investors are paying a premium multiple for cyclically
elevated earnings. The risk / return profile is thus deteriorating as the market rises with
cyclically advanced earnings. The SPX is now trading at 22.3 times long term trend net
per share of $90. This is not a record by any means, but the high valuation suggests that
players who want to stay in the market review their liquidity requirements carefully.

Technical
The SPX continues in its third and longest upwave since the cyclical low of Mar. 2009.
It is mildly overbought in the intermediate term (3 -6 mos.) on the indicators. SPX Weekly
The consistency of trend since late 2012 remains astounding.

Inflation Potential

One very probable eventual outcome of a strong liquidity cycle such as the US has been
experiencing is an acceleration of cyclical inflation. QE's 1 and 2 helped push the CPI from
a deflationary reading of -2.1% yr/yr in Jul. 2009 up to +3.9% inflation for Sep. 2011. In
the absence of strong QE until early 2013, the CPI dropped back below 2.0% yr/yr in Apr.
2012 and did not rise above 2.0% again until this spring and then only barely.

The US has experienced a continuing long term decline of Its inflation rate since the early
1980s. There have been periodic cyclical surges that have come when the CRB Commodities
Index rises 10% or more on a yr/yr basis. The mini - surge in the CRB earlier this year
helped boost the CPI from 1% to 2%. CRB Chart

There are a number of factors that have reduced US inflation over the years such as slower
 real economic growth, sharply rising lower cost imports and a progressive but sizable decline
in the growth of wage costs. Even so, the low pass through of higher commodities costs
to the CPI this year has been a surprise. I have been thinking that the CPI could rise to at
least 3% by the end of 2014, but this may be a tough go now.

If you return to The CRB chart, you will see a horizontal green line set at 335 for the index.
That is my educated guess of where supply and demand in the aggregate for this group of
commodities would come into balance. So, from my view there is still excess capacity in these
markets, particularly for grains and fuels. If there is not further firming in global economic
demand, the excess will likely continue, and the sort of sustained upward pressure on pricing
that is needed now to underwrite a further sharp cyclical rise of the CPI % is not likely to
eventuate.

NEW FORMAT FOR BLOG

When I set up the blog nearly ten years ago, my intention was to communicate with older
professional pals rather than spend my time on e-mail programs. about 20 guys were
involved and they all were in possession of monographs I had written over the 1980 -90
period on the major components of funds management. As a very successful money
manager, I operated on the "KISS Rule" -- Keep it simple stupid.  They had all the
short cut statistical and analytical tools I used so I did not have to re-invent the wheel
each time out with explanations .

I am going to be 75 this autumn and easily half the guys who the blog was intended for
have retired fully. Moreover the other guys have more far ranging interests. So, it
will be easy to communicate with them on a personal basis. That leaves a broad number
of followers and visitors numbering up to a 1,000 a week who read the posts.

My plan going forward is to write far fewer posts and to focus more on diagnosing the
markets rather than defending particular points of view. I am far more comfortable
doing this because I believe that people should make up their own minds and that they
prefer doing so anyway. The emphasis will be on market drivers and risk for return
both near and longer time. The writing style will remain cryptic and direct.

US Capital Spending

Capital spending new orders excluding defense and aircraft took big hits in the prior two recessions
but are once again in fairly strong recovery mode. Moreover, new orders have broken out to a new
high this year. New Order

The recovery track for capex orders is about 10% per off the 2009 cycle low and has accelerated
recently as higher business sector earnings are boosting cash flow. Companies have even cut back
some on share buybacks to support a higher level of spending. System capacity growth has been
recovering slowly after experiencing a rare decline over 2009 - 10, and reached +2.6% yr/yr just
recently. Capacity growth still lags output growth, but balance is slowly returning to the system
and this development acts as a damper on any cyclical acceleration of inflation.

The chart above shows that new order rates were volatile and basically range bound until very
recently. The US has not experienced a strong capex cycle since the late 1990s and has been
running on older, outdated equipment and plant. There has been a strong recovery off the
recession trough despite the extant slack in the system as companies move to modernize after
a long hiatus.

Capital goods stocks and related industrial service issues have lost ground in relative strength
against the SP 500 this year as investors have shied away in lieu of the closing out of the Fed's
QE 3 program. Understandable, but if the economy does not slow down as much as expected,
the group will retain interest because of business's need to continue to upgrade and modernize.
XLI Weekly

Gold, Oil, & The US Dollar

Gold got interesting as a long side trade in late 2013 at $1200 oz. When the US economy
does strengthen as it has on strong liquidity growth, the gold price normally gets a cyclical pop.
There may be some extra fizz in the pop if the US trade deficit widens on faster import growth and the USD weakens. The year started out that way for gold and I figured it could top $1400 by year's
end. That may still happen, but some important crimps in the story are unfolding. US oil
production is surging so strongly that it has tipped the supply / demand balance in the oil
market in favor of supply. The oil price has fallen sharply since the end of June. The weaker
price plus less demand for imported oil has resulted in a stronger dollar because the trade
picture is holding up better than expected. The weaker oil / stronger dollar combo has been
punishing the gold price and although gold is developing an oversold, there may be some more
downside because gold is at a small premium to the oil price. Gold et al Chart

Now winter blend fuels stocks will need to be built soon, so the oil price will move into what
is normally a strong seasonal period during Sept. / very early Oct. Normally, the oil price will
make a yearly high around then. This might not happen this year, but there should be some
degree of positive bounce and gold might well get a positive kicker. The oil price has broken
down from a basic rising trend dating back to mid - 2009, and this development may be very
much worth noting.

SPX -- Daily Chart

The market has regained positive footing again. It is maintaining the groove in place since late
2012, with periodic lows nearly every three months or so followed by moves up to new highs.
SPX - Daily

Bull markets are rarely boring, but this one has become so. I will not bother you with re-capping
the current picture or regale you with stories of the number of instances of seasonal weakness
that lie ahead in Sep. and Oct. Be advised only that if the pricing pattern begins to change in
a meaningful manner something important will be afoot because that is what it will take to
break this now comfortable pattern.

The one change in the broad market I would note (again) is the loss of positive momentum
relative to last year as the Fed's policy of QE winds down to zero this autumn. Incidentally,
and in regard to monetary policy, wasn't that a fine piece of tap dance choreography Ms.
Yellen executed at today's keynote for this year's confab on monetary issues in Jackson Hole
WY.? Not even the Cheyenne in their heyday could dance around the campfire like that.

Economic Indicators

Coincident Economic Indicator (CEI)
Measured yr/yr/ my CEI advanced just slightly more then 2.0% through Jul.  The indicator has
been flat since May after having hit a recovery period low of +1.0% in mid - 2013. I have been
hoping for better with the strong liquidity story as background. However, since business continues
to hire at a moderate rate of +1.5% and refuses to allow real wage growth, It remains a tough go.
The weak income situation combined with only moderate employment growth acts like an anchor
that bumps up and down off the bottom but holds the pace of the real economy slow. Industrial
output growth has been strong, but with modest progress at the retail level, there may be some
unwanted inventory accumulation.

Profits Indicator
My top line sales growth proxy -- the yr/yr change in the rate of the dollar value of industrial
production -- hit 7.1 % through Jul. '14. With cost growth more moderate, this suggests a
sizable rise in pretax profits, with the positive leverage coming mainly from strong physical
volume growth. The gains in sales and earnings represent what should emanate from strong
liquidity support and profits at a higher level should persist for a several more months.
However, as the post just below indicates, the strong liquidity environment is set to wane as
QE 3 winds down.

Long T-Bond Yield % Trend As Leading Indicator
The trend of the long Treasury yield % has a spotty record as a lead indicator of the trend of
economic momentum over a hefty span of years, but it has been very useful since 2007. Last
year the TYX rose sharply and correctly anticipated this year's strong improvement in
the pace of industrial output measured yr/yr. With QE growth slowing and set to zero out in
Oct. '14, the yield on the TYX has trended down steadily this year, signaling that bond
players expect the expiration of quantitative easing will lead to an eventual slowdown in the
growth of output. TYX Chart
 
To add some interest here, it should be noted that the TYX yield is getting "overbought"
relative to its 200 day m/a.

Liquidity Cycle

Reflecting the supportive power of the Fed's QE 3 program, business sales measured yr/yr
have advanced from a recovery low point of  3.0% up to 7.0% through Jul. 2014. this strong
acceleration is currently underwriting faster profits growth for the SP 500 companies of over
$30. per share per quarter from the $25. level.

However, a negative reversal is now underway in total liquidity growth (including the Fed's
balance sheet). So far yr/yr growth in liquidity has declined from a cyclical peak of 11.6%
earlier this year to 8.9% yr/yr through early Aug. Thus, it is likely that at some point in
late 2014, business sales momentum will have made at least an interim peak and be set to
decelerate. The ramp up of liquidity growth starting with the onset of QE 3 has led to a
muted acceleration of inflation.

The bond market, save for the junk sector, is enjoying the run down of QE, with players
figuring that the expected lower growth of liquidity will lead to an easing of economic growth,
reduced inflation stimulus, and a postponement of the day when the Fed ends its ZIRP and
begins to raise short term interest rates. Sluggish retail sales data for July also helped the stock
market this week as traders, who were concerned about an economy which could overheat,
welcomed the sign of a more leisurely pace to economic expansion.

Although I am concerned about how the US economy will perform as QE is zeroed out, the
slower pace of retail sales was a little surprising and also suggests that there maybe a minor
round of lower inventory investment ahead as the pace of sales at the wholesale level has
been quite a bit faster than retail. It may well be too early to buy off on a slowdown story
this soon, but it is worthwhile to keep it mind.

Relative Strength of the SPDR 500 vs. the long Treasury price: SPY: $USB

Stock Market

Since the end of 2011, SPX net per share has moved up a little over 17%. The market has soared
though with investors adding a little over 4 multiples to the p/e ratio to bring it a touch over 17x
latest 12 mo. earns. This jump in valuation constitutes a major upswing in market player
confidence. The key driver appears to have been the Fed's ZIRP on short rates and the provision
of ample liquidity. Looking back to the close of 2011, it took nearly two years for these policies
to breath life into the progression of of earnings, which appears to be on a stronger course in
2014. Now, the Fed is steadily unwinding the big QE 3 program, and with better business
performance and rising credit demand, has taken to suppressing short term rates to hold the
ZIRP at least until the easing program is fully zeroed out late this year. Measured yr/ yr,
total system liquidity growth is still very strong relative to economic progress but the liquidity
situation is likely to continue deteriorating well into 2015. The private  financial sector has
stepped up to provide more liquidity in the form of credit, but, as it does so, the hawks on the Fed Board will greatly increase pressure to end the ZIRP and raise rates.

Inflation has decelerated substantially since 2011, and with the economy progressing modestly,
investors have cut the rate at which they discount future streams of earnings and dividends. This
too, has allowed the p/e multiple to expand. Now, typically when there is rapid growth of
liquidity, profits respond but so does inflation with a lag. There has been a mild pick up in
CPI momentum recently but not enough to be troublesome yet.

From 12/11 through 12/13, the SPX compounded at a nearly 24% annual rate. The market is
up this year so far but it is running far below the 24% rate and many smaller stocks are down
on the year.

With net per share growth stronger, and monetary policy in transition away from super
accomodation, it is logical to expect p/e ratio contraction well into 2015, unless of course
investors want to press the advantage of a lengthy transition in monetary policy toward
normalcy to full if not reckless advantage. The fundamentals are very good now, but are
headed, gracefully I hope, downhill.

I have continued to regard the gradual reduction of the QE program as an experiment with
risks to the market and the economy and not as a done deal transition to a smooth continuation
of the economic expansion. I watch economic momentum very closely.

SPX -- Daily Chart

The low test zone for the current short term downtrend is SPX 1900 - 1930 based on several
different support markers. So, with today's rally, the SPX has closed slightly above the zone,
but it is too early to tell whether there is a positive reversal underway or if there is further testing
and even a downside breakaway in store. SPX Daily

The market at -1.5% the 25 day m/a is slightly oversold, and both RSI and MACD are negative.
Most of the time, I look for trend reversals to enter positions and this would be one of them. 

The market is still holding the groove it has been in since mid - 2012 when QE 3 by the Fed
was first promised. However, with this program now running ever closer to the zero level, we
have moved quite a ways fundamentally from then and as tempting as it may be to figure the
groove will hold and the SPX is, indeed, near another rally point, conditions are turning less
favorable as the Fed cuts the power of the liquidity tailwind.

Oil Price -- Unexpected Fade

Since mid-2009 WT oil has traded primarily in a rising trend channel of 11% per year and
mostly within a $18 - 20 bl. range. The range for Aug. is set at $99 - 119. WTIC today at
roughly $96.50 has slipped below the low end of the channel for the first time in five years.
Despite the chaos in Libya and potential concerns for the long term potential output from
Iraq and Iran, there seems to be a little surplus developing at the wellhead despite rising
demand. And, the culprit may be none other than the US which has fast rising domestic
production and which is cutting Its imports. Late Jul. / Aug. is generally a seasonally firm
time for the oil price followed by a strong seasonal pop in Sep. WTIC is trailing the seasonal
pattern. Crude Chart

This is the first little warning of a shift in the dynamics of oil supply / demand since the deep
recession of 2008 and it bears watching. Oil supply overhang carries significant implications
for inflation, the US dollar, and consumer real incomes and confidence. Naturally, sloppy
oil pricing and a stronger dollar are unintended economic sanctions for Russia as well as
oil developers in general.

Given the volatility inherent in the industry since the 1970's, it is too early to make a big deal
out of it, but sometimes change sneaks up on you.

Ukraine Vs. Russia

It has been more than a month since the UKR army began to make military inroads against the
separatist rebels in the east. I have kept on eye on this because the UKR forces have been
operating close to the Russian border in an effort to interdict or shut down supply lines to the
rebels from Russia. The catastrophic downing of MH 17 drew attention away from the ongoing
campaign, but UKR military progress has been a surprise to many and it has in turn prompted
Russia to put up to a dozen fully outfitted infantry battalions along the border in the contested
area. Now Russia may only have been drawing the UKR forces in close to have the option
to conduct a cross -border combat operation that does not strain logistics and also wears down
the UKR military.

The Ukraine economy is still suffering and Kiev is become more unsettled politically. On the
other hand, Russia is experiencing a little economic rebound after businesses there over-
estimated the negative effects of sanctions imposed to date upon demand. Exports remain
understandably weak, but Russian authorities are not under immediate pressure to escalate
military activity to keep the populace distracted from observing the continuing failure of
economic policy to curb the deterioration of the Russian economy.

The situation could turn more serious if the UKR military keeps progressing in breaking up
the separatists' hold in the east and is able to seal off more of the border.This would raise the
cost of an eventual Russian incursion into the Ukraine considerably and it may lead Putin
to exercise the option of limited invasion to force the UKR military back.

It is hard to say how much the action in eastern Ukraine has bothered the major markets in
the weeks since the UKR military began offensive operations. But now that Russia has
moved fully combat ready units to the border, and is preparing its own sanctions program
against the West, the situation may command a little bit more attention.

SPX Daily Chart -- Cliffhanger

As expected the SPX did register an interim top in Jul. No genius here as there were a fair
number of people looking for a near term top. The fates conspired to engineer a most interesting
end to the week. Thurs. had a raft of heavy profit taking that saw the SPX fall sharply. Selling
continued today until the market hit key support levels, and then like magic, the SPX caught
bids and set off a short squeeze. At the end, The SPX rallied above that "golden" support near
the 100 day m/a and also closed very near major trend support around 1930. Quite a feat!
Here's the chart: SPX Daily

Despite the sharp recent sell -down, the market remains in the groove it has followed since
Sep. 2012 when the big QE 3 program was set up. All the sell offs since then that reached
trend support and the 100 day m/a produced near term oversolds that turned into solid dips
to buy. The Street wants you to feel this way come Mon. Had the SPX blown through all
this support, no end of technicians would have flipped bearish. No way to send people off on
holiday.

So, over the next week or two perhaps we get to see whether despite receding QE and the
prospect of an eventual  end to ZIRP, players want to resume pushing the market up on a
strong course or whether the guys decide to take it easier and acknowledge rising risk.

The market is in a clear short run downtrend and is mildly oversold. it is also unstable
despite today's close above the low.

Monetary Policy

Short Term Interest Rates
The Fed continues to suppress the very short end of the credit market and there is no firm
indication when It will lift the FFR%. Using a model based on 100 years of short rate,
inflation and credit supply / demand data, the 91 day T-Bill rate should now be around 2.2%
reflecting continuing low inflation but rising short term credit demand. So, the Fed, concerned
with idle labor resources particularly, now trails the curve suggested by the economy by a
significant margin.The hawks on the Board will press Ms. Yellen so long as the economy
does not regress to stall speed.

QE 3
The FOMC today cut the securities purchase rate to $25 bil. a month, on its way to zero later
in the year. Measured yr/yr, QE has added 24% to the Fed Bank Credit through late Jul., but
looking forward to mid - 2015, Fed Credit may well only be 2% higher if the economy holds
up reasonably. Thus, the economy is going to become increasingly more dependent on the
private sector for liquidity growth and as we look out a year, the likelihood grows that short
rates will also start to rise.

There are plenty of discussions out there as to when and and how fast short rates will rise.
I appreciate all that, but I remain keenly sensitive to how well business and investor
confidence hold up as the QE program unwinds to completion. So far so good.